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When And If You Should Raise Venture Capital

There are many sources of early stage funding: SBIR grants, angel investments, bank loans, credit cards, your friends and family, consulting revenue, but it seems that any time someone has a great idea (or thinks he does), that his immediate reaction is “I’ll fund this using venture capital.”

Venture capital definitely has its place in the finance and investing world, but it is not the only source, nor always the best source, of early-stage capital.

Venture capital is best at providing a large chunk of cash for a business that is growing so fast that cash needs just can’t be met through revenue generation. The goal is to grow the business so large that no matter how much of the company the VC owns, everyone gets rich.

When Not to Raise Venture Capital

If you have a technology that is still in the course of development, venture capital is probably not the best source of funds. If you are still developing a product and have no revenue and no means for revenue in the near future, the valuation you will get from a VC will take such a large chunk of your equity, that you will have only a tiny portion left after subsequent rounds.

If your goal is to get your technology developed and into the world as fast as you can, you may be satisfied with a small return on all of your hard work. I have met many entrepreneurs who feel that way when they are raising an investment, but feel very different when the company is sold and they are left with nothing but the ability to point to the technology and say “I invented that.”

If you are selling a product and growing revenue, but are desperate for cash, raising venture capital is a good way to lose a large portion of your company because while you are raising money, you will only become more desperate and willing to take any deal that is put on the table.

When To Raise Venture Capital

  • Seed capital – if you have a working prototype and have a reasonable expectation of multiple orders upon manufacture, seed capital ($3-5 million) may be just the thing to build your manufacturing facilities or complete your product design. If you actually have a product and actual (I mean, real, ready with cash) customers prepared to buy your product, you may be looking at giving up 20% or so at this stage.
  • Growth capital – if you have been selling your product and just can’t keep up with demand, a second stage round may be appropriate. Let me be clear, you need this capital to increase your production or to hire more salespeople to handle more territories or hire customer service people. Again, you may give up another 20% of your equity.
  • Acquisitions – if the best way to grow your business is to acquire your competitors or a complementary service, venture capital is a good source of capital as well. The amount you give up depends on the deals you are making and where you are.

I see many entrepreneurs who think that venture capital is the easiest way to raise capital (not so) or who are just not willing to risk their own capital (in that case, get a job). There are other paths to financing your company. Make sure that venture funding is the right way before you start down the fund raising path.