How to set the investment amount you need to raise
Several factors determine the amount of money you need to raise for your business. If you’ve been successful in getting started and building initial traction, the first and most important factor is the amount of money you need to reach your next milestone.
1. Secure your track to reach your next stop
If you manage to become profitable from your first fundraiser, you will not be in a rush to raise funds in the near future, unless you decide to do so. This is a great goal to have, because if you fail to achieve profitability after your first round of funding, then raising another round would be a matter of life and death. If macroeconomic conditions negatively affect the investment environment, this could turn out to be a big problem for your startup.
Plus, financing is much easier (and cheaper) to get once you don’t desperately need it. Achieving profitability right after one turn shows that you are pointing your business in the right direction, and subsequent investors would be happy to pay a premium (i.e. give you more money for a lower share of your business ) to get in on the action.
The exact amount you need to break even, of course, varies from company to company. For example, if you know your burn rate and revenue growth rate, you can fairly confidently estimate the length of runway you need to cover to become a self-sustaining business.
If your project is just getting started, however, extrapolate how long you’ll need until profitability becomes more difficult. In this case, you should try to cover at least 12-18 months of track. This would give you enough time to validate your ideas and even to iterate once or twice in case your first attempts to find the product-market fit don’t work.
So if you have a team of 5 people working full time with an average gross salary of $10,000 per month (your founding team and early employees need to be experienced and motivated, and developers are expensive), that means you would need $50,000 per month or a total of $600,000 for a year or $900,000 for 18 months. Factor in marketing, office rent if needed, and other overhead costs, and you should have a solid estimate of how much you need to give your business a good chance of success.
If it’s not possible to get enough money to become profitable, you should at least aim for the next step that would make it easier to fundraise for another round. For example, this could be to use a smaller pre-seed investment in order to produce an MVP and successfully validate your solution. Subsequently, you may need a round table to refine your business plan and understand the economics of the unit (the efficiency phase), in order to be well placed for the upgrade. scale, for which you may need growth capital.
2. What share do you sell?
Second, you need to divide the part of your business that you are willing to sell in order to get the desired amount. Most funding rounds require between 10% and 20% dilution, and it’s generally a good idea to try to avoid dropping more than 25%. The reason for this is that you will usually have to repeat the fundraising process several times and offering too much at the beginning would make the other rounds a little more difficult to conclude.
So if you want to get $600,000 for 20%, that suggests a valuation of $2.4 million before the money and $3 million after the money. The question is whether you are able to justify such an assessment.
If you have a financial history, you can claim a multiple of your income. If you don’t, however, it’s a good idea to benchmark your company against other startups in your industry that may have closed a similar funding round. For example, Y Combinator is offering $125,000 for 7% of the business to all of its startups, suggesting a pre-money valuation of $1.6M. This could be a very good reference for pre-seed investments.
In summary, in order to define the amount you need to raise, you need to know two things:
- What is your burn-through rate and how long do you need to reach profitability or your next step.
- What is your business valuation and what percentage are you willing to part with? If you can make a convincing case that your startup is worth a higher amount, you can part with a lower percentage for the amount of funding you need.