Venture capital (VC) funding can be the difference between success and failure for many startups and small businesses looking to grow and scale. However, the process for successfully securing VC funding can be complex, difficult, and downright cutthroat.
The question of how to successfully get venture capital funding is one many entrepreneurs and business owners fixate on.
In this article, we’ll cover important topics like how venture capital works, the role of VC in your business plan, and everything you’ll need to do beforehand to successfully secure capital for your business.
How Does Venture Capital Work?
Venture capital is a form of private equity financing where VC firms or high-net-worth individuals provide capital to startups and small businesses that have attractive long-term growth potential.
VC investors are looking to invest in businesses with a strong market opportunity and an experienced management team. In return for their funding, venture capital firms will take an equity stake in the business, with the intention of one day selling their shares at a profit. It is a good idea for any new investor to familiarize themselves with the advantages and disadvantages of venture capital.
The Role of Venture Capital
The role of VC extends far beyond just providing money, however.
Yes, securing VC funding will provide your business with money to help execute new growth initiatives; however, the true value of partnering with venture capitalists comes from their connections, industry expertise, and mentorship.
Most VC firms and investors will take an active role in the businesses they invest in, helping them with business development, financial management, and solidifying their growth strategy.
Securing VC financing is a great way for startups to fund expansion, as well as gain access to a large pool of supporting resources.
Determining How Much Funding You’ll Need
Before pitching your business to any VC firm, you should first decide on how much funding you’re looking to secure.
Not every early-stage business should pursue VC investments. Depending on your business model, current revenue growth, and financial health, raising money through venture capital may not be the best option.
Rather, understanding the various ways you can raise capital for your business is the first step to determining how much funding you’ll need.
Let’s take a closer look at some of the most common ways for entrepreneurs to raise capital.
Self-funding
Self-funding, also known as “boot-strapping,” is a method of financing in which the founders use their own personal resources, such as savings or earnings from a side hustle, to fund their business.
One of the main benefits of boot-strapping is it allows founders to retain complete control over their business. Because they’re not relying on outside investors or lenders, they can make decisions about the direction and strategy of the business without having to consider the interests of others. This can be particularly appealing to entrepreneurs who are passionate about their business and want to retain full control over its direction.
Overall, self-funding can be a good option for businesses that are just starting and don’t need a lot of capital to get off the ground. However, as the business grows and begins to need more resources, it may be necessary to consider other forms of financing, such as venture capital or a small business loan.
Investors
If you’ve moved past the self-funding stage, the next logical step is to consider outside funding, most likely in the form of venture capital investments.
As previously mentioned, venture capital firms invest in startup companies with high growth potential.
When looking at how much money entrepreneurs can raise through venture capital financing, the amount will vary considerably depending on the stage and size of the business. Below is a breakdown of the different rounds of venture capital financing and how much funding they typically provide:
- Pre-seed funding: This is usually the first round of VC funding a startup raises. A pre-seed round generally allows the founding team to find product-market fit, develop prototypes, and experiment with go-to-market strategies. This round can come from VC firms, angel investors, or the founders themselves. Average funding size: $10,000 – $250,000.
- Seed funding: After pre-seed funding comes seed funding, where founders have typically created their go-to-market strategy and are looking for capital to execute their initial growth strategy. Average funding size: $250,000 – $5 million
- Series A funding: Series A funding comes after a business has shown some initial success, and the founders are looking to continue their growth trajectory by penetrating further into current markets or exploring new ones. Average funding size: $2 million – $15 million.
- Series B funding: Series B funding is for businesses that have proven their business model is financially viable and are looking to scale their current operations. Series B funding is generally less risky than Series A funding, and consequently, there are usually more interested investors. Average funding size: $7 million – $20 million.
- Series C funding: Whereas earlier stage rounds are used to help a startup find traction and grow, by the time a startup raises their Series C funding, they’ve already grown their business substantially. Now they are looking to expand into new markets, fund acquisitions, or enter the public markets. Average funding size: $30 million – $100 million
Raising capital with the help of venture capital investors is an effective way for business owners to not only gain the funding they need to expand but to also bring on the help of seasoned professionals.
There are many different options when looking at partnering with venture capital firms, and depending on the growth stage of your business, the amount you’re looking to raise will help determine which type of funding is best for you.
Loans
For founders who are looking for capital beyond what they can raise through self-funding and are perhaps unsure of going the VC route, there is a third option.
Securing a small business loan will help give you the funding you need while still retaining full ownership of your company.
Just like raising money through a venture capital round, banks will expect you to show them why they should provide funding for your business. Meaning that in order to secure a small business loan, you’ll need a solidified business plan, detailed financial statements, and more.
The biggest difference between securing a loan or partnering with a venture capital firm is whereas the VC firm will expect a return on investment someday, a bank will require you to repay the loan entirely while also paying interest.
When looking to secure a business loan, be sure to get offers from multiple banks to compare rates and ensure you get the best deal possible.
How to Get Venture Capital Funding: Things Startups Must do Beforehand
Now that we have a good understanding of what exactly VC funding is and the important role it plays in helping entrepreneurs grow their businesses, the next step is to understand what you will have to do to secure this funding.
As a business owner, getting someone to invest in your dream can be an intimidating goal. That’s why we’ve provided a detailed breakdown of all the steps you’ll need to take to secure the capital your business needs.
1.) Determine Your Needs and Expectations of Partnering with a VC Firm
Before even considering pitching your business to a venture capital fund, you need to make sure you’re clear on what you’re looking to get out of a partnership.
VC firms will have various strengths and weaknesses they bring to the table, and understanding what your specific needs are before engaging with any venture capitalist will help craft your pitch and negotiate a deal when you’re ready.
As well, taking the time to consider what level of help you’re looking to receive from a VC firm may impact what sort of deal you enter into with a VC firm. Some venture capitalists will want to be heavily involved in the decision-making process, while others will take more of a backseat.
Make sure to think about what sort of partnership and how much involvement from potential investors you’re comfortable with.
2.) Determine Business Valuation
Determining the value of your business is critical when looking to raise capital. When striking a deal with any VC firm, you’re receiving money in exchange for partial ownership of your business.
Understanding what your company valuation is will help ensure you receive a fair amount of capital in exchange for the equity you’re giving up.
3.) Incorporate Your Business
Receiving capital from venture capital investors means you will have to issue common and preferred stock to your new business partners, and the easiest way to execute these functions is to incorporate your company.
Making your business a C corporation can also provide some useful tax benefits and provides a level of legitimacy to your business.
Why make your business a C corporation?
There are definitely other options founders can take, such as S corporations or limited liability companies (LLCs); however, these other corporate structures are not as well understood and can make it difficult for shares to be transferred.
Your best bet when looking to attract venture investors is to make your business a C corporation, as this will take away many of the headaches further down the road when paying corporate taxes and transferring equity to your new business partners.
4.) Create Your Wish List
Building off step number 1, once you’ve determined your needs and expectations, you can start to craft your wish list of VC firms you would be excited to partner with.
Most venture capital firms will focus on specific industries or provide various levels of support to the businesses they invest in.
Since you’ve taken the time to understand what exactly you’re looking to get out of partnering with a VC firm, you can now begin to seek out firms that check off those specific boxes.
A common mistake founders make is partnering with the first VC firm that offers them money without taking the time to consider if this VC firm is what’s best for their business.
Don’t get caught up in the excitement of someone wanting to invest in your business. Be sure to take your time in deciding which venture capitalists you would like to bring into your company’s executive team.
5.) Patent Your Intellectual Property, Software, Process, or Product
When looking at potential investment opportunities, venture capital firms favor businesses that have lasting competitive advantages.
One of the best ways to create an insulated competitive advantage and to stand out from the many founders trying to secure VC funding is patenting some part of your technology, product, or manufacturing process.
Successfully patenting a key part of your business means competitors won’t be able to mimic your product or service and will also help attract VC investments.
If you’re unsure whether or not you can patent something, it could be beneficial to engage with a law or consulting firm with expertise in this process.
Some good news for business owners is that companies can patent much more than just intellectual property. It’s also possible to patent specific processes, products, or even internal parts within a finished product.
6.) Prepare Documents for Venture Capitalists
Once you actually manage to get in front of some venture capitalists, you’ll need to ensure you have the proper documents prepared and ready to go. Here are some of the most important documents you’ll need to remember:
The Elevator Pitch
The first thing a founder will need when raising venture capital is an elevator pitch.
What’s important to remember is that your elevator pitch isn’t a sales pitch but rather a short, interesting explanation of the problem your company is solving and the value you’re bringing to customers.
Remember, they call it an elevator pitch because it should be short enough and simple enough that you can finish the pitch in the time it takes someone to ride an elevator.
Additionally, your elevator pitch may come in many different forms, such as an email, informal conversation, or on stage at a VC competition. Regardless of what form it is, you’ll need to be ready to explain why your company is worth an investor’s time and money.
Executive Summary
Next, investors may ask for an executive summary, which is a one or two page summary of your business. Your executive summary should be slightly more detailed than your elector pitch and should allow any investor to understand your business model, growth strategy, and value proposition.
Business Plan
A good business plan will contain the full details of your business and how you plan to execute your growth strategy.
Your business plan should also include how you intend to use an investor’s money, what sort of return they can expect after investing in your business, and a timeline on when potential investors could see a return on investment.
If securing funding from a VC firm were a meal, the business plan would be the main course. This document should include the finer details of your business, including things like financial projections, supply chain strategy, market penetration strategy, and more.
Financials
Along with your business plan, investors will also be expecting detailed financial statements. Given most startups don’t have long operating histories, these financial documents will focus largely on revenue forecasts and cash flow generation and, most importantly, show a clear path to consistent growth and profitability.
VC funds are looking to make a return on their investment, and detailed financial statements can show them exactly what sort of return they can expect to make by investing in your company.
Pitch deck
Finally, there is the pitch deck.
Your pitch deck will be the presentation you show to various venture investors that tells the story of your business and ends with successfully showing why your business is a great investment opportunity.
Your pitch deck can be used even when you’re not pitching in person, as the information included in the slide show will highlight the most important aspects of your business when reviewed by potential investors later.
7.) Prepare for Due Diligence
Successfully making it to the due diligence stage shows just how much potential your business has. At this point, VC firms will begin confirming the information you’ve provided to them in your pitch and ask additional questions regarding your business model, management structure, financial position, etc.
This is a VC firm’s chance to better understand the inner workings of your business, as well as confirm the information they’ve received is accurate and truthful.
The due diligence process can take months to complete, as venture capitalists are very thorough when vetting potential investments. However, there are some things founders can do to help speed the process along.
More specifically, make sure to have your financial statements and projections at the ready, as well as any other important documentation such as product drawings, tax information, company structure, any patents or trademarks your company currently has, etc.
Having these documents ready to go will help expedite the review of your business and also show prospective investors how well-prepared you are.
8.) Do Your Due Diligence
It’s important to remember that due diligence is a mutual process, not just a hurdle to overcome in order to secure a deal.
You should use this as an opportunity to assess whether a particular VC firm is a good fit for your company. Learning more about their previous investments, looking at the financial performance of those investments, and how the founders were treated is critical information any business owner should know before giving away part of their company.
9.) Review the Term Sheet Carefully
A term sheet is a document outlining the proposed terms and conditions when receiving capital from VC investors.
This document goes into detail about various aspects beyond just the investment amount and ownership stake and should be carefully reviewed by a lawyer.
A term sheet will usually cover important topics, including how much capital will be provided to the company, company valuation, how much equity will be given to the VC firm, what sort of voting powers venture capitalists will have, company structure (typically, this section will include adding a member of a VC firm to the board of directors), conditions surrounding if a founder can raise capital from other sources, and more.
In essence, the term sheet will outline the specifics of the partnership between you and any venture capitalist. Be sure to review this term sheet in detail, as each section will have significant implications for the future of your business.
10.) Get Legal Assistance
While it’s important to trust your gut when making business decisions, it’s also crucial to ensure that you have all the necessary information to make informed choices.
Getting legal assistance will help you confirm nothing has been overlooked when finalizing a deal. Just be sure to monitor the amount of money on legal fees, as law firms tend to be expensive consultants.
It’s important to ensure that all legal issues have been properly addressed and all necessary documents have been properly executed before moving forward.
11.) Close the Deal
After all the terms of the deal have been agreed upon and due diligence has been completed, it’s time to finalize your venture capital investment. This process will involve the preparation and review of numerous legal documents by attorneys for both parties. Once these documents have been signed, you will receive the funding you worked so hard to get.
At last, it’s time to celebrate! Achieving venture capital funding is no small feat, and you should be proud of securing a deal to help fund the expansion of your business.