A new month marks a new editorial theme here at TechSPARK, and throughout April we’re shifting the focus to all things Investment, in partnership with the IAP. Thanks to our friends at Rocketmakers for kicking things off with this guest blog on securing pre-seed investment!
At Rocketmakers we build software for companies that want to have a positive impact in the world. Whilst many of our clients are organisations that already have traction and investment secured, we have also taken an equity stake in over 50 companies in part payment for our services over the last 10 years.
This approach has led to long-lasting relationships where we truly feel a sense of shared responsibility for the success of these companies. It has also given us a unique insight into the road to building a fully funded startup that thrives to become a funded, scaling business like Neighbourly or Travel Local. And it’s those funding observations that TechSPARK has asked us to reflect on today – so here are some top tips to help those of you on a quest to find pre-seed investment.
Focus on the funding that fits your needs and situation
There’s an almost unspoken hierarchy of funding. Most of the time your best first option is to fund the business yourself via bootstrapping (using personal funds or reinvesting profits to fuel growth). Building your business organically, by reinvesting profits to fuel growth, will ensure you retain 100% ownership and control, creates a deep level of sustainability and could prove more appealing to potential investors in the future (depending on your sector, team, traction and total addressable market).
If bootstrapping gets to a point where it’s limiting growth, you might consider taking grant funding from UKRI (Innovate UK Edge) or another grant making organisation. Often grants will be restricted to a specific sector/theme or solving a specific problem and competition for success is tough but can be worth it. To limit the impact on the business you might consider making use of a grant bid writer to support you. Grants will often come with challenges around reporting and expected outcomes, matched funding and cashflow management but will not need to be repaid.
After grant funding, you could consider debt funding but think about the terms very carefully before you do, and look at some of the more creative solutions like the startup loan. Debt funding takes a lot of different forms and will often come with a need to provide some security i.e. a guarantee that you’re in a position to repay the loan so you’ll need a robust business model and solid market (or a house you can remortgage but that’s not recommended!). Finally, and after you’ve exhausted all the rest, you could consider equity funding.
Think carefully about debt and equity
When thinking about pre-seed investment & funding at the earliest stage of building a software company, we always recommend that founders think about the implications of different funding approaches. Ultimately, you need to make a decision whether to pursue equity funding (selling a portion of your business in return for cash investment) or debt funding (of which there are many different kinds). The former depends on a team that is committed to hyperfast growth, servicing a huge market, and exiting (selling the business) in a 7-10 year horizon. The latter (debt funding) is often associated with “lifestyle” businesses, having a more gradual growth trajectory, a dependable/tested business model, less risk and ongoing income.
One thing that can be overlooked is the level of agreement between co-founders on their objectives for the company – if one is aiming to create a lifestyle business and the other wants to exit for a 10x valuation in 7 years, they will likely disagree over pretty much every decision as the business grows and quite possibly lead the business to fail after not too long.
Don’t underestimate the time it takes to secure equity funding
Whilst many assume that equity funding (angel, venture capital etc.) is ‘easy money’ because you’re spending someone else’s cash, this couldn’t be further from the truth. Convincing an investor to take a punt on your early-stage idea when you have limited traction and haven’t reached ‘product market fit’ is no easy task. Even then, once they are onboard, they will want to support you in making good decisions for the business – and often proffer some strong opinions themselves.
Finding investors that match your stage/sector and values in the first place isn’t straightforward, building rapport and relationships with them can be time consuming and ultimately it can all fall apart if you can’t find agreement over terms. This isn’t a path to be selected lightly.
Fail to prepare, prepare to fail
Investors are usually investing in the founder and team as much as the product, so you need to demonstrate your ability to make difficult decisions and make progress in challenging circumstances as well as on sunny days. You can expect that it’ll take somewhere between 4 and 8 months to secure equity funding, depending on your level of readiness for investment – is your business set up for investment? Is your pitch deck up to scratch? Can you demonstrate traction and/or revenue? Do you have all the paperwork in place? An accelerator will likely help you to become ‘pitch ready’ and then later, ‘investment ready’ so it’s worth seeking support at the right time.
When you meet an investor, think about how you’re going to keep in touch with them – they might not be the right investor right now, but in a few months or years, once they have seen your progress, and you’re at the right level, you want to be able to drop them an email and open up the conversation again.
Be tactical + search in the right places for equity funding
If you have decided that you want to pursue equity funding, these are the most frequently used sources –
- Friends, family and fools (the three F’s) are your first port of call – who do you know in your network that might be willing to put their money at risk to help you succeed?
- Accelerator or incubator – these organisations will often provide investment in return for equity when you join their cohort. You will need to participate in their programme for a period of time – like TechSTARS for example.
- Co-founders – as a founder you may find that there is a gap in your skillset or experience that will be essential for the success of your company, you might want to consider recruiting a co-founder to join you in the journey in return for an equity share. Rocketmakers could become your technology partner for example, and will offer a discount on our rates in return for equity in the right opportunities.
And finally…
I asked my colleagues at Rocketmakers for their sage advice on pre-seed investment and this is what they offered:
- Have skin in the game – if your business is just a side hustle it’s less likely to succeed and very much less likely to get funded. If you won’t invest fully in your business then why should an investor?
- Make sure to deploy the right amount of technology at the right time. i.e. Consider when it is the right time to move from research into build; From prototype to minimum viable product (MVP); From MVP to scalable product. You can learn a lot from a paper or no code prototypes.
- A P&L (Profit and Loss spreadsheet) is for investors to get them excited about the future. A cash flow forecast is for founders to ground them in reality. Understand the difference and manage your business against the cash flow forecast.
- Always expect it will cost at least twice as much and take twice as long to get to breakeven and profitability. Do your cash flow forecast, take the worst-case scenario and double it. Then look at the peak cash flow requirement (the biggest trough below 0) and that’s the minimum you need to raise.
Oh, and find yourself a great technology partner – or a great tech team!
Further pre-seed investment reading and resources:
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