How to raise venture capital or private equity
Every business will reach milestones in their life cycle where they will need to source capital. Start ups or early stage businesses will require capital to get their business off the ground. Most businesses seeking to expand will require capital to source people, technology, product or equipment. More established businesses which are underperforming may require funding to enable a turnaround.
Whilst there are several options for raising funds - such as bootstrapping, crowdfunding or debt - venture capital and private equity investment often provide the best options for a large and quick injection of capital.
What is venture capital and private equity?
Venture capital (VC) and private equity (PE) are forms of capital raised for private companies from sophisticated investors. VC and PE firms represent pools of investors looking to invest in private businesses in exchange for equity.
Investors are seeking a multiple return on their investment and therefore are interested in businesses with unrealised value. This usually applies to businesses in their infancy where exponential growth is expected or to underperforming businesses with the potential for turnaround. In return for funding, the businesses raising capital will need to hand over a percentage of equity to the investors.
If you’re interested in going down the route of VC or PE to fund your business’ next step, there are several things to consider.
Get your financial governance in order
Before you even take the step of engaging a VC or PE firm, make sure your finances are in order. Any VC or PE firm you talk to will require detailed financial information. If your finances need a tidy up, or you’re not accessing or reporting on the right data, this will be the first thing a VC or PE firm will require from you.
To expedite the process and demonstrate that you are a genuine contender for VC or PE, get on top of your financial governance first. This may include ensuring you understand the profitability on each product or service you offer, and forecasting cash flow accurately. Engaging an accounting firm experienced in capital raises will be a big help.
Determine an appropriate valuation for your company
Determining a fair valuation for your business can be very complicated. Your VC or PE firm are a good checkpoint to ensure your internal valuation expectations are relevant and aligned to the market. It is worth noting that these firms are generally paid a percentage of the funds raised, so it is in the best interests of all parties to ensure your company is presented to investors in the best possible light.
The methodology for valuing companies varies depending on how established the company is and how many runs it has on the board. For more established companies, the valuation may depend on discounted cash flow, market growth rates, market share or multiples of EBITDA (earnings before interest, taxes, depreciation, and amortization).
However, for early stage companies, this information isn’t always available. Some may not be earning revenue yet and are in fact losing money. In this case, the valuation may depend on recent comparable financings which involve valuations for similar companies within the last two years. Another method is potential value at exit. This can be gleaned from recent merger and acquisition (M&A) transactions in the sector.
Do your research into comparable companies and how they’ve been valued and work with an expert to provide a business valuation prior to first meeting with a VC or PE firm.
Determine how much funding you’ll need
While it may be tempting to seek as much capital as investors are willing to give you, it’s important to remember that the more capital you’re given, the more equity you’ll need to give away. The key is to get the balance right so you have enough capital to achieve what you’re setting out to achieve without giving away too large a stake in your business.
To figure out how much capital needed, you’ll need to calculate your runway. Runway refers to how many months or years your business will survive on funding until new capital can be raised. The longer the runway, the more equity you will need to give away. Typically businesses will look at an 18 month runway which is usually enough time to hit the required milestones without giving away too much equity.
Your accounting firm will help calculate your runway by examining your strategic goals and the funding required to achieve them, cash flow forecast, budget and more. Typically they will come up with three or four different scenarios with varying funding amounts, runways and equity amounts. This will give you some options and ensure you don’t get boxed into offering too much equity or not seeking enough capital.
Follow the guidance of the VC or PE firm
Your VC or PE firm will provide you with a list of absolute requirements and what format they need to be in. This may include information memorandums, general purpose and special purpose financial reports, cash flow forecasts or accountant’s confirmations (which is where your accountant verifies that your forecasts are realistic with reasonable limits and based on sound logic). It is important to provide this information correctly and swiftly to make the process as seamless as possible.
Typically VC and PE firms will have a lot of questions, especially about your finances. On top of providing the right data and reports, a good accounting firm will be available to respond quickly either in person, over the phone or in writing. They will be a close partner in the process with you.
Ensure you’re on top of compliance
Once you have secured your funding, you will need to ensure you are compliant with any requirements such as issuing share certificates and creating a share register which records all of the shares issued. Your accounting firm will alert you to what’s required and will handle this for you.
Post raise, it is inevitable that new investors will require regular and accurate reporting regarding the ongoing performance of their new investment. Many businesses may not have this discipline historically so work with your accounting partners to ensure a long and happy relationship with your investors.
The most important thing is to start early. That way you will maximise your chances of securing funding without desperation which can lead to poor long term outcomes for the founders. This is your baby after all.
By Ryan Miller, CEO, Keeping Company
About Ryan Miller
Ryan is the founder and CEO of award-winning bookkeeping and accounting firm, Keeping Company. The company empowers business owners by providing bespoke end-to-end accounting and business advisory services which leverage the cloud.
Ryan began his career in Middle Market Advisory at one of the Big 4 accounting firms and has been a Director of public practice firms. Ryan is a fully qualified Chartered Accountant and a member of the Institute for Chartered Accountants Australia and New Zealand. He is also a Registered Tax Agent and holds a Bachelor of Commerce from the University of South Australia.
At Keeping Company, we’re not just accountants, we’re business people too. With our counsel, your business can reach its full potential.
We have a team of experts; Cloud Accountants, Business Advisors, Finance Specialists working together and ready to help, contact us today.
For all media enquires please contact Tracy Miller, CMO, Keeping Company 0414 898 452.
The material and contents provided in this publication are informative in nature only. It is not intended to be advice and you should not act specifically on the basis of this information alone. If expert assistance is required, professional advice should be obtained.