Impact of Raising Too Much
Transcript
So the last couple of weeks we've been talking about fundraising and entrepreneurs get so excited when it comes to fundraising. The more their friends and peers raise, the more excited they are. And it always gives me pause because I don't think everybody understands the implication raising too much money has. So I want to give you a simple example and we're going to walk through it and hopefully it'll help you understand better. So let's go to the whiteboard.
let's say that you had a company and you had gotten it to the point where you're ready for
your seed round let's say you could get a five million dollar pre-money valuation but in this
particular case you choose to bootstrap so instead of raising money you basically grow the company
and grow the company until you get to a 50 million dollar valuation at which point you exit
you've created 50 million dollars worth of value you as the founder own the vast majority of it you
You may have given some out to stock options and you're going to walk away with $50 million
on that exit, roughly.
That's an amazing day for you.
Now, let's take the same company.
You get to the same point where you have $5 million in valuation and you choose to raise
some capital.
In this case, maybe $2 million of seed capital.
And you execute and you're doing well and you raise another five on top of 10.
And then the next round is a $20 million pre with 7 million new money in.
then you you get a 35 million dollar valuation and you raise 15 and you're rocking and rolling
and at this point we have a post-money valuation of the exact same 50 million dollars
hypothetically we could sell the company right then at that point so how much would the founders
have it certainly wouldn't be 50 because investors have a bunch in this particular case you have raised
29 million dollars that means investors have put in capital that represents this much so how much
do you think the founders walk away with well I've done the math and it's in a spreadsheet that said
on this blog post that I'll share with you but in this particular case the founders are going to
walk away with four point seven million dollars that's it less than one tenth company has the
same value the difference being that you raised 29 million dollars along the way you get one-tenth
of the value out all right so those are two extreme examples bootstrapping raising 29 million
dollars how about an example that's maybe a little bit more realistic so you're at your
five million dollar stage and you decide it's time to raise your seed you raise your two million
dollar seed you cruise along you get to the point where you're gonna raise your series a you raise
seven on 20 and you grow the company to a total of a 50 million dollar valuation at which point you
exit now in this particular case the investors have only put in about nine million dollars
i'll make that blue and you exit for the same 50 million bucks this time the founders get 16.2
million dollars a much better return but we're not in it just for the founders we're venture
investors we have to think about what our return is also this is where it gets kind of interesting
so in the first round here we invested at a five million dollar pre what is the value of that
dollar that we put in the first round upon exit at a 50 million dollar exit in this case and you can
see the math in the spreadsheet it's actually worth 1.2x that's it that's not a very good return
for venture investors in the more modest case when we invested a five million dollar pre and
you only subsequently raised an additional seven for total of nine raised that dollar that we put
in the very first round that dollar is worth four dollars and ten cents or 4.1 x 4.1 x that's a much
better return for the venture investors and what's really important to see here is how aligned we are
obviously in the bootstrap case the entrepreneur is on it on his or her own and doing awesome
bootstrapping is great if you can get there but many times you need the capital if you do need
the capital if you can do the same results with much less capital you can get a much much much
higher return and you can see that the venture investors in blue are aligned with the entrepreneurs
in green we all do better if you can do it with less capital hopefully this makes sense please
please go take a look at the spreadsheet that's attached to this blog post for all of the details.
Talk to you soon.
In episode three of MATH 101, Troy highlights the risk of raising too much capital. Remember, you want to fuel growth, but you don’t want to completely diminish the value to you and your shareholders!
In this example, Troy assumes a $50mm exit — the 2017 average for N. American and European exit activity — across three different scenarios: bootstrapping, raising too much, and raising the proper amount.
Originally published on the MATH Venture Partners blog.