It’s Dangerous to Raise More than You Need

May 29th, 2015 / Comments Off on It’s Dangerous to Raise More than You Need

There’s more investment money than ever before, but that doesn’t mean it’s all good for startup companies.

While it’s easier to get seed money, it can be harder to raise capital in later rounds. For companies that raised a decent amount in seed financing, getting a Series A before the flywheel is going to be harder than ever.

There may be four times as much seed money today than there was five years ago, but that doesn’t mean investors are looking for anything less in terms of performance. There’s no free lunch anywhere, especially not in Silicon Valley. Investors generally exchange their capital for shares in the company — it’s a bet on the company’s future. They therefore expect founders to create value today and every day after that. And, with more money invested, they believe the more value can be created and thus the bar for delivering a return is higher than ever.

Companies have to live up to their valuation. I order to do so, a business has to grow significantly just to hit the floor. Investors aren’t looking for a 3x return; they are expecting 10x. That’s extremely hard to do.

I encourage founders to ignore the hype and the ego stroking that comes with a big valuation and instead choose to be humble. There’s no need to raise more than you need — and it’s dangerous to do so. If you raise ahead of your skis and your business can’t deliver, the fall is very painful. This is the scenario in which CEOs are fired. This is the scenario all founders must avoid.

Therefore, it’s crucial to raise the right amount. I like to see enough for 18-24 months of run rate (a year is the minimum run rate, and two years is the max). You need enough funding to have degrees of freedom so you don’t run out of money before your next round. Obviously, you never want to be out of cash so that you are forced into a fire sale or expose a soft underbelly where someone can take advantage of your vulnerabilities. But don’t raise so much that you do stupid things, such as blowing money on fancy facilities, hiring a lot of salespeople when there’s no product or recruiting a team of engineers when you don’t know what the product is.

Always know how much cash you have and how much you need, and how much you have saved in case catastrophe strikes. In this way, there’s no difference between the good habits it takes for managing a company and for managing your personal finances.

If you are smart and lucky enough to have raised a round of financing, you also fully understand that your job is not finished — in fact, it has just begun. You have a lot to live up to and you have to work harder than ever. Good luck!

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