1. InEn Bringing Investors & Entrepreneurs together
Christina MACKAY

2. Financing your start-up

3. Contents Stages of funding Types of finance
Preparing for Investor meetings

4. Part 1: Stages of funding

5. Stages of funding your light-bulb moment
Self Funding (otherwise known as "Bootstrapping"): idea – build a prototype and launch an MVP.
Friends and Family
Seed: The funding necessary to get product traction.
Growth (otherwise known as "Early Stage“ or Series A): The funding necessary to scale your product. At this stage, you should expect to have a much more formal board.

6. Stages of funding your light-bulb moment
Expansion, (Also known as Series B): The funding necessary to get founder liquidity, build groovy headquarters, and make competitors give up. You are growing >£3M. By now you may own <10%. However, you more than likely will have a valuation north of £20M.
Mezzanine (Also known as Series C): This round is the final raise before going public. Your company is valued >£100m. Your company has >100 employees and is operating in more than one country. Angel investors and founders may wish to sell before this stage unless you will be a unicorn.
Finally, Initial Public Offering…or IPO. The IPO’s opening stock price is typically set with the help of investment bankers.

7. Start-up Financing Cycle
Public Market
VCs, Acquisitions / Mergers & Strategic Alliances
IPO
Later Stage
Early Stage
Angels
Mezzanine
REVENUE
Internal rate of return (IRR) measures the profitability of potential investments. IRR is a discount rate that makes the net present value (NPV) of all cash flows from a particular project equal to zero.
20-30% IRR
Series C
Series B:
Team Expansion
Globalization
Acquisition
60% IRR +
30-40% IRR
45-60% IRR
Break-Even
Series A:
Distribution
New Markets
Launching a new product or reaching a new sales target
Seed Capital:
Product Identification, Marketplace Orientation, Demographic Targeting, Team Creation
Valley of Death
Customer discovery
TIME
Customer validation
Growing the business
Customer creation

8. Part 2: Types of finance

9. Financing comes in the form of Debt or Equity:
Debt means you borrow the money from someone and agree to pay it back at a certain date, or schedule, along with interest. The lenders make their profit from the interest. The riskier your business is (i.e. chance of you not paying back the loan), the higher the interest rate they will charge you.
Equity investments is when someone gives you money in exchange for ownership in your business. The more developed your business is, the more they have to pay you for that ownership. You can give this equity in many forms including: preferred or common shares. Common stockholders will not receive any money until after the preferred shareholders are paid out. Second, the dividends of preferred stocks are different from and generally greater than those of common stock.

10. Debt vs. Equity Key Features: Equity Debt Dilution of ownership  
Cost of money
Time taken to raise money
Cost associated with raising £
Available to ‘lifestyle’ businesses
Paid back if business fails
Smart money
No regular repayments
Can be raised pre-revenue
Security taken over assets
Directors guarantees required
Increases fixed costs
Advantage for founders
Disadvantage for founders  

11. Equity
The advantage of equity finance is that it never has to be repaid and there is no interest rate paid. Equity investments are true risk capital as there is no guarantee of the investor getting their money back.
The return from equity investment can be generated through a sale of the shares once the company has grown or through dividends.
When you need to use equity:
When you need a LONG runway
When you have zero collateral
When you can’t possibly bootstrap
Sources include: business angels, venture capitalists or the stock market.
However, equity has it’s downsides too, namely:
Equity narrows your options: they will expect that endgame for your business is either sale or IPO
Equity investors expect big rewards for big risks
Competition for equity investments is high
Raising equity capital takes time: 6 months
Giving up equity is a one-way street

12. What’s right for you? Type of finance Pros Cons Venture Capitalist
Venture capitalists are investors who are willing to put forward a large sum of money in exchange for equity in the company, but who only get their money out once the business either is acquired by another company or goes public. VCs are professional investors that are all about the money. They normally look for investments that can provide a 6X return on their investment, so you better be prepared to go big!
Lots of money.
Other resources.
Many entrepreneurs think that VC Funding is the key to their success.
VCs can invest large sums at once and they can provide expertise and other assistance that is helpful in growing and exiting your business.
Being VC funded brings instant credibility to your company.
VCs open up doors to a vast network of individuals including partners and future investors.
Look for larger opportunities that are a little bit more stable, meaning the company would need a strong team of people.
Need to be flexible with your business and sometimes give up a little bit more control, so if you're not interested in too much mentorship or compromise, this might not be your best option.
The term “Vulture Capitalist” exists for a reason. VCs are about the money and will take necessary steps to see a return on their investment, including ousting you from your own company.
If the VC doesn’t think you have the skills and experience to grow the company, they could want to replace you.
VCs may steer the business in a direction that you don’t agree with. However, they are very experienced.
Angels
Business Angels are high net worth individuals who invest their own money into early stage new ventures.
Often experienced entrepreneurs.
Often provide advice and make introductions to suppliers, distributors and customers.
£20-£250k is usual investment but some ‘super angels’ and angel syndicates may invest far larger amounts (£1m +).
There are c.8,000 active angels in the UK.
Can open doors by introducing the entrepreneur to customers and other investors.
Will act as an ambassador for the company and might even get some sales.
Can share experience and highlight missing elements for the business to grow.
Angel investors work similarly to VCs except they are much smaller. In the end, this allows you to keep control over your company, earn mentorship when it's needed, and hopefully make money as your company continues to grow. Angels are more flexible than VCs.
Also true of VCs:
Might have a different view of what your company should do that clashes with the entrepreneurs.
They will aggressively press you if you are not delivering as expected to protect their money.
Some investors will take advantage of entrepreneurs with no funding experience. Do your homework on how the funding process goes and find an impartial and experienced adviser during the process.
They often want a large portion of your company, meaning when you make money, they also make money.

13. What’s right for you? Type of finance Pros Cons
Crowdfunding and Peer-to-peer lending
Anyone can contribute money toward helping a business that they really believe in. An entrepreneur will put up a detailed description of his/her business on a platform such as Kickstarter--goals of the business, future financial strategies for turning a profit, the target audience, how much funding he/she needs and for what reasons, etc.--and then consumers can read about the business and give money if they choose.
Types: Reward; Equity; Debt; Charitable
Generally, those giving money will make online pledges with the promise of pre-buying the product, giving a donation, or earning some type of reward.
This relatively new funding alternative sees lots of small investors backing an idea, mostly for no return. Often, they just like the idea of the product or service you're trying to build and will give you cash towards it becoming a reality. It can also be a great option for business owners and entrepreneurs that have poor credit ratings.
Competitive place to earn funding, so unless your business is absolutely rock solid and can gain the attention of the average consumers through just a description and some images online, you may not find crowdfunding to work for you in the end.
High, hidden fees.
High publicity if you fail.
Bank Loan
Banks offer a range of funding amounts and payback options to fit your needs.
If you qualify, the time to funding is usually fairly quick.
If you go the financing route, you do not have to give up equity in the company.
Quick.
When you need a small amount of cash which you know you can pay back quickly.
Bank loans are very difficult to obtain and the criteria is constantly changing.
The entrepreneur owes the borrowed money whether the company succeeds or not.
The large amount of documentation required can be tedious and time consuming.
The financing options can be confusing. If you lack the knowledge or experience, you may lock yourself into an unfavourable deal with poor payment terms.
Too much debt can debilitate your company. A rule of thumb is to keep your debt/equity ratio below 2.

14. What’s right for you? - Convertible Note
Type of finance
Pros
Cons
A convertible note is a form of short-term debt that converts into equity, typically in conjunction with a future financing round; in effect, the investor would be loaning money to a start-up and instead of a return in the form of principal plus interest, the investor would receive equity in the company.
Discount Rate: This represents the valuation discount you receive relative to investors in the subsequent financing round, which compensates you for the additional risk you bore by investing earlier.
Valuation Cap: The valuation cap is an additional reward for bearing risk earlier on. It effectively caps the price at which your notes with will convert into equity.
Maturity date: This denotes the date on which the note is due, at which time the company needs to repay it.
Representative Terms:  CNs typical carries an interest rate of 4%-8% per year, which is usually paid “in kind”.  The note will convert into equity in the company’s next financing, typically at a 20% discount.  
CNs can typically be repaid at anytime with cash, at 150% of the principal amount.
CNs allow issuers to defer valuation negotiations until a subsequent round of financing. This affords the company time to develop metrics which can be used to determine a fair price in subsequent rounds of funding.
The structure of CNs is designed to benefit those investors willing to take the risk of investing before these metrics are developed. The CNs discount rate allows investors to convert the amount of their loan, plus accrued interest, into equity at a reduced price relative to the investors in that subsequent round. Similarly, the note’s valuation cap establishes a maximum value of the company at that future financing, which also potentially allows noteholders to convert their investment into equity at a more favourable price per share.
The main benefit of CNs is their relatively simple structure. As it’s a form of debt, there is no need to create a second class of shares or issue common stock. This avoids a number of complications, including those arising from company valuations, stock option grants, and related tax implications. At the end of the day, this allows entrepreneurs to focus more of their time and energy on their company and on generating potential returns for their investors.
You have a limited time frame before it needs to be repaid, or convert into equity.
If it is made to be too large, it can negatively impact your next round because it’ll convert to a disproportionally large portion of your next round, effectively crowding-out your next round’s investors.
Investors can add clauses that have greater implications down the road, such as being able to take up more of a future round than the actual amount they’ve put in.
Doesn’t give your investors (in the UK) SEIS tax relief, thus making it less attractive.
Note holders have rights of future investors (e.g. future Series A Preferred Shares), which may include more rights.
Automatically converts at the next equity raise (i.e. the investor has no choice), investors may wind up being forced to convert into securities shares despite not being happy with the terms of the equity financing.
It can be difficult for new investors to establish whether the terms of a particular note offering are fair, driving some away from deals financed with convertible notes. Some investors prefer to wait until a priced round, even while acknowledging they will most likely pay a higher price.

15. Part 3: Preparing for Investor meetings

16. Preparing for Investor meetings
Term Sheets: A term sheet is a non-binding agreement between a company and investor (or investors) that outlines the proposed terms under which a potential investment will be made. However, the term sheet is not a legal contract in and of itself. It provides a foundation for negotiations between the issuer and investor.
Pitch Decks: Different investors have different priorities when assessing a potential start-up investment. In an investor presentation or pitch deck the entrepreneur will summarize the key points about the business that they think are relevant to investors. The pitch deck provides a useful starting point for evaluating a company, but investors should also take the time to review the other materials provided in the data room.

17. What do investors look for?
The team:
Worked together before
Track record of success
Expertise
Product of Service:
IP portfolio – Is it protectable?
Market:
Larger the better unless you can prove a highly profitable model in a niche market
What’s your TAM?
Is it a growing market?
Customers:
Do you have any traction?
Do you have a strong pipeline?
Do you have positive customer feedback?
Exit

18. Your relative bargaining power
Your relative bargaining power when raising money from equity investors
Assuming you sell the business for £4.0m in five years time:
Selling 20% leaves £3.2m
Selling 30% leaves £2.8m
Selling 50% leaves £2.0m
7 months cost you £1.2m!
High
£100,000 for a 20% equity stake
Pre-money valuation = £400,000
Med/High
£100,000 for a 30% equity stake
Pre-money valuation = £233,330
Your relative bargaining power
Medium
£100,000 for a 50% equity stake
Pre-money valuation = £100,000
Low
Zero
12 months
9 months
6 months
3 months
Out of cash
Cash reserves in bank

20. Disclaimer
Important notice: This document is intended (1) to serve as starting point only and should be tailored to meet your specific requirements; and (2) must not be relied on as advice and no liability is accepted for such reliance and that anyone needing advice should consult an adviser.  Readers are encouraged to submit feedback to so that the document can be updated and improved.