Discover more from Words, By Mat Sherman
Don't Raise Too Little Money
The unspoken feeling among VCs that few outsiders understand
I want to start off this post with a disclaimer; The only good generic startup advice is that there is no good generic startup advice. What I’m about to write is less quantitate and more qualitative. It’s a feeling about the market that I wanted to share. Use this as one data point when you decide how much you want to raise.
VCs are looking for the best founders
VCs want to fund the best founders. Let’s start there. At the end of the day, VCs are looking to fund the best founders they can find working on the largest markets with room to compete. Anyone that doesn’t fit the description of being a great founder or satisfying a large market may not be a good fit for venture capital. There is the argument that small markets might become larger over time, but I feel like only credible and fantastic founders can really know this (or at least convince investors it is true)
If I was a VC, I would be spending most of my time isolating the best deal flow where the highest percentage of great founders in good markets exist. One strategy I use when looking at a founder pool is identifying traits and characteristics that make up a subpar deal, so I don’t waste any time on it. As an investor type, I don’t lack deal flow. So the name of the game is setting rules for myself to make sure the deal flow I focus most on is the highest quality deal flow.
To eliminate people from that list, I may use pattern matching to identify trends that lead to great founders vs. okay ones. One of those trends is in the realm of ambition and seriousness in needing to raise. When I see founders that want to raise money from venture capitalists but only need $100,000 or less, here is what goes through my head:
They are raising only enough to satisfy their current needs, and aren’t thinking long term about what they will need in 12-18 months + Aren’t considering what type of company that will look like
They are raising so little that I question if they are raising to satisfy a lack of capital and need emergency funds to keep the company going. If they were more confident in their position they would raise more money.
They don’t even realize they should be raising more, because they aren’t an insider. They think $100,000 is actually a massive amount, because they live in Phoenix AZ. In reality, to insiders and the people with the real money, not understanding the rules of the game you’re playing is a negative signal.
Shows they may not have access to angels, who typically write smaller checks. If they can’t hustle their way into a few angel checks, can they go the distance?
So when you come to me and say you only need $50,000, these are the notes that pop up in my head. This isn’t a deal killer at all, but these aren’t the types of questions you want me thinking of. You want me thinking about the product, market opportunity, and the team. So I think it just adds a little friction to a fundraise, which may make a fundraising harder than otherwise, because its harder to pattern match with typical VC style bets.
Why do venture capitalists look for larger numbers?
There’s many reasons that raising more money is considered normal by a venture capitalist. First off, look at their incentives. If the company they invest in is going to return the fund, they need to have a meaningful ownership percentage. Investing $25,000 today may not get the target ownership percentage they need to execute their portfolio strategy.
Additionally, they know markets are cyclical. When a market starts to change, there is a clock ticking that lasts 1-5 years before the market opening starts closing. They want to find a founder wanting to capitalize on that market opening now, and do it quickly. For many, the way to do this is to raise money and deploy capital to become the market leader.
Lastly, if a founder says they want to raise $2,000,000 for their startup, they exhibit moonshot behavior from day one. Whether this is objectively good is up to debate, but VCs are looking for founders who don’t just say they are swinging for the fences, but actually do it. Raising $200,000 signals something very different than going out to raise $2,000,000. If you go out and raise $2,000,000, it brings bigger players to the table. If they invest, sometimes it’s just a self fulfilling prophecy.
There’s always the exception to the rule
Note, if you’re a great founder working on a great opportunity, then most of what I mentioned doesn’t matter. The reason for this is you will be able to answer their hesitancies with grace, and will be able to explain with perfect precision why you only need so little money. Ideally, the questions aren’t about the fundraise and the product/team/distribution strategy is so good that the investor will invest even if you were raising a $10,000 SAFE. If the investor thinks you’re the real deal and will build a billion dollar company, they will bend over backward to get into your deal.
You don’t decide you’re great, the market does
One last note there is that every founder decides they are great. This means very little to an investor. An investor is looking for outside data that you are great. This could mean previous successes. It could mean the market saying you’re great by having growing revenue. It could be multiple past employers going to bat for you in a reference check, even though this is still a little weak. Most first time founders think they’re great, and they’re not…yet. But they can become great with force and persistence.
At the end of the day, it’s all just a market. You’re going to raising what you raise, and if you’re good enough, investors will invest. Sometimes, eliminating the reasons investors say no is just as important as having a few of the reasons investors say yes. Before you go out and tell David Sacks that you want a $50,000 check from him, think about this post. Once you’ve thought about it, then make your decision.