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The following is an adapted version of a talk done by Clive Butkow from Grovest at the Gordon Institute of Business Science at the University of Pretoria, South Africa. Butkow boasts 28 years of management consulting experience at Accenture. Currently non-executive director of Grovest, he is also supporting and mentoring technology businesses, assisting them in driving growth.
I want to share with you what I have experienced from sitting on both sides of the table on how you increase your chances of raising capital for your business. One of the most frequent questions I get as a mentor to entrepreneurs is “How do I find the money to start my business?” I always answer that there isn’t any magic, and contrary to popular myth, nobody is waiting in the wings to throw money at you just because you have a new and exciting business idea.
Before we start, here are some key facts about raising capital in South Africa:
- Less than one percent of businesses raise startup Venture capital and less than two percent raise capital from Angel investors.
- In 2014 R141-million was invested by VC’s in 34 transactions.
- The average cheque size in 2014 was R3.4-million.
- Most of these investments were made in high tech companies.
- VC industry today in South Africa manages circa R1.87-billion across 168 active deals.
- VC asset class continues to expand in line with increase in high tech activity in the market abs democratisation of entrepreneurship — cheap costs of starting a tech business.
- Exits are increasing.
- Only seven percent of businesses in South Africa reach their third birthday.
- Most businesses in South Africa are self funded — three percent are funded by VC or Angels.
1. The myth of insufficient capital in South Africa
It is a myth that there is insufficient capital in South Africa’s in the entrepreneurial ecosystem. Rather, it is becoming more difficult to find suitable entrepreneurs to fund. There are millions of ideas but not many million dollar entrepreneurs.
There is a key skills gap between the wanttrepreneur and the scaleable entrepreneur, the Gazelle. The world is not short of great ideas or products. The world is short of great entrepreneurs. In other words, there are many more R1-million opportunities than there are R1-million entrepreneurs.
2. Raising Capital does not validate your business model, only customers do
Capital plays a critical role in the ability of a business to progress. However it is not the only catalyst for success. A bad business with or without capital is still a bad business with a longer runway. Raising outside capital isn’t the only way to grow a business — it’s simply one way. The goal is to build something great, no matter how or if you raise capital.
3. Investors back the jockey before they do the horse
Investors invest in people and not ideas or products and services. Investors prefer to invest in teams than in individuals. One is not a team. You should attract a team smarter than you. It’s not what you do that will define your business, but how you do it. People are far more important than the idea or product — money follows management in the world of business capital.
While many entrepreneurs have a great product or service, they do not demonstrate the business skills to build a successful business around that product or service. Every entrepreneur owns one very valuable resource: 100% of their equity. Use it wisely, and bring on the best team if required.
4. One is not a team (100% of nothing is nothing)
Do not try and take the journey alone. Decide if you want to be king and be in control, or to create wealth? Dilution is less important than success. Every startup needs two types of people: the product development and sales peopl — someone that can make it and someone that can sell it.
The hackers (coders) and the hustlers (the folks that can sell) work together. Look at Apple with Steve jobs and Steve Wozniak. Jobs wasn’t the product development guy, Wozniak was. Product development and sales are on par and every startup needs both. The hackers (coders) and the hustlers (folks who can sell).
Hire the best team on the planet. Decide whether you want to be the king or be rich (being in control or creating wealth).
5. Bootstrap your company before you try and raise institutional capital
This well help you avoid giving up too much equity too early, rather focus on signing up customers to increase the value of your company.
Get sufficient traction with paying customers. Very few companies get seed funding without some kind of traction. Unless your team consists of successful serial entrepreneurs, and even then, investors expect customer traction.
This does not mean perfect product market fit. It means early evidence that there is a problem and your solution or product is going to have a shot at addressing it. Keep your product lean MVP to avoid raising capital too early for product development costs — use the lean startup approach.
Incidentally, some people think that a bootstrappable business must by its very nature be a trivial one. That is, if you keep capital requirements low and can’t raise wheelbarrows full of venture capital, you’ve limited yourself to something small. They are wrong. Companies such as Hewlett- Packard, Dell, Microsoft, Apple, and eBay all started with a bootstrap model.
6. You are either running and building your business or raising capital
Raising capital is extremely time consuming, which could be better spent on getting customers and developing your market. Most businesses do not fail due to product development, they fail due to lack of customer and market development.
7. Think like an investor and make the deal attractive to the investor
Put yourself in their shoes and understand your investors’ business model. Investors look for scaleable businesses. To raise finance you need to show your traction channels and how you will scale. Remember they are looking for a home run with every deal which equals a minimum 10X return. Are you a VC type of deal? A good idea does not equal a good business, which does not equal investable business. Viable does not equal fundable.
VC’s will look at your deal from three angles: Firstly, are you investable? Secondly, is the deal investable and, thirdly, is the risk investable? You will need all three yeses to get the capital.
Many viable businesses do not raise VC funds as a good business does not equal an investable business. Out of ten swings at the bat, you get maybe seven strikeouts, two base hits, and if you are lucky, one home run. The base hits and the home runs pay for all the strikeouts.
They don’t get seven strikeouts because they’re stupid, they get seven strikeouts because most startups fail. Most startups have always failed, and most startups will always fail. So logically their investment selection strategy has to be, and is, to require a credible potential of a 10x gain within four to six years on any individual investment — so that the winners will pay for the losers and in the timeframe that their investors expect.
From this, you can answer the question of which startups should raise venture capital and which ones shouldn’t. Startups that have a credible potential to be sold or go public for a 10x gain on invested capital within four to six years of the date of funding should consider raising venture capital.
Part two will cover what investors are looking for, how to prepare yourself for a pitch and the importance of knowing what you want.