One of the main growing pains of business is reaching a point where you’re hurtling along so fast that self-funding or bootstrapping is no longer sufficient to keep you going. When you grow at that fast a pace, the wheels may start to come off, which could put your business at risk of failure. This necessitates fundraising as a strategy to keep the lights on and the doors open. In the previous post, we looked at the main challenges African startups face when it comes to raising funds from investors. In this post, we look at different types of funding and the factors that may attract — or repel — investors.

Generally, there are two main categories of funding a startup founder can seek: equity capital or debt capital.

Equity capital is in the form of funds paid into a business by investors in exchange for stock. Such funds come with a risk for the investors, as they will not be repaid in case of corporate liquidation until the settlement of all other creditors[1]. However, investors might be willing to take the risk as the value of their stocks might appreciate over time, allowing them to sell at a profit. Also, owning sufficient number of shares may give them some degree of control over the business.

The alternative is debt capital, which is given to a business with the understanding that it must be paid back at a predetermined date and with an agreement to pay interest in exchange for using the money [2]. Debt capital can be difficult to acquire for startups that are at the beginning of their journey because it would require proven track record of success. However, the upside of getting debt capital rather than equity capital is that it doesn’t force the business to forfeit ownership.

Regardless of what type of funding a startup seeks, as founder, you need to get the fundamentals of your pitch right before attending investor meetings. In conversations with both Tania Ngima — CEO of Demo Ventures — and Jason Musyoka — Angel Investors Manager from Viktoria Ventures, presented below are common mistakes that make investors shudder:

1.Presenting a back-of-a-napkin idea

Ideas drawn at the back of a napkin look cool. But without market implementation, they make better napkins than business pitches. An idea must be validated on the ground before any attempt is made to grab an investor’s attention. While startups don’t need to have broken even yet, they need to show proof-of-concept by being revenue positive and having a base of paying customers. However, if market validation is what you’re looking for, the avenues for these are ‘award-type’ competitions and grant funding. Crowdfunding could also possibly help you to go from idea to product/service validation.

2. Helter-skelter Financial Records

It is common for startup founders to get so caught up in the trenches of their day-to-day operations, that they don’t keep their accounts in order. Showing up for investor meetings without supporting documents such as a business plan and financial records is such a rookie mistake, it makes you look like you were lost and had stumbled into the wrong room.

Investors need to see a clear path on how they’re going to make their money back. A business plan answers questions on how the business is planning to stay on track while scaling while financial records show a summary of the startup’s financial health, covering details on assets, liabilities, cash flow, and more.

Investors also know that, in many cases, projections and business plans are likely to change over time. These documents are useful in gauging your thought process as an entrepreneur (including how you think through assumptions, contingency plans, changes in the external regulatory or market environment) as well as how ambitious you are.

3. Competition? What Competition?

Sadly enough, startup founders are divided into two camps — those who obsess over their competitors that they don’t get much work done, and those who go through life pretending they don’t exist.

While stalker tendencies like putting google alerts on your competitors is not recommended, knowing they exist is important. More important is identifying what your positioning is compared to them, and what makes you unique and sets you apart.

4. Crazy valuation — a unicorn, anyone?

The valuation that you show up with need to be backed up by the numbers in your financial records. Unfortunately, what has become common is for African founders to base their valuation on the target market or the latest valuation of a similar startup they saw on Shark Tank.

Others value their startups by multiplying their annual revenue by numbers that are not very reasonable — like 15x. While valuations based on revenue multiples are more of a subjective science rather than an exact one, factors to be considered are risk, growth and profitability [3,4]. Risk has a negative correlation with revenue multiple whereas growth and profitability have positive correlations. From his experience, Mr. Musyoka puts a 5x revenue multiple as being average in this market.

Co-written with Amina Islam

References:

[1]https://www.accountingtools.com/articles/what-is-equity-capital.html

[2]https://www.thebalance.com/the-three-primary-types-of-financial-capital-357332

[3]https://moronesanalytics.com/develop-your-intuition-about-valuation-multiples/

[4]https://exitadviser.com/business-value.aspx?id=business-valuation-methods