Where do we get money to develop a startup?
You have an idea for a business, you’ve decided to start your own business. This is just the beginning of a difficult journey, throughout which you have to answer many of your own important questions. For many young entrepreneurs, the key issue is how to raise funds for growing a business. Where to go? What mistakes to avoid? Bogusława Cimoszko-Skowroński, a board member of MIT Enterprise Forum Poland, shall respond to all these doubts.
What should be the first step in a startup to raise funds for further development? What mistakes should be avoided at this stage?
Bogusława Cimoszko-Skowroński: It is best to start with a thorough plan, which should be the first step for entrepreneurs who are looking for financing. Such a plan consists of several elements. The first is to assess your own business situation, where we answer questions like: what problem are we solving and how big is it? Are we ready to enter the market with the product? What is the expected time until the first sale? You can’t forget about specifying the business model in which the startup will run and analyzing the competitive advantage. Laying out the structure of further financing and defining the goals that must be achieved before the next round give investors a sense that the startup knows how to build the company’s value. Gaining value is not necessarily associated with an increase in revenues for every business model. This is worth remembering. Another thing in the plan is specifying what capital the startup needs – whether it is to be e.g. working capital, investment or funds to cover operating costs. This determines the different solutions that can be used. The main mistake young entrepreneurs make at this stage is the lack of optimization of the capital needed. This results in the fact that they try to obtain financing in all possible paths, thus losing valuable time and incurring additional costs. We must remember to always look for alternatives to the plan that we chose at the beginning. It often happens that young companies that want to produce something believe that they need their own machines, creating the need for additional capital. However, there is an alternative – outsourcing production. There are situations in which startups can acquire financing from suppliers of raw materials or materials and then this external capital is not necessary. Therefore, it is important to thoroughly analyze the situation with all potential mentors, partners, and advisors; to consider possible savings. Any path that lowers the capital needed is good. Considering and developing a good plan is the starting point for preparing a list of possible sources of financing and focusing on methods of reaching them.
What forms of financing can be used by technological startups that want to grow their business? What are their pros and cons? What should you look for when choosing the source of financing?
BCS: When choosing sources of financing, the assessment of the situation should be taken into account: Is the project so advanced that it is possible to invite external people to co-finance? Is the startup ready for partners? Do I need full control at a given stage? Can I risk a loan? It is also important to consider whether we have all the resources we need in our own team or whether we need the support of so-called smart money. These are sources of financing that, in addition to money, can provide many valuable relationships in the form of potential clients or investors. Thanks to this, a startup will be able to reach key people more easily and convince them of their ideas. Currently in Poland, it may seem that the best means are grants, because they do not dilute the owners of companies; however, we must remember that grants are coming to an end in the near future. Therefore, it is better to start acting as if there were no subsidies and gain experience in the new reality. There are also various types of grant derivatives, such as loan and guarantee funds, which are usually easier to obtain than a private investor’s contribution. If we don’t need working capital, which can be financed in the most optimal way by suppliers or through a bank, it is worth considering obtaining financing from business angels, a venture capital fund or using crowdsourcing. Reaching business angels may require a lot of effort or the involvement of external entities, while the advantage of this choice is quick decision-making. Talks with a fund are a longer and slightly more complicated process, while crowdsourcing is relatively fast, but preparing for such a project requires time and resources for consulting services. There are also situations in which hybrids are created that combine several forms and sources of financing – it all depends on the adopted business model.
What kind of investment funds can startups take advantage of? What should the factors be for choosing them?
BCS: There are several Bridge Alfa funds on the market; a list can be found on the NCBR [The National Center for Research and Development] website. These are funds aimed at financing technological startups and projects in the “proof of concept” and “proof of principle” phases. Even in a situation where a startup is in the “proof of principle” phase, when it doesn’t really know if its solution will work, it can apply to the alpha fund, present its project, prove the formulated hypotheses, and show the benefits. Thanks to such funds, it will be able to obtain up to PLN 200 thousand at a very early stage of activity. Meanwhile, more mature entities can receive up to PLN 3 million, if the company proves that the technology works and the team is able to earn on a given solution. The Bridge Alfa funds can be classified as smart money, due to the experienced management teams who manage these funds and the investors involved in their operations. When choosing a specific fund, you should also follow the aforementioned plan and definition of what kind of business you are, what you expect and what you are looking for.
What requirements must startups meet when choosing a particular form of financing?
BCS: The selection of sources depends on the situation and the development phase of the company because each has its own specific conditions. In order to systematize these elements, you need to answer 10 Linda Plano questions. If a company can answer them, it is practically ready for talks with investors. They are as follows:
- Who is your audience? – Know your audience to pitch effectively
- Why should I, the audience, care? – Market size and market pain
- What do you do? – Secret sauce
- Why will you win? – Competitive advantage
- How will you stay better? – IP status and strategy
- Does it work? – Tech status and strategy
- How will you make money? – Business model
- How much will you make? – Financial projections
- Why you? – Team
- What will you do? – Development plan
- How much will it cost? – The ask
Is creating your MVP useful and necessary when trying to attract investors?
BCS: In my opinion, MVP is a necessary stage because it concerns credibility. This answers the question of who I am as an entrepreneur. With a well-defined MVP, you can show the potential customer a specific value, and thus measure his interest, which is useful in further work on the solution. Why is this important? If, for example, a known scientist has several inventions that work to his name and publications confirming his successes, then he can go to the investor with an idea and it will be easier for him to convince them of it. Companies that are not known for a given fund and do not have any special achievements but have interesting ideas, have to bear some risk at the beginning. If we are convinced that something works, we must prove this thesis. This also affects the valuation of the entire project, because we show how much time and resources we have allocated, so its value grows.
When looking for financing, a good plan is necessary, covering the business model, the type of capital needed (including smart money). However, you have to get out there on the market, talk to a large group of advisors, experts and mentors – they all have experience that may be useful. In my experience, companies with a well thought out plan, knowing exactly who they are, what they need, they have had many talks and consultations with advisors, are the ones that efficiently go through the whole process.