The Pros and Cons of Raising Money for your Startup
If you’re thinking of starting a business, particularly in the technology space, the question of “raising” money has probably already come up. For better or worse, the words startup and investment seem to be intertwined in many people’s minds.
Like virtually all aspects of launching a startup, the question of if and when to raise investment capital is never known with 100% certainty. In some cases, raising capital is necessary, advantageous, and exciting. In other cases, it should be one of the furthest things from a founder’s mind. Much of this depends on the type of business, stage of the business, and the intended use of the additional capital.
In this post, we’ll attempt to unpack some of the pros and cons of raising capital for your startup.
Let’s face it. Startups are hard. Although raising money isn’t a silver bullet by any means, having additional funding can open up options and a lot of “runway” for startups. The pros of raising money aren’t strictly financial, though.
1. Research and Product Development
Although some startups are in a position to go to market with a relatively simple initial product or minimum viable product (MVP), some aren’t. For startups solving complex problems or building truly cutting-edge technology, it is simply hard to see a way they can get to market without outside funding. If, for example, a startup is building novel technology in healthcare, the level of research, development, compliance, etc. may simply require some form of outside funding to be achievable.
2. Speed to Market
For some startups, usually as a result of the market they are in or problem they are trying to solve, speed offers a huge competitive advantage. In this scenario, having additional capital can be incredibly valuable. It may allow a startup to staff up more quickly, build their product or additional functionality more quickly, or scale their sales and marketing in order to strike while the iron is hot and grab a bigger slice of the market. Typically, this occurs in a space where there is intense competition and moving too slow means risking your chance of success.
3. Reaching Scale
Arguably the best scenario for raising money is when that capital is being used to scale a business that has proven its viability and ability to generate profits. In this scenario, the capital is essentially just adding “fuel to the fire.” This means you are gaining and retaining paying customers, your sales process is working, you understand the larger addressable market, etc. Raising capital simply allows you to do a lot more of what you already know is working. Instead of 10 sales people, you can hire 100, for example. Or instead of only offering your product in the southeast, you start offering it nation-wide.
4. Expertise and Mentorship
Particularly for VCs (venture capital firms), a lot of the value they purport to bring is in their expertise and mentorship. This means they aren’t simply writing you a check, they are actively helping you find success and scale your business. Many venture capitalists are experienced entrepreneurs or industry experts who can provide valuable guidance and support to startup founders. This can, in theory, help founders avoid common pitfalls and make better decisions as they grow their businesses.
5. Introductions and Connections
For better or worse, success can be influenced heavily by who you know. Venture capitalists and other investors often have extensive networks of industry contacts and resources that startups can tap into. This can be particularly useful for startups that need to forge partnerships or secure strategic contracts. In short, having these influential well-connected people making introductions and advocating for you can open a lot of doors that can otherwise be tough to get past.
Although it is so often glamorized in the tech world, it is important to understand that raising money for your startup comes with tradeoffs and drawbacks. Again, it is not always a wise decision for startups.
1. Time Consuming & Challenging
First off, many startup founders underestimate how hard it is to raise money. It is not simply a matter of meeting with a few investors and getting a check. At a minimum, founders should be prepared for a lot of rejection. Many startups are never able to raise money. Even in a best case scenario, raising money is very time consuming and a lot of hard work. Often, time spent attempting to raise money would be better utilized trying to better understand your users, seeking true product market fit, landing early customers, etc.
2. Not a Guarantee of Success
It is tempting for startup founders to believe that if they can just raise money, they will succeed. This is simply not true. Most startups that raise money ultimately fail. Raising money is not a silver bullet. If the fundamentals of the startup don’t line up (i.e. you aren’t solving a real problem, don’t achieve product market fit, aren’t gaining customers and generating revenue, etc.) having excess capital at your disposal isn’t going to necessarily lead to success.
3. Loss of Control & Potential for Conflict
When startup founders take on investment capital, the startup is no longer “their baby.” They are no longer the sole masters of their destiny. Not surprisingly, when venture capitalist firms provide money, they typically want some degree of control in return. This means that founders may have to give up some control over the direction of the company and decision-making processes. This can be a tough reality to accept for many founders who no longer have to answer to just themselves, their team, and their customers. The VC now likely has a strong influence in the decision making process.
If the interests of the investors and the founders are not aligned, it can lead to conflict and misunderstandings that can damage the relationship and jeopardize the company.
4. Dilution of Ownership
Individuals or organizations investing in a startup naturally want a stake (equity) in the company which means the founders end up owning a larger share of the company. If the company raises additional rounds of funding, founders will likely see their ownership stake further diluted as new investors come on board. For funded startups that ultimately achieve major success or exits, the founders often own surprisingly little of the company in the end.
5. High Pressure to Succeed
Startups are stressful under any circumstances, but once capital has been raised, the pressure to succeed is amplified significantly. Investors expect to see a return on their investment, and often push founders to grow the company quickly in order to generate profits. This can create an incredibly high-pressure environment for founders.
In conclusion, although it can be very advantageous, raising money isn’t always the no-braider or “win win” that it is made out to be in the startup world. It is important for founders to carefully weigh the pros and cons, timing, and motivations for raising money. For more helpful tips and insight to strengthen your development knowledge, check out our other blogs or reach out to discuss a project.