Last Thursday I met with the owner of a successful Twin Cities Start-up. It took nearly 3 months to line up the 50 minute meeting (he’s been traveling to raise a round of Venture Capital funding), but by the end of the meeting I had 2 pages of notes and one point that has changed my mindset about what I should be doing over the next 6-12 months.
Steve (as I’ll call him) is 30 years old and in 2005 he began his scalable start-up with 2 other guys. They sold everything. Their cars, their clothes… literally everything that wasn’t nailed to the ground to follow their dream of building an online platform to serve a specific niche market. After 27 months of hard work they got their first sale… now a typical sales cycle takes a mere 60 seconds over the phone and his company is growing leaps and bounds.
I wanted insight from Steve on the role that Venture Capital could play in my company as I transition from my Innovators Market to the Early Adopters market (see graph below), but Steve was more concerned with what I am doing in my Innovators Market BEFORE any VC funding comes in. The goal of any company is to achieve the “Hockey Stick Growth Curve” that shoots for the moon while potentially getting the attention of Entrepreneur Magazine, but as Steve showed me, without a steady 12 month record of Hockey Stick Growth, it is not even worth my time to get investors… or it could actually hurt me, for 2 reasons:
1. Bringing in outside funding too early in the Innovator Market can dilute the owners shares, taking away their control, before there is a true valuation of the company. For example, a company with $200,000 in sales can be valued at around $400,000 (depending on who’s doing it… typically 2-3 times gross sales). That same company might be interested in outside funding and receive a $200,000 cash infusion which will result in a new valuation of $600,000… but the owners now own 67% ($400K of $600K) with Investors owning 33% ($200K of $600K). Had that company held out for a valuation of $1 million, then a $200,000 infusion, would result in an 83% equity position for the original owner… a lot more than in the first situation and well worth the time bootstrapping prior to Venture Capital infusion.
2. A Start-Up searching for a sustainable business model should be able to grow by “Bootstrapping” and relying more on first sales from Innovators than producing the best technology for the Early Adopters and eventual mainstream market (see image below to illustrate growth pattern). Saying this, a start-up should show a constant growth pattern that, with investor money, can surge 5-10 times as large within 4-5 years. Without this initial Hockey Stick Growth, it makes it less worth an investors risk in a company.
Basically it boils down to this. Everyone has ideas and plans, but not everyone actually executes and finds the sustainable business model before looking for outside funding.
It all boils down to “Stop Dreaming, Planning and Selling your Ideas to people… instead, Start Executing and Building a Business that will actually be worth Something.” In the end, any investor that puts money into your dream will want to see a return of anywhere from 5-10 times their investment within 48-60 months… the real question to ask before looking for outside funding is, “Can I achieve that growth within a 60-72 months?” (the start-up period plus the 48-60 months following) and “Why would anyone want to invest in me if I can’t show them that I’ve begun that Hockey Stick Growth Climb?” If so, start building, then bring in the capital… but by then it might not be needed.