Startup Fundamentals: Raising Capital 101

Webinar Workbook

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www.rossobrienvc.com
 STARTUP FUNDAMENTALS:
Raising Capital 101

1
Workshop Summary

Even during the best of economic times, raising capital in any market has a very low probability of success for most companies. The ratio still
stands that on average 1 in 300 companies that present to investors actually secure funding. So, what can entrepreneurs do to effectively
raise capital in this environment? Be educated and prepared.

As a founder, it is imperative to understand where your company sits within the “company lifecycle,” comprehensively assess your company’s
preparedness for investment, and be well-versed in the different types of investors and what they seek in an investment opportunity.

As a practical matter, understand that raising capital is a full-time job for a founder. If you are not able to sustain the massive undertaking
and follow-through required of the investment process, you may end up with a struggling company that is worse off for having spent a lot of
time and energy on approaching investors. Keep this in mind as you progress through the workbook and be realistic with what you can achieve
given that you may have a business to run as well.

Throughout this workbook, we will review the startup fundamentals covered in the Raising Capital 101 workshop. A more detailed exploration
of the concepts covered in this workbook are available in Cannabis Capital, available from Entrepreneur Press. Visit www.entrepreneur.com,
go to “Books” and find Cannabis Capital. Use code “cc25off” for 25% off your purchase.

2
The Company Lifecycle

As companies grow from the startup stage through expansion to a significant exit or an initial public offering (IPO), different types of investors
focus on investing at those related stages.” Therefore understanding the nuances of each stage is essential to sourcing an investor that’s a
“best fit” for your company.

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 STARTUP FUNDAMENTALS:
Raising Capital 101
The Company Lifecycle, continued
At each phase [of a company’s lifecycle], there are specific dynamics that need to be managed and common strategic options and outcomes
along with sources of financing that are specific to the needs of a company. It is helpful to understand how companies develop not only for
the purposes of raising capital, but also for managing and building value over time, as outlined in Table 2.1.

Table 2.1 - Company Lifecycle Stages

Stage Company Elements Types of Financing
Seed Founders are developing ideas about what the • Equity from founder’s friends, family, and
company will be. There are limited resources angels
with no product or service ready or generating • Debt from credit cards (personal resources of
revenues. The company is run by the founders founders)
and is not capitalized to acquire staff or other
resources and is without contracted suppliers,
customers, or vendors.

Development The founders are refining the product or • Equity from founder’s friends, family, and
services along with the operating model to angels
deliver. Any R&D and technology development • Equity from high-risk venture capital
is scoped out and underway. The operational
plan is defined, and resourcing requirements
identified. Early adopter customers are identi-
fied and in discussions, but the company is still
in a pre-revenue phase.
Go-to-Market The company is generating revenue, but not yet • Equity from founder’s friends, family, and
profitable or just at break even. angels
• Debt from credit cards (personal resources of
founders)
• Equity from high-risk venture capital
• Equity from private equity funds or family
offices
• Bank debt
Expansion The company achieves profitability and • Equity from high-risk venture capital
meaningful customer adoption. • Equity from private equity funds or family
offices
• Bank debt
• Strategic financing from corporate partners

Exit When a company has core value drivers such • Equity from high-risk venture capital
that a buyer will want to acquire the company, • Equity from private equity funds or family
exit opportunities are pursued, and early-stage offices
risk is largely mitigated. • Bank debt
• Strategic financing from corporate partners
• Access to the public markets

Cannabis Capital© (2020); Entrepreneur Press.

3
 STARTUP FUNDAMENTALS:
Raising Capital 101
The Company Lifecycle, continued
As you assess your company’s current stage, it’s also a good time to critically evaluate the investment that you need. You would be surprised
at the number of companies we have met with who don’t have a specific ask for an investment or, worse yet, just throw out a high, unsubstanti-
ated number. A well thought out request for funding should identify very specifically how the funds will be used, how the level of investment
aligns with your company’s current stage, and how the investment will impact company growth.

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Types of Investors

Now that we’ve reviewed the lifecycle of a company, as well as the stages of a company’s development, let’s dig deeper into which investor is
appropriately aligned to your company’s stage and what degree of risk they’re typically willing to take on to invest in your company.

Friends & Family Close contacts will want to see you succeed, and maybe your most likely sources of funding to help
you sustain your business in difficult times. The other consideration is that when individuals are
making investments from their own balance sheets, they might also be suffering with the public
markets and are dealing with other investments that aren’t going well.
Angel Investors More sophisticated than friends and family but still invest their own capital. Angles are under no
pressure to make investments so their activities slow down when the markets reset and they can
afford to wait for more certainty in the investments they are looking at.

Family Offices & UHNW These are groups who have significant wealth and are always looking for investments but just as
angels they invest their own capital and are very difficult to access. They operate on their own
timelines and are likely distracted by other factors. If you do have their attention, be prepared for
considerable due diligence and scrutiny and a long process.

Venture Capital VC Funds are the most explicit groups that invest in entrepreneurial ventures. You should do your
research as to the markets the invest in, what types of companies they have invested in, and how their
portfolio is likely to be performing at this time. If you can see that many of their investments are in
duress they might not be able to, or looking at, any new investments currently.

Lenders Any company that has historical revenues and a track record of profitability they should be working
with their bankers to explore lending, working capital lines of credit, or SBA loans. These is not acces-
sible for startup companies or businesses without 2 to 3 years of profitable tax returns.

This is important to understand because investors are looking for what is referred to as a “risk-adjusted rate of return” meaning that the
greater the risk, the greater the return on the investment needs to be. The investor who accepts the least amount of risk are lenders. They
provide loans with a guarantee of certainty of repayment, have a lot of security (protection) either through assets or personal guarantees, and
almost all their downside is protected. They also receive an interest rate in return for taking credit risk, get paid monthly, and only lend to
companies that have a very high certainty of being able to repay—or service—the debt. Only companies that have the ability to secure and
repay debt will qualify for financing, which means that debt is not an option for early companies without proven cash flow. If you follow the
profit and loss (P&L) line in Figure 2.1 [The Company Lifecycle], the company won’t have sufficient cash flow to support operating expenses
and service debt until midway through the development phase when the P&L line moves above the break-even point, implying that there is
sufficient cash to service debt.

At the complete other end of the spectrum are angel investors who make small investments in companies that may be nothing more than an
idea. Companies at this stage are very risky investments as there are uncertainties about how the company will develop and what the
outcomes will be, so the ability to generate a return on an angel investment is largely based on faith, or a “gut” feeling of the angel. Investors
at this stage require more than an interest rate to compensate them for the risk that their investment will be lost. The “Risk” line and the
“Valuation” lines in Figure 2.1 [The Company Lifecycle] show that when the company is at an earlier stage, the risk is extremely high, mean-
ing that the company’s valuation is significantly below that of a later-stage company with less associated risks.
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 STARTUP FUNDAMENTALS:
Raising Capital 101
Types of Investors, continued
Venture investors are seeking the ideal combination of risk and returns, which is typically achieved by investing in companies that are in the
development and the go-to-market phase. They have to acquire meaningful equity in a company, so they capture as much value as possible
to be monetized through a liquidity event, or exit. As the company successfully matures, the concept is that the probability of returning
economic value to the investor through an exit event increases dramatically. And what a company is willing to pay for capital decreases in
tandem. This means that an investor’s return targets need to compensate for losses in the portfolio so that on aggregate, the returns of the
winners wipe out the losses.

Cannabis Capital© (2020); Entrepreneur Press.

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What Investors Look For

In order to gain a thorough understanding of your company, any serious investor will ask tough questions and expect forthright answers. To
ensure you and your team are better prepared for this level of inquiry, and to avoid questions that surprise you, assess yourself in the same
manner an investor would. Bring together your core advisors and have them scrutinize your plans for fundraising, a process I call “friendly
fire.” Be honest and realistic about the shape of your business as you “grade” yourself using the ten key elements used by investors. By the
time you are meeting with investors there shouldn’t be any unforeseen questions that will surprise you.

Category What Investors Look For Rank

1. Management Team Strong founder team and management team 0 1 2 3 4 5
with a track record of success. Who are the key
people, do they have experience and what
makes them so passionate about building this
particular company?

2. Market Don’t spend much time doing a detailed analysis 0 1 2 3 4 5

of your market, instead focus on your “address-
able market” and how that market has
changed. Who will buy, why, and what is their
capacity to pay?

3. Operations Have you made the necessary changes in your 0 1 2 3 4 5

company to adapt to doing business post
pandemic? How structured are your systems
and processes and people.

4. Product or Service Is your product or service a “nice to have” or a 0 1 2 3 4 5

“need to have?” Are you a pain pill or a
vitamin?

5. Customers (Sales) What is happening in your customer base at this 0 1 2 3 4 5

time? Have you lost customers? How is their
spending changing and how have you had to
change or recast your sales projections?

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 STARTUP FUNDAMENTALS:
Raising Capital 101
What Investors Look For, continued

6. Competition How are your competitors adjusting? Has 0 1 2 3 4 5

anyone gone out of business, and if so, what
does that tell you about the risks in your compa-
ny? Are you secure enough to be aggressive
and focused on winning business and market
share from your competition?

7. Financials What is your current financial status? How has 0 1 2 3 4 5

the company been tracking to historical
revenues and expenses? How much runway do
you have and how realistic are your projec-
tions?

8. Secret Sauce What is proprietary or unique about your 0 1 2 3 4 5

offering? Do you have intellectual property or, if
not, what is defensible about your company that
you believe will make it hard to compete with
you and contribute to successfully doing
business while financial and business markets
are massively disrupted?

9. Exit Strategy An investor needs to know how they can profit 0 1 2 3 4 5

from their investment. What do you want to do
with your business? Are you thinking about how
to provide liquidity for investors? Do you want
to sell the company down the road (which is
what investors look for)? Be very cautious
about considering the public markets or an IPO
at this time.

10. Valuation Valuation is an articulation or perceived risk and 0 1 2 3 4 5

the risk adjusted rate of return that investors
look for. How hard would it be to replicate what
you have built and how threatened is your
business by macro-economic trends?

Notes:

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 STARTUP FUNDAMENTALS:
Raising Capital 101

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The 5 R’s of Raising Capital

Relationships
People have always been at the core of every business and industry. The same is true with raising capital, as you read at the top of this
chapter. Do you have an unfair advantage of personal differentiation with the key investors who will back you and your venture? Investing
in private companies all comes down to the people involved, and the ideal situation would be that you have a group of investors with whom
you are a known person with a track record of success. Although this is one of these things that takes time to develop, we all have to start
somewhere. Expanding your network should be a constant activity, and you should always be ready to ask anyone you meet if they are an
investor or know an investor to whom they can introduce you. Cultivating these key relationships on a sustained basis will have a direct
correlation to your success in raising capital. And remember, it is not always about the “ask,” so seek authentic ways to deepen your
relationships over time. As the saying goes, “Ask for money and you get advice, ask for advice and you get money.”

Relevance
From the investor’s perspective, are you presenting something that is relevant to their worldview? In other words, do you know what types
of companies they invest in, how much they invest, and what other portfolio investments they have? All too often, investors are presented
deals that are clearly not a fit. You wouldn’t present a healthcare investment to a real estate fund, so you must do your homework and know
that your opportunity fits the investment parameters of the investor. The only way to learn this is to research and have a targeted, thought-
ful approach to your investor outreach.

Resilience
Raising capital requires a thick skin, a balance between adapting and learning, and the ability to stay convicted to your core principles and
strategy. For example, I heard of an entrepreneur who celebrated each decline she received because she knew she could move on to the
next investor who may say “yes.” Resilience was a core value for her,6as it should be for you. Always listen and take into consideration how
an investor explains why they won’t invest. There is much to learn from that kind of feedback. After each decline, you should debrief with
your team to help you improve on the process you are running and the offering and presentation materials. If there are core business
deficiencies, you may need to stop raising capital and revisit your business plan. On the other hand, success also requires being able to take
an almost unlimited amount of rejection and not waver from your core business thesis. Be prepared for a lot of rejection and resilience in
this process. It is as much about learning and adaptation as it is committing to keep on raising capital until you succeed.

Right Ask
The amount of capital you are raising should be based on the needs of the business, and if that need is $5 million but the investor you are
pitching only invests a minimum of $10 million in any transaction, you unfortunately don’t fit their criteria. If the investor you are pitching
only invests in control, or majority ownership, and you are only willing
6 to sell a monitory stake in your company, then the probability that
there is an investment between the two of you is very unlikely. With a well-thought-out ask and research on the investor you are contacting,
you can identify for yourself if the ask is aligned.

Returns
Investors have the ability to allocate capital that they have influence or control over and are making investments for the sole purpose of
generating a return on that investment. Capital is a resource, and investors are in the business of allocating that resource to generate a
desired profit. Just like any resource, capital can be allocated in all6kinds of strategies so the decision that investors make is based on
comparing the probability of generating a return, how much risk is involved, and how great the return will be. Your exit strategy and the
structure you are prepared to present should align with their investment approach. You should know that because you have done your
homework and researched each investor before you present to them.
Cannabis Capital© (2020); Entrepreneur Press.
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 STARTUP FUNDAMENTALS:
Raising Capital 101

6
Conclusion

Being ready to raise capital means you’re prepared to function a higher level than most. You are ready to execute the fundamentals of creat-
ing a business from scratch based on your (ideally brilliant) idea. To ensure your successful, keep this equation in mind
Success = (Execution x 9) + 1 idea
In short, your idea is one component. Your execution as a founder, multiplied by the other nine elements an investor looks for, is where the
rubber meets the road. If you can execute at a high level, you are distinguishing yourself as a founder who does the work, you’re not just the
“idea person.”

The work is hard, the odds are daunting, but you’re more likely to bend those odds to your favor through education and preparation.

• Understand the lifecycle of a company and how investors view risk associated with your company’s current stage. Set realistic goals and
prepare for your company’s transitions through the lifecycle.
• Understand the different types of investors and who is be a “best fit” for your company. Identify areas a strength and weakness, and
prepare for investor scrutiny by using the self-assessment worksheet.
• Understand and routinely return to the Five R’s of Raising Capital. Prepare for investment by establishing the right relationships, stay
dialed-in to what is relevant for both your business and investors, be resilient and learn from defeat, understand the needs of your company
and make the right ask, and seek the returns both you and your investors are ultimately after.

Remember during times of economic uncertainty, innovators are the ones who lead the way to recovery. We wish you the best in your entre-
preneurial journey. Stay the course, do the work, achieve your goals.

Stay informed and engaged at

www.rossobrienvc.com

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