I wrote this essay six years ago — it is perennially relevant.
Over the years I’ve had hundreds of conversations with CEOs about “the next round”. This usually takes the form of a question: “What metrics do I need to hit to raise the next round?” In itself the question is rational; what is troublesome is when the question is asked right after a round has been raised, and when business decisions are made based on a theoretical future raise.
At Amasia, we try our best to avoid falling into this understandable but still pernicious trap, as investors can sometimes be complicit. Often VCs want to see portfolio markups to help raise their next fund. In the short-term, attractive markups in a future round create paper returns that can prove useful in raising additional funds (or in creating the impression of “momentum” in the ecosystem).
Here are five concrete reasons to spend little time thinking about the next round ahead of actually being in the market. The first and the last reasons are the most important:
1. You will make stupid decisions
I’ve found that building a company for a future financing or a desired exit usually results in the creation of a mediocre business that reaches a happy denouement only via a low-probability lightning strike. Building an enduring business, however, usually ensures that attractive capital raising and exit options come organically.
This isn’t a Rumi-like business couplet delivered from the lotus position. You will spend ahead of the curve to hit flawed revenue and growth metrics that will be picked apart by future investors; you will hire senior execs who look good in a deck but may not be the right people at the right time; and you’ll send your product and engineering teams on wild goose chases to add features/functionality that your users may not want but VCs might find appealing (or so you think).
Or take the opposite approach: be capital efficient in spending, hire the right folks for where your business is at the time, and be intensely focused on building the best possible product for your target user community. The result will be a business that can raise capital in good times and bad.
My advice: run a capital efficient business and make decisions that are in the best long-term interests of the company.
2. You will waste valuable time
I helped build the “outbound” deal sourcing engine at two successful venture and growth equity firms in the first half of my career. That model — people “dialing for deals” — is now widespread. What this means is that most founders who’ve acquired any visibility are getting pounded on by VCs who want in on the next round of financing.
This can be flattering and exciting for founders. It is also highly misleading. If your business isn’t interesting, they’ll move on quickly — and call you every six months to make sure they didn’t miss something (FOMO in action!). Note that investment firms are also in the business of building market maps to evaluate all companies in a sector. and by disclosing information, you’re assisting someone else’s research project. In the end what you get is a ton of wasted time that gives you a false sense of achievement.
My advice: when you formally enter the market for a financing round, if you’ve built a good business, there’ll be a line around the block waiting to invest. And if you haven’t, all those investors you wasted time with will disappear. In between fundraises, there are likely no more than three or four highly pertinent investors you should build a relationship with (and even here, I would prioritize chemistry with the person(s) over most other attributes).
3. You will go “stale” in the market
There is a further, deeper, issue with prioritizing investor meetings ahead of an actual fundraise. You are increasing the probability that your company goes “stale” in a world in which the new shiny thing always takes priority. And because you will “always be selling/closing”, it is quite likely that you’ll put aspirational projections out there that you will not hit. That will cause a loss of credibility when you are actually ready to raise capital (“can you explain why you missed your projections from just six months ago by 53%?”).
My advice: dipping into the capital markets is a most human desire. But dip carefully, selectively and rarely if you are not in full-blown fundraising mode. And when you do, don’t overpromise.
4. You might mess up your most important investor relationship
The most important set of investor relationships you have, as a founder, is with your existing investors. Not the ones you might attract later. This is true if you just raised a tiny friends and family round, and it’s true at every single stage after.
Your existing investors may be the only people who “believe” and are prepared to pony up to extend your runway if things go awry. Keep them onside.
My advice: in between fundraises, you may be better off dialing up the time and attention you give to your current investors, rather than courting folks who may or may not come into the next round.
5. You will not plan adequately for an implosion in the funding environment
A surfeit of investor interactions in between rounds can result in a very misleading impression of how vibrant the fundraising environment is. Funding dries up in VC-land with alarming regularity — we are lemmings, so when doom strikes, it can be pervasive. It’s no fun talking about backup plans with a founder, as one of the roles of a VC is to serve as resident cheerleader, but it is vital for founders who believe in their own business to have a plan for when funding dries up.
VCs can go think about the rest of their portfolio. You, the founder, have much more at risk: most or even all of your net worth in your company; your reputation and your sense of self; many years of your life; and people at work and at home who depend on you. You are obviously better off living to fight for another day, versus hitting a brick wall at high speed.
Wiggle room and careful planning are important. I would avoid pedestrian thinking along the lines of “well, when I have $XYZ left in the bank, I’ll start cutting costs, no problem”. When things start going south they can go south quickly, and that $XYZ may: (a) likely not give you enough time; and (b) still include much wishful thinking such as not incorporating the effect of cutting into revenue-generating functions. As always, only the paranoid survive.
My advice: build a backup plan with plenty of cushion in it. Involve both your senior team and your investors in creating it. Start looking closely at it when you have less than 12 months of runway left, not when you have less than three.
And one more thing…
John and I are founders ourselves. All of this logic applies to us at Amasia as well. There is the perennial temptation to make business decisions based on what might be appealing to investors in our next fund. We try our best to keep these lessons in mind as we build our own business.