Thursday, June 20, 2013

The Danger of Pitching VCs Too Early

VCs are short on time and attention span as they meet large numbers of companies every week.  Like raccoons, they often are distracted by the latest shiny object in the form of a new company or product.  If you pitch them for a Series A and they pass, it is very hard to go back to raise money from them a few months later (even if you have significantly more traction).  Every time you pitch a VC and they pass, the bar for them to invest in your company later goes up.

As an entrepreneur, this makes it really important for you not to "poison the well".  You need to choose the right timing to raise a Series A relative to your traction.  You also need to be thoughtful about if, and how, to meet with VCs in advance of a fundraise.  Meeting VCs a few weeks before an official fundraise to "stir up interest" may backfire without a pre-existing relationship (more below).  

Things To Do Before Trying To Raise Series A

Check your runway.
How much money are you burning?   How much time do you have left?  You typically want to raise money if you have 6 months or less of runway left.  If possible avoid raising money during the month of August or December as most VCs are away on vacation.  

If you have enough money to not die anytime soon, you can check your traction to see if you should raise money now or what for a key event to happen (see below).  

If you are running out of cash, and do not have the traction to raise a Series A, you will need to either (a) cut down expenses and potentially your team to extend runway (b) make more money or (c) raise a bridge or (d) sell while you still have time to exit.

A big decision point if you decide to fundraise without traction is whether to skip a Series A fundraise and go directly for a bridge round, or whether to try to raise a Series A first (or in parallel).

Check Your Traction
Do you realistically have enough traction to raise a Series A?  One way to assess this is to ask a few fellow entrepreneurs, angel investors, or advisors what they think.

Some questions to ask regarding your traction:
-Growth rate.  Are you growing at least 10%[1] or more a month consistently?  (optimally 20-30% or more).  Is this growth organic?
-Engagement.  How engaged are users?  How often do they use your product?
-Overall userbase.  How large is your userbase or customer base?
-Customers.  If you are a SaaS or enterprise company, what is your customer mix?  How valuable is each customer?  What channels are you using to reach customers and how scalable & profitable are these channels?
-Revenue.  Are you making money or not?  How valuable is each incremental user?  What is your business model and how much do you need to prove it out?  Does revenue growth rate track user/customer growth?

Assume that X traction is enough to raise a Series A.  If you pitch a VC with <X traction they will pass.  If you then come back 3 months later with X traction, they will pass again.  Unfortunately, every time you pitch the same VC the bar for them funding you goes up.

Plan Around Key Events
If you have runway to last another 9 months, but don't have the traction to raise a round, think through what near term milestones may enable you to raise money.  Do you have a new product release coming that will boost distribution?  A new revenue deal with a major partner?  An app store feature?  If nothing in the next few months will make any real difference to your momentum, are you really working on the right things?

Unlike angels who invest early, VCs are looking for clear signs of traction that will de-risk their investment and create a high return over time.  

Pitch Prepared
When you do meet with VCs to raise a Series A, have a clear and cohesive story.  Optimally, practice your pitch with existing investors or advisors.  Treat this as a sales call, not a casual conversation.  If you don't impress a VC in your first conversation, you are unlikely to have another anytime soon.

Remember, a Series A fundraise is radically different from an angel round.  While you can get away with some sloppiness with angels[2], you need to be well prepared with VCs.

Market Timing
Sometimes a market gets hot and VCs will act irrationally.  If you are in a market that every VC wants to invest in, you can sometimes raise a Series A earlier then merited based on little traction.  There is a bit of an art to exploiting this but usually if you are in a hot market you will start to get inbound pings or the VCs may literally show up at your office un-invited (really!).

Proactive Rounds
Similarly, in some rare cases a single VC you know well will get excited about you are doing and ask if you want to "come in and meet the partnership".  In some cases this will lead to proactive funding at a valuation much higher then you would normally deserve given your traction.  In other cases this will lead to the partnership passing on you.  After they pass, it will be hard to get them interested again.

Unless you have traction, be cautious about turning the conversation with one proactive VC into a fundraising conversation with multiple.  You may end up getting burned by all of them and not be able to go back a few months later when you are in better shape.  Conversely, if the proactive VC really wants to fund you, you will need to create competition in the round quickly by enlisting other VCs to bid on your company.  This is a delicate balance to pull off.

Things To *Not* Do
Don't pre-met a bunch of VCs for coffee 2 months before your official raise.  If the VCs think you are pitching them over coffee, or if they just met you recently, they may not want to connect again 2 months later when you are really raising.  Wait until you have a well baked, cohesive story before meeting anyone.  Then treat it as a real fundraise.  

Don't be fooled by VC "interest".
A VCs job is in part to network and meet new companies and entrepreneurs on an ongoing basis.  Multiple VCs may ask to meet for coffee after you are in a TechCrunch article.  This may be more a sign of them sniffing around to build a long term relationship then immediate interest.

Thanks to Prasanna Srikhanata for help with this post's title.

[1] 10% a month is kind of borderline depending on all the other factors mentioned (userbase size, revenue, etc.).
[2] "Angels" is a really broad term these days and can apply to anything from a random rich person who write a big check on the spot on through to a professional investor with a $100 million fund.  In many cases, early stage investors may assess an investment very differently from a top tier VC assessing a Series A.  This allows you to get away with more during a seed round fundraise.

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