The one thing that can absolutely, positively kill your startup is a lack of alignment between you and your investors. So, it's kind of important to know what your investors want.
In this short video, I'll explain two key parts of what investors need if they will invest in your company: a minimum percentage ownership, and a minimum return. I hope you like it.
Read The Video Transcript Below:
So what type of return are your potential investors expecting? Years ago, I met some entrepreneurs that I was talking to and I was trying to advise them I eventually passed on advising them, and you'll see why as I go into the story.
They were telling me that, you know, we have a billion dollar company we're going to be the next year unicorn. And, all we need to do is just give investors 1% of our company, because there'll be happy to work with us because look at what we're going to be worth.
It doesn't work that way.
Investors need a certain percentage of your company to make it worth their while. And not only that, they need a certain return that they're looking for to make it worthwhile. So the billion dollars, that's great. That's good.
But they need to own enough of the company for it to be worth their while. So how does all of this work? And what do you do?
So on returns, you have to assume if you're very early and you're raising money from angel investors, not friends and family, because that's totally different, but let's say you're raising money from angels. What are they looking for? Probably 30 times their money.
So what does that mean? It means probably for a million dollar investment. Let's say you're raising a million dollars just to keep the numbers nice and simple. Well, what are they going to want?
They're going to want to make $30 million back. Okay. Now what are you going to likely have to give up? Well, the typical rule of thumb, and this is a rule of thumb for you, so just bear with me.
So rule of thumb is 20% for each round, you will give up. So in other words, for that first million dollars, always the initial money is always the most expensive money. So that first million dollars, you're going to give up 20% of the company.
So what does that mean? So that means if you're giving up a million, they're going to own 20% or one fifth of the company. So for them to get their 30 million back, your company is eventually going to have to be worth at least $150 million.
So if your company doesn't have those kinds and a metrics in mind in investors, again, going to look at this in detail and are going to try and understand what's going on, they're not going to invest.
So you have to be in alignment with your investors. That's why the 1% thing doesn't work. It's just not enough money. They're not going to be excited about it. It's not going to be enough to move the needle. If they own 1%, nobody works that way.
So you have to have both things in alignment. You have to have a reasonable expectation of what you're going to give up, which most rounds is around 20%. It can vary, you know, it can be 15, it could be 10%. It could be 30%, but 20% is a nice number to plan on and assume for those early rounds, 30 X as the rounds get later in, bigger the expectations down in terms of return. But for those early rounds, first round one with venture investors, probably 10X, at least maybe more. And then as you start getting deeper and deeper into it, the expectations go down in terms of what the return is. I'm firstname.lastname@example.org. Have a great, great day.