Despite the huge figures we see in the media, if your startup is very early-stage, raising in London is challenging and time consuming. The impression from Silicon Valley blogs is that individual angels will cough up $500k for an idea. This won’t happen in London, so below I’m laying out what I see as the state of play in London right now.
The main sources of funding for early-stage tech startups are:
- Bootstrapping and personal savings;
- Friends and family;
- Family offices;
- Seed funds (seed VC);
- VC funds;
- Accelerators and incubators.
Bootstrapping your business using retained earnings and personal savings allows you to retain total control of the business and 100% of the equity. The downsides would be lack of capital for growth and lack of advice/support from investors (which may or may not be worth much).
Friends and family may be a good source of early capital on friendly terms (up to £100k perhaps), but remember Polonius’ advice to Laertes:
Neither a borrower nor a lender be;
For loan oft loses both itself and friend.
Angels may invest either individually or as organised syndicates or groups. This is likely to be your first money on fully commercial terms. Unlike in Silicon Valley, the average investment size per angel is likely to be in the range 10k-50k, so it becomes unwieldy to raise more than 200k solely from angels, but it can be done. Angels are probably best for smaller rounds between 50k and 300k, or investing alongside a seed fund for rounds up to 600k.
Family offices are rare but will often come in for larger amounts than individual angels, so you might be able to raise 100k-200k from a single family. They’re pretty much in the middle between angels and seed funds.
Seed funds (sometimes called seed VCs) are likely to be your first institutional money. They will make individual investments from 50k-750k and are often the lead investor in a round filled out with angels. They also bring the potential for government co-funding, where the London Co-Investment Fund, for example, might match the money invested by the seed fund.
VC funds are the first full-scale institutional money and usually seek to invest 1m+. Typically the round when these guys come is called the Series A. With increasing numbers of seed funds, there’s no clear separation between seed and VC anymore.
Grants are more common in life sciences than tech, but there is funding available especially for startups with a social/environmental focus or where university research is being commercialised. (I saw a recipe app that qualified for grant funding since it incorporated PhD research.)
Equity crowdfunding is something I’m pretty sceptical about, apart from in specific cases. However an increasing number of startups are going this way and it does work if the campaign is correctly planned with 30-40% of the money committed before launching.
Accelerators & incubators – there are a wide of range of programmes offering funding and support in exchange for equity. They’re all different, so I won’t try to go into detail, but a lot of startups are going through them. [For full disclosure, I’m an investor/mentor in Collider this autumn.]
We hear a lot about different funding rounds: pre-seed, seed, late seed, second seed, series A, B, C, A2, A3, et cetera.
As far as I can tell this is completely unhelpful since the terminology is so poorly defined that whenever someone uses these terms they then have to go on to explain what is meant.
The reality is that two things matter:
- the pre-money valuation/amount being raised; and,
- who’s investing.
I’ve listed pre-money and amount together, since for the most part, percentage equity tends to be somewhere around 15% – 25%, and so valuation largely determines the amount of cash, orvice versa.
post-money valuation = (amount raised) / (percentage of equity)
pre-money valuation = (post-post money valuation) – (amount raised)
So for example, if you’re raising 500k for 20% equity:
post-money valuation = 2.5m = 500k / 20%
pre-money valuation = 2m = 2.5m – 500k
Since percentage of equity is fairly constant across rounds, it’s valuation and amount that vary together.
In practice, if you’re raising significantly less than 1m from family, friends, angels or seed VC funds, then you’re not yet at Series A.
If you’re raising 1m+ from one or two VC funds for the first time then it’s Series A.
If you’ve done a Series A and the new round is at a higher valuation then it’s Series B…
But in reality, it’s easier to just specify amount raised, pre-money and type of investor, then it’ll be clear to anyone what you mean.
In the US early-stage funding is often done using convertible notes, but in the UK it’s generally equity. The reason for this is the UK’s generous SEIS and EIS tax breaks for investors.
Pretty much every early-stage startup will raise using these schemes until they reach VC funding, so you should understand what’s going on because it matters to your potential investors.
I won’t go into the technical details around the tax schemes, but in practice most early stage UK tech companies that have never raised money (and are less than two years old) will be able to raise £150k under the SEIS scheme. After that, anything you raise before VC funding will probably be covered by EIS.
SEIS allows investors to reduce their income tax bill by 50% of the amount invested, and not be liable to capital gains tax on a exit. Investors are also able to defer paying CGT on gains from other investments if they reinvest the sale proceeds in (S)EIS eligible companies. In the event of the company going bust, they can reduce their taxable income (not liability to income tax) by the other 50% of the investment amount.
EIS works the same, except for being 30% rather than 50%.
If you are looking to raise money your solicitor or accountant can help with filing the paperwork for (S)EIS pre-approval, which the investors will want to see.
The company raising funds cannot be controlled by another company, but it’s possible for a non-UK company to raise funds under (S)EIS if they have a UK operation. If you’re raising funding from UK investors, you should check the details with a solicitor.
In an ideal world the word ‘investor’ would be reserved for people who will write a cheque, but in London today it can mean various things.
There are events described as ‘pitching in front of investors’ but no one on the panel is ever going to give you money. Often consultants/intermediaries describe themselves as ‘investors’ when they mean they will try to find investors for a fee, or that they will perform consulting work for an equity stake in your company.
There is nothing wrong with this as long as startups are clear on what they are being offered. But it is up to startups to seek clarity on who they are dealing with.
Ask people precisely what they offer and in exchange for what. If someone says they are looking to invest cash, ask for details on what other startups they’ve funded and for how much. Find out if they took consulting fees or sweat equity and on what terms.
Honest people will be happy to share details and introduce you to the previous startups so that you can double check. If this is someone’s first deal, then that’s fine too, but they should be open about it.
If someone is being vague ‘because it’s confidential’, or gives generalities such as ‘my deals are usually…’ then maybe they’re naive, but perhaps being deliberately misleading.
There’s a myth that 51% equity ownership determines who controls a company, but for startups in London today this is untrue.
The standard terms under which you raise from angels or VCs will give them a veto on any of the following activities (and many others):
- Materially changing the nature of the company’s business;
- Issuing securities (ie, raising equity capital from anyone else or giving anyone options);
- Taking on material debt (ie, raising loan capital from anyone else);
- Altering the articles of the company;
- Paying a dividend;
- Shutting the company down.
You can run the company from day to day, but as soon as you want to raise money or make a meaningful change, you need their support. And if they choose to withhold that support, they have you over a barrel.
Feel free to share horror stories in the comments below.
The first thing investors will likely want to see before a meeting or call is a pitch deck. It needs to be concise but with enough detail to get them interested. Since it’s going to be read in isolation, it needs to contain more detail than a deck for presenting live.
Try to avoid things like slides that reveal one line at a time or animation. These work when presented live, but are just annoying to read. (Someone once sent me a pdf, where each slide took five pages because in the original powerpoint one line of text appeared per click.)
Investors are unlikely to commit a large amount of time to a first read of the deck, so aim for a length of 10-15 slides and no more than 4-5 minutes to skim. Try to hook people early, because no one is going to get to the end if they’re bored by the fifth slide.
The structure of decks varies, but for most companies the following point should be covered:
- Start with a title page detailing company name, URL, contact name and email address. A tag line for the what the company does is often included.
- Describe the problem you solve and identify the target audience.
- How do you solve the problem? Describe your solution without giving away the precise details of your secret sauce.
- How do you monetize?
- What is the size of the addressable market? Is it growing?
- Describe the competitive landscape and how you are different from the competition.
- Demonstrate product/market fit. For a B2B firm this will ideally be increasing MRR (monthly recurring revenue). For B2C, growing user numbers if you are pre-revenue.
- How many users do you have and who are they? For a B2B business these should be recognizable names. For B2C, it will likely be metrics such as subscribers or daily active users. Include some testimonials, if possible.
- Financials – for early-stage companies three year projections are likely to be garbage, but a lot of UK angel groups will expect to see them. (I’d like to suggest leaving the projections out, but I know at least one London angel group that requires the numbers and includes them in their deal summary sheets for companies that pitch at events.)
- Who are the team members and what are their backgrounds?
- How much investment is being sought? Specify the terms and whether it is has SEIS or EIS tax relief.
- How will you spend the money? How do you plan to scale the business?
I covered some practical points about the format of the deck in my previous post on ensuring investors actually read your pitch.
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