The Good, The Bad and The Ugly:
How Startup Funding creates more problems
Article by Ololade Otayemi
The good, the bad and the ugly… Remember the movie? The end of the movie holds a big lesson. It shows Blondie riding off into the horizon, leaving Tuco tied up with a bag of Gold in the middle of nowhere. Although Tuco became wealthy, he was stranded… Lesson: Not all money is good money.
A few years ago, a young founder wanted to start a co-working business. He created a fantastic business plan and started seeking capital of about a million dollars. He had a grand plan. Eventually, He was only able to raise about 1 percent of what he was looking for from friends and family. He wasn’t very happy, but that was all he could get so he had to make do. He rented a large space and constructed a small prototype office in the middle of the massive hall. The office was made from dark MDF wood and could only sit 3 persons. He then invited some friends including me, to take a look. Everyone loved the idea but no-one wanted to work in a dark box. So he got white wallpapers and pasted on the wall then invited us again and this time, the feedback was good. We loved it. He sold that one box and now runs a massive co-working business. In retrospect, if he had raised the funds, he would have build dark offices everywhere and probably lost all or most of the money.
This is the story of many startup founders today. They have these fantastic ideas, conceptualize it and start running around seeking funding. They then end up frustrated when they don’t get funded. Some founders are lucky, or unlucky as the case may be; they find ways to raise the money and they end up losing it all and in some cases end up in debt.
Funding is only good at the right time, we’ve seen startups soar after funding. We’ve also seen startups crash and founders getting into debt after massive rounds. Research shows over 75% of VC backed startups fail. This means money wasn’t the issue for these startups. In fact, for most of them, money made them fail quicker. So, when is funding good, when is it bad and when can things get ugly?
The Good
When is fundraising good? The simple answer is when you don’t need to raise money. That doesn’t make sense right? Let me break it down. Investors are not going around looking for startups that need money. They are looking for startups that are growing (in numbers/reach) and are making money (Revenue, and in some cases, Profit). They are looking for traction. Investors find traction sexy. The more traction you have gained, the sexier you appear to investors. For you to get to this point, you must have created an MVP, tested it, have paying customers and possibly reached product-market fit. This doesn’t mean investors can’t spot potential in a startup and decide to fund, but that doesn’t put you in the best position. When funds come in here, it is for scale. To boost what’s already working. This doesn’t also mean things can go wrong at scale. Something might work well at 200 users and not work well at 1000 users. This is why leadership is key for funding to be good. With the right leadership, to scale won’t be an issue.
The Bad
They’ve got the idea. They’ve conceptualized. It’s a great idea but they haven’t tested it. This is not the best time to raise money from an investor. Angel investors usually come in at this point. But here is why it’s not the best place to be. At this stage of the startup, you are not exactly sure of what really works so there is a chance you will pivot. Because you have other people’s money in this, the pressure to hit the market is higher (they didn’t give you money because they are nice). So there are already strings attached to what you’re still figuring out. While this isn’t the worse thing that can happen to a startup, it’s not the best place to be. You will be forced to accept the offer on their own terms and not yours.
The Ugly
The worst thing that can happen to any startup is to raise money when they haven’t figured their craft out. They claim they know what they are doing, they even seem like they do, but they don’t. A lot of times, startups at this stage get desperate after many no’s from investors and most of them end up with debt financing. Some even go ahead to find ways to falsify data and trick investors into giving them money. Then they pump the funds into the business and waste it. When the business model is faulty or the leadership isn’t solid, the startup is already setup to fail. More funds will only amplify the failure. Some founders are just serial fundraisers — raising money until there is enough for them to exit and flex. These guys often focus on valuation since that’s the game they are playing. This isn’t bad if the business model and the idea itself actually works. The scary ones are sensitive startups like health, fin-tech, etc. where lives and wellbeing are at stake. When things go wrong here, it’s usually really ugly. This is another reason why the idea isn’t enough and good leadership is key. Good leadership is the difference between success post MVP and at scale. Managing 2,000 users is not the same as managing 200,000 users. Running operations in one location is totally different from running in 5 locations. The issue with startup leaders is that a number of them start off as developers or experts in certain fields. So the have skills related to their work but not leadership skills. So the business succeeds when it’s just them and a few people but as growth comes, they are not able to step back from being hands-on and become strategic. The biggest issue here is them admitting that they lack the skill and get someone who does to run the show while they improve their ability to lead. This has caused many startups to fail even after massive rounds of funding.
So, Before you fund-raise:
- Get the idea right — The idea must solve a real, scalable, and profitable problem.
- Test your MVP — Create something users/customers love. It’s best to either bootstrap or to take advantage of family and friends at this point.
- Gain traction organically — Get and increase users/customers. Increase revenue organically.
- Aim for product-market fit — Get to a point where customers are coming to you. If revenue is increasing organically, this will be easy to achieve.
It will not be easy, but in the end, it will be worth it! Investors will be drawn to you like metal is drawn to a magnet. Then you’d be negotiating on your own terms and that’s where you want to be.
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