Start-up Tip: Ten Suggestions For Raising Start-up Capital From Angels

Mike and I stated working on crowdSPRING in the summer of 2006. We incorporated the company in May 2007 and launched the crowdSPRING marketplace in May 2008. We’ve learned many important lessons along the way. In some ways, our experience is typical of other start-ups. In other ways, it is not. I want to share some of our adventures (and mis-adventures) in the hope that it’ll help others looking to start a company or those who’ve already launched a start-up. So, once or twice every week for the next few months, I’ll post a new tip, based on our experience with crowdSPRING  over the past two years (and my experience advising technology start-ups over my 13 year career as an attorney).

Start-up Tip 4: Ten Suggestions For Raising Start-up Capital From Angels

It’s not enough to have a great idea. Almost all entrepreneurs will need to find a way to fund that idea. Some entrepreneurs are fortunate to self-fund. Others could bootstrap their start-up (at least for some period of time). But most entrepreneurs need outside funding very early during their start-up’s life.

This article focuses solely on our own experience, in the hope that sharing our strategy and what worked/didn’t work will help others.

Two things worked in our favor when we began raising capital. First, we had absolutely no preconceived notions about how difficult it would be. Second, we didn’t start raising capital until we could answer as many difficult questions from investors as we could reasonably anticipate.

We spent over six months researching (including competitor analysis) and refining our business idea before we started raising capital. During that time, we attended a few meetings of angel investor groups (as observers) to listen to pitches from other start-ups. We also did some light reading about raising capital. But we mostly focused on our idea because we understood very early that raising capital would consume a great amount of time and we wanted to refine our idea as much as possible before we started meeting with investors.

We started working on crowdSPRING in the summer of 2006 and crystalized our initial thoughts in the Fall of 2006. We wanted to wake up January 1, 2007, grab a cup of coffee, and read a draft of our business plan. And we did.

We wrote a detailed business plan mostly for ourselves (and for our wives. Let’s face it – we had to persuade them too that it made sense for us to pursue crowdSPRING as a business). It was over 80 pages long, and we spent a good 2-3 weeks putting it together. The plan included financial projections based on a very detailed financial model that we (mostly Mike) developed in the Fall of 2006. We didn’t yet know whether we would pursue crowdSPRING full time or whether anyone would agree to invest. But for us, this was an important first step. On January 1, 2007, we both were able to sit down with a cup of coffee and read a draft of our plan.

In the hope that our experience will help others, what follows are ten suggestions for raising start-up capital from angel investors (based on our experience). Here we go:

1. Build a business plan. Many people will tell you that you shouldn’t waste time on a business plan (they might be right). We weren’t asked for a copy of our business plan until we met with our fifth investor. But a business plan (whether a formal plan similar to what we put together, a PowerPoint or Keynote version, or something different) has value. The act of writing a plan forced us to crystalize our thoughts in ways that we had not yet done. It forced us to make sure that we could articulate our ideas succinctly, accurately, and with sufficient detail. It also forced us to thoroughly research the market and our competitors. Because much of our research was original research (we literally monitored activity by some potential competitors over a two week period and reduced that activity to analytical data in Excel), we were able to build a financial model that either supported or questioned some of the publicly available data provided by others.

We started with a one page summary. This was a good exercise because it forced us to explain our entire business on a single page.

One piece of advice: if you haven’t ever written a business plan, find someone who has. Mike and I were fortunate because we had either written or reviewed many business plans. But even though we had a good amount of experience with business plans, we found three smart friends and asked them to review our draft plan and to provide feedback. If you need some help to get started, email me (ross at crowdspring dot com) and I’ll be happy to email you the table of contents to our plan.

Whether you write a full blown business plan (like we did) or a shortened version, your should consider incorporating a good description of your business, financial projections, and a competitive market analysis.

2. Research. Research. Research. Know your business. Know your market. Know your competitors. Most investors are smart people. They’ll want to know about your idea, the potential market, the competitors, the pitfalls,etc. While it’s impossible to prepare to answer every single question, you should try to learn as much as you possible can so that you are ready. Potential investors will quickly tune you out if you can’t answer questions about your business. When we attended the meetings of angel investor groups in the Fall of 2006 – we saw many examples of this – some start-ups couldn’t answer very basic questions about their market and revenue models. Investors lost interest.

As I mentioned, we spent six months researching. While many might find that to be excessive, we learned an incredible amount during that time and we are confident that crowdSPRING would be very different (and not nearly as good) had we not spent the time researching. When we could not find published data, we conducted original research and analytics. We read every article we could find about some of our potential competitors (including and Thousands of articles. We were fortunate to buy a subscription to Lexis/Nexis that gave us access to over 20,000 periodicals (including major newspapers and magazines).

3. Practice. Practice. Practice. I can’t stress this one enough. Find the smartest people you can and persuade them to be brutally honest with you. You’ll really appreciate this later, even if you’re uncomfortable about this initially.

While we were working on the business plan in the Fall of 2006, we separately were building a complex financial model (that’s a topic for another article). As we started building the financial model, we realized that we needed a reality check about our thinking. And so we found a few really smart friends with very strong accounting experience and over a period of four weeks, met with them to refine our thinking. The early meetings were pretty grim. We had lots of flaws in our assumptions and had made numerous mathematical errors.

We asked our friends to be honest and to push back as hard as they could. We wanted them to challenge every line, every figure, every assumption. We wanted them to convince us why we would fail. And they tried. Very hard.

The meetings were not easy because they consumed a lot of time and energy (both ours and our friends). But after each meeting, we would retreat, correct, re-analyze, discuss among ourselves, and schedule another meeting. One of our friends was a very successful business owner and we realized that by exposing our inexperience so early in the process, we undermined our ability to persuade him to invest. But we needed his honest critique and we were prepared to live with the fact that he might decline to invest based on those early meetings (NOTE: he ended up investing!). We can confidently say that without his counsel and critique early in the process, we would not have been as prepared to meet with angel investors months later. And we might have failed miserable to raise capital.

4. Be transparent. We decided from the very beginning that we would be transparent. With investors. With our employees. With our users. Transparency could mean different things to different people. But pure and simple – it means be honest and don’t hide things. We spent a lot of time getting ready for meetings with investors. We could answer some questions better than others and had more information about certain things than about other things. And we made sure that in our written materials as well as our oral presentations, we were fully transparent about our business, what we were looking to do, and what we wanted from our investors.

After a very successful early investor meeting, we conducted a self-audit of our financial model (we did this regularly) and found a major error than impacted our revenue projections. The impact wasn’t huge, but it was also not a minor impact – it represented a seven figure shift in projected revenues. We promptly contacted all investors with whom we had met to let them know about our error and promptly issued corrected financial projections.

We were embarrassed about the error. But our prompt action and full transparency went a long way to assure our then potential investors that we would always be honest and open with them – with both good news and bad news.

5. Find the Right Investors. This is easier said than done. For many start-ups, this is icing on the cake. After all, for many start-ups, ANY investor is the right investor. But as I wrote earlier, we were really inexperienced with raising capital and had no preconceived notions about the difficulties we might encounter.

We were very lucky to find an early investor who helped us to strategize about raising capital and who made great introductions for us that ultimately led us to find other investors.

So – this advice might not apply to most readers. We made a list of people who we thought could bring value to crowdSPRING beyond writing a check. We wanted people who had good connections, but even more importantly, we wanted people who would be almost as passionate as we were about crowdSPRING. We wanted really smart people who could act as our “kitchen cabinet”.

Like I said above – we were pretty naive. But this worked for us. We found investors who brought many different experiences to the table (law, finance, banking, design, operations, etc.). And those investors shared our passion. They helped us to make connections with other investors. They helped us to make connections with people and companies whom we wanted to meet. And they patiently answered our constant questions. When we told them we looked to them as our “kitchen cabinet”, we meant it.

It’s always a good idea to look for experienced investors. Novice investors may demand a lot of attention, and this becomes very difficult when you are trying to run your company. But don’t ignore novice investors merely for this reason. Several of our investors had never invested in an Internet start-up. They’ve been really valuable to us nonetheless.

6. Limit The Number Of Investors. We recognized very early that if we had too many investors, we’d have to manage many relationships and expectations. While for some, there is no way around it, we wanted to keep the number of investors in crowdSPRING under two dozen (and we succeeded). Because we were raising capital from angel investors only, we knew we’d have more investors than say a start-up that receives funding from several VCs. Raising capital and managing investor questions and expectations takes time from your core business. A lot of time. During the period of time (about six months) that we were raising capital in 2007, those activities consumed about half our time. We were really glad when we closed our seed round because this meant that we could again focus on our business full time.

7. Be Prepared With Legal Documents. If you are asking others, especially strangers, to give you lots of money, don’t be surprised that they’ll want to see equity financing documents. And you don’t want to start thinking about such documents too late in the capital raising process.

We were fortunate because I am an attorney and had spent over a decade working with start-ups. Although I was never involved with drafting equity financing documents, I had reviewed many and had litigated a few cases involving that subjet. So, for us – this was inexpensive (just my time) and relatively easy.

Preparing legal documents for equity financing takes a lot of time and can be very expensive. It could cost $25-$40K, easily, depending on what you’re doing. Recently, Y Combinator and Wilson Sonsini Goodrich & Rosati released publicly a series of legal documents that they used for Y Combinator funded start-ups who were raising angel capital. These are excellent resources and are free. They’ll require customization, but that effort will take far less time and cost much less than preparing such documents from scratch.

The most important take-away: when an investor indicates their interest, have your equity financing documents ready. Don’t ask them to wait. Either bring the documents with you or FedEx for next day delivery.

8. Keep Working On The Start-Up While You Raise Capital. As I mentioned above, raising capital takes time. A lot of time. Mike and I were both involved in the process and it took up fifty percent of our time over a period of six months. During the time that you raise capital, you must remember to keep working on the start-up. We had to constantly remind each other about this because it was too easy to get wrapped up in what we needed to do to raise capital. If you focus solely on raising capital and ignore your idea, you not only run the risk of failure but your investors and potential investors will wonder whether you will be able to complete your seed round AND launch your company. You must find a way to do both.

9. Don’t take rejection personally. You’ll be rejected. A lot and by very smart people. Don’t take rejection personally. People will decline to invest for many reasons. Some won’t see much merit in your idea. Others will think that you are inexperienced. Still others might decline because the terms of the investment don’t fit their investment requirements.

We were fortunate that half of the people with whom we met invested in crowdSPRING. But we learned a great deal from those who didn’t. Even when very early in a meeting it was clear to us that the person would not invest, we took the opportunity to receive feedback, ask questions, and get as much out of the meeting as we could. In fact, we met with a few people that we confidently believed would never invest, but we wanted to understand their reasons so that we could be better prepared for other potential investors. Don’t ignore rejection. Learn from it.

Incidentally, one of our investors rejected us initially and then changed their mind. So, while we recognize that this is rare, don’t give up hope forever if someone initially declines to invest. Find opportunities to give that person updates about your progress (we did this) and find a way to ask again (we did this too).

10. Simplify. This is closely connected to item 4 (transparency). When we started raising capital, we  had an epiphany. We didn’t want to negotiate disparate deals with different investors. We recognized that some of our investors would be very sophisticated and others less sophisticated. We recognized that some investors would demand a higher IRR on their investment. At the end of the day, we felt uneasy about negotiating separate terms with different investors. Although this ultimately would have benefited us financially, we recognized that negotiating separate terms would consume a lot of time, effort and energy. And so we did something unusual. We figured out what share we would be comfortable selling in return for the investment. We lloked at a number of different analytical models to come up with this number, but ultimately followed our instincts. We presented the exact same terms to all investors and not a single one negotiated with us (NOTE: we would not have negotiated). The terms were very fair and reasonable and importantly, transparent.

We made it very clear that each investor was getting the same deal – and for our group of investors, this was important.

Let me also add a note about raising capital from VCs. This article is focused on our experience, and we fully intended from day one to focus on angel investors for our seed round. We had many reasons for this and were both fortunate and happy that we succeeded in raising our capital from angels. While we recognized that VCs bring many things to the table (including money and connections), there are tradeoffs. For a nice short article about this, please read the following post from 37signals – explaining why they finally accepted an investment from Jeff Bezos in 2006.

So – what’s the biggest take-away from this article? Raising capital is hard. It requires a lot of preparation and effort. Many start-ups fail because they can’t raise sufficient funding. It will be one of the most difficult things you’ll ever do with your start-up. But – it’s not impossible – even in a market like Chicago, where angel investments for technology start-ups are rare. We hope our experience helps you.

If you have your own tips or stories, please feel free to share in the comments. And if you enjoyed this post, please also take a look at other start-up tips we’ve written about:

Start-up Tip: When To Leave Your Full-Time Job

Start-up Tip: Lead by Example, Not By Title

Start-up Tip: Surround Yourself With Smart People