How to think about funding

Almost all founders want to jump to the question, “How can I get funding for my great idea?”  We promise you that this is not the question to ask, for two reasons.

First, ideas are not valuable unless there is proof that the idea will make scores of people happy enough to gladly give money in return for owning or enjoying it. Even then, an idea that is supported with data still carries significant risk for an outside investor who is a stranger.

Even when you have the data as from our sprints 3 through 6, stranger investors will consider you too risky to invest in because they do not know you and your capabilities. The fact is that most founders lose interest in their idea when the hard work of turning an idea into reality starts to pile up. Strangers are on solid ground being skeptical of investing in a good idea being led by a person they have not worked with before.

Second, a founder should be discerning about what sort of funding they consider accepting and under what conditions they’d be willing to accept the funding. Many successful founders regret accepting funding from one or more of their investors. There are many things that can cause these regrets.

In this blog we want to lay out how funding is a strategic decision, and how to systematically develop your own funding strategy.

There are two follow-on sprints, each focused on the two different funding strategies. In these sprints we will get into the details of how to use each of the strategies to think about and prepare to fund your idea.

At this point, we pose a key strategic question:

Bedrock or high-risk?

There are two distinctly different and divergent groups of entrepreneurial strategies, bedrock and high-risk. You need to decide early on which of these groups you want to operate in because they will play a big role in how you might want to raise money.

Here is how the two groups diverge.

Bedrock entrepreneurs want to reduce the risk of their personal loss of money, status and relationships. High-risk entrepreneurs want to maximize personal gain as measured in some combination of money, status and networks of relationships.

Bedrock entrepreneurs want to make sure they have minimized the risks in taking any next steps towards creating a solidly profitable business, while high-risk entrepreneurs want to shoot for the moon and fail fast if their idea isn’t going to take off.

Bedrock entrepreneurs cannot justify failure as acceptable because of the losses it could entail and the relationships it could hurt. High-risk entrepreneurs view failure as a learning experience.

Bedrock entrepreneurs want to build and grow their businesses based upon the profits they make. High-risk entrepreneurs want to build their businesses using other people’s money.

Bedrock entrepreneurs measure their success based on achieving personal goals, while high-risk entrepreneurs measure their success by the value of their company’s stock.

Bedrock entrepreneurs view partnering with strangers as risky and something to be avoided, while high-risk entrepreneurs view partnering with strangers as less risky than not having enough money to invest.

Bedrock entrepreneurs, unless they are already incredibly wealthy, avoid capital intensive businesses where it could take years to build infrastructure.

Non-profit organizations are all bedrock. The founders of non-profits are always the initial funders if any funding is actually required. The donors that support non-profits and make them viable and self-sustaining are actually the customers and not investors.

To put this into further context, the latest government data indicates that less than 3% of all founders are high-risk and receive any investment from an angel or a VC. Almost 30% of all companies founded that have additional employees are founded solely based upon savings and no other funding is required. For solopreneurs 60% require funding at all. Of the bedrock entrepreneurs that seek additional funding, about one-third used their credit cards to fund their startup and a quarter take out a bank loan, often in the form of a mortgage. Fourteen percent of bedrock entrepreneurs receive a loan or investment from family and friends.

How the strategies differ

If you are a bedrock entrepreneur, the focus is on how fast you can get to be cashflow positive. You strategize about how little investment can be required to get you there. Successful bedrock entrepreneurs are frugal, but they do not skimp on investing in people and assets that measurably improve their chances of becoming profitable faster. Bedrock financial planning focuses on time to break even and what investments are critical to success.

If you are a high-risk entrepreneur, your strategy focuses on how fast you can grow and what are the risks that can prevent you from growing that fast. These are the two most important dimensions that investors, whether angel or professional VC will use to evaluate whether you are worthy of their money. As a high-risk entrepreneur you want to get a working prototype in front of large numbers of potential customers and angels, as quickly as possible. You want to fund as much of the prototyping as possible yourself because any stranger that is interested in investing in an idea without an exciting working successful prototype is suspect and should be avoided. The only exception might be VCs wanting to invest in some super successful serial entrepreneur’s next idea.

At this point the strategies for deciding on your best next step diverge based upon which group you want to be in. Once you start raising money using one strategy, it can be almost impossible to switch to the other.

To properly decide which type of funding is best for you to pursue, it will be important for you to have done the work specified in sprints 3 through 6. These sprints led you through the process of conducting interviews with potential customers and helped you analyze the results that now make you confident you understand your target persona, potential pricing and your potential initial revenues. We also assume you have done the exercises outlined in sprint 18 on planning so that you understand your costs, timing and availability of critical resources. You need all this information and analysis to figure out if you want or need to be a high-risk entrepreneur or if you are better off being bedrock.

The next two sprints focus on how to prepare to fund your startup as either a bedrock or high-risk entrepreneur.