When looking to raise capital it is a good idea to investigate the type of investment you want for your business and what type of capital is right for the development stage of your business or idea.
How far along the path you are in developing your business or idea will alter the type of funding you want and also your pitch. Your pitch and potential investors will be need adjusting, depending on whether your business is product-based, service-based or if it is for intellectual property.
Knowing exactly what you need will help you hit the right targets in your fundraising journey. So, let’s look at the types of capital:
- Speculative capital: This is based upon an idea. You have a great idea, there’s a bunch of people who want it but nothing is built yet.
- Start-up capital: You’ve already got a minimum version of your product, but you want to make it even better.
- Growth Capital: You’ve already got a substantive take-up of your product but you want to grow further. You know the equation between money invested in marketing, versus the money you get from sales.
When seeking investors, try to keep your options open about whether to offer repayments or converting investment into equity. By having this flexibility, you’ll have more power. Some investment examples:
- Debt: A loan.
- Convertible debt: A loan that can also be converted into equity on certain conditions, but it is still repayable.
- Convertible equity: This can either be a SAFE Note (Simple Agreement for Future Equity) or a Convertible Note. They are similar in that the investor can receive equity based on a future valuation that will determined. A SAFE Note is not repayable and is converted to equity through a contractual agreement. A Convertible Note is considered a loan and at the maturity point you can either repay the loan or it automatically converts to equity. There also may be interest payable.
- Ordinary Shares: Your standard class of shares.
- Preference Shares: There are many different types of preference shares, but the most common have a liquidity preference. This means the investor will get their money back before others. Other preference share arrangements may include the right to appoint a representative to the board of directors, or the right to veto certain decisions of the company. The preference share investment tends to be the most onerous for entrepreneurs, but venture capital and other sophisticated investors often prefer this.
Perth-based venture capitalist and industry mentor Matt Macfarlane from m15e ventures advised businesses to watch out for:
- Highly onerous preference terms: A two or three-time liquidity preference can ruin returns for ordinary shareholders.
- Pure Debt Instrument: This is like borrowing money from the bank. But there’s a chance it could end up with your entire company being owned by the bank even if only a 20 or 30 per cent stake is bought. This is because the debt instrument ranks ahead of equity. “So, you have to watch out for the difference between debt and equity and keep as many options as possible in your hands. Balance this with considering how the investor gets their return,” Macfarlane advises.
