In the last few months, I have had the chance to sit down with a few fellow entrepreneurs and discuss business plans, thanks to me wearing my HeadStart foundation hat. I noticed a few things that were common – entrepreneurs knew their product very well but not really their target customers, most of them had not spoken to more than a handful of prospects and when it came to fund raising, everyone first indicated they need a couple of million dollars. When we jointly ripped the business plans and re-worked them through, the fund requirement came to a few hundred thousand dollars (most of these companies were pre-revenue or have revenues of upto $300-400k per year, thanks to some related project work) except a couple of them.
Intrigued enough, I ran a survey trying to understand how much startups think they need to get to the next stage (pre-revenue->revenues->profits) and the survey results are very revealing (see here).
I asked a lot of entrepreneurs why they chose a ‘couple of million dollars’ as the figure to ask for and this is what some had to say
1. VCs in India expect a particular % share of a company, no matter what they invest, so better to raise more money than less. Funnily enough, some of them said a couple of VCs (do not want to take names publicly) indicated they will need 25-30% no matter what investment within the $1-2 million range.
2. Some entrepreneurs do not know what to ask for. In the absence of any sales plan and rickety financial models, they go by the million dollars story just because thats what everyone is raising.
I also looked at the E&Y VC Report of 2007 and 2008 and found that Indian startups raise, on an average, similar amounts of money (think it is around $5 million per startup on an avg) compared to Europe and the US; this when, we think India is relatively inexpensive to build products. Is it because VCs in India invest much later in the startup cycle or is that fresh US returned/US mandated VCs have not somehow grasped the Indian ‘value for money’ or is it something else ? Maybe, all of you can throw some light on it ??
Whatever it is, there is a huge hole in the pre-revenue/early stage ‘small deal’ (Rs 1-2 crore per startup) demand and supply for funding. And I hope this gap is filled very soon so that real innovation is not stifled.
Note: the survey results are taken from the Mint article where I put my thoughts on these numbers. 105 startups responded to the survey.
- Demystifying consumer hardware product development - February 14, 2014
- the First Startup Camp @HeadStart Ventures - July 24, 2010
- My experience of raising an Angel fund. - July 18, 2010
We keep on criticizing system till we fit in the system or system fits in us.
Article is representing similar thing as well as Mr. Alok is representing opposite side of it.
what is fit will survive. It is not question of effective or best it is question of fit. A fit plan, a fit person, a fit idea, a fit team, or fit relative investment….not VC nor Owner no one is kid in the system. A small office of 10 person consumes 40 to 50 lach investment annually for survival.
Now when we speak of Google, we forget infrastructure support of Stanford. We forget everything around it. Try this in India. Your neighbor will complain if you do anything in residential area.
So make sure we evaluate system or system will get evaluated itself to make it FIT. So finally become FIT.
Regards,
Virat Khutal
You are right there is a hole in fact there are 2 holes. One is the one you mention, from whom do you raise a small amount of money? The other is how do you build your ecosystem (team and connection) you need with just a few 100K in the bank.
The infrastructure supporting startups is evolving to fill both these holes. Structures like Y Combinator (there are many of them now) address the ecosystem issue and help companies nail down their starting business propositions and connect with a lot of angels and VC’s who will invest in their seed round and finally give them an ‘in the trenches†alumni to depend on for advice.
VC’s also have started doing a bit of seed through quickstart allocations of their fund. They still prefer to do it once the startup has a proven team and a decent business proposition. If you look at VC economics I don’t think this is going to change much, but they are doing what they can to address this issue the best they can. A recent example of this happening is with the founders fund who have hired Dave McClure to network and woo these startups.
BTW, the point that you make about the entrepreneurs not understanding or not being able to articulate their customer and the business is key to understanding this issue. Technical innovation is interesting and important but the business innovation that accompanies it is critical. You should be able to tell a story. What problem do you solve for the customer and most importantly what is the business innovation that will help you get noticed and adopted by these customers. (check out this for some thoughts on this http://bitly.com/13gujK)
Often startups have a hard time nailing this business innovation down early in the cycle. A majority of the companies have to navigate their way to success and see their models evolve substantially. Even companies like paypal and google saw their real business models emerge way into their journey.
If you have a good and well articulated business propositions and a proven team, finding money at reasonable terms is usually not be a problem. For these companies investors are willing to cater to the entrepreneur and take smaller stakes. VCs will be patient, knowing that as the idea grows the company will need more capital and they will bring you in line with their economics at that point.
But most startups don’t fall into this bucket of well articulated and defensible business innovation, so the investors have to bet on just the team. This means that if you are a team recommended by someone they trust you have a shot.
If you look the YC companies of the 10-20 they graduate every 6 months, usually 1-2 have a good plan and most of the remaining have good teams. The 1-2 get snapped up quickly and most of the others also get some funding since they have the YC stamp of approval. The investors are putting their trust in more than just the team, they are trusting the YC ecosystem.
At Tandem Entrepreneurs we saw these holes a while back and formed a structure to deal with this issue but we can only engage with a small set of companies. We addressed the issue of the missing business innovation at the start by increasing our involvement with the companies to a point where we are the extended team. This makes betting on the team a lot easier and we can help the team in their journey and discover the business innovation together. Unfortunately an effect of our deeper involvement is that we can work with very few companies. We still need companies that have teams that are outstanding and have proven that they can work together. We increase their odds and hence our odds of success.
Getting something the YC going is hard as you real need people who understand building startups well, can then articulate these principals and then build momentum and finally an ecosystem for entrepreneurship. I have seen many people try to mentor and though their hearts are in the right place their efforts are mostly wasted, But that is another discussion.
@amit
unionized workers ? i do not get it.
what we are doing is defining a problem and pain points in the indian startup ecosystem.
i think investors and advisers all preach that the first thing you need to do is put up the problem statement – thats exactly what i did.
I do not think anyone has done any survey of this kind before that does some analysis of what requirements startups have in India.
we are unnecessarily looking and acting like unionized workers! is there a point to it?
VCs in India expect a particular % share of a company, no matter what they invest, so better to raise more money than less.
This is 100% true. None of the Indian VC’s take less than 20% from an early stage venture.