Few Investors (or founders) look beyond the immediate funding round in any detail (if at all). Yet Assessing Capital Risk is critically important when assessing if this is a deal you should do – even if every other indicator is screaming “Yes”.
Every deal I have ever seen has needed more than one round of funding to reach a successful exit. Most need multiple rounds of funding – perhaps 5 to 8 is typical, over 5 to 10 years.
If that follow on funding is not going to be available, or you don’t build something the next round funder will invest in, you are not building a bridge to a profitable exit, you are building a pier to nowhere.
So, asses what is the Capital Model for this deal going forward, and get answers to the fooling questions:
- How much additional cash will company need?
- Where will that cash come from?
- On what terms can we get it?
- What will Funding environment be like in 18 months?
- Will we need a VC partner?
- What terms will the VC offer?
- What does this company have to have / look like (users, customers, data etc.) to be of interest to those VC’s? Can we achieve any of that on the funds we are about to invest? Is the target of the business plan to achieve those key requirements?
- Will they need so much capital that follow-on VCs will wipe us out? (Dilution + Preferential Returns).
- How big an exit will we need to hit Our Target Return – if this company is successful, can it get close to that number?