How Could Funding Possibly Be Bad for You?

For pre-seed and seed stage startups, investor updates are a challenge. Often, founders try to make them too ornate and end up getting behind. Similarly, investors don't always have the time to fully digest a finely crafted narrative and lose track of what's happening. At RSCM, our portfolio of pre-seed and seed-stage investments is at about 2000 today, so we have lots of experience with updates. Not only do we read them all, we write a 3-7 line internal summary and each one goes into our CRM system so we have a complete history at our fingertips.In my opinion, useful investor updates have three requirements: they must get done, they must be easy to produce, and they must be easy to consume.

Anatomy of an Update

You can deliver on all three requirements by breaking updates into modules and putting the most important modules first. That way, you need only produce the modules you have time for and we need only consume the modules we have time for. Everybody wins.Here are the modules and order I recommend:

[Company Name] Investor Update for Month Ending [Last Day of Month]

• Metrics
• Highlights (Optional)
• Asks (Optional)
• Thank Yous (Optional)
• Commentary (Optional)

Notice that the only required module is "Metrics". This should be easy to produce because, at any given moment, you should have a handful of Key Performance Indicators (KPIs) you track anyway. This should be easy to consume because most investors have lots of experience absorbing tabular business data. This should be easy to get done because, in our modern software-driven world, KPIs are at your fingertips. Most importantly, if they are the metrics you are actually tracking to run your business, then they will be reasonably informative to investors. Requirements satisfied!More detail on metrics in a minute, but first some quick notes on Highlights, Asks, and Thank Yous. If you opt to include these modules, do them as bullets. Easier to produce and easier to consume. But, as with PowerPoint slides, no more than 7 bullets per section! Even then, only go to 7 on rare occasions. No more than 5 most of the time. It's easy for people to get saturated and when they get saturated, they flush the entire list from their attention. If you've got more to say, put it in the Commentary.Everything after Metrics really is optional. Better to get the update out the door quickly than wait until you come up with points for every section. If you ever find yourself thinking something like, "I'll crank out the Asks later," stop! Just hit send. Then if you do think of important items later, put them in a notes file and include them in the next update. Or send out a specific Asks email.

Universal Metrics

Now for some depth on metrics. There are really two types: (1) those that are universal to all pre-seed/seed startups and (2) those that are particular to your business. Investors need both. The first type gives us a general sense of how things are going for you relative to the typical startup lifecycle.  Kind of like the vital signs that all doctors want to know regardless of patient or condition.  They help us triage our attention. So start with them:

• Revenues: [revenues | date when you plan to start selling] (+/- ?% MoM)
• Total Expenses: [expenses] (+/- ?% MoM)
• Net Burn: [total revenues - total expenses] (+/- ?% MoM)
• Fundraising Status: [not raising | planning to raise | raising | raised]
• Fundraising Details: [how much, what structure, valuation/cap, who]
• Ending Cash: [last month's Ending Cash - this month's Net Burn + this month's Amount Raised] (+/- ?% MoM)
• Full Time Employees: [FTEs, including founders] (+/- # MoM)

Note 1: we strongly encourage a monthly update cycle. Anything longer means we get data that's too stale. Anything shorter, and the financial metrics don't really make sense. Though if you're part of an accelerator that encourages weekly updates, we'd love to see them. Just make sure we also get the monthly metrics!Note 2: always put the percentage or absolute month-over-month changes in parentheses next to each entry. It turns out that highlighting the deltas make updates dramatically easier for us to absorb by drawing immediate attention to the most volatile areas.A couple of quick explanations. Always have a Revenues line. If your product isn't finished or you aren't actively trying to generate revenues, just put the target date for when you do plan to start selling. Either piece of information is enormously helpful to us. Also, provide an FTE number that logically reflects the labor resources at your disposal. A full time contractor is a unit of full time labor that you can call on. Two half-time employees are also one unit. An intern may or may not be a unit or fraction of a unit depending on how much time he/she is putting in and whether the output is roughly equivalent to what a regular employee would produce. Don't exclude people based on technicalities, but don't pad your numbers either.Now, some detail about fundraising status. This topic turns out to be pretty important to existing investors. First, it lets us know that you're on top of your working capital needs. Second, some investors like to participate in future rounds and even the ones that don't are a great source of warm leads. Third, it makes us feel good to know that other people have or will be validating our previous investment. Here are a couple of example fundraising bullets:

• Fundraising Status: planning to raise in 4Q2015
• Fundraising Details: $750K - $1M Series Seed at a $5M-$6M pre-money from a small fund and/or local angels

• Fundraising Status: raising
• Fundraising Details: $300K - $500K on a convertible note at a $2.75M cap with $175K soft committed from [prominent angel name] and other local angels

• Fundraising Status: raised and raising
• Fundraising Details: $400K closed of a $600K convertible note at a $4M cap from [small fund name], [AngelList syndicate name], and local angels.

Custom Metrics

At any point in time, there should be a handful of top-level KPIs that you monitor to help run your particular startup. Of course, they vary across lifecycle stage, technology area, and business model. Just pick the most important 2-6 and give them to us. Feel free to change them as you pivot and mature.Here's an example for a pre-product enterprise SaaS company:

• Projected Alpha Delivery Date: 11/30/2015 (+15 days)
• Alpha Access Wait-list: 47 Companies (+8)

And one for an enterprise SaaS company that recently shipped private beta

• Max Queries/Minute: 1,201 (+29% MoM))
• Outstanding Critical Bugs: 3 (-2)
• Inbound Inquiries: 481 (-17% MoM)
• Qualified Prospects: 19 (+2)
• Paid Pilots: 3 (New Metric!)

And finally one for a consumer Web company in full operation

• Max Concurrent Users: 1,006 (+30% MoM)
• Registered Users: 23,657 (+13% MoM)
• Monthly Actives: 3,546 (+4.5% MoM)
• Users Making Purchases: 560 (+21% MoM)
• Total Purchase Value:$17,993 (+28% MoM)
• CAC: $12.55 (-7% MoM)

That's it. We estimate that, if you keep your accounting system up to date and use MailChimp, producing an update with metrics and a few extra bullets should take about 15 minutes (with some practice). And you'd be heroes in our book.  Well, all entrepreneurs are already heroes.  So you'd be superheroes!

This post originally published on 10/15/2015 and was last updated on 11/10/24.

I see a lot of pitch decks. Hundreds per year. Almost every one is wrong. Not the startup idea. Not the slide layout. Not the facts per se. But which facts and in what order. Nearly all founders use a structure guaranteed to kill their “conversion rate”.

The common flaw stems from a fundamental mismatch in the way our brains create versus consume content. Each engages a different rms of reasoning. I studied this general topic in graduate school under one of the pioneers in the field. I kept up with the literature over the years. And I observed a huge number of pitches. But it still took me years to realize what was happening (repeating the same mistake in my own pitches, of course). Once I did, I couldn’t help appreciating the ironic beauty of the situation.

First, some background in cognitive psychology. Your brain has two completely different reasoning systems. System 1 is the fast, associative pattern-matching module—good for sitting in the background while you walk the plains and then rapidly determining whether a rustle in the bushes signifies mortal danger or a tasty dinner. System 2 is the slow, logical alternative-weighing module—good for deliberately figuring out whether it’s best to make camp by the river or on the hill. (If you want the full general audience explanation of System 1 and System 2, read Thinking Fast and Slow by Daniel Khaneman, who was the partner of my late professor, Amos Tversky.)

Now, when you build a pitch deck, you have to call on System 2 to develop the content. System 2 is logical so you can’t help but try to construct a deductive proof of why someone should invest in your company. That’s why most pitches have 3-7 slides setting the stage: here’s the problem, here’s the size of the problem, here are the current solutions, here are the drawbacks of current solutions, here are the requirements for a better solution…” I refer to this pattern as “In the Beginning”.

However, when investors consume that pitch deck, either at Demo Day, in an email, or face-to-face, they call on System 1. For most people in most situations, System 1 is the default. System 2 takes much more energy and operates much more slowly, so it only gets called on when something special happens. Thus, unless your pitch quickly triggers investors' System 1s to recognize your company as a tasty dinner, their System 2s will never wake up and no amount of logic can help you. And then when you use your System 2 to try and improve your pitch, you'll be blind to the problem.

You may be wondering why none of your advisers notice this problem when they reviewed your deck or watched a practice pitch? Here's another ironic bit. People who sincerely want to help with your pitch will expend the effort to use System 2, also blinding them to the lack of System 1 appeal.

Perhaps the worst case of “In the Beginning” I’ve seen was at a pitch event several years ago with a brutal schedule of 12 fifteen-minute slots. A company in the last hour really started at the beginning: the last generation of technology, quotes on recent shortcomings of that generation, market sizing for the next generation, the founders’ previous experience designing this type of system, technical architecture of their new solution, and performance metrics versus the primary incumbent. Logical, but not engaging. Ran over his time and had to rush through the last slide, which was something along the lines of logos for 5 blue chip enterprise customers, an average annual contract value of $60K/year, and current $MRR of $35K/month with 20% MoM growth for 6 months.

WTF? By the time that slide flashed on the screen, 80% of the audience members were fiddling with their cellphones or chatting with their neighbors. Talk about a missed opportunity! Better to just show that last slide, drop the mike, and walk off the stage!

Luckily, identifying the problem suggests an obvious solution—focus on triggering System 1 to flag you as interesting. So without further ado, here’s Kevin’s “Hey, tasty dinner right here!” pitch template:

• ^‍Title Slide
• Context Slide: super high-level explanation of what you do, 5 bullets max
• BOOM! Slide: the most impressive thing about your company
• Ask Slide: what the next BOOM will be and what you need to get there‍
• Why Slides: details on how you made the first boom happen and why you’ll make the next boom happen too

Putting the Ask right after the Boom is key. The Boom triggers alertness and primes for action. Then you’ve got to give the investors something to pursue. Otherwise, you may lose their interest. Also, telling them about good stuff that will happen in the future right after good stuff that has already happened in the past naturally gives your good-stuff-forecast more credibility. Your investment ask will seem maximally reasonable at this point.

You may wonder why you need the Why slides at all? Well, once you wake up System 2, it needs to eat too. But keep the Why section as small as possible. The more facts you present, the more chance that System 2 will find a strong objection and dismiss you so it can go back to sleep—remember, System 2 requires a lot of energy. The goal is to just satisfy System 2 and get to the next step in the process. where you can bring other cognitive mechanisms into action. Oh, and when delivering the Why, keep referring back to the Boom as much as possible to maintain alertness. For example: “[Supporting Evidence]… which is why X customer loves us so much and is paying us so much money.”

My guess is that most founders’ pitch decks already contains 80%+ of this content. It’s just in the wrong order and probably too much detail on Context and Why. The big question you probably have is, “What should my Boom be?” Sorry, no blanket advice here. It’s situation dependent. But guess what? By simplifying the problem to one question, we’ve made it amenable to A/B testing. If your Boom isn’t obvious, generate 3-7 alternatives and test them against several investors each. Also, if you can’t come up with a decent Boom, it might be a signal that you haven’t made enough progress to fundraise with much success. So your near term goal becomes to make something Boom-worthy happen.

That's my preliminary diagnosis and treatment. I’ve given this advice face-to-face to many startups over the past two years and have received a lot of positive feedback. But it’s an inherently limited sample. So if you read this post, try out the approach, and learn anything interesting (positive or negative), please drop me a line and let me know! Maybe someday we'll be able to develop a thoroughly researched system of Evidence Based Pitching (EBP).

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This post was originally published on 05/10/2016 and was last updated on 10/14/24.

People sometimes ask us, "What's the #1 mistake startup founders make?" Based on our 2000 pre-seed portfolio companies, one of the prime candidates is: "Planning for Series A."I don't mean the way you plan for Series A. I mean the fact that you do it at all. We see a lot of pre-seed pitch decks. A decent fraction have a "Comparables" section that list the Series A raises for companies with similar models in the same industry. In these cases,  Series A has become an explicit planning goal, despite the fact that these companies are at least two rounds, and probably three or four, away from that milestone. But the prevalence in pitch decks vastly understates the issue. From systematically interviewing 800+ founding teams in accelerators, it's clear that Series A expectations play a substantial role in most founders' planning.

While completely understandable, even considering Series A at the accelerator stage is usually a huge mistake. As I've written before, taking Series A at the point where it's appropriate decreases your success rate (though increases your expected value). Unsurprisingly, actually working backward from a future Series A can create all sorts of planning pathology. Yes, TechCrunch makes a big deal out of Series As. Yes, lot of cool VCs blog about Series A. Yes, VC investment leads to pretty fantastic story lines on "Silicon Valley". But these sources of information inherently screen for outliers. It's still the exception. Even among successful tech startups. Fundamentally, you're trying to engineer an extreme outcome in a highly uncertain environment. On first principles, this is problematic, as Nassim Taleb so beautifully explains the The Black Swan. But let's work through the steps.

Start with a modern Series A of roughly $10M as your goal. OK, those VCs will want evidence that you can quickly grow past the $100M valuation mark. That means you'll probably need about a $3M Series Seed 12-24 months beforehand to build the necessary R&D, sales, and customer success scaffolding, as well as prove out a huge addressable market. This in turn implies a $1M angel round coming out of an accelerator to complete the full-featured version of the product and establish a firm beachhead market over the next 12-18 months.

Now, I can tell you from reading the investor updates for 2000+ pre-seed startups that such rounds are very hard to raise... unless you're a strongly pedigreed founder, have obviously anti-gravity level technology, or have crazy traction in a hot space. We like to say rounds at this stage have a "geometric" difficulty curve. A round that is twice as large is four times as hard to raise.

Even if you manage to raise that round, the failure rate at each subsequent stage is high because you're continually striving to achieve outlier levels of growth. There's not much room for error or setbacks.  It's like trying to run up a ridge that just keeps getting steeper and narrower, with a sharp drop into the abyss on either side.

So what's the alternative? We recommend you ask yourself, "What's the smallest early acquisition (but not just acqui-hire) that I'd be satisfied with?" Unless you have a significant previous exit, are already very wealthy, or have unusual risk preferences, this number is likely somewhere between a $10M and $35M acquisition where the founders still own about 1/3 to 1/2 the company. Then work backwards from that.

Now, you may be saying to yourself, "Wait a minute! If I could get acquired for $10M to $35M, I could get a Series A. It's the same thing." Not exactly. $20M is a typical Series A pre-money these days, at least from a traditional name firm. But you would also need to be able to demonstrate that you could quickly grow to be worth $100M+. And you usually get a bit of a premium on acquisitions. So it's only at the upper end of the range where a Series A would be a fit, and then only some of the time.

Importantly, acquirers mostly want to see a great business or great technology and Series A investors mostly want to see enormous growth potential, which often aren't quite the same thing.

Finally, Series A investors usually want to see extremely rapid past growth, as an indicator of rapid future growth. Acquirers care much less how much time it took you.Also, the cost of being wrong is asymmetric. Say you aim for Series A from the outset. If at any point it doesn't work out, you either fold or do a fire sale. In a fire sale, liquidation preference will kick in and founders will get zilch anyway. Conversely, say you go the smaller route and things go much better than expected. You can still "upgrade" to the Series A path. And if you go the smaller route and fail, there's some chance you'd still make a modest amount in a fire sale or acqui'hire.

So now let's work backwards from the acquisition. We'll assume that revenues, rather than technology capability, is the relevant metric because it makes the reverse induction more clear cut.

1. In most tech sectors, a $10M to $35M acquisition means $1M to $3M per year in margin (not gross revenues, though in some sectors, the margins are so high, it's the same thing). That's low $100Ks of margin per month.
2. Next, we like to think in terms of the "straightforward scaling factor". This is the multiple by which you can grow with straightforward scaling of your product development and sales machines. No major overhauls of the product, no completely new channels, and no huge breakthroughs. Basically keep doing what you're doing, but with more resources. In most segments, this factor is 3-4X for a target in the $100K/month order of magnitude. Obviously, it's not a sure thing. Bad things can still happen. It can turn out that you've made a mistake. But it's the difference between needing circumstances not to go strongly against you and needing circumstance to go strongly for you. That works out to $20K to $80K per month, depending on scaling factor and target outcome. Thus, your near-term goal becomes, "Build a business doing $20K to $80K per month in margin."
3. If your minimum acceptable exit is on the higher end and your scaling factor is on the lower end, you might want to break this stage into two (though your might want to ask yourself why your minimum is higher given the lower scaling factor). In most cases, the first step therefore reduces to, "Build a business doing $20K to $40K per month in margin."

This is often a very achievable goal with a very modest amount of capital. How do you go about raising a round to support achieving this goal? Well, we have a post for that.

It's worth noting that, in terms of our expected returns, it doesn't matter too much to us one way or another whether founders follow this plan. Our funds have many hundreds of companies, so we're expected value decision makers. Though there is also some argument to be made for preserving option value by having companies survive longer. But it's not a huge difference either way at our level of diversification.

However, for founders who can only do a handful of startups in their career, understanding the difference between success probability and expected value could be literally life altering. And don't forget, once you have a modest exit under your belt, you've got the pedigree! So it's much easier to command the resources and attention necessary to go big from the start on the next one.

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This blog post originally published on 12/10/2020 and was last updated on 10/14/2024.