Great founders hate dilution.
Great founders are jealous of the equity in the company, because they believe in the vision and the opportunity. One one hand, the founders don’t want to give up equity, and on the other hand they typically need capital to grow the business.
Investors are also equity driven. That’s why there is tension in every single fundraising.
The other truth about building companies is that fundraising is rarely quick, and more often than not, is quite painful. Regardless of how great the company is, a large chunk of the CEO’s time goes into raising capital.
Once the round comes together though, there is typically more capital available. In other words: every start of the round is slow and difficult, but the the second half of the round is often faster, and easier.
Rounds that come together tend to be oversubscribed.
That is, once you are done, more capital shows up.
This dynamic presents a dilemma to the founders:
Should we raise more capital, when we can?
First, recognize that you are lucky to even have the option. Now, let’s look at different scenarios to see what makes sense.
Scenario A: You can raise more capital without incremental dilution
If you are able to add more capital by having the same amount of dilution, the answer is easy – yes, raise more. That is, you aren’t giving up any more of the company, but getting more cash, and longer runway.
How is that even possible? You will need to negotiate with investors and adjust pre/post money valuation, size of the option pool, and possibly other things in such a way that you, as a founder, have the same amount of ownership. Typically, it would mean that investors would end up owning a bit less of the company, or the option pool would be smaller. That is, someone else will assume the dilution.
Scenario B: You can raise more capital but get diluted more
It is rare that investors would agree to a deal where you can get more capital in without sharing in dilution. The question is then, should you as a founder agree to more dilution now and get more capital in the door, or roll the dice, put yourself on a tighter timeline but keep more of the company?
The answer is, it depends, but more often then not, you should seriously consider raising more capital if it is available, and giving yourself longer runway. Here is why:
- Certainty of now vs. uncertainty of later: The capital is available now, and you don’t know if it is going to be available later. In addition, if you do run out of money, you will have to restart the whole fundraising process. Remember – it is painful.
- Risk of bigger dilution if you don’t get there: If you have a shorter runway, you may run out of money sooner than you expected, and will need a bridge or an extension in financing. That financing is likely to be more dilutive than the current financing because you won’t get the step up in the valuation you want, because you aren’t in control when you are out of cash.
- Bet on future value: You can make up for the incremental dilution you encounter now with a bigger valuation in the future. That is, whatever points you lost now, you can make up by creating greater value, because you will have longer runway before the next financing.
As private capital is going through turmoil, raising more capital when it is available makes even more sense. You don’t know how long the down cycle will last. You don’t know if you will hit all your sales projections. You don’t know if the steep growth you projected will actually be realistic.
In a down market most companies grow slower, and take even longer. Given that the Series A crunch was already a topic of conversation for years, it makes sense to raise more capital, and give yourself longer runway. That is, if you are lucky, and the capital is available.
For more on this topic, read an excellent post by my mentor, Managing Partner at Techstars, Mark Solon.