The True Costs of Raising Money
I've spent twenty years helping entrepreneurs build and fund their companies, and I can't recall ever reading an article that talks about the economics of trying to get your business funded. In fact, most entrepreneurs probably believe the cost is nominal and never really compute the total "true" costs. Given that the odds of getting funded remain at about 3 percent, I think it's about time someone wrote an article on what it'll actually cost you to get to "no."
In my breakdown below, you'll find a range of costs for each component involved in preparing for and actually landing a meeting with a venture capitalist or angel investor. In each case, you may dispute the need for the item. However, if I cover something you don't think is important, I suggest you seriously reconsider your position. There are very few shortcuts to getting a company funded. The only exception would be if you know exactly who you can get to write that check today. If that's the case, you don't need this article and you can stop reading now.
Factor #1: The Business Plan. While most entrepreneurs know they need a business plan to have any credibility with an investor, they just don't know what constitutes a good one, much less what they might have to pay to have one written. Generally, a solid business plan takes at least one month--and as much as three--to write and can cost from $0 (if you're confident you can write it yourself, which I would strongly not recommend!) to a more realistic range of $5,000 to $25,000.
Factor #2: Advisors. Any entrepreneur who thinks they know everything they need to succeed doesn't. There's just too much involved for one person to know. Therefore, it's extremely important for an entrepreneur to be able to (a) recognize their weaknesses, (b) find really good people whose strengths fill in those weaknesses and (c) persuade them to join their team. In my experience, the real trick is finding people who don't need any money but who'll agree to be compensated mainly to allow you to show your appreciation and also because they believe in what you're doing. One established way of compensating advisors is to offer to pay them in cash for the first three to six months they're involved. That way, if it doesn't work out, they received something for their time. After that, if everyone's still excited, they can agree to work for stock. So the cost of two to three advisors consulting with you for three to six months is going to be $7,500 to $15,000 (not including the cost of any stock you offer them).
Factor #3: Exposure (Marketing). If you can't find a way to get the major news networks to do a prime-time story on your company, you're probably going to have to spend your marketing money on:
- hundreds of color copies of your business plan
- mailing costs for those business plans
- countless breakfasts and lunches where you'll pitch your story
- hundreds of dollars spent attending various seminars (costs include travel, lodging, etc.)
- fees involved just to present your company to some organizations such as the Kiritzu Forum
Over a nine- to 24-month period, the cost of marketing your company to attract the capital you need will be anywhere from $25,000 to $75,000.
Factor #4: Due Diligence. Despite the fact that any professional investor will cover their own costs to conduct their "due diligence" on you, most entrepreneurial companies will need to spend some money upfront to prove they have a viable idea. This may take the form of certain types of market research, clinical trials or customer feedback. For example, it can cost as much as $5,000 to assemble and analyze just one qualitative focus qroup. And all these efforts go toward determining what it'll cost to make your idea believable to an investor. Over the course of three to 12 months, you'll spend anywhere from a low of $5,000 to as much as $100,000. This high side applies to companies that have a product or service that would cost a lot to validate.
Factor #5: Legal and Accounting Fees. No business can escape the need for good legal and accounting advice. Companies need to know how to set up their legal structure properly; how to solicit money; and which forms are the legal and correct ones to use. They must then file tax returns--even if they didn't make money. And if they have an idea worth protecting, they'll need a good patent attorney to help them out. You should figure that over the course of three to 12 months, you'll spend $5,000 to $35,000 on legal and accounting fees. The higher costs apply to companies that have some type of intellectual property to protect.
Factor #6: Salaries. Ideally, every company should have the attitude that no one gets paid until the revenues can support it, and I strongly support this concept. So despite the fact that most of you were hoping I'd have a line item for this one, I don't. If you can't afford to start your company without getting a paycheck, you'd better have a rich partner and/or relative willing to support your mad idea until it proves its brilliance.
So what's the bottom line? If you're not planning on this process taking six to 24 months and costing between $47,500 and $250,000 just to have a 3 percent probability of someone saying yes, then you need to reset your expectations. Finding funding for you venture will cost time and money. If raising money isn't your area of expertise, mistakes will add even more to these costs. Therefore, if any of the areas listed in this article are costing you more time or money than I've budgeted above, my advice to is to change your current advisors and get quality help ASAP!
Jim Casparie is the "Raising Money" coach at Entrepreneur.comand the founder and CEO of The Venture Alliance,a national firm based in Irvine, California, that's dedicated to getting companies funded. Elliot Reiff, COO of The Venture Alliance, contributed to this article.