Getting to product-market fit is one of the most difficult challenges every tech founder faces. Once reached, it can feel like the finish line of a long race. The truth is, it’s the starting line.
It’s at this point that a company starts finding its stride. Sales and marketing have found the right messaging and repeatable processes, customers are onboarding at a good cadence, and momentum is growing. There is a better sense of what propels the growth of your company, and the future looks more concrete. Things are moving from chaos and uncertainty, to order, predictability, and scalability.
But how does a company get to the next level? At this inflection point, many founders need to secure new capital to build momentum at a pace that relying on cash flow simply won’t allow. In this article, we’re digging into the fundamentals of fundraising capital to facilitate growth. We’ll look at what growth capital is, when you can pursue it, and how to fundraise efficiently and successfully.
What is growth capital?
Growth capital is funding provided to tech companies for the purpose of accelerating their revenue growth. Compared to high-risk, early stage capital, when the focus is on product development and/or market validation, companies seeking capital to grow their operations have a better sense of their growth mechanics.
For example, a growth stage company would have a clear understanding of their expenses and market fit. They have a well-defined customer profile, and revenues from the core product or service are on the upswing. Compared to the early days, founders understand better what levers to pull to accelerate revenue.
When should I pursue growth capital?
Based on our experience working with founders, there are some common scenarios where growth capital is a great fit. These include:
- You want to make key hires, but don’t have the cash to do so
You’re feeling the tension between cash-on-hand and the need to hire additional team members. The bottleneck to your company’s growth is a staffing issue — more bodies means more rapid growth. By quickly securing additional capital, you can expand your in-house capacities to sell, market, and onboard new customers.
- Your marketing is working well, but there’s no budget to scale
You’ve identified your target audience, and learned what resonates. To fill the top of your funnel, you need to do more of what’s working. But you have an issue — you lack the budget to scale those successful campaigns. With additional marketing spend, your efforts could really fuel your sales team. Seeking new capital to scale marketing efforts is exactly what is needed.
- You’re selling strong, but there are product improvements needed
The marketing efforts put in place are working — the funnel is full, and the sales team is getting traction. In talking to your teams, you learn that by adding an additional integration or feature, you could further increase your market share. Your product needs to evolve. If paying for the strategic development will be a stretch — additional capital is needed.
Fundamentally, all three of these scenarios showcase opportunities to remove bottlenecks, improve sales, and scale more rapidly. If you find yourself in one of these scenarios, or facing similar challenges that are limiting your growth acceleration, how do you approach securing growth capital?
Preparing to fundraise growth capital
Preparing to fundraise growth capital requires that you understand the entire process. You should treat fundraising with the same focused drive and processes as a sales cycle. Broken into broad stages, there are typically five steps:
This phase can be summed up as a research phase. You want to identify investors who specifically target your industry and stage of growth. Begin by creating a targeted list of potential funding partners. These partnerships will be built on a shared understanding of you, your business, and your market. Good investors will speak your language, and vice versa.
Crunchbase is an outstanding starting place for researching potential funding partners. There, you can review their previous investments to get a sense of their market focus and potential match. If publicly available, read the investment thesis of potential funding partners, looking for those that match your market, geographic region, market sector, and/or stage of growth. Putting in this work upfront, will eliminate wasting time seeking a connection to an ill-fitted fund.
Many investors prefer to initiate contact with a founder, after learning of them through their network. To craft this introduction for yourself, spend time trying to find a pathway to a “warm” introduction — one in which an investor is approached on your behalf. Explore your network and seek introductions that will get you to investors on your targeted list.
If there is no path to a “warm” introduction, then a “cold” outreach is still an option — but be thoughtful. Connect with the investor on LinkedIn and send a brief message, or send a short email. Short is important. Very few investors will be enticed by a 1,000 word email, especially when it lands in their inbox “cold”.
Remember that these are long-term partnerships you are working to foster — let the learning unfold in stages. No decisions will be made in a single conversation. And don’t forget that you are also exploring whether or not they are a great fit for you as well!
- Diligence process
If you have a great chat with a potential funding partner, you may enter their diligence process. The process will vary depending on the fund, and types of funding sought (something we’ll get into below). Generally this involves sharing your company’s story through evolving levels of deep dives, unfolding over a matter of weeks. A company’s vision, growth plan, unit economics, market, team, product, and financial position are all evaluated. You will typically need a pitch deck, which you may be asked to present multiple times to various members of the fund’s team. Your potential funding partner will work to know you well.
A funding deal often includes multiple funds putting in a percentage of the capital you seek. You should be talking to a number of potential partners.
After filling out an initial form or making an initial pitch, an investment partner will likely ask for additional information and documents. Once you have provided everything needed, the investor will have internal discussions and determine if they will move forward by offering a term sheet.
- Term sheet
Regardless of the type of firm or capital sought, a term sheet is typically part of the process. It is a document that outlines the proposed investment, and associated terms that you, and the fund, are agreeing to.
Beyond capital, the fund may also offer support to help your company grow. The term sheet will make clear what support is provided, including regular office hours, advisory support, etc. You should read the document carefully, and seek legal counsel to ensure you understand the offering. There is often room for negotiation on some aspects of a term sheet, and you should ask all of the questions you have. Remember that you are establishing a long-term partnership — there are benefits to all members. If everything looks agreeable, you and the funding partner sign the terms.
- Close a deal
Once a term sheet is agreed to, there is typically a second round of diligence. The investor may ask for additional documentation. At this point, small tweaks to the deal terms may be made and deal documents will be generated. Once these are reviewed and agreed to by all parties, they will be signed and you have successfully closed a funding round! Depending on the type of capital received, you may receive the funds all at once, or spread over a period of time.
There is some variability to this process depending on what financing you seek. But every investor will want to work with founders who are experts in their own domain, so establishing yourself as a critical-thinking authority on your own business and market is important!
Growth capital isn’t one-size-fits-all
Compared to a decade ago, the funding landscape for tech companies has changed dramatically. The financing market now offers new alternative financing vehicles. Venture capital was once the go-to funding option for tech companies , but thanks to new alternative forms of capital — from equity crowdfunding, to revenue-based financing, to grants — funding options are more diverse than ever. It’s important to explore all of the options and identify the best fit for you.
The most prominent growth capital options available today are:
- Venture capital
The most traditional form of financing for tech companies is venture capital. At its core, this funding trades equity and future value for capital. Venture investors are often able to provide a larger amount of capital than other options. As part owners of the companies in which they invest, venture capital firms realize their investment return when the company is sold. Founders must have a goal of selling their company in 3-10 years for venture capital investment to make sense.
Earlier-stage companies have a higher risk of failing, so venture investors who invest in the earliest stages of a company’s growth assume higher risk — and the price of capital reflects that extra risk. The further along a company is, the less likely that they are to fail, and the price of capital declines.
- Crowdfunding platforms
To understand the rapidly-changing landscape of tech company capital options, look no further than equity-based crowdfunding platforms like Seedrs or Republic. With equity crowdfunding, founders can seek capital for their business from the general public, who share their excitement about the business. Anyone is able to, with minimal investment, become a part owner of a company. Founders are able to give up less equity, maintain broader control of their business decisions, and still get an influx of capital to continue their business growth.
Successful crowdfunding requires a robust marketing and PR campaign to push your name and product to potential investors, creating enough buzz to inspire investors to come forward. This can be equally cost- and time-intensive as other forms of fundraising.
Grants offer a unique funding option for companies who qualify. Founders who qualify can secure non-dilutive capital from public and private agencies. Whether it’s through Small Business Innovation Research (SBIR), commercial organizations (like the Fedex Small Business Grant Content), or other state entities, grants typically offer small to medium size lump sum payments not requiring repayment. Grants are typically offered to applicants who are solving a specific challenge — so your company would need to already be working in that space to potentially qualify. The application process can be competitive, long and tedious, with no guarantee your application will be chosen in the end.
If your company meets the grant’s criteria, grant dollars are some of the lowest cost capital a founder might secure to accelerate their company’s growth.
- Revenue-based financing
In the last five years, revenue-based financing (RBF) has entered the market as an alternative, or complementary, funding option for growing businesses needing capital. It’s easiest to think of RBF as sitting between venture funds and bank loans. It offers some benefits of both, without the full restrictions of either.
Revenue-based financing is capital that gets repaid as your business takes in revenue, typically with flexible repayment options. Repayments are usually capped between 1.2 and 1.9x the invested amount. Once principal, plus a royalty, is repaid — the terms of the term sheet are met. The financing is non-dilutive, and no equity is given in exchange for the capital. Variable royalty payments allow your repayments to flex with your cash flow, and usually sit between 4% and 9% of gross cash receipts. In the event that your revenues dips temporarily or seasonally, there is no concern that a fixed payment will cut deep into your cash reserves.
To dive deeper into the mechanics of revenue-based financing, check out our other article here.
How we partner with and fund growing tech companies
At Novel, we’ve been in the trenches. Each member of our team has first-hand experience with early-stage technology companies, and the challenges you face. That means we know how difficult it is to choose, and secure, the right funding solution, at the right time, to support your growth.
That’s why Novel Capital has designed two growth capital funding solutions with your needs in the mind. Both products aim to finance companies in a way that is beneficial and sustainable for growth.
- RevShare Capital is patient capital with variable payments aligned with cash receipts, and is ideal for software companies with a mix of recurring and non-recurring revenue. Funding may be up to 30% of a company’s total annual revenue. Monthly payments are typically between 4-9% of gross cash receipts, and are generally capped between 1.2x and 1.9x invested capital, depending on repayment cadence. If the capital is paid back earlier, a lower multiple is used. Funding decisions can be made in less than 30 days, meaning capital can be quickly put to use growing your business.
- Upfront Capital allows you to select specific monthly or annual subscription contracts, and receive a portion of the capital represented by those contracts upfront, versus waiting for customer payment over the coming months. Founders pay a single up-front fee, and have a 12-month payment schedule. That capital can be quickly put to use to continue growing your business.
Upfront Capital works best for SaaS businesses with recurring revenues. We’ve made it easy for you to trade the value of your future revenues for cash now.
If you’re looking at your capital needs, and wondering if revenue-based financing might be for you, we’d love to learn more about you and your needs and to share more about Novel Capital. Reach out to us by filling out the Get Funded form on our homepage, and we’ll get something on the calendar.