A little while back I posted on BATNA, one of the few useful concepts I took away from business school. The topic is on my mind again because I’m currently participating in several unrelated early-stage financings (acting variously as advisor, counterparty and peanut gallery), where a strong BATNA can be the difference between a full war chest and a speedy wind-down.
The big trick in seed financing is to guess correctly how much money you really need. This (hopefully) will be the most expensive money you ever take for your startup, so selling too much of the company now can be painful. At the same time, if you take too little you may find yourself without enough runway to create a more compelling BATNA for the next round, leaving you in essentially the same negotiating position the next time you go to the well.
Fundraising at any time is a huge distraction from building your business, and completing a round can take anywhere from three to six months, so your first raise needs to leave enough room for you to make material progress in the business at least three months (and ideally more like six) before your out-of-cash date. Once investors get the sense that you’re running out of cash, the credibility of your BATNA starts to erode and the table inevitably tilts toward the money.
One startup I’m working with is running what amounts to a ‘Hail Mary’ on the financing front: they’re building a compelling but complex product, and have raised enough money to get them to a first release, with only a few months of cash to spare post-launch. If the product is a wild success they’ll have a great story and enough cash in the bank to sell and close a solid up round. If the launch flops they’ll have a tough time raising fresh capital at any price. And, in the most likely scenario, if the product wins some early fans but clearly needs more time to find its market, they’ll be entering negotiations with about the same BATNA they started with in the first round.
Another startup I’m close to is taking an entirely different tack. Their seed round gave them enough running room to validate the basic premise of their business model, but the revenue ramp has been slower than expected, and the cash needs somewhat greater than projected. After weighing the risks of seeking an up round based on the mixed (but largely positive) data, the founders instead returned to the seed funders to negotiate a small follow-on at (essentially) the post-money terms of the first raise. By seeking a smaller round from friendlies, the founders traded a lower share price for a radically shortened raise window, and are raising just enough new money to achieve breakeven, at which point their BATNA for any new raise should be radically different.
There’s no tried and true formula for the “right” first raise, but a key question for the founding team is how and with what likelihood the cash you take is going to improve your BATNA for the next round.