

Another Financing Risk - daslee1969
http://daslee.me/financing-risk

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stevievee
Interesting post but my position is that new companies should be matching the
estimated risk of their business with the risk appetite of the investors
during the first “party round”. They should not be planning for failure by
taking an unnecessarily low valuation with higher odds of reinvestment upon
failure.

Assuming that NewCo is basing their 12 month cash burn-rate on some production
milestone or profit goal, when it comes to an additional round the company
should be saying "Hey, we met % of our planned goals (production/break-even)
and we need additional financing". Instead, NewCo needs more cash for "X or Y
to happen” because I am assuming they did not meet their planned % of goals.
Ie. They are failing. Of course, executing a business plan is difficult and
really never pans out as expected but NewCo should always be prepared to
justify reinvestment based on (A) current position in relation to the Seed/VC
pitched plan and (B) explanations for deviations from the plan.

The investor can "protect" or "defend" when NewCo becomes a going concern. ie.
The investor can sink additional funds without promise of the previously
estimated returns. But as you said, the investors are rightfully reluctant. In
this I do not think that it is always correct to initially take a lower
valuation because that specific investor has more disposable capital and is
more willing to take a gamble on you. In the end, the risk/reward/financing
calculation is all the same in terms of shares lost and cash received. The
only difference is it will require greater effort to raise capital when you
are not meeting your goals. If deep down you know the pitched plan is
unrealistic that is a separate problem in and of itself and is often made
worse by the need to impress investors.

High-risk appetite investors are generally more hands-on as opposed to
portfolio investors, so in some respects seeing this as a benefit can be a
fallacy. It depends on the investor’s direct contributions in terms of
knowledge capital and network. If the investor is overstating their value-
added, the investor is really just trying to make sure they hit their homerun.

TLDR: Match the risk of your endeavor with the risk appetite of investors.
This is difficult because it involves taking a more realistic approach when
planning your goals and pitching your plan. Don’t take a super low valuation
so your investor is willing to blindly reinvest. Always be prepared to justify
reinvestment, even if you are not meeting goals

