A startup can raise money by selling dreams or data. The earlier the company, the more an investment decision is an emotional decision and based on dreams. The later the company, the more data drives the investment decision.
Investors will always try to evaluate the risks in a business. It’s the responsibility of the entrepreneur to convince the investor the risks are worth taking, which is an emotional, but not necessarily irrational decision. Investors evaluate seed investments very much in this fashion. Some Series As are also decided this way. But later stage rounds (Bs and growth) are much more data driven. This notion exemplified by the distinction in backgrounds of typical early investors and later investors: product managers vs investment bankers. (via Tom Tunguz of Redpoint Ventures)It reminded me of the importance of data in selling anything. Yes there are always emotional components in funding decisions. Some venture capital firms don't want to be left out of a hot sector. Others don't what their competition to lock up a hot entrepreneur. In those cases the emotion is driven by the data of past wins, despite the warnings that past performance doesn't insure future success.
As Tom says in the early stages you may not be selling on company performance data. The seed round you're raising could be specifically to get the product finished enough to go to market and prove the concept. But in the later rounds you can't deny the power of raw numbers.
Late last year I was inspired by this post from Jason Goldberg at Fab. He really lays out the challenges and distractions that fundraising can become for a start-up executive team. Jason's main point is that instead of allowing his team to be distracted by the process, he gave all of this potential investors a login to their metrics dashboard. In this way he cut out the typical "sales" process the company goes through with new investors. He just showed them the data of how Fab was growing in users and revenue directly, not in a pretty Powerpoint chart but directly in the same system Fab used to manage it's business.
As Jason put it
From a fundraising standpoint, providing access to the RJ data basically said to the VC’s, “here we are, here’s the data, we’ve got nothing to hide, take a look and decide for yourself if you want to pursue investing in Fab.” Effectively, we turned the pitching on its head.Startups really should think about how they can approach fund raising like this. Obviously Fab was already very successful and had the benefit of a strong data story. They were in a special, but not unique, position. Picking the right potential partners, and showing them up front the clear data about why their company is the best investment opportunity simplifies and accelerates the process for everyone so the VC firms can make quick decisions and the startup can get back to shipping products, acquiring customers and growing the business.
That's what startups are supposed to be focused on, not chasing VC funding.