At Upsourced Accounting, we work almost exclusively with venture backed startups, so we have a few tricks up our sleeve when it comes to preparing for an investor. In fact, we’ve even raised capital for one of our own products, so we’ve been through the process ourselves. And out of these experiences, we’ve developed a saying – “Financial due diligence is to venture capital what the long snapper is to football. You’re certainly not going to win a deal in diligence, but you can absolutely lose one there.” Diligence is as much about risk mitigation for the investor as it is about pressure testing that the founding team is organized, reliable, and most importantly, has a complete understanding of the economics of their business.
To make certain our clients are as prepared as possible, here’s a short checklist of the things we recommend:
Prepare a ‘diligence folder’ in advance
Each investor is different, and some of their requests may be unique to their firm. For the most part, however, every investor is going to want to look at the same basic documents. These include; articles of incorporation, org chart, IP assignments, cap table and pitch deck. Before approaching investors, create a Dropbox or Drive folder and begin organizing this information into clearly-labeled subfolders. If you’re fortunate enough to make it to diligence, there are few better ways to impress at this stage than turning over a meticulously groomed investor packet within an hour of them asking.
Include a complete set of historic financial statements
A common objection we hear from seed and pre-seed startups is, “we’re pre-revenue, so our financial statements don’t matter”. This is simply untrue. They do matter. And once you’ve raised venture capital, they’ll require you to provide them periodically.
If nothing else, delivering a solid set of financial statements in diligence – even if cash is only moving in one direction for now – demonstrates you’ve created the financial hygiene and infrastructure to meet this obligation post funding. At a minimum, include two years of historic balance sheets, income statements, and cash flow statements. The majority of diligence is about inspiring confidence – clean financials inspire confidence, and inaccurate or missing financials erode it.
Build realistic financial projections
If there is one thing universally true about pre-investment financial projections, it’s that they’re wrong. They almost definitely overstate the future, occasionally (and hopefully) they understate it, but with 100% confidence they misstate it. And that’s okay. The goal of your financial projections at this stage is not to predict the future. Your goal is to demonstrate that you and your founding team understand the underlying levers and economics of your business.
Do you understand the drivers of growth, and have you considered all acquisition costs? Is your gross margin reasonable, and is it consistent with your industry? Are your assumptions clear, are they well considered, and are they defensible? These are the questions investors want to answer, not, “is this right?”
The added bonus for the founding team is that a well built set of projections can help you drive the business long after the funding decision has been made. Following these steps doesn’t necessarily qualify you for venture financing, but it can help ensure you’re not disqualified from raising it, either.
About Upsourced Accounting
Upsourced Accounting is a full-stack finance and accounting solution for startups and creative agencies throughout the US. Drop us a line info@upsourcedaccounting if you like what you read, hate what you read, or just want to hear what we’re all about. Count and account
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