Startup Funding- 2 | CMAT Mock Test Series - CAT PDF Download

Steps to Startup Fund Raising

The entrepreneur must be willing to put in the effort and have the patience that a successful fund-raising round requires. The fund-raising process can be broken down into the following steps

Assessing Need for Funding

The startup needs to assess why the funding is required, and the right amount to be raised. The startup should develop a milestone-based plan with clear timelines regarding what the startup wishes to do in the next 2, 4, and 10 years. A financial forecast is a carefully constructed projection of company development over a given time period, taking into consideration projected sales data, as well as market and economic indicators. The cost of Production, Prototype Development, Research, Manufacturing, etc should be planned well. Basis this, the startup can decide what the next round of investment will be for.

Assessing Investment Readiness

While it is important to identify the requirement of funding, it is also equally important to understand if the startup is ready to raise funds. Any investor will take you seriously if they are convinced about your revenue projections and their returns. Investors are generally looking for the following in potential investee startups:

• Revenue growth and market position
• Favorable return on investment
• Time to break-even and profitability
• Uniqueness of the startup and competitive advantage
• The entrepreneurs’ vision and future plans
• Reliable, passionate, and talented team

Preparation of Pitchdeck

A pitchdeck is a detailed presentation about the startup outlining all the important aspects of the startup. Creating an investor pitch is all about telling a good story. Your pitch isn’t a series of individual slides but should flow like a story connecting each element to the other. 

Investor Targeting

Every Venture Capitalist Firm has an Investment Thesis which is a strategy that the venture capitalist fund follows. The Investment Thesis identifies the stage, geography, focus of investments, and differentiation of the firm. You can gauge the Investment Thesis of the company by thoroughly going through the company website, brochures, and fund description. To target the right set of investors, it is necessary to research Investment Thesis, their past investments in the market, and speak with entrepreneurs who have successfully raised equity funding.  This exercise will help you:

• Identify active investors
• Their sector preferences
• Geographic location
• Average ticket size of funding 
• Level of engagement and mentorship provided to investee startups

Pitching events offer a good opportunity to interact with potential investors in person. Pitchdecks can be shared with Angel Networks and VCs on their contact email IDs.

Due Diligence by Interested Investors

Angel networks and VCs conduct thorough due diligence of the startup before finalizing any equity deal. They look at the startup’s past financial decisions and the team’s credentials as well as background. This is done to ensure that the startup’s claims regarding the growth and market numbers can be verified as well as to ensure that the investor can identify any objectionable activities beforehand. If the due diligence is a success, the funding is finalized and completed on mutually agreeable terms.

Term Sheet

A term sheet is a “Non-binding” list of propositions by a venture capital firm at the early stages of a deal. It summarizes the major points of engagement in the deal between the investing firm/investor and the startup. A term sheet for a venture capital transaction in India typically consists of four structural provisions: valuation, investment structure, management structure, and finally changes to share capital.

• Valuation: Startup valuation is the total worth of the company as estimated by a professional valuer. There are various methods of valuing a startup company, such as the Cost to Duplicate approach, Market Multiple approach, Discounted cash flow (DCF) analysis, and Valuation-by-Stage approach. Investors choose the relevant approach based on the stage of investment and market maturity of the startup.
• Investment Structure: It defines the mode of the venture capital investment in the startup, whether it is through equity, debt, or a combination of both.
• Management Structure: The term sheet lays down the management structure of the company which includes a list for the board of directors, and prescribed appointment and removal procedures.
• Changes to share capital: All investors in startups have their investment timelines, and accordingly they seek flexibility while analyzing exit options through subsequent rounds of funding. The term sheet addresses the stakeholders’ rights and obligations for subsequent changes in the company’s share capital.

What do investors look for in startups?

• Objective and Problem Solving: The offering of any startup should be differentiated to solve a unique customer problem or to meet specific customer needs. Ideas or products that are patented show high growth potential for investors.
• Management & Team: The passion, experience, and skills of the founders as well as the management team to drive the company forward are equally crucial in addition to all the factors mentioned above.
• Market Landscape: Market size, obtainable market share, product adoption rate, historical and forecasted market growth rates, macroeconomic drivers for the market your plans to target.
• Scalability & Sustainability: Startups should showcase the potential to scale in the near future, along with a sustainable and stable business plan. They should also consider barriers to entry, imitation costs, growth rate, and expansion plans.
• Customers & Suppliers: Clear identification of your buyers and suppliers. Consider customer relationships, stickiness to your product, vendor terms as well as existing vendors.
• Competitive Analysis: Consider the number of players in a market, the market share, obtainable share in the near future, product mapping to highlight similarities as well as differences between different competitor offerings.
• Sales & Marketing: No matter how good your product or service may be, if it does not find any end-use, it is no good. Consider things like a sales forecast, targeted audiences, product mix, conversion and retention ratio, etc.
• Financial Assessment: A detailed financial business model that showcases cash inflows over the years, investments required key milestones, break-even points, and growth rates. Assumptions used at this stage should be reasonable and clearly mentioned.
• Exit Avenues: A startup showcasing potential future acquirers or alliance partners becomes a valuable decision parameter for the investor. Initial public offerings, acquisitions, subsequent rounds of funding are all examples of exit options.

Why do investors invests in startups?

Investors essentially buy a piece of the company with their investment. They are putting down capital, in exchange for equity: a portion of ownership in the startup and rights to its potential future profits. Investors form a partnership with the startups they choose to invest in – if the company turns a profit, investors make returns proportionate to their amount of equity in the startup; if the startup fails, the investors lose the money they’ve invested.
Investors realize their return on investment from startups through various means of exit. Ideally, the VC firm and the entrepreneur should discuss the various exit options at the beginning of investment negotiations. A well-performing, high-growth startup that also has excellent management and organizational processes is more likely of being exit-ready earlier than other startups. Venture Capital and Private Equity funds must exit all their investments before the end of the fund’s life.

• Mergers and Acquisitions: The investor may decide to sell the portfolio company to another company in the market. In essence, it entails one company combining with another, either by acquiring it (or part of it) or by being acquired (in whole or in part).
• IPO: Initial Public Offering is the first time that the stock of a private company is offered to the public. Issued by private companies seeking capital to expand. It is one of the most preferred methods by investors to exit a startup organization
• Selling shares: Investors may sell their equity or shares to other venture capital or private equity firms.
• Distressed Sale: Under financially stressed times for a startup company, the investors may decide to sell the business to another company or financial institution.
• Buybacks: Founders of the startup may also buy back their shares from the fund/investors if they have liquid assets to make the purchase and wish to regain control of their company.

Startup India Funding Support

SIDBI Fund of Funds Scheme

• The Government of India formed a fund of INR 10,000 CR to increase capital availability as well as to catalyze private investments and thereby accelerate the growth of the Indian startup ecosystem. The Fund was set up as a Fund of Funds for Startups (FFS), approved by the Cabinet and established by the Department for Promotion of Industry and Internal Trade (DPIIT) in June 2016. FFS does not invest in startups directly but provides capital to SEBI-registered Alternate Investment Funds (AIFs), known as daughter funds, who in turn invest money in high-potential Indian startups. SIDBI has been given the mandate of managing the FFS through the selection of daughter funds and overseeing the disbursal of committed capital. The fund of funds makes downstream investments in venture capital and alternative investment funds that in turn invest in startups. The fund has been formed in a way that creates a catalyzing effect. Funding is provided to startups across different life cycles. 
• As of 31st January 2024, SIDBI has committed INR 10,229 crores to 129 AIFs further INR 4,552 crores has been distributed to 92 AIFs. A total of INR 17,452 crores has been injected to boost 939 startups.

Startup India Seed Fund Scheme

Department for Promotion of Industry and Internal Trade (DPIIT) has created Startup India Seed Fund Scheme (SISFS) with an outlay of INR 945 CR, which aims to provide financial assistance to startups for proof of concept, prototype development, product trials, market-entry, and commercialization. This would enable these startups to graduate to a level where they will be able to raise investments from angel investors or venture capitalists or seek loans from commercial banks or financial institutions. The scheme will support an estimated 3,600 entrepreneurs through 300 incubators in the next 4 years. The Seed Fund will be disbursed to eligible startups through eligible incubators across India.

Startup India Investor Connect

Startup India Investor Connect was launched in the sixth meeting of National Startup Advisory Council (NSAC), convened on 11th March 2023 to serve as a dedicated platform that connects startups to investors, and promote entrepreneurship and accelerate engagements across diverse sectors, functions, stages, geographies, and backgrounds, which is also the need of the ecosystem. 

Key Features of the Portal

• Investment opportunities: The platform brings together startups and investors, enabling startups to gain visibility in front of investors, pitch their ideas, and get investment opportunities for themselves.
• Algorithm Based Matchmaking: The platform uses Algorithm based Matchmaking to connect startups and investors based on their respective requirements.
• Enable Access in Emerging Cities: The platform enables connections between investors and startups in emerging cities.
• Virtual Marketplace Creation: The platform has created a virtual marketplace for investors to find innovative startups suitable for their needs.

Credit Guarantee Scheme for Startups

• The Government of India established the Credit Guarantee Scheme for Startups with a fixed corpus for providing credit guarantees to loans extended to DPIIT recognized startups by Scheduled Commercial Banks, Non-Banking Financial Companies (NBFCs) and Venture Debt Funds (VDFs) under SEBI registered Alternative Investment Funds.
• CGSS is aimed at providing credit guarantee up to a specified limit against loans extended by Member Institutions (MIs) to finance eligible borrowers viz. Startups as defined in the Gazette Notification issued by DPIIT and amended from time to time. The credit guarantee cover under the Scheme would be transaction based and umbrella based. The exposure to individual cases would be capped at INR 10 crore per case or the actual outstanding credit amount, whichever is less.
• As on 3rd November 2023, INR 132.13 crore worth of Guarantees issued to 46 startups. Out of this, INR 11.3 crore worth of guarantees have been issued to 7 women-led startups. The number of employees employed by these startups is 6073. The startups covered range from a variety of industries including consumer services, capital goods, agriculture & allied activities, services, information technology, metals and mining, textiles, and utilities industry and are spread across states like Delhi, Gujarat, Haryana, Karnataka, Kerala, Madhya Pradesh, Maharashtra, Tamil Nadu, West Bengal and Uttar Pradesh