Starting a new company is an exciting venture for any entrepreneur, but every founder knows that starting a company involves persistence, risk and dedication. Often, the biggest challenge is not coming up with the idea or creating the business, but eventually figuring out how to scale it successfully and determining when the right time is to exit.
Founders often look to personal savings, credit cards, family and friends for financial support to launch the company and make it through the initial growth stages. However, they often underestimate the process and resources necessary to grow a business after ideation and business formation. It’s easy to misjudge how difficult it is to raise that money even after they have developed the product or service, they’ve established a market fit, have purchased the operating equipment, and hired the right team to execute the strategy. But raising capital comes with its own set of harsh realities that entrepreneurs are often unprepared for, including what seems like a never-ending search for an investor and dealing with the various negotiation stages.
The challenges of raising capital
The search for funding can be as exhausting as it is exciting. The reality is that raising capital is incredibly opaque for most entrepreneurs and founders, and many are stuck relying on their personal networks to help them fund their venture. Additionally, founders often underestimate how time-consuming and manual the process is to identify the right investors – there are few available shortcuts. Most founders also don’t appreciate the different value certain investors can bring and that it’s not all about the money… certain investors can bring strategic and operational value in addition to the necessary capital.
Business owners know that investors are always searching for the “next big startup” to invest in, but they don’t know how to properly position themselves so that investors will find the opportunity attractive. While private market investments are exciting because investing in a company that is expected to grow rapidly can bring an attractive return, investors often have their own set of rules and conditions before deciding on who to invest in. Understanding investors’ rules and conditions is often very opaque and difficult to discern, thus the reason so many companies are rejected by investors time and again.
To put this into perspective, nine out of 10 startups eventually fail due to a lack of funding or running out of money. Although capital is available, coming to an agreement and negotiating a deal between the founder and investor can be complicated for all businesses. However, it is even more difficult for startups negotiating deals below $10M – which accounts for 93 percent of the market.
Fundraising can seem like a never-ending battle, but new technologies enable a more straightforward process for identifying the right investors and attractive private market investments. The leading challenges of raising capital include searching for and finding an investor, the due diligence process and agreement on deal terms.
Finding an investor
When entrepreneurs and founders are ready to seek funding, where do they start? Most have a checklist in mind of what they’re looking for, but the biggest challenge is searching for and finding the right investor or venture capitalist.
Most founders use various methods to search for funding, such as business schools’ entrepreneur programs, industry friends, online and social platforms, angel investor networks, and crowdfunding platforms. Since there isn’t one place where investors and entrepreneurs can connect, the manual search process often takes away founders’ time from their business.
Once an entrepreneur finds an appropriate group of potential investors, the next step involves months of intense due diligence and tough negotiations. These processes require a lot of time and hard work, and afterward, there is still no guarantee that the deal will close. So, entrepreneurs must try to manage multiple interested parties simultaneously, and always be on the lookout for potential investors and never assume that a deal will close.
Once an investor is interested, the due diligence process begins on the founder and the business. Accountants and legal experts will closely examine the founding team’s background and the company’s financial statements. It’s important to have the due diligence materials prepared before beginning the fundraising process because getting all of the necessary material aggregated takes time and requires input from many different parties. Once an interested investor is identified, you need to get them through the due diligence process as quickly as possible and that can only be accomplished if the materials are assembled in advance of launching your process.
Most investors have a list in mind when looking for a potential private market investment, such as the education of the founding team, lines of businesses that are supported, the experience of strategic partners, financial records, and intellectual property, to name a few. During due diligence, entrepreneurs must provide the documents necessary to prove their company’s worth.
Gathering each member of the founding team’s records, information on the past performance of the company, profit and loss and tax statements, and documentation on the details of their service or product are a few of the documents that entrepreneurs should be prepared to show. Due diligence can often take months to even a year without any guarantee that a deal will close.
Agreement on deal terms
Once an investor performs due diligence, the next step in the process is to negotiate the stock purchase agreement, this stage is often the most stressful for founders. This is the point when valuation and operating parameters for the deal are determined. Deals can be structured in many different ways, depending on the investor and their terms. Even months after negotiations, the final document can state conditions and clauses that can be detrimental to their long-term health.
For example, most private market investors and venture capital firms expect to receive a percentage of equity in the company. Depending on the deal terms, the amount of equity or percentage ownership in the company can be high for the amount of capital offered. Founders need to consider the future dilution they will face if more capital is needed to fund growth. Additionally, the agreement terms will state what investors expect if the startup fails.
It is crucial to find an investor who aligns with the founding team’s mission and goals. Similarly, investors also have difficulty searching for a suitable private market investment that meets their requirements. This is where the value of artificial intelligence (AI) has become a game changer in improving the efficiency of startup funding – for both companies and investors. AI is increasingly being used to match entrepreneurs with the right investors so that both can easily find the right counter party that matches their goals and values, ensuring that interests are aligned right from the start.
How AI and NLP are transforming fundraising
Recently, companies have begun to utilize AI and natural language processing (NLP) to provide new solutions to data research and analysis for the financial services industry. These technologies offer greater insights and transparency into the private capital markets. Now, investors and entrepreneurs can take advantage of AI and NLP’s data research and analysis benefits to find the right investment and fundraising opportunities. This saves a tremendous amount of time and money, and often results in companies identifying investors that can bring strategic value and not just capital when they make an investment.
With the traditional process, finding the right investor, conducting due diligence and negotiating deal terms can take several months and sometimes over a year. This fundraising process takes time and energy away from founders’ ability to focus on ensuring their business runs smoothly.
With AI’s ability to recognize patterns and adapt to changes within datasets and NLP’s ability to pull sentiment from the data, entrepreneurs can quickly use these innovative technologies to match them with the right investors. AI and NLP tools significantly reduce the time and energy on private capital market research and due diligence by automating the research and analysis processes. AI and NLP’s analytics also analyze significantly more data on a global basis to ensure that new trends and investing patterns are identified.
With an AI- and NLP-powered database, entrepreneurs can filter and search for the right funding opportunity without compromising the factors they’re looking for in an investor or venture capitalist. This eliminates the manual process of searching for investors on various online platforms.
Similarly, investors can use AI and NLP to connect with startup founders that align with their expectations and gain a 360-degree perspective on the startup’s founding team, its associations and its competitive landscape. These insights can ultimately cut down the time required for due diligence. Additionally, AI algorithms can bring in new datasets daily to match investors and entrepreneurs with relevant opportunities to their interests in real time.
Furthermore, AI and NLP’s analytics and automation advantages allow investors to identify suitable private market investments that can allow the investor to reach out to the right companies even before they begin their formal fundraising processes.
These tools often come in a wide variety of flavors from free, open-source tools that can be found on Github, to enterprise-grade implementations that are bought from large-scale cloud providers such as Google Cloud and Amazon Web Services. The uses of the tools range from just handling workflows and dependencies to being able to automatically train and implement the models.
There is no correct answer for the right tool to use as their relative effectiveness is based on a case-by-case basis. Usually, it’s best to start with the simplest possible solution and then look at more complex ones — Occam’s razor and Murphy’s law are paramount here.
Nonetheless, maintaining the models and making sure they can be both reproduced and productized is very crucial to any team. No matter which route a company chooses to go through, it is vital that they have experienced individuals to help guide them through the process.
Today, neither companies nor investors have to worry about missing out on potential funding or investment opportunities. The introduction of AI and NLP has made the process of finding the right investment and conducting the appropriate due diligence faster and more intelligent. Gone are the days of manual and highly time-consuming processes for investors and entrepreneurs – as long as they choose to embrace new technologies.