The remittance of startup equity percentage to an investor for funding has been a good way of generating money for startups.
However, a problem arises when an investor asks for outrageous percentages for pittances.
The question of what is a fair percentage for an investor should then be evaluated based on what the founder wants out of his business.
Does the founder want to control and make decisions for the business at the end of the day? Or is the goal just for the startup to pick up at all costs?
Also read, What You should know about Startup Equity
True, some investors can be selfish, especially when the startup has a bright future and is in its early stage where it urgently needs funds to grow and scale, they take advantage of the desperation and make outrageous demands.
Ideally, the percentages are allocated based on, or a combination of the following, the amount of money they are investing, the level at which the business is, the risk level, the company’s valuation, among others.
It is therefore advisable to seek proper professional advice from legal, and financial experts, and then make decisions based on that. It is also vital to properly communicate with potential investors, the terms binding the investment deal.
Generally, startup founders should consider the terms of getting the funds carefully, and the potential impact of giving off the percentage of their ownership and control of the startup before sealing any investment deals.
To ensure that everyone goes home happy, it is important to consider the long-term goals of both the startup and the investors, ensure that they align and that the investment deal will serve everyone’s interest.
This entails the percentage of ownership being offered to investors, the rights and responsibilities they get to exercise as well as their limitations, all these have to be documented adequately and signed appropriately for binding effect.
Also read, How to distribute Startup Equity
However, as mentioned earlier, it might be challenging for early-stage startups who urgently need funds to determine a fair percentage for an investor who is ready to risk his investment.
To navigate this, they must strive to do the following:
Ensure the startup is valued
This simply means that the valuation of the startup has to be determined as this will help map out the percentages offered to investors.
This can be done in either of the following ways, scorecard method, comparable company analysis, or discounted cash flow analysis.
Determine Startup’s risk level
This is one of the important factors to determine before the investors come, determine the startup risk level, and know where the startup stands. Mostly, startups with a high level of risk most times only get funding with an increased percentage offer.
That’s to say, the higher the risk level, the higher the startup’s percentage offer.
Determine just how much is needed
This is a loop most startups get trapped in because it looks promising investors flock around and they keep taking money from them, before they know it the founder barely has a grasp on the business.
It is therefore important to know exactly how much is needed, and then stop acquiring investors once that fund is realized.
Finally, as a founder, seek professional guides before giving out percentages of ownership to an investor. Also, note that there are other factors like the type of investment offered and the type of investor.
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