14 January 20

Cash is King: How founders should decide their cash runway

Triple Point’s Venture Investor, Seb Wallace, discusses one of the most important issues that early-stage founders face – their cash runway.

It’s the figure all early stage founders know.

Current cash in the bank, divided by monthly cash burn, equals cash runway – or how long your company can survive before it needs further funding.

And while many start-ups survive a bit longer than their cash runway suggests – usually with aggressive cost control – a business fails without the cash to pay costs, even if it has the best product in the world.

So if you’re fundraising for your early stage business, how much should you raise, and what does that target number say about you and your business?

Capture the objective

When fundraising, you should decide the size of your round based on clear objectives. And the objectives depend on your company’s maturity.

Pre-seed

As a rule of thumb, the objective of pre-seed rounds should be to build your product and get some initial revenue.

If you are raising pre-seed money, don’t just raise what you need to build the product. This is a common mistake and we see it often.

Instead, raise what you need to build the product twice or three times (as that is what it will probably cost), and also raise what you need to fund the first six months of sales.

At the end of that round’s runway, if you do this, you will have a product and some early traction, and you will be in a great place for a competitive seed round.

It’s amazing the number of founders who don’t have a full product by the time their pre-seed money runs out, and then struggle to raise their seed round. So give yourself the best chance out of the gates – raise a decent pre-seed round.

Seed

After the pre-seed round comes the fundraising staple – the seed round. Seed rounds have changed a lot over the past few years, and the terminology has got a bit mixed up. What should a founder expect from a UK seed round in 2020?

With the introduction (and common use) of the pre-seed round, seed rounds have moved on a bit. Seed rounds objectives are now much more commercial/sales-oriented than they used to be.

Objectives for your seed round should be proving early product-market fit, developing a basic but scalable sales process and teaching your team to become data-driven.

Product development is still important at seed stage (when isn’t it important?!), but selling your product should be the name of the seed game. This means that, by your seed round, you should have your early (perhaps v1.0 or v1.1) product, and a bit of early revenue.

With the three objectives above in mind, how does a seed round look in practice?

When raising the round, you should think not just about sale targets, but also the sales data you need to accumulate during the runway period, to show your product sticks and that you can sell it repeatedly.

Decide your round size while thinking about how many customers you need to gain, over what period, to show:

  1. a robust CAC (customer acquisition cost) number
  2. a defensible LTV (customer lifetime value) figure
  3. reliable customer churn statistics
  4. reasonable early net retention numbers

You’ll need all these numbers for a good series A round.

For example, you may decide that you can sell £1m of your product in 18 months after raising your seed round. But can you reliably tell a series A investor your customer acquisition cost in that period if, say, most of your sales are in the last six months of the runway? Or what about your 6 and 12 month churn figures?

It is therefore key to raise enough money in your seed round not just to meet a set of sales milestones, but also to make enough sales for long enough to show that your product and team are becoming a scalable business. Only with this, will you look highly attractive to series A investors.

This might mean you need to raise more at seed stage, to hire more salespeople earlier in the cash runway period that you otherwise thought.

Pound for pound

There is no set amount to be raised at pre-seed or seed stage, although in the UK somewhere between £150k to £750k is typical at pre-seed, and £500k to £2m is typical at seed.

Importantly, the cash you raise will need to last for 12-24 months (typically 18 months or more) to give yourself enough time to hit your round’s objectives.

When we invest in a company, typically pre-series A, we like the company to have 18 months of cash runway, with at least 12 months of cost cover (assuming that costs go up as planned but revenue stays static). You’d be surprised how many companies undercalculate their fund raise when you introduce that second scenario!

But on the other hand, don’t go too far. Raising too much at seed (£3-4m+ in the UK) can have negative consequences. It reduces a business’s ability to learn cost control early in life, and it can push founders to increase their company’s valuation too early.

Why is a high valuation at an early stage bad? It puts unnecessary pressure on your team to execute perfectly – with little room for learning or error – at a time when you have enough pressure already (and will experience many unforeseen setbacks). You are also not at the point where the extra cash will speed up your scaling, as you are still building your processes at pre-seed and seed stage.

So when you are on the road, give yourself the best possible chance of future success. Plan your round size (and cash runway) carefully. You’ll thank yourself later!

Seb Wallace is a Venture Investor at Triple Point