Five VC Terms and What They Mean (1/2) 👀
VCs use lot of terms that might seem like gibberish to the average person. It isn't rocket science. Here are five top terms and what they mean and how they are used in simple conversation
Hi, and welcome to AfroFounder where I share fundraising, operating and scaling tips with founders building high growth technology businesses in Africa. I’m Maria and this is the 18th issue. If you’re new - you join hundreds of incredible AfroFounders on their entrepreneurial journey.
Two FREE resources that might help:
List of Pre-Seed / Seed Investors Investing In Africa
Apply for a FREE 30-Minute Mock Pitch with Experienced Investors
Cap Table: A capitalization table, or cap table, is a spreadsheet that outlines the ownership stakes of a startup's shareholders, including founders, employees, and investors. It provides a snapshot of the company's equity structure and is used for tracking ownership changes and determining ownership percentages.
Pro Tip 💡: Even if you are receiving investments on a SAFE (Simple Agreement for Future Equity), keep a capitalisation table that helps you keep track of your dilution as an investor.
Dilution: Dilution occurs when the ownership percentage of existing shareholders in a company decreases due to the issuance of new shares. It happens when a company raises additional funds or grants stock options. When you start your business, the original shareholders (founders) own 100% of your company. As you raise funding (sell equity for cash) you begin to dilute your ownership. For example, if as a founder you own 100% of a company with 1,000 shares, but the company issues 100 new shares, the founders’ ownership would be diluted by 10% to 90%.
Pro Tip 💡: It is important to track your dilution as being too diluted can make it difficult or even impossible for investors to invest. Aim for a 10-20% dilution per round.
Burn Rate: This means the amount you spend to keep your business running over the period covered. It is how much you are spending capital to cover operating expenses before generating positive cash flow. It shows how quickly a startup is consuming its funds and is an important metric to monitor financial sustainability. Most investors will ask “what’s your monthly burn rate” and the answer should be a number. If it is too high, it can signal poor capital efficiency. You should know this number off the top of your head.
Pro Tip 💡: A high burn isn’t exactly a bad thing, but the real question is what is the return on your burn. Are there high returns on the amount spent, or are you just spending on expenses that don’t bring short or mid term value to the business?
Exit Strategy: An exit strategy outlines how investors plan to realize a return on their investment. Common exit strategies include acquisition by a larger company, initial public offering (IPO), or a merger. A well-defined exit strategy is essential for investors to understand how and when they can expect to recoup their investment.
Pro Tip 💡: Most early stage professional investors are optimising for a high return. Often around 50-100x. So, you want to understand who could potentially buy your company and for how much, by using comparables of similar transactions in the market. Ensure to adjust / discount for market/ business model nuance. If you are raising VC funding, the more ambitious your exit scenarios the better, if you are modest here, it is a huge red flag because it means investors might not be able to recoup their investments.
Runway: Runway refers to the length of time a startup can operate with its available capital before it runs out of funds. Calculated by dividing the available funds by the average monthly expenses, a longer runway provides more time to achieve milestones, secure additional funding, or generate revenue.
Pro Tip 💡: This is a critical number to keep track of. When investors ask this they essentially want to know how much longer you have to keep you alive. Ensure to not have less than 6 months runway before you start fundraising especially given the market.
I hope this helps, if you have questions or need advice on your fundraising journey - send them over to afropitchprep@gmail.com and we’ll answer them.
Till next time 👋
Maria
P.s Follow Afrofounder on Twitter for daily tips on fundraising, building and scaling startups.