A VC in Vacationland

A number of my portfolio companies have been recently been considering raising additional investment capital, even though they are growing rapidly, are cash flow positive and have a leadership position in their marketplace.  Often, I find the rationale behind the decision to raise cash to not be supported by the reality of their business world.  For the sake of this post, let’s assume up front that VC’s are beating down your door with offers of high valuations and few preferences ( a dream world, I know).

So, when should you raise cash and when should you wait?  Here are a few ideas on the subject:

1. Raise cash when potential acquisitions are likely over the next year or so.  This is a tricky area and I always have CEO’s telling me that this is the best way to build scale, market presence and meet growth plans.  Maybe.  Acquisitions have lots of hidden costs as well as new customers and revenue. When customer acquisition is the goal, it may be cheaper to steal their customers, especially if the potential acquisition candidate is failing.  Buying a troubled business may get you more customers, but at a much higher cost than waiting for them to defect to you as their current provider falters.  Be sure and carefully consider which is the best path before you commit to someone else’s liabilities-known and unknown. Should you have a war chest in hand in case the right acquisition comes along?  This is backwards thinking as far as I am concerned.  If acquisition is the best way for your company to grow, then develop the business plan to support the argument, along with a list of candidates, and go raise some cash.
2. Raise cash to fund faster growth plans.  This is the classic business plan that I usually see. The company has market traction and wants to invest in marketing and sales to extend geographic and vertical penetration.  Unfortunately, many of the plans I see have the old-school model–hire a bunch of expensive sales guys to fly across the U.S./world to flog your product.  I do believe that sales guys are critical to sales success.  But they are only one part of the marketing and sales solution (see my recent posts on innovative marketing & sales strategies for start ups).
3. Raise cash to fund new product development.  Here is another interesting capital conundrum. Would it be cheaper to acquire a smaller start up with a successful product to meet your needs?  Can you get your customers to fund it? Should you partner with someone that has the product, with potential acquisition a future goal?  These are some of the interesting questions you need to ask yourself before hitting the VC money trail for new product development funds.

VC money is relatively easy to get today for successful companies, but often at a high price in terms of ownership.  Raising the money in a way that is minimally dilutive of your ownership shares is optimal, but not often easy to do. If you are not being threatened with marginalization due to larger competitors, you may be better off from an ownership perspective to use cash or work with customers to fund new initiatives, which in my book yields more market-relevant products in the long term.