Why Investors View Startups and Early Stage Companies Differently

The advantages of targeting angel and venture capital funds by company stage

Q.  I'm a graduate student with an outstanding alternative energy idea, which I believe I can patent.  I also have an idea for a related software platform to help small manufacturing companies manage their energy usage.  I need to raise money to start my company.  In one of your articles you wrote that there are more early stage venture funds than startup or seed stage venture funds.  A startup seems pretty early to me.  What is the difference?

A.   "Early" is just one of those imprecise words that calls for some extra definition.  If, for example, you ask several college students the definition of an early class you can bet the answers will range between 7 am and 11 am.  You might even find a night owl who prefers to take their earliest classes in the afternoon.

The same seems to be true for venture fund managers.  Generally most venture funds target companies by their stage of growth: seed stage, early stage, expansion or later stage, etc.  Occasionally you might come across a venture fund that is  "stage agnostic" meaning that they review proposals in any stage of development.   And in an effort to further define early stage, some venture funds distinguish themselves as not seed stage, but "early, early stage."

The primary difference between a raw startup company and an early-stage company is evidence of business progress.  Early stage companies can be characterized by the following attributes.

*   Have a corporate organization in place, typically a "C" corporation

*   Received one or more prior rounds of funding from company founders, their families or local angel investors

*   Filed patent applications

*   Developed a successful product or service prototype.  A prototype could also be a first restaurant that will serve as the basis for expansion financing.

*   Have some impressive evidence that there are highly interested first adopters or customers in place for the company's technologies, products or services.  Here entrepreneurs have to prove that customers, preferably large numbers of customers will buy from the company.  Here entrepreneurs shift their talking points from what they "think" to what they "know."

*   Have a clearly defined commercialization and sales strategy in place.   Sometimes established early stage funds will selectively consider seed-stage companies if their technologies are backed by a university or other strategic partner that will help accelerate progress after funding. 

Fund managers may also be a little more lenient with seed-stage companies that are located close to the venture fund's headquarters.  There are meaningful cost, time and communication benefits when fund managers can meet regularly with a portfolio company's management to review results during the tricky trial and error period of product development.

I've found that young companies have the best chance of getting a free pass to early stage funders if they attract a CEO who has previously led an investor-backed company to a successful sale.   VCs prefer to invest in new technologies that are managed by experienced entrepreneurs than new technologies that are managed by first-time entrepreneurs.  Here, being too "green" in terms of management experience will not minimize the perceived risk of organizational readiness.

There is a growing list of venture funds that are active in the clean tech sector, including Khosla Ventures, Nth Power, 3i Group, Rustic Canyon Partners, VantagePoint Venture Partners, Sail Venture Partners, and FA Technology Ventures.

As you read about each venture fund, note that larger funds tend to have greater performance expectations than smaller, regional funds in terms of achieving technical or product market leadership.  You can do it!

Write to Susan at susan@takecommand.org for great funding tips for startup entrepreneurs, sole proprietors and fast growth companies.

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