9 quick tips for raising venture capital

(Editor’s note: Dharmesh Shah is a serial software entrepreneur and the founder and CTO of HubSpot, which provides marketing software for small businesses. This column originally appeared on his blog. )
As the market improves, many start-up owners are likely be thinking about raising funding.  With my latest startup, I’m now a venture-backed startup founder (I’ve raised $33 million in three rounds of capital for my marketing software company).  So, I’ve got some direct experience with the process.  Several of the companies I’m an angel investor in or otherwise involved with have also been in the fund-raising process.  So, along the way, I’ve learned a few things, and I’d like to share them with you.
There’s already lots of great content on the web about raising capital and understanding deal terms. But, I figured it wouldn’t hurt to share some of the “lessons learned” from my own experiences.
1.  Get the first round right: The terms of your Series A deal are very important. Not just because of the impact on that first round, but because many of those same terms are likely to carry through to future rounds.  It’s tempting to concede on some important terms but try to resist that temptation.  When negotiating the term-sheet for your Series B or Series C round, the “base” terms (the starting point of negotiations) is whatever terms were in your Series A.  So, if you agree to some non-favorable terms on the “A” round, you’re likely going to continue to pay the price for that in future rounds as well.
2.  Avoid valuation infatuation: Entrepreneurs often become obsessed with the pre-money valuation on the deal.  Though this is certainly an important element of the transaction, there are other factors at play that have significant impact on the raw direct economics of the transaction including the employee stock option pool (and who pays for it). If you get close to finalizing a deal, it is imperative that you have a spreadsheet that helps you understand the economics of the deal.  (See Jeff Bussgang’s article on the topic.)
3.  Raise more than you need: Regardless of how much capital you raise, you’re probably going to have wished you had raised more.  Within reason, if you have access to capital and the terms are decent, raise more than you think you need.
To help overcome the fear of dilution, build a simple spreadsheet that models the actual financial impact to your personal bottom-line based on various outcome scenarios.  What you will likely find is that if things go really well, the extra dilution is not going to change things all that much.  And, if things go really poorly, it won’t matter either (because those extra common shares aren’t going to make you money).
While you might raise the additional capital in a future round at a much higher valuation, it’s easy to forget the transactional cost of the additional round.  Raising a venture-round is a very time consuming process and when your bank balance is getting low, you’re going to really want to just keep working on the business instead of shifting focus back to the funding game
4.  Know what “market” is: It’s possible that you’ll encounter some not so favorable (and fairly uncommon) terms during your VC negotiation.  It’s also possible that your potential investor is just pushing on the edges a little bit to see what they can get away with.
Your strongest line of defense against weird, non-favorable terms is the following reply: “That’s not market”.  This is sophisticated VC-speak for “what you’re asking for isn’t very common in VC deals right now.”  This line of defense has two advantages:  1) it works and 2) it demonstrates your savviness.
5.  Orchestration is important: Try to keep the interested parties moving along at as close to the same pace as possible.  This isn’t easy, but it’s important – because to get great VC terms in a round, the single largest contributing factor is competition.
If you can get two or more VCs competing to invest in your company, you’ll get much better terms.  But to get credible competition going, you’re going to need to have several VCs at the “termsheet” stage of the conversations.  If one VC delivers a termsheet to you, but you are still early in the process with others, it’s going to be tough to get a competing termsheet.  Meanwhile, the VC that gave you the first termsheet is going to be “anxious” for you to accept.
The good news is that nothing accelerates VCs more than knowing that you’ve already gotten a termsheet.  Once you get that first one, you’re likely to get more as the VCs jostle for position.
6.  Beware deal fatigue: Even in good times, fund-raising is an arduous process.  Be prepared for yet another round of meetings, yet another level of due diligence and yet another round of negotiations.  Don’t try to sprint to the finish line — you may have another lap to go.  And, it might be the most important lap.  Much like any large negotiation, there are often relatively important deal terms that get finalized in the final stages of the deal.  You need to maintain your energy so that you don’t just give-in on some of these seemingly unimportant details.
7.  Don’t Use Your Uncle Larry As Your Lawyer: As entrepreneurs, it’s not often that we need to engage legal counsel.   But if you’re raising venture capital, you need a lawyer – and experience counts. This is a high stakes game.
VCs are super-smart and they negotiate financing deals all the time.  You don’t.  You need someone that has competency in this area.  A great lawyer understands the nuances of this game both from the perspective of which deal terms are important, what “market” is (#4 above) and when to stay firm and when to concede. Don’t be penny wise and pound foolish on this.
8.  Partner personalities matter: Yes, ideally you’ll be raise funding from a top-tier fund that’s a great brand.  But, what’s more important is that you fundamentally like the VC partner that is investing in you.  This is a long-term relationship and life is short.  You might part ways with key team members along the way, but your venture investor will almost certainly be with you until the very, very end.
If you have the luxury of choice, you should put strong weight on the person you take money from, not just the firm and not just the deal-terms.  I followed my own advice on this in our funding rounds.  We had higher offers than the deal(s) we took, but we solved for the best overall deal and the best partner.
9.  Switching Partners Is Hard, Do Your Homework: It’s likely that in the early stages of your VC process, you’ll get introduced to a particular partner at a firm.  Usually, this is based on what area that partner invests in (i.e. which one you “fit” with).  But, in many larger firms, there might be more than one partner that could conceivably do your deal.  Or, you might get bucketed wrong (because your startup straddles a couple of areas of interest for the firm).
If that’s the case, you need to work hard to figure out who the best partner would be (from your perspective) and try to connect with that partner as early in the process as possible.  Once conversations begin in earnest, it’s very, very hard to switch to a different partner within the firm.