Everything takes longer and costs more than you think it will. However, everyone should know this already and most companies allow for this to degree (not nearly as much as they should do) and I’ll write an article about this at a later stage. However, this post talks about the fact that you can’t spend all of the money that you raise and therefore you need to raise more money – confused yet?
When you raise funds you do it to invest in your company. As you invest you increase the company’s cost base (salaries increase, you move offices, etc.). As your cost base increase so does the buffer of cash you need to ensure you can meet those cost without interruption (failing to meet payroll is a very bad thing).
Let’s say you raise €2 million to grow your software company. A few programers here and a sales team there and before you know it you have a payroll of €150K and a total monthly cost base of €200K. Now cast you mind forward to when you’ve scaled the company and your total cost base is €200K a month. Just how low would you be willing to let your cash balance go or are you willing to run it all the way to zero and risk bankruptcy? 1 month? 2 months? 3 months?
If it’s 3 months then you only have €1.4M to invest in your company not the €2M that you actually raised. The remaining €600K is going hopefully sit in your bank account to protect you from the possibility of not making payroll. You can’t spend all the money you raised.
There are loads of reasons why you need to raise more than you think but working capital requirements is one of the easiest to quantify and inexcusable to ignore.
Run through this thought experiment with me.
- How many mangos are sold in your city? It doesn’t matter how wrong your answer is – a guess will do.
- How much does a mango sell for?
- So what the mango market worth? This isn’t a trick question, just multiply the previous two answer together
- Where is the mango market?
Ok, the last one is a trick question. This is because there is no mango market. There is a fruit and vegetable market.
Mangos sales aren’t significant enough and compete so directly with alternatives that they don’t have their own market. The price and availability of alternative fruit is almost as significant to the volume of mangos sold as the price of the mangos themselves.
Who cares whether there’s a mango market or not? Well, no one reading this. However every entrepreneur should care whether their product or service has its own market or if it is just one small part of a much larger market. It is a common mistake to assume that just because there is a demand or need for a product that the product automatically creates its own market.
This is important because it is not possible to have a go-to-market strategy without recognising the market that you are in. The market dictates where your customers gather, what websites they visit, what conferences they go to, who they buy from, how they buy, the terminology they use, etc..
As a general rule if your ‘market’ doesn’t have an industry conference or any independent trade publication you should be asking if it exists in its own right or is just a part of another market.
Example: There is no flavoured water market – there is a soft drinks market. If you want to buy a bottle of flavoured water you go to the chiller cabinet in your convenience store. The flavoured water competes with all soft drinks for shelf space. If the flavoured water you want is out of stock or too expensive you will buy some other soft drink.
While there may be a demand for flavoured water there is no market independent of soft drinks. If you were the CEO of a flavoured water brand, realizing that you compete directly against bottled water, juice and sugary drinks in their market faces up to reality and allows you to create a credible go-to-market strategy. Thinking that you’ve got your own market is self-delusional.
If there are lots of alternatives that you haven’t included in your market then the chances are you are fooling yourself. There is no point trying to sell to this market because there are no customers there – they are all at the soft drinks cabinet.
- There is no firewall market – there’s a digital corporate security market.
- There is no invoice reconciliation software market – but there is a financial software market.
- There is no wooden puzzle market – however there is a games and puzzles market.
- There is no SMS market – there is a messaging market.