A few weeks ago, I came across this gem of a question on Quora: When should a startup not accept venture capital?
Most people assume that raising money is always a good thing, that it will make your business better 100% of the time. That’s not always true — in fact many entrepreneurs raise money before they actually need it, or raise more than they need. The result is that they give up too much of an equity stake in return for something they never needed.
Raising venture also creates additional pressure to spend it — the best entrepreneurs can resist the temptation to spend just because the money is in front of them, but most people are mere mortals, and they will start spending that money on things they don’t need.
I’ve posted my answer on Quora to this question below. Let me know what you think of it.
Short answer: when it doesn’t need it.
Long answer: Equity is one of the most valuable assets a company can sell or give away. It could potentially turn into billions of dollars and determines who is on the board and who controls the company. Of course, that equity is worthless without the company increasing in value, and venture capital is designed to do that.
If your company makes or already has enough money to achieve your growth goals though, you may not need venture capital. You need to determine what that number is, though — do you need more money to actually grow faster, do you need more cushion to protect against disaster, or are you seriously going to be fine and be able to grow off your own profits?
There are some situations where you should take equity even if you don’t truly need the money. VCs and investors tend to have connections entrepreneurs don’t have, and those are sometimes worth the sacrifice in equity.
That’s why people give a small piece of their companies to people on their advisory board; in return for equity, they are responsible for making introductions, promoting the product and providing sage advice that could change the direction of a company.
Thank you for saying this, Ben.
We’re a tiny three people startup creating a Mac app (http://alfredapp.com) and have been approached by potential VCs time and time again. We’ve turned funding down because we preferred and were able to self-fund (by consulting & having clients on one hand, and on starting to sell the product as early as possible).
It’s worked out beautifully for us and I’m glad we’ve taken this route. Every other startup we meet thinks about big growth, fancy offices, loads of hardware. We try to think about how smartly we can grow to create the revenue that will allow us to continue, make users happy, be happy and healthy ourselves, etc.
Having 300 employees and a Silicon Valley office isn’t necessarily a sign of success; getting up in the morning with the urge to continue building your product and talking to your users is. 🙂