How Can a Founder Raise Money Before the Product Exists?

[0:00] hi and welcome to another episode of

[0:02] startup Chuck today we're going to

[0:04] finally be talking about raising money I

[0:07] know that that's kind of an interesting

[0:09] subject for a lot of people a little bit

[0:12] daunting but there's a lot of different

[0:15] levels of it and some of it's a lot

[0:18] easier than you think so let's first

[0:20] start off with I'd mentioned in

[0:22] prototyping that if you didn't have the

[0:24] funds to prototype what you're trying to

[0:26] do because it might be more difficult

[0:29] then you might want try and get a seed

[0:31] round of funding for a prototype now how

[0:34] are you going to get a seed round of

[0:35] funding well this is where you're going

[0:38] to have to convince somebody that they

[0:41] are willing to part with their money

[0:43] because they either think that what

[0:44] you're doing is going to be

[0:46] successful or that they want the product

[0:49] that you're going to produce so friends

[0:52] and family may not be necessarily your

[0:54] core demographic if you are making a

[0:57] certain type of product so sometimes s

[1:00] the best way to find an investor is find

[1:02] somebody who wants that product it meets

[1:05] a need for them then they're more likely

[1:07] to want to not only invest in buying the

[1:09] first one I.E working on your prototype

[1:13] but also then funding the company that

[1:15] you'd be interested and then making more

[1:17] of that if it meets their needs chances

[1:19] are they realize other people have the

[1:21] same unmet need they become an advocate

[1:24] for you so you might think why not just

[1:29] jump immediate to Kickstarter right so

[1:33] Kickstarter by the way is not the best

[1:37] right do not do Kickstarter for a

[1:40] prototype you want to have a prototype

[1:43] before you get to Kickstarter and

[1:46] there's a lot of reasons to that I'll

[1:48] get into in terms of when I do an

[1:50] episode on how to make a successful

[1:52] Kickstarter I have had three successful

[1:54] kickstarters now and each one has been a

[1:58] lot more successful than the last but

[2:00] they take a lot of preparation and they

[2:02] involve actually having working

[2:04] prototypes if you don't have a working

[2:06] prototype you're going to have a hard

[2:07] time on Kickstarter The Only Exception

[2:10] is things like video games where you've

[2:13] made other games in the past or you know

[2:18] uh board games or but usually even for

[2:22] board games and jigsaw puzzles and

[2:23] things like that there is some sort of

[2:25] rough rough dirty prototype that looks

[2:29] like it's held together um and cut out

[2:32] from like cardboard and whatnot and hot

[2:34] glue so either way no no Kickstarter for

[2:39] initial seed rounds it is not going to

[2:42] be your best

[2:45] thing I wanted to also say that this

[2:49] episode is brought to you by Chuck

[2:51] bucket which is my current company Chuck

[2:54] rack and uh they're funding these videos

[2:58] and they're a hitch Mount ski rack for

[3:01] the back of your car and they also make

[3:04] a bike rack as well but we'll hop out of

[3:09] that now and we'll start talking about

[3:11] more friends and

[3:13] family so friends and family this is a

[3:17] personal thing when you're raising money

[3:19] and that is how much do you want them to

[3:22] hate you if you never pay them back most

[3:26] Investments fail in startups

[3:30] yours is probably going to fail too a

[3:33] little less likely too if you listen to

[3:35] everything I've said and you take all

[3:37] the lessons that I've given you but

[3:40] still chances are that they're not going

[3:43] to get their money back

[3:46] so when you're taking money from friends

[3:49] and family are you the type of person

[3:51] that's going to concern yourself with

[3:53] paying them back and really work hard

[3:54] and make sure they get their money back

[3:56] or are you going to be more La Fair with

[3:59] their money and then you lose it and

[4:02] then you don't feel bad when you're at

[4:04] Thanksgiving that you lost their money

[4:06] and you don't mind being awkward around

[4:08] them because you know it's going to come

[4:11] up um and then later on again people

[4:16] have many failed companies until they

[4:18] figure out eventually what works it's

[4:21] rare that you get successful the first

[4:23] time

[4:24] around so if you want to be able

[4:27] to save that until you know that this

[4:31] you know the product that you're going

[4:32] to have is going to be successful that's

[4:34] not a terrible thing also um or consider

[4:39] smaller amounts from more people so that

[4:42] way if you ever have to do it again for

[4:44] something else maybe you haven't burned

[4:47] that bridge uh personally I try not take

[4:50] any friends and family money unless I

[4:52] know I am going to be able to pay them

[4:54] back which is another thing that I

[4:58] strongly believe which is don't quit

[4:59] your day job if you have a good

[5:01] high-paying working

[5:03] job then there is no reason why you

[5:07] can't use that to fund your startup or

[5:09] shouldn't use that to fund your startup

[5:12] so uh when you're looking for other

[5:15] investors also showing that you've got

[5:17] skin in the game that you've invested

[5:18] your time and money initially as well

[5:21] they're going to be more likely to want

[5:22] to do that so if you are going to get

[5:27] friends and family or outside people to

[5:30] invest in your prototype then you

[5:33] definitely want to make sure that you

[5:35] raise enough and so you'll have to

[5:36] figure out how much your prototype is

[5:38] going to roughly cost and then probably

[5:41] triple it because it's never going to be

[5:43] as low as you think it

[5:45] is uh you might think you need one or

[5:48] two prototypes chances are that you go

[5:52] through five maybe six iterations until

[5:55] you have a fully manufacturable product

[5:59] and then then that is what you want to

[6:02] go to Kickstarter with you want to then

[6:08] raise money on a product that you can

[6:10] show that you can deliver because it's

[6:12] far enough along and we'll get into a

[6:15] whole another episode on Kickstarter

[6:17] fundraising but Kickstarter is basically

[6:20] free marketing for your product and free

[6:25] money that you can use to finance your

[6:28] first m manufacturing

[6:30] round

[6:32] and that can then be an addition to

[6:36] additional Capital that you raise

[6:38] because as I'll get into the kickstarter

[6:41] episode however much money you're

[6:43] planning on raising in Kickstarter let's

[6:45] say it's a

[6:46] $100,000 30% of that is typically spent

[6:49] on advertising in order to make that

[6:51] product launch successful that

[6:54] Kickstarter campaign successful so you

[6:56] have to take that into account in terms

[6:58] of how much money you're trying to raise

[7:01] for your product for your initial seed

[7:04] round and then your uh round after that

[7:07] where you are going into your

[7:08] manufacturing

[7:10] so if you're doing a bigger project you

[7:13] might want to look at Angel Investing

[7:15] big projects that have really large

[7:18] returns let's say you're doing some

[7:19] software as a service and it can scale

[7:21] really well and you know there's a

[7:24] market need and you really think that

[7:25] the tech guys are going to really be all

[7:27] over this well then you can reach out to

[7:29] Angel Investors because they know that

[7:34] when they see a good idea and it makes

[7:36] sense they're willing to invest

[7:38] substantially more money up front in

[7:40] order to get 10x 100x return everyone

[7:44] wants a unicorn and if your product is

[7:48] something that's going to scale like

[7:50] that then they're going to be interested

[7:53] in it and then potentially give you

[7:56] money for that idea and that's where you

[7:57] really kind of want to go toward Angel

[7:59] Investors Angel Investors aren't going

[8:01] to be interested in typically the

[8:04] smaller value items hard good

[8:07] manufacturing is something they're

[8:09] typically not interested in unless again

[8:12] uh take case in point uh Nest Thermostat

[8:15] right it was a hard goods manufactured

[8:18] but it was the start of the internet of

[8:19] things which was really a ploy to get

[8:23] everyone's data so products hard

[8:27] products that are hard products by

[8:28] themselves

[8:29] like my my ski rack for example is not a

[8:32] great Angel investment platform because

[8:34] they're never going to 5x or 10x or 100x

[8:37] their investment but an internet of

[8:41] things product where they're collecting

[8:43] data and that data is sellable and worth

[8:46] a lot that they might be interested in

[8:49] for

[8:50] example so that'll differentiate then

[8:53] when you go to an angel investor or not

[8:56] and then what do you do with all of

[9:00] these Investments that you're getting or

[9:02] people who are joining your company and

[9:05] how do you split up Equity between

[9:07] people who are doing the hard work and

[9:09] the people who are investing one thing

[9:12] that I found and I really like this

[9:14] model is somebody put out what's called

[9:16] the slicing pie model and the slicing

[9:20] pie model if you go to slicing pie.com

[9:22] let me show you that here it is slicing

[9:26] pie.com

[9:27] it is a fair Equity split model up until

[9:32] you either go public or you have a major

[9:35] funding

[9:36] round and so the way it works and I'll

[9:39] use an example from my bike roller

[9:42] company if I can find it

[9:49] here here we

[9:51] go is the amount that each person owns

[9:56] is dependent on cash versus time cash is

[9:59] worth 4X and time is worth two and so

[10:04] this is because cash is far more at risk

[10:06] than people's time

[10:08] if you know you go to your Uncle Joe and

[10:11] he gives you 10 grand in order to invest

[10:13] in your company that 10 grand is real

[10:16] versus your time isn't really real

[10:20] because you can afford to lose it and

[10:24] so the way it works is you go in here

[10:27] and you set it up so here's char s and

[10:29] here's another person and another person

[10:32] and you put in based on the date the

[10:35] number of hours that they put in and so

[10:38] like then you go in here and you put

[10:40] your Aller rate so let's just say

[10:45] whatever it is $100,000 a

[10:47] year and then it would go through and it

[10:52] would uh say Okay $100 an

[10:57] hour times

[11:00] uh well it's technically $50 an hour

[11:02] times 2x which is 100 time so you get up

[11:07] to

[11:08] $1,500 and then this would be where you

[11:09] put in unreimbursed cash so you can see

[11:12] my 15 hours oops I'm not even showing

[11:15] you the right section sorry about that

[11:16] so here uh 15 hours *

[11:21] 100500 but cash unreimbursed cash is

[11:24] worth substantially more so here you

[11:27] have uh four $

[11:31] 47 which gets Forex and so actually this

[11:35] $400 is worth more than the time I 15

[11:37] hours I put in and then there's other

[11:40] sections

[11:41] that you can go through in terms of

[11:44] equipment and supplies you donate

[11:46] facilities intellectual property kind of

[11:50] like what you're bringing to the table

[11:51] in terms of you already had IP uh

[11:55] commissions and then all of this goes

[11:57] into the bottom and adds up up and then

[12:00] it goes into this chart basically that

[12:03] shows you year percent equity and so in

[12:08] general uh this makes it fair between

[12:11] all parties which is great because the

[12:14] last thing you want to have is people

[12:18] feeling jipped or cheated it used to be

[12:22] that you go into something with somebody

[12:25] and you say okay we're both going to

[12:27] program this app or we're both going to

[12:29] you know start this company but one

[12:31] person gets busy or they have a family

[12:33] and then if you had hardw written 50/50

[12:37] Equity split like we're both in this

[12:39] 50/50 then one person is going to

[12:43] definitely start taking advantage of the

[12:44] other person and that really isn't good

[12:47] for a company I've used this model now a

[12:51] few times and so for the crown roller

[12:54] and the banana bopper and my current

[12:58] company and even though I have had a

[13:01] bunch of external

[13:03] funding it keeps it fair and then when

[13:06] you go to dissolve a company later on

[13:08] and you go to split up the assets it

[13:10] makes it very easy to go through and

[13:14] figure out how much of each person gets

[13:17] a certain percentage of

[13:20] assets um and then you can divide it out

[13:23] and the same goes for losses when you're

[13:25] doing taxes every single year and you're

[13:27] writing off losses you can divide up the

[13:29] losses between each partner and then use

[13:33] that number when you're issuing k1s and

[13:36] taxes and things like that and I'll try

[13:37] and do some episodes on uh taxes and

[13:41] what it's you're going to expect when

[13:44] you go to file taxes at the end of the

[13:46] year based on if you're a sole

[13:47] proprietor or based on whether or not

[13:50] you've got a partner

[13:53] or bunch of partners because you've got

[13:55] a bunch of different investors one thing

[13:58] I will say say is when you're seeking

[14:01] funding it's nice to keep it

[14:04] small uh and within friends and family

[14:07] but if you're starting to actually do

[14:10] taxes for people amounts less than

[14:14] $110,000 start adding up in cost now you

[14:18] can file all your taxes yourself and do

[14:20] all your taxes yourself which saves a

[14:21] ton I do a lot of my own taxes um With a

[14:25] Little Help from an accountant and

[14:29] I do all the prep and then you know it

[14:32] gets filed

[14:33] inexpensively and uh really you know

[14:37] it's not too bad as long as you keep the

[14:38] number of investors low and it's better

[14:40] like I said to have higher dollar

[14:42] amounts um in order to not spend as much

[14:47] money and how much they gave you on

[14:49] having to file their taxes every year

[14:51] you wouldn't want to have them give you

[14:53] $100 and then you've got to spend $40

[14:56] every year in time and effort and filing

[15:00] fees giving them their K1 tax forms and

[15:02] whatnot that wouldn't be worth it um

[15:05] let's see here so I think that is

[15:07] basically it for initial funding it's

[15:11] it's not as hard as you think once you

[15:14] have prototypes and especially if you

[15:16] sell those prototypes um people will

[15:18] reach out to you if they think the

[15:20] product is good and want to invest in it

[15:23] uh you can also go to business

[15:25] competitions and get

[15:27] grants um or once you do a Kickstarter

[15:30] again people might want to reach out to

[15:32] you because they think your product is

[15:33] great and want to be a part of it but I

[15:36] definitely suggest following the slicing

[15:38] pie model of equity split as opposed to

[15:42] giving anybody fixed amounts of equity

[15:46] it is typically just a recipe for

[15:49] disaster all right well if you like this

[15:51] episode please like And subscribe and if

[15:55] you have any more questions write them

[15:58] in the comments and thanks and take care