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Deep Dive: Understand "Onion Theory Of Risk" To Raise Fund For Your Startup
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Marc Andreessen: Understand "Onion Theory Of Risk" To Raise Funding For Your Startup
Only 1% of founders successfully raise venture capital funding while 99% struggle, you know - what’s the one-line difference between the two of them?
Well, it all boils down to understanding the relationship between risk and cash. You see, those savvy 1% founders get it – they truly grasp how risk and cash flow intertwine. This understanding gives them the edge when pitching their startups to investors.
Picture it like this: they know the ropes, they speak the investor language, and they get the funding they need & 99% of founders failed to get this!
So, what’s this risk-return relationship about and how can it help to raise VC Funding?
So - the single biggest thing that most entrepreneurs are missing is both -
in fundraising and in running their startups is the relationship between risk and cash.
99% of founders often overlook the relationship between risk & raising cash and then the relationship between risk & spending cash.
If you are aware of the theory called Onion Theory Of Risk by Andy Rachleff, it says that -
as a startup (especially before Seed funding), you are just layer upon layer of risk. Even after you get your first round of funding, it’s not the money that makes those risks go away, it’s what you do with it.
Source: Google Images
So initially - You can think of a startup as having every conceivable kind of risk.
Risks like -
Founding Team Risks: Whether the founders will be able to work together effectively.
Product Risk: Can the team build the product?
Technical Risk: Suppose you need a machine learning breakthrough or something similar. Will you have something to make it work, or will you be able to achieve that?
Launch Risk: Will the launch go well?
Market Acceptance Risk: Will customers accept your product?
Revenue Risk/Cost of Sales Risk: Will a sales force be able to sell the product for enough money to cover the cost of sales?
If you have a startup in the consumer product space then - viral growth risk.
So a startup at the very beginning is just a long list of risks.
So - What only 1% of founders accomplish is peeling away each layer of risk from the initial fundraising round; where 99% fail to achieve this.
How Does This Work?
With each funding round, such as a seed round, as a founder, you can attempt to peel away the layers of risks, such as the founding team risk, the product risk, and perhaps the initial launch risk.
Again - if you are raising the Series A round, try to peel away the next level of product risk, maybe you can peel away some of the recruiting risk as you get your full engineering team built. Maybe you peel away some of your customer risk because you get your first five customers….
So the way you can think about it is, that you are peeling away risk as you go, you are peeling away your risk by achieving milestones.
As you achieve milestones, you are both making progress in your business and you are justifying raising more capital.
How Can You Pitch To Investors With This Edge?
If you are raising the pre-seed / seed (first funding round) - you can say that -
“With the amount of personal investment or from family friends - I have achieved the milestones and eliminated these risks. Now I am raising Seed round - Here are my milestones, here are my risks, and by the time I go to raise series A round here is the state I will be in.”
Then you can calibrate the amount of money you raise and spend to the risks that you are pulling out of the business.
You might be thinking that - everyone knows this but this is not true - 99% of founders failed to think systematically about how the money gets raised deployed and pitched to investors.
That’s why - 1% of founders stand to differ from the rest founders. They understand the risk and cash (raised & spent) relationship and use it in a systematic way to express to the investors.
That’s it!
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The Unicorn Startups Are Becoming Zombies At Pace.
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