How startups raise money

Serial angel investor David Pattison explains the options for young businesses in this extract from his new book The Money Train
David Pattison

When young businesses are looking for investment the progression for fund raising would typically be, raise some very early money to establish the idea , raise some capital to get it going. Get some top up money to get to proof of concept and some revenue and then raise big funds to accelerate the business by volume/geography/product lines and more. Then a big raise to max out the company potential. These stages would typically be called: bootstrap funds, seed capital, interim top up, Series ‘A’ and Series ‘B’.

So on the face of it the investor market looks easy to understand and well ordered.

The truth is that there are a lot of nuances within the structure.

A seemingly unlikely investor fit can always make an exception because they really like your business; ‘we don’t normally invest at this level/in these markets/but we want to go with you’. Or a potential perfect investor really doesn’t like your business: ‘it’s too early/too late/wrong market/wrong price’, would be some of the words they might use.

As an aside the unlikely investor is usually just that and if they aren’t used to working with a business like yours then I would question whether they are the right partner.

Spending time understanding the market you are entering is never wasted. On a simplistic level the investor market falls into two sectors: the emotional and the rational. Understanding the crossover point is important in both the way you deal with those investors and what they expect from you.

The emotionals

The emotionals are easy to understand but the hardest to classify. In a nutshell it's almost always an individual investor. They come in a variety of forms: seed investors, angel investors and high net worth being the most regular descriptors. There are angel investor networks that are brought together into one fund by investment companies, but the investment is usually made up of individuals putting in identified amounts in their names. It’s their own personal money and that’s what makes it an emotional decision. Being seen to pick a winner is part of that decision.

There is one thing that unites almost all these groups and that is tax relief. There are a number of very well thought through government funded tax schemes that allow investors to reclaim some of their investment and, if it all goes wrong, they can then claim some or all of the losses against other gains and income. In their eyes, the major thing that you must do is to ensure that the company maintains its tax relief status.

At the very early-stage investment usually comes from people you know. They are generally described as seed investors. Either you and your partners know them, or as one corporate financier described them, they are ‘friends, families and fools’.

The demands are not usually very onerous and as well as tax relief, all they really want to do is to back someone they know, for you to remain in business long enough to return their money plus a bit at some stage in the future. They will normally agree to the slightly over optimistic valuation you have set. The shareholders agreement (if there is one) is usually simple and because you know everyone it is relatively easy to manage this group. They usually leave you to get on with it and are not very demanding. If it’s the ‘bank of family and friends’, then it's potentially even less demanding but probably even more emotional.

Angel investors and High Net Worth’s are pretty much the same thing. Tax relief is a big driver for these investors. They are normally people you don’t know but could be friends of friends or acquaintances. As mentioned earlier these investors are sometimes bought together by an Angel Network or non-institutional fund. They will want properly lawyered paperwork and will be more demanding than the seed investors.

There may well be a bit of bravado to prove what good negotiators they are. If you find yourself in a room full of them, as you often do with the networks or funds, it can be excruciating to watch them try and out ego each other.

However, if you find the right ones, they will be your most loyal supporters, your best ‘foul weather’ friends and will invest again, sometimes when others shy away.

The rationals

The rational investors are broadly the institutions. These are the Venture Capital investors, the Private Equity investors and a relatively new group called Growth Capital investors.

Rational because they are driven by the demands of the investor clients in their funds. These are almost always institutions, although there can sometimes be very wealthy individuals involved. The rational investors have targets that they are measured on and systems and processes that they adhere to.

It’s very difficult to generalise who does what in the rational world and it isn’t helped by the general media who take little interest in differentiating or paying attention to the detail. So, there are always blurred lines and exceptions.

Broadly, Venture Capital is interested if you are successful in generating revenue at a level sub £10 million but are not yet profitable. They would look to be making 5-10 x their money in 5-7 years. They will take more risk than Private Equity, hence the word venture.

Private Equity is interested when you are making over £1 million of EBITDA (profit) and look to be getting 3x their money in 3-5 years. There is a slight variation that sits largely in the Private Equity space. There are funds called Family Funds. They are exactly that. Funded, usually by one family and as a result they tend to work to slightly longer timelines. As an aside I have always found them well organised and professional to deal with.

Growth Capital sits somewhere in the middle. You are not making a profit, but you are growing at about 30% a year and probably need about £10 million+ of investment.

As I said, these are generalisations and there are other options that can offer investment. A Venture Capital Trust works broadly on the lines of Venture Capital but the investors into the fund are taking advantage of enhanced tax breaks. They also tend to have longer timelines as the funds don’t tend to have fixed exit dates. But you do have to be sure that all the criteria to keep the Venture Capital Trust tax efficient are always kept in place. It can be the case that if you lose the tax status then the whole fund, not just the investment in your business, loses tax status. And that is a very expensive mistake. Not just financially for the fund but reputationally as well. So, expect added scrutiny.

Where else can money come from?

This isn’t an exhaustive list but some of the sources are:


A lot of the big traditional corporates have venture arms that invest in early start-ups. By that I mean the huge global well-known corporate giants. They are on the rational spectrum.

They can look very tempting investors to you. The initial reaction is often ‘a customer base we can sell to’ or ‘market knowledge for free’ or ‘a leg up’.

But if you come to sell and they have a significant share, or they make up a large part of your client base then you can paint yourself into a corner. The only viable purchaser being the initial corporate investor. Not many competitors will want their main rival sitting around their board table. It doesn’t really lead to a competitive process and the price paid will reflect that.

The media have made some of the investments from the corporates look very attractive. With the headline stories of ‘xxxx tech company has paid $1billion for a start-up that doesn’t make a profit’. It happens but it's very rare.

Some of them have these funds so that they can look leading edge and cool. But they can be, not surprisingly, very corporate, and are rarely managed by anyone who understands the pressures of starting and running a young business.

As one finance consultant said to me: ’if a corporate is interested go and look at the Venture Capital market. I would take a 20% discount on valuation every day from a Venture Capital Fund versus a corporate’.

If it's a fund from a known entrepreneurial business, like the new tech giants, it is likely to have a different attitude but probably with the same level of scrutiny and desire for control.

Trade investors

Trade investors are rarely able to compete on valuation and tend not to want to take massive risk or large shareholdings. They are more likely to get involved early or be the purchaser at the end of the cycle.

It is very unpredictable money. Here in the good times and disappears in the bad times. Which is not good if you are looking for a second investment in the future. As one corporate finance adviser put it: ‘they have very short memories, so in long bull market runs they become active and then shutdown when their share price collapses in bear markets’.


There is a slight hybrid which is early stage and quite institutional and that is The Accelerators. They tend to put relatively small amounts into very young businesses and offer facilities and resources to these new companies. These facilities are normally paid for by the investment they make as well as charging you a monthly fee. So, if you are not careful you can end up paying all the money back for all the services and being part owned by an accelerator. A painful truth that many don’t realise until it's too late. There is also no guarantee that the next round of funding will arrive. To be fair they are usually linked to a lot of Angels and High Net Worth individuals and will do their best to introduce the next round of investors.

Accelerators work on the premise that a few will succeed big and pay for the ones that don’t, at the same time as charging everyone for everything on the way through. It’s a good business model for them but can be overwhelming, quickly, for you.

David Pattison: "As one finance consultant said to me: ’if a corporate is interested go and look at the Venture Capital market. I would take a 20% discount on valuation every day from a Venture Capital Fund versus a corporate’."

Crowd Funding

The final investment route I want to cover is crowd funding. This splits into two types: reward or equity crowd funding. And sometimes it can be both.

Most people think that reward crowdfunding is what crowdfunding is. This can be a very useful way of raising funds if your product or service is a thing that people can identify with and want to be part of. The ‘crowd’ invest money and get the product or service at a favourable rate. Sometimes that is the whole offer and sometimes there is some equity attached.

Equity crowdfunding is just that. The investor buys equity in a similar way to the standard investment routes, albeit usually at a lower funding level.

There are some well-established crowdfunding investment companies who can organise the whole process for you. It can be quite time consuming and not everybody gets funded. If what you have is recognisable to a wide audience that normally helps.

Two things to watch out for here: firstly, one founder told me that that by the time he had raised money through a crowdfunding site he had been charged close to 10% of the money in fees, Secondly, an institutional investor did warn me that having a crowd funder as an existing shareholder can lead to complications later down the line. Just because of the sheer number of shareholders.

But there are some very successful business examples from this route.

One major benefit can be that you are unlikely to have a dominant investor which should leave you to get on with it.

Communication is vital and you must beware the disaffected investor who has put in a relatively small amount of money but can make a lot of negative noise on social platforms.

Regional funders

There are regional, government backed funds that are driven by different criteria. I know of one fund that only looks to break even on its investments, but its success is measured by the number of jobs it creates in that region. There are many other regionally focussed funds that are about stimulating growth in their areas.

The rise of the diversity and social impact funds

Ethical funds and social impact funds are also on the increase. Whether they be focussed on gender, ethnic, environmental, or ethical lines.

The millennial generations are much more likely to care about where else the fund is investing. They may even seek out funds who specialise just in these areas. The more general funds are starting to be affected by these relatively new market entrants as prospective young businesses are increasingly interested in the ‘company they are keeping’ in the funds they are in.

An investor I know lost a deal to an ethical fund even though the deal was less good for the founders. As the investor said, ‘the young aren’t kidding when they say it's not just about the money’.

This is a trend that I believe will only get bigger.

Occasionally the really big players, typically hedge funds, get enamoured with the early stage, young business sector. They invest and often make mistakes and then pull their support overnight. They call it being decisive. My advice would be to give these investors a very wide berth.

One thing to know. One of the reasons that there is a growth in specialist funds (ethical/gender/ethnic would be examples) is that traditionally the investment market is very aggressive, and male dominated. They are, in the main, competitive, and macho. Like the rest of the world, it is being forced to change, but is changing very slowly. When dealing with them is be yourself, you don’t have to change yourself, but you must be prepared for this when you come into the market. It can be intimidating, uncomfortable and overwhelming if you aren’t ready for it.

That’s a quick dance through the main areas of the investment market. You will have noticed that there are a lot of options if you have decided you need to find some investment money.

There are a Lot of options and there is a lot of money around. But it's not easy raising money. Understanding the sector and how it operates will help prepare you for the journey.

David Pattison's The Money Train can be bought from bookshops and Amazon, including Kindle

Written by
December 3, 2021