Decoding Startup Funding: The Art & Science Behind Determining Your Raise

How Much Money Should You Raise for Your Startup? Insights on Financial Modeling and Fundraising

When launching a startup, one of the most critical aspects is determining how much capital to raise. On this week's pod episode I'm joined by Phuong to dive deep into the financial mechanics every founder must understand to answer that question.

What Should Your Fundraising Milestone Be?

Before diving into numbers, the first thing founders need to establish is their fundraising milestone. Your milestone should focus on de-risking your business. But what does this mean in practice?

1. Understand Your Stage: Depending on the stage of your startup, the milestone might vary. For a pre-revenue startup, your goal could be to complete product development or launch a beta. For startups with initial revenue, it could be hitting a specific revenue target, or showing proof of product-market fit. Your milestone should align with what makes your business more attractive to future investors.
2. Time Your Fundraising Correctly: Your milestone should reflect significant traction that makes future investors eager to invest. Typically, startups should raise enough money to sustain themselves for 18 to 24 months, with 12 to 18 months for building the milestone and a 6-month buffer to secure the next round of funding.
3. Adapt to Your Industry: The definition of key milestones will differ depending on your industry. For example, software startups can often show progress through launching new features and expanding user acquisition strategies, while other sectors may focus on regulatory approvals or expanding to new markets.

Why Is Financial Modeling Crucial in Fundraising?

Building a robust operating model will guide you to the right fundraising amount. Here’s how it works:

What Is an Operating Model?

An operating model is a simplified projection of your business’s monthly cash flow, covering 60 months (5 years). This model will showcase:

• Revenue: How much money you expect to bring in, broken down by factors like the number of salespeople, conversion rates, and average deal size.
• Expenses: Including both direct costs (COGS) and operational expenses (OPEX) like salaries, marketing, and rent.
• EBITDA: Earnings before interest, taxes, depreciation, and amortization.
• Cash Flow: How your ending bank balance changes month by month.

This model helps founders see how decisions about hiring, marketing, and sales efforts will affect both the company’s cash runway and overall growth. In essence, your financial model becomes your business plan, providing clarity and transparency for both you and potential investors.

Why You Should Build a Detailed Model

Creating a detailed financial model allows you to:

• Forecast how long your cash will last.
• Understand how operational decisions (like hiring or marketing investments) impact cash needs.
• Identify when you need to raise more money.

Additionally, this type of model enables discussions with investors. They can scrutinize your assumptions—such as conversion rates or cost of customer acquisition—and provide feedback on your strategy. This alignment is crucial to ensure long-term partnership success with investors.

What Are the Common Pitfalls in Building an Operating Model?

While building an operating model might sound straightforward, there are common mistakes that founders make:

1. Overestimating Growth

Many founders are overly optimistic about how fast they’ll reach product-market fit or how quickly their revenue will grow post-launch. In reality, growth often takes longer, and it’s rarely a smooth, upward trajectory. Underestimating this can result in cash burn without achieving the necessary traction for the next funding round.

2. Not Accounting for Contingencies

Unexpected challenges are inevitable. From delayed product development to marketing campaigns that don’t deliver as expected, founders need to leave room in their models for things to go wrong. Build in a cushion for unexpected costs or missed projections.

3. Underestimating Costs

There are numerous hidden expenses that founders might overlook—legal fees, software tools, and other operational overheads can quickly add up. To safeguard against this, Mark suggests building in a 10% cost buffer for “miscellaneous” expenses.

How Do You Balance Fundraising and Dilution?

A recurring theme throughout the discussion is the balance between raising enough money and minimizing dilution. Raising too much in one round can lead to over-dilution, where founders lose excessive equity. On the flip side, raising too little can lead to an inefficient use of capital or even failure to hit critical milestones, making it harder to raise future rounds.

Should You Raise as Much as Possible?

Not necessarily. When founders raise large amounts of money upfront, they often end up spending inefficiently, which might lead to additional funding needs before reaching key milestones. Founders should focus on raising the amount they can effectively deploy over 18 to 24 months without diluting themselves unnecessarily.

How Do You Decide on the Amount to Raise?

The amount you raise should be based on your operating model and future growth plans. But how do you calculate the exact number? Here are a few key factors:

1. Milestones

Start by determining what you need to achieve between now and your next fundraising round. This might include hitting product milestones, achieving a certain level of revenue, or expanding into new markets.

2. Cash Flow Projections

Use your operating model to estimate how much cash you’ll need to meet these milestones. Remember to account for operational costs like salaries, marketing, and technology investments, as well as a buffer for unforeseen expenses.

3. Length of Runway

Ensure that you have enough runway to reach your milestones, ideally giving yourself 12 to 18 months to reach those goals and 6 months as a buffer to secure additional funding.

FAQs About Fundraising and Financial Modeling

How much runway should a startup have when raising funds?
Most experts recommend having at least 18 to 24 months of runway. This includes 12 to 18 months to hit your milestones and 6 months to secure the next round of funding.

How do I avoid over-dilution?
Raise only what you need to achieve your next set of milestones. Avoid taking more money than you can effectively deploy in 18 to 24 months, as this leads to unnecessary dilution and inefficient use of capital.

What are the key milestones investors look for?
Key milestones vary depending on the stage of your company. They could include product development, revenue growth, hitting product-market fit, or regulatory approvals, depending on the nature of your business.

How do I ensure my financial model is realistic?
Be conservative with your growth assumptions, account for contingencies, and overestimate expenses while underestimating revenue. Having a realistic model will give you credibility with investors.

Ready to Learn More?

For more insights on navigating the startup world and raising capital, check out more podcasts and posts on our blog. And if you're looking for hands-on support to scale your business, consider joining Interplay’s Incubator, where we provide tailored mentorship and resources to help startups grow.