Startup businesses have a lot going for them; they are cool, exciting and if you get it right then they can be very lucrative indeed. But the key phrase there is ‘if you get it right’ and it is important to make sure you do your homework before you take the plunge and join a startup.
In this article, we’re looking at some of the obvious (and not so obvious) questions you should ask before signing up or handing over any money.
- What role will you be working in?
- Who owns the shares?
- How much funding do they have?
- What is their fundraising plan?
- What happens if they don’t get the money?
- What happens when they do?
- What is the development roadmap?
- What is the business model?
- What is the exit plan?
- What is the company’s mission and vision?
What role will you be working in?
When you are first asked to get involved with a startup you need to identify what you are actually being asked to do.
- Will you be an employee on standard terms and conditions?
- Will you be an employee but with a share participation scheme of some sort?
- Will you be a director with shares?
- Or are you being asked to be a business angel?
All of these things are very different, not only in what you are expected to do but also what level of legal risk you are running.
For example, an employee with no share participation is risking nothing if the business goes under and has little or no legal responsibility (other than paying their bills until they find another job). However, when the business is eventually sold, they won’t take a piece of the pie.
Contrast this with the position of a director who may own shares and thus have the risk of losing money if there is a bankruptcy, but also bears a lot of legal responsibility for what goes on in the organisation.
Understanding what exactly they are asking of you is a really important first step.
Who owns the shares?
The shareholders of a business are the owners. People can be directors of a business and run it, but they are not necessarily the owners. So, you want to know who actually owns the business and what the shareholding split is.
An illustration here is a company that has a simple share structure with 100% of the shares owned by one or more founders. The business is likely to be run by the team for the benefit of the business, building something exciting and innovative.
Contrast that with a business that has a complicated share structure of professional investors who appoint directors who run it on their behalf. Will the latter business be the sort of company you want to be involved with?
Think also about the shareholders. Are they the kind of people you can see yourself working for or going into business with? Incidentally, gut feeling is a really useful test here. If it doesn’t ‘feel’ right, then walk away.
How much funding do they have?
A companion question here is what their cash burn will be. If you know how much money the company has in the bank, and you know how quickly they are going through it, then you can work out how quickly they will need to raise money or alternatively return to a cash positive state.
Now remember that raising money isn’t a bad thing, most startups do it and it is a part of everyday startup life. If not, then they may well be planning where to raise it.
The real question you are asking here is if they have a grasp on the finances.
That is, are they regularly reviewing their financial reporting, and taking appropriate action to manage the company? It is fair for people not to tell you information that is commercially sensitive in early meetings, but later on (especially if you are buying shares) then this should change. If you get woolly or evasive answers, or if they flat out refuse to say, then it’s fair to say something may not be right.
What is their fundraising plan?
They say that they need money in six months’ time. What is their plan to get it?
- Do they have tame funders that have promised extra funds based on performance?
- Are they raising across a range of sources?
- Do they expect to start receiving income from sales?
It’s not a crime to need to borrow money as a startup, but it’s unforgivable not to have a plan.
What happens if they don’t get the money?
Every business should have a contingency for when things don’t go as they expect. A relatively recent experience of this is the financial crash of 2008/10.
Many good startups went to the wall because the money lending stopped while the dust settled. The brilliant startups survived because they already had a plan for if things didn’t work out as they hoped.
What happens when they do?
The big question here is what difference does new money make to the organisation? What you are looking to see is that they are wanting to use new money to invest in the service, build a sales pipeline, or make sure the back office is robust.
What you don’t want to see is directors ordering new cars or buying funky sleep pods and table football for their ultra-modern office. Fundraising has a purpose, reinvestment is different.
What is the development roadmap?
The startup has a great idea, and it has a minimum viable product that it is about to launch – what then? How will the company develop, both from a technical point of view and from a business standpoint?
Again, it is not a crime to know that your business needs to get new accounting software or has work to do on the customer pipeline. If the directors tell you all the things that are wrong but have a plan to fix them, then that’s a big plus point. No plan for development is a red flag.
What is the business model?
How does the business actually work in real life? You’ve developed the best HR system in the history of the world ever – how do you get it in front of customers?
- Do you charge a subscription or onetime payment?
- Do you need to keep bringing in support staff to manage an ever-expanding user base?
- Do you know the unique selling points of the business?
This is the time to get right under the hood and really understand what makes the business tick.
What is the exit plan?
Most startups begin life with a vague exit plan. Maybe they will sell to a larger competitor, maybe they will do an IPO. Some business owners even negotiate a position for themselves in the new structure as part of selling the company. As the company grows the exit plan should start to take shape.
There’s a good reason for this and it is because there will be things you do on a day-to-day basis that makes the exit easier and more profitable.
And, whilst we are speaking about profit, will any of that money be coming your way? If the directors are full of promises about how much they think you’ll get, then make sure they put it in writing.
What is the company’s mission and vision?
And last but by no means least we come to mission and vision. Does the startup’s mission agree with your view of the world or your ambition?
If you are dedicated to alleviating Third-World poverty and you have found a company that is dedicated to producing drones that will help farmers grow more crops, then bingo!
If you are contacted by a business that is busy mining minerals in the Congo, then that might not be for you.
Working in a startup often means working long hours for less pay than at a normal company so it needs to be towards something that you truly believe in.
Startups can be fun, but they can be difficult too
Startups can be amazing. In our opinion everyone should work in one at some time during their career.
But you shouldn’t go into it with closed eyes. There can be difficulties and sometimes that can make the decision to join a startup just the beginning of a nightmare.
Don’t think that you are necessarily going to be able to find the perfect berth straight away either. As the saying goes, you have to kiss a lot of frogs.
Using our questions, you’ll be able to poke around under the hood a little and find out whether your proposed startup venture is a frog or a prince!
Find more help and advice for start-up businesses in our online hub, and find answers to tax questions to help you get started.