How should we fund the growth of our company?

In an ideal world, my great aunt twice removed on my father’s side would have left me a nice parting gift of $20M on her way to meet St. Peter.  Of course, if she’d done this I might have been too busy attempting to become King of the Mountain in Aspen or, if Lori had her way, opening a string of soup kitchens, to ever think about starting a company.

Since this didn’t happen, we find ourselves 2 years into our self-funded to date company looking at our funding options for moving forward.  I love working with John since his strategic mind is always working to ensure we have multiple options for a future need long before we get to the point where the need is critical.  Our options right now are probably similar to most companies at our stage — proven ability to deliver product and land customers but not yet profitable. 

1.  We can continue to grow organically using our own money and/or debt to fund operations until we break even.  To do this we’ll need to continue to keep expenses low which means our ramp will be relatively long.

2.  We can pursue funding from traditional or not-so-traditional venture capital firms.  Traditional or not, a good VC firm will bring us assistance in growing our company professionally and a healthy, experienced outsider’s perspective on our plans.  John and I both appreciate and value the need for professional management, but we’re also both “entrepreneurial” at heart.  The right VC could help us.  On the downside, they’ll not only take equity, but even if they only acquire a minority ownership stake, the company will no longer be “ours.”

3.  We are fortunate to have several large, public companies expressing strong interest in working closely with us and in making a strategic investment in our company.  On the plus side here, they seem less interested in being involved in how we run our company than the VCs are.  On the downside, we’ve found that the corporate development teams in large companies seem to be more rigid than the VCs regarding valuation and percentage equity for their investment.  I guess this makes sense.  The VCs are more involved so they’re more willing to take a risk regarding the valuation and equity percentage.  Of course, they’re also thinking way ahead of us about B and C rounds of financing.

4.  A fourth option we could choose is to license our source (with a highly restrictive non-compete and IP protection agreement) to one of our prospective customers who would rather run our system in-house than in our hosted, SaaS model.  The revenue growth curve in any SaaS model is a long one.  A large one-time license fee from this customer (plus annual maintenance for new releases) would easily solve our funding needs for the next year or more.  In my earlier life selling COTS enterprise software, this would be our no-brainer choice.  The downside is that even a large upfront payment for a source code license from this customer would be significantly less than they would pay us in our normal model over a 5 year relationship.  This is compounded even more in our case since software license/subscription fees is not where we make our money.  Our model is to give access to our software for free in return for processing insurance premium payments on behalf of our customers.  If we give this customer our source so they can run our system in-house, we’ll likely never get their premium processing business.

5.  Our last option is an angel investor.  I’ve been surprised how easy it is to find wealthy individuals who like to do angel investing.  I’ve also found that there is no real rule here — some like to be very involved; some don’t want to be involved at all.  In some ways angels are like VCs on a smaller and perhaps less formal scale, though “cash on cash return” is a question we’ve gotten often from potential angel investors, but we’ve yet to have a VC ask us this.  The biggest drawback for us where angels are concerned right now is that most of them want to invest somewhere between $25K and $500K.  I’m sure there are angels out there with really big pockets who will go higher, but they’re a little harder to find.  At this stage in our growth, if we only take $500K it might as well be from a loan with no loss of equity.

So, we’re actively working all of these options right now except for the angel option.  If anyone has personal experience or advice, I’m all ears.