Our firm spends a lot of time working with entrepreneurs to define “accretion points”. Essentially, these are moments in time where an accomplishment or a set of accomplishments make it obvious to everyone that the company is worth much more than it was prior to achieving these things. Our fundraising strategy for early stage companies is often defined by accretion points.

If you plan to raise funds in multiple traunches it is critically important that you raise enough money to get past one or more accretion points. If you do not, you may find yourself in a position where it is not clear that the company is more valuable than it was when you first took investment. Your prior investors will be unhappy and future investors may doubt your ability to deliver on the next set of promises.

So, what are the best accretion points to focus on? It turns out that you can define a lot of things as progress: finished product, key personnel additions, initial customers, etc. If your plan is to take a number of small investment rounds you might set these kinds of objectives together with investors.

However, I recommend that you spend time understanding what institutional investors consider the most important accretion point. I suggest you do this regardless of whether or not you intend to raise institutional capital as it turns out that this measure is a great turning point in your business which you should be aware of for a number of reasons. Whether or not they express it in this manner, institutional investors are looking for evidence that your basic business model “works” so that their capital will primarily be used to fuel growth (as opposed to proving out key assumptions).

If you have proven that your business model works on a small scale then you have accomplished a great deal across a number of disciplines. Here are some indicators that you have “proof”:

• Third party customers are buying your product through “normal” sales process and paying “normal” prices. In other words, these aren’t beta customers and aren’t otherwise related to you or your company. They found the product in the manner you expect others will find it and they bought the product at the price you expect to offer it.
• The “contribution” on the product sale is attractive. It is important to distinguish contribution from gross margin as you should understand whether an individual sale makes sense after allocating all COGS, sales commissions, other costs associated with customer acquisition and some allocation of time and resources for ongoing support. Only after you cover these “direct” costs can you begin to start covering your overhead in the business.
• You can describe exactly how you would use additional funds to scale the business profitably based on prior experience. For example, “Based on our experience over the past 3 months it costs us $XX to generate a lead via our various lead generation methodologies. Our lead conversion rate is 10%. Thus our total cost to convert a lead is $YY. With $1mm we would generate an additional ZZ leads and AA sales. Based on our contribution margin of $BB and the attached plan to scale operations, we expect to reach break-even within one year”.

The most common mistake that entrepreneurs make in modeling their likely performance is underestimating the sales cycle and the cost of customer acquisition. If you can “crack the code” on exactly how much you need to spend to attract and close a customer you will have gone a very long way toward proving that your business model works.

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