Leverage Customer Capital First

If you’re still dreaming about raising outside capital for your business before you have any paying customers, I’ve got a nice big bucket of ice water to throw on you.  Wake up!  The cold reality is that investors aren’t interested in your business idea unless you can demonstrate that you’ve got customers who are actually willing to buy.  Before you try raising outside capital, you should focus on building your Customer Capital.

Customer capital is the value you create for your company and your idea by getting real customers to buy your product or service.  Let’s take a look at why customer capital is so important in the early stages of a business.

Paying customers validate business models

Even the most cynical investor will agree that a paying customer is the most powerful way to validate a business model.  Anyone can debate whether or not your business will make money when it’s still a bunch of wild ideas on a piece of paper, but few people can contest a steady stream of paying customers.  Finding a handful of paying customers early on will provide a firm foundation for the future value of your company.

In some cases it may be difficult to find a paying customer before a product or service is fully mature.  In this case getting a formal commitment (a Letter of Intent) or a contingent purchase order based upon meeting a customer’s conditions is a powerful first step.  Either way, demonstrating that a customer is willing to say “yes” and write a check goes a long way toward validating your business idea.

The value of a dollar earned

A dollar earned from a customer is worth twenty raised from an investor.  When raising capital you are really putting all that money to work so that in the end, the customer will pay for your product.  A paying customer alleviates that risk and capital and gets straight to the foundation for why you are running a business to begin with – to make money.  Not only does this offer a more direct impact on the value of your business, it also keeps you from diluting your equity position in your company.  

Netscape’s $4 billion “blunder”

Netscape Communications found an effective way to use customer capital in their heyday.  In a time when software companies were judged on the strength of their sales, Netscape did the unthinkable – they actually gave away their software for free.  While industry pundits laughed at their strategy Netscape ultimately had the last laugh.  They quickly developed a market share in the Web browser market of over 90%, launched one of the most successful IPO’s in history, and sold to AOL for nearly $4 billion, all based on the massive amounts of customer capital they raised.

While I’m not advocating giving your product away for free, it’s important to understand how Netscape leveraged their customer capital in a most ingenious way.  Consider how much it would have cost them to bring a paid version of their product to market and drive customer acquisition that way.  Now consider the cost to Netscape if another company had offered it for less (or for free!) or if they had not achieved market dominance at all.  In the end Netscape’s customer capital was so valuable that even after losing the browser wars to Microsoft’s Internet Explorer they were still able to sell the company to AOL for $4 billion.  

Flip the script

As you’re building your business, consider every  alternative to raising investment capital.  If you’re worried that a customer won’t buy your product for reasons that more money or a larger customer base would cure, consider offering them a discount or other incentive to do business with you.  The relative cost to acquire early customers might be nothing compared to the amount of time and equity it could cost you to raise outside capital.  Remember that, unlike customers, your outside investors will demand equity for their investment, and they don’t plan on giving it back!

Send in the Investors

If you’ve truly exhausted all possibilities to leverage your customer capital, then maybe it’s time to call in the outside capital.  Be certain, though, that if there’s any angle you’ve overlooked to drive the company without needing capital, your investors will be quick to point it out and question your resourcefulness in the process.  

Forcing your attention toward acquiring customers will not only uncover ways to increase the value of your business in the short term, it can also generate the cash flow you need to alleviate your investment capital needs.  Learn to leverage your customer capital and you can leave conversations with bankers and investors for your IPO!