Mentor, alongside the founders, from an idea to the startup

An introduction on the validation of a startup starting from an idea

How can you transform a business idea into a startup? Let’s talk to a startup mentor.

Let’s meet the mentor Marcello Marzano of Studio Emme Emme!

Interview with the mentor Marcello Marzano, CPA and Auditor with a solid experience of over 15 years gained in the business, initially as an auditor in Big4, and subsequently in roles of increasing responsibility in Finance and Control, and later as a financial, tax and corporate consultant.

Marcello is also teaching and has published several articles and he is currently CPA for Studio Emme Emme, Associate Partner at YourCFO, as well as mentor and Associate Partner at Grownnectia and other leading incubators and accelerators on the Italian scene.

Hi Marcello, considering your experience as mentor, let’s talk about startups and we want to ask you right away, out of curiosity, what is your favorite definition of startup and why?

My favorite is certainly Steve Blank’s one: “A startup is a temporary organization managed to identify a repeatable and scalable business model.” I like it because in just 15 words it expresses the very essence of startups: a temporary venture, as a startup clearly represents a transition phase, a trial in search for a business model, and it keeps trying out until it finds it.

You are mentor of various business incubators, you see many startup founders and aspiring ones, so we would like to ask you when to switch from an idea to a startup?

If by startup we mean the moment in which we decide to get serious, surely it is necessary to move from a simple idea to a startup after having done a minimum of validation work, because without that the risks are too high.

I always recommend using as much as possible lean methods, in order to check at low cost if what seems to us a good idea, it really has room to grow.

When does a startup have a space in the “Blue Ocean”?

In the Blue Ocean strategy, the key focus is innovation, it must be at the centre of the startup’s initial efforts. Without a new product the startup will not be able to create a new market.

The important thing is the new product does not necessarily have to involve a new technology, as one would immediately think. Actually, as you can see from successful examples, it is also possible to apply existing technologies in a new context, thus creating innovation. There is a procedure for creating innovations that has proved particularly promising: modifying an existing product to win over even people who had not shown interest in the original one.

In your opinion, as mentor, the ecosystem of Italian startups has improved in recent years and how is it today compared other European countries’ one? Is there still a gap and why? Are Italian startups capable of attracting capital from abroad and why?

I see great excitement if we think that, despite the dramatic situation of 2020 caused by the COVID-19 pandemic, Italian startups have raised 569 million euros from venture capital, as emerges from the EY Venture Capital Barometer 2020 – Italy

The other interesting data from that same report concerns the number of transactions which in 2020 were 111 with a decrease of 37% compared to 175 transactions in 2019: therefore, fewer transactions but more structured with an increase in the average investment ticket, from € 2.1 million recorded in 2019 to € 5.1 million in 2020!

Italian startups can attract capital from abroad: just consider that the investment round of € 93m completed by Satispay saw the participation of international investors such as Tencent, Square, LGT Lightstone. I think this is a sign of the maturity the ecosystem is beginning to have.

Which sectors do you think aspiring Italian startup founders should focus on and why?

An industry in which I am getting interested in at present and has a great potential, is Agri-tech: precision agriculture, remote monitoring of agricultural machinery and equipment, ERPs and big data.

As it emerges from the data of the Smart Agri-food Observatory of Politecnico di Milano Business School, agriculture is a market in which innovation in 2020 proved to be stronger than the pandemic: 4.0 agriculture market, i.e., technological solutions for agriculture, achieved a turnover of 540 million euros with a 20% growth compared to the previous year!

If we consider the trend has turned out to be even stronger worldwide with a global turnover of agricultural technologies estimated at 13.7 billion dollars, up 76% compared to 2019, I believe there are spaces from blue ocean for those who want to find innovative solutions in agriculture.

Let us talk about startups in the pre-seed phase and the most suitable capital raising in this phase: 3Fs and tenders. As a mentor, you recommend raising capital from Family, Friends & Fools, why? How to regulate the relationship with FFF?

Well, the 3Fs are also called the “love capital”, so when there is love there is everything. Joking apart, Family, Friends & Fools are a fundamental source for a startup, but they must be used with care because there is also the risk of ruining relationships. So, I always suggest making the risks clear to all stakeholders.

Can tenders and startup competitions be useful? How much time and energy give to those channels?

They are certainly some channels to be used in the early stages of the startup’s life because, especially some of these competitions, represent a way to be known. I do not recommend focusing on them as a real source of financing, given their uncertainty, but they should be used to boost the startup’s brand awareness.

Can subsidized loans represent a real means of livelihood and growth of the startup or do you need to find other sources, and why?

This tool certainly deserves a separate evaluation: for some sectors it is a mandatory step because it is possible to raise capital for R&D expenses that, otherwise, startups would have to fund.

What I always suggest to startups is reading the tender carefully and thinking immediately about the financial implications of the project, which will certainly require an initial funding to start the business, as many tenders do not provide an advance for covering expenses.

Nowadays, we keep hearing about equity crowdfunding and the phenomenon is growing, but is it really for everyone? Are there any risks and problems behind equity crowdfunding? What are they?

Equity crowdfunding is a marathon: you need to prepare properly otherwise you risk getting hurt.

Believing that any startup can venture into an equity crowdfunding campaign means not having understood how it works. First, as it is necessary to allocate resources for a communication campaign that should start weeks before the real start of the capital raising.

Secondly, to the communication budget you need to add up a budget for setting up, from a corporate point of view, the share capital increase: ultimately, it is necessary to secure what is called pre-commitment, without which the campaign is surely doomed to fail.

The risk is a boomerang effect if the campaign does not reach the goal.

Let us talk about startups in the seed phase and the fundraising: how many shares should be sold at most in this phase to have an attractive cap table for future rounds? When should an investor consider that the cap table of a startup is no longer attractive and why?

In the seed phase, the injection of capital takes place while the startup just opened for business, i.e., after the company set-up but the commercial validity of the product or service it offers, is not yet known.

Obviously, in this phase the risk is similar to the pre-seed financing’s one and should the lender have good technical skills, he/she will try to obtain a significant share of the company. However, in any case, the shares sold should not exceed 10% on average, and maximum 25% of the total.

Let us talk about round A and cap table: how much does the founders have to dilute at this stage?

A round A assumes that the startup has found a product that is suitable for the market and that it has managed to develop a scalable and successful business model to be consider for this funding round. It is about convincing potential investors the startup is a business potentially profitable in the long-term.

The capital raised can be used to truly optimize the product/service; therefore, it is likely that more investors will be needed on board and one of them will take the role of lead investor: choosing the right one is essential, because at this stage we get to sell a ownership share between 20% and 35%.

We finish with the last question on the venture capital contract, i.e., the negotiation between the startup and the VC fund: how to choose whom to be assisted by in this phase and why? What should the startup pay attention to, in terms of valuation, governance, and legal obligations? Can you tell us which are the most insidious clauses in an agreement? We think of lock-up, liquidation preference, good / bad leaver, anti-dilution, drag along and tag along: do you have others to add?

In the negotiation phase, you should rely on a good lawyer and a good CFO, as they can really help in determining the right clauses to be included in the agreement and avoid the “power” of the funds.

I would certainly focus on adequate tag-along clauses, i.e., those clauses that bind the sale and the transfer of the company shares.

The main one is the “drag along” (also called “dragging”) which favours the majority shareholder, making the startup more attractive on the market as it allows a specific shareholder (usually the majority one) to sell not only its shareholding, but also the minority ones’, at the same economic terms contracted by him/her, thus guaranteeing the full control of the startup to the potential buyer and eliminating any unwanted shareholders from the future corporate cap table.

Read also the other interview with the mentor Marcello Marzano: Fractional Manager supports startups. We ask to an expert

If you are interested in knowing more about Grownnectia, read also: Incubator founded by Massimo Ciaglia with an exit in America , Incubator of Massimo Ciaglia: becoming a Leader in Europe, Incubator helps startup founders for investor day and Startup Events: “The Startup Academy” cannot be missed!