1. Prepare a quality, informative business plan.
It is very rare that an entrepreneur gets anywhere without a well prepared, thoroughly researched, properly presented conventional business plan. The business plan is the ticket; without it you cannot get into the theater. It is a communication tool that informs the venture capitalist and potential investors of what they need to know and why you will be successful.
The business plan is the important first step for a variety of reasons. Most likely, investors will not be considering you and your company only for themselves, but rather for others whom they are representing. Don’t forget that even the “Captains of Venture Capital” have to report to someone—whether it be other partners, the managing partner, investors or other interested parties. Thus, your business plan (1) becomes the primary vehicle through which the investor demonstrates that he/she has acted in a fiduciary manner; (2) is the platform the investor uses to obtain the necessary “buy-in” from his or her partners and/or co-investors, and (3) is the basis for developing a mutual understanding of the business and a subsequent investment.
There are books, CDs and other media that provide guidance and examples for creating a well-structured business plan should contain: an executive summary of no more than three pages; and a detailed plan that explores relevant issues, measures a process to gauge success, and provides an analysis of competitive barriers. This second part should contain financial projections, a cash-flow analysis, income statements and balance sheets.
2. Do not deny the existence of competition and barriers.
Innovative ideas and well-executed business plans will not ensure success. In the real world, there are barriers that can often derail even the best-laid plans. Investors need to know who the competitors are, what barriers exist and how you will deal with them.
A competitive analysis and an understanding of the barriers should be detailed in the business plan. However, you should be prepared to discuss these barriers with your investors. Most professional investors, especially PIPE investors or venture capitalists, will evaluate your business and your ability to succeed more during private discussions than while reading your business plan. Be prepared for these or informal appraisals, face your investors truthfully and be honest in your assessment of the competition.
If your investors are professional venture capitalists or investment bankers, seek out their views. Frequently, they are experienced in your line of business and may already have seen how others overcome the barriers you face.
3. Manage the expectations of “seed” investors.
A seed investor is a person who puts p “getting started” or “early stage” money. Often entrepreneurs look to friends and family to provide this seed – usually an amount between $25,000 and $100,000. Seed investors, as a group, seldom invest more than $500,000. this seed money is meant to be enough to keep the entrepreneur going beyond his or her resources until venture or other investment money can be raised. Often, it represents some percentage of ownership of the start-up company.
Any company that grows to a substantial size will experience the financial restructurings, infusions of private placements, debt to equity swaps, PIPEs, IPO’s, etc. These are complicated financial transactions in which rights and ownership changes are negotiated and renegotiated. In far too many cases, unsophisticated seed investors – whether family or friends – get lost in the process. They often feel used, cheated and neglected. And, far too frequently, the situation gets unfriendly.
It is far better that your friends and family give or loan you (or your company) money without any open-ended expectations as to the value of the “investment.” Consider either borrowing seed money at a fixed interest rate or linking a pre-defined investment return to an objectively defined level of your business’ success. If you must use family or friend seed, you must manage their expectations: “Dear friend, you should not expect a pot of gold from this act of friendship.”
4. Identify and approach only professional investors who can help you.
If you have decided that professional investors or venture money is how you wish to proceed, you must be sure to approach only those who can help you. Pratt’s Guide to Venture Capital Sources presents over 500 pages of venture capital listings. Most venture capitalists cannot and will not invest in the large majority of companies that approach them.
The first rule is to look locally. The local venture capitalist is much more likely to be interested in your company than someone who is far away. Thereafter, professional or institutional investor generally invests pursuant to three distinguishing parameters:
1) Deal Size: Some institutional investors will only invest in deals valued over $10 million. Others will invest in deals valued at more than $100 million. And, still others will only invest in smaller deals. it is often fruitless to try to break the deal size criteria. Frequently, these criteria are imbedded in the fund’s charter, by laws or an investment agreement. The professional investors’ hands are tied.
2) Company Stage: There are professional investors that will only invest in early-stage or start-up companies – while some will only invest in profitable companies that need additional funds to grow. Others will only invest in second-round financings. Again, the fund’s legal documents often guide the investors with regard to acceptable investment criteria.
3) Industry Specialization: Venture capital is becoming increasingly specialized. A professional investor will almost never make an investment in a company or industry in which he or she is not an expert.
Don’t waste your or the investors valuable time unless your deal matches his or her investment criteria.
5. Recognize that experience is valuable and at times crucial to success.
Let’s assume that you have carefully chosen investment firm to whom you will present your brilliant ideas and great plans. Let’s also assume that you have identified and addressed the competition and that you have successfully outlined the reasons why you will succeed despite these barriers. These factors, although crucial to your business success and necessary to attract capital investors, may not be enough to pique the interest of most venture capitalists.
It is a general rule that a business is more likely to succeed and that you are likely to increase your chances of raising the funds you need if:
You or individuals on your team have been through successful venture capital deals before.
You have a management team experienced in the key attributes of your business—i.e., marketing, sales, finance and production.
You have good professional advisors, particularly an accountant and a lawyer, who practice in the venture capital arena.
You have and utilize the expertise of an experienced board of advisors.
You recognize that it is not the brilliance of your idea alone that creates success.
Businesses succeed through the efforts of experienced, well-trained owners and employees, and a willingness to build a team and infrastructure to support these people.
In addition, the existence of a prototype or working model of your business’ product or service can greatly increase your chances of attracting venture capital. Showing potential investors that you not only have a great idea, but that you can execute that idea in the real world places you far ahead of the many others with equally good ideas who are vying for the same capital and the same investors you wish to attract.
6. Never be unprepared.
The process of raising capital always takes time – both in the number of hours one must spend and in the length of time (days, weeks, months) it takes to close a deal. Normally, the early-stage entrepreneur spends 50% to 80% of his or her time attracting and raising venture capital, a process that often lasts for months. During that time, the entrepreneur must always be aware of the fact that we are functioning in a constant business environment. And, in the case of technology-focused companies, progress is even more rapid. You must always keep current with these changes and be prepared for issues that affect the potential success of your business or other competing businesses.
Be prepared to respond extemporaneously to any questions and objections your investors may raise with regard to changes in the marketplace, technology, or the general business arena. Be prepared to address new barriers and be sure you fully understand the implications they have to both your company and your competition. Your ability to verbally communicate these changes and explain how you will overcome them is as crucial to your ability to raise capital as the ability to speak public is to a politician!
7. Recognize all the benefits of working with Professional Investors.
Far too often, entrepreneurs look at professional investors only as sources of funding and fail to see the additional benefits a good investor can bring to the table. If an investor sensed that you regard him or her only as a money source, it decreases the likelihood that your company will be the one receiving the funding.
Venture capitalists are professional investors who have tremendous knowledge about your industry and business – they bring with them much more than just the capital they represent. They bring to the table “value added’ benefits such as: business contacts, past industry experience, the ability to coach and mentor, the relationship they will form with you as a friend and confidant, and their vision. And, they can also be a source for employees and/or other valuable business partners. It is important that you regard venture capitalists as assets well beyond their financial strength.
8. Respect the form, structure and legalities of the business world.
In far too many cases, venture capital deals die at the last minute – during final due diligence or in the last stages of legal filings – because something comes up that either delays the deal or changes its essence. In order to help you avoid such “deal-killer,” it is absolutely crucial that you have good lawyers, business advisors and accountants from the start. Consult with them on the form, structure, and legalities of your new company as well as the full implications of raising venture capital.
During this course of the deal, it is also imperative that you keep your investors informed. Unexpected surprises can be the most damaging threat to a smooth, functioning relationship between you and your professional investors. Recall that your investors will have fiduciary obligation to his or her co-investors, and that your participation in helping to fulfill that obligation is crucial to both your and your venture capitalist’s success.
By respecting the structure of the deal process – following all applicable rules and regulations, filing for necessary trademarks, preparing and reviewing all documents and contracts in the context of the financing – you can reduce the interference of non-substantive issues in the execution of the investment.
9. Never ever not run out of money.
Most people who seek to raise venture capital are fairly well focused on the fact that the money raised must last until the business becomes profitable or until the next round of capital. Few entrepreneurs focus on the fact that when a company is doing well the cash requirements for running the company increase considerably.
Cash planning in a successful venture is even more important than in an early stage business. Good quality projections, income statements, balance sheets and cash flows that are sensitive to the working capital requirements of different operating levels are the key to heading off the costly effects of cash shortage. As your business grows, so will its cash requirements. Plan for them and show your investors you’ve done so.
10. Win and enjoy winning.
Starting, growing and financing a business is grueling and difficult. At times, entrepreneurs fail in the process. it is our experience that those who keep a winning attitude and try to enjoy the process have a much greater chance of success than those who are negative. A positive outlook and an open mind encourage all those involved.
Raising venture capital and building a business is stimulating, interesting, and rewarding. Your attitude will, in many ways, shape your success.