Business Investors Article

What Investors Look for in a Business Investment – Attracting Angel Investors and Venture Capital

You have developed your Business Plan, Marketing Plan and Strategic Plan, and now you are ready to approach Investors about funding your Company. But before doing so, it is important to know what the Investor is looking for and understand the Investor’s perspective. This article lists a host of variables an Investor considers when looking at a business investment opportunity.

1. Market Driven Company: Market, Sales and Profits are more important than the Technical and Technological aspects.

a. Short payback Period.

b. User’s Benefit more important than Product Innovation.

c. More importance placed on Market-Driven verses Technology-Driven.

d. Market Penetration: If an Investor is convinced by your Marketing Research and Penetration Strategy then he or she sees your Financial Projections as Realistic and Achievable.

2. Your Business Plan should show How and When Investors can Cash In (Exit Strategy).

3. Investors are typically satisfied when Ventures reach 50% of their Financial Goals.

4. In general, Investors are looking for a Return on Investment in the 40-60% range, dependent on Risk and other variable determinants.

5. Investors manage risk by looking at the Management Team and Product Status.

a. A fully developed Product and proven Management Team should yield a Return on Investment in the 35-40% range.

b. Incomplete Products and Unproven Management Team should yield a Return on Investment of about 60%.

6. Investors calculate the Value of a Business at the Five Year Mark to determine what equity stake percentage will yield their expected Return.

a. Example Scenario: Developed Company

i. Developed Company projected to yield a 35% Return on Investment per year.

ii. Investors want 4.5 times their investment over five years.

iii. In Five Years the Company has $20 Million in Revenue with a Net Profit of $1.5 Million.

iv .Assume 10 times earnings: Company would be worth $15 Million in Five Years.

v. Company wants $1 Million in Venture Capital, so the Company should grow to 4.5 Million in Five Years to satisfy Investors.

vi. Company is worth $15 Million in Five Years, so Investors would require an Equity Stake of 33%, before Inflation.

b. Example Scenario: Undeveloped Company

i. Return on Investment Outlook of 60%, you will need a Net Profit of $15 Million in Five Years.

7. Companies with an Accepted Product, in a Proven Market, with Competent and Experienced Management, win the Investment Funds at the Lowest Cost.

8. Traditionally, Investors Gauge Performance by looking at Financial Projections compared to Performance, but they more often look at Management’s Milestones (Strategic Plan), Achievement Success and Adaption as the Process to determine whether and how much to fund the next stage in a Company’s Growth.

9. The Entrepreneur (Founders) must be Reliable and Driven. A Successful Track Record and Experience are Key.

10. The Entrepreneur should know his or her Money Needs at specific time intervals. Set up a schedule to track Progress with the Venture Capitalist so it will coincide with your Funding Needs.

11. Look at ways you can Reduce and Mitigate an Investor’s Risk.

12. Demonstrate your Credibility to an Investor by using a Network of Influential Mentors and Contacts.

13. Use a Combination of Debt & Equity Finance (see our Article on Financing a Small Business) with Investors.

a. Venture Capital Firm receives part of their funds in interest payments, which are Tax Deductible to them.

i. VC recovers Tax-Free Cash when the Loan Principal is repaid.

b. Convertible & Preferred Debt provides easy Liquidation.

14. Be Prepared for Investors Questions when you present your Opportunity.

a. Review your Business Plan Questions for possible Investors Questions (please see our Business Plan Workbook for a list of Business Plan Questions).

b. Know your Product Development Plan, Marketing Plan and Strategic Plan cold.

c. Answer these Five Key Questions about the opportunity before the meeting:

i. Why is this a viable opportunity?

ii. Why I am doing this venture?

iii. Who I talked to in a similar business?

iv. Have I tried out the Product or Service in the Market?

v. Has my Plan been critiqued by Accountants, Attorneys, Bankers, Consultants, Key Business Influences, Business Mentors and other Professionals?

d. From the VC Insider Section of the January ’09 Entrepreneur Magazine, Venture Capitalist, Brad Feld, has an Article, “Perfect your Pitch”, which lists eight common mistakes entrepreneurs make when pitching for Venture Capital:

i. Not Knowing Your Audience: Understand the Venture Capitalist’ niche areas of investment.

ii. Asking the VC to Sign an NDA: And we quote Brad Feld directly on this one: a Non-Disclosure Agreement “is a stupid idea perpetuated by lawyers.” Most VCs won’t sign an NDA so why try?

iii. Sending a 74 page Business Plan in the mail: Instead send a short email directly to the Venture Capitalist, personalized to him and his firm, introducing yourself and your Company. Send him a 3 page Executive Summary and a 2 page Investor Overview if the VC shows an interest to your initial email. The VC will let you know the steps and info needed from that point on. For a detailed explanation on VC Funding, please see the following ABC Business Consulting’s articles:

The Investor Overview

Funding Sources for Your Business

How to Analyze Business Funding Sources & Strategies

vi. Spamming 150 Venture Capitalists with a “Dear Sir” Email: This is the kiss of death. Don’t shop your deal; personalize your email; and do proper research, only targeting 1-3 strongly matched VCs at a time. Please refer to ABC Business Consulting’s article on Funding Sources for your Business for more detailed information on implementing a VC Funding Initiative.

vii. Name-Dropping other Venture Capitalists: This will result in an unsuccessful contact. Let the VC lead, and he/she will ask you who else has looked at your deal, and who else maybe potentially interested. VCs by their nature aren’t impressed with name dropping or pressure tactics. However, it is good business to use other Venture Capital Firms to refer you to a VC which they feel will fit well with your opportunity. The best referral you can get is VC to VC. Please refer to ABC Business Consulting’s Business Planning Guide for tips on how to leverage a “no” from one VC into a “yes” from another.

viii. Listing 27 Advisors but only one Co-Founder: And we quote Mr. Feld again, “advisory boards, especially at the very early stages of a company, are generally useless”. We can’t argue this point. Strategically placed, highly engaged Advisors, numbering 3 to 5, is much more credible than having a bunch of well-known names that have little to do with your business.

ix. Using the Wrong Materials at the Wrong Stages: As Business Consultants, we preach this to clients all the time. It is important to have an “arsenal of presentation materials to go. However, dumping it all on the Venture Capitalist with one big thud is rarely effective”, says Mr. Feld. We suggest clients have:

• Executive Summaries: (one long; one short)
• Investment Overview
• Funding Business Plan
• Comprehensive Business Plan
• Due Diligence Package
• Product/ Service Demo
• Power Point Presentation
• Marketing Plan
• Strategic Plan
• Loan Package

While it is important to have all these documents prepared and ready to go, you should always proceed slowly and provide the VC what he/she wants, when asked. VC likes to have access initially (upon request) to a Demo or Power Point Presentation, reviewing it at his option and talking with the Entrepreneur, rather than being aggressively pitched. It is important to keep two key things in mind when sending VC information on your Company:

1. Let the VC lead and tell you what he or she prefers.

2. Customize all your materials to the particular VC’s objectives, background, history, track record, current portfolio, outlook, etc.

x. Thinking There are Rules that Apply to all Situation: As Venture Capitalist, Brad Feld, says “…tune your approach to each Venture Capitalist.” Research and a well developed Financial Strategy customized for each VC is critically important.

We hope this article about an Investor’s Objectives, Expectations and Perspectives identified areas you should shore up prior to approaching and negotiating with a Venture Capitalist. As a recap, you should concentrate on these key areas:

• Accepted, Developed Product or Service
• Proven Market
• Experienced Management Tram
• Track Record
• Realistic, Believable, Well Supported Financial Projections

When researching Venture Capital Firms, be sure to find one that will bring valuable connections, experience and resources in your Industry. Venture Capital isn’t just about investment of monies in your Company, but also a potential, valuable resource to tap for your Company’s Future Success.