Our guest blogger this week is Dr. Jeff Cornwall. Dr. Cornwall served as President of the United States Associate of Small
Business and Entrepreneurship (USASBE) in 2010, and was honored as the
2013 Entrepreneurship Educator of the Year by USASBE. His blog, The Entrepreneurial Mind, is part of the Forbes blog network and was named by that magazine as a "Best of the Web." It is also linked by The Wall Street Journal, Entrepreneur, Inc., and US News and World Report. Here, Dr. Cornwall discusses what a venture capitalist will look at before investing in a new venture.
Since banks tend to shy away from start-up businesses, most new
ventures require some form of equity financing. Studies show that 85-90% of
equity financing comes from the entrepreneur, family members, and/or friends. But
if a new business needs more money than can be raised from the entrepreneur’s
personal network, they have to look to outside equity investors, which include
both individual investors (known as angel investors) and venture capital firms.
So what do these professional investors look for in a business
when they make their investment decision?
We often hear that venture capitalists will put money in an
"A" team with a "C" idea, but not an "A" idea
with only a "C" team. That is, rather than investing in the next
great idea to come along they invest in entrepreneurs who have a proven track
record of success in previous deals. However, the truth is that you will need
straight "A's" to get angel or venture capital money.
Certainly you need an "A" team. The investors need to
know that the entrepreneurial team can deliver on the plan. The team's
collective experience is the best predictor of future success. They would prefer
that you have already have managed a start-up company from its inception through its growth. And,
if it was financially successful, that is even better.
But, they also want an "A" business concept. It has to
have market potential that is big -- I mean really
big. To get the multiples of their investment that they expect, they need
your business to have the clear potential to grow to many millions in sales with
the probability of many millions in cash flow from profits. They also want to
see a relatively benign competitive environment. Never say there is no
competition, because then you look naive, but your plan should insulate you as
much as possible from competitive threats, as that is the key to unimpeded
growth.
They also want an "A" exit plan. They are not interested
in investing in a business for the long term, even if it can generate strong
profits. If they can't see a clear path to get all of the money they invested
in the business plus a huge return within a few short years, it doesn't matter
how good you are or your idea looks. The most common means to an exit is through
an acquisition of the business.
Finally, investors want "A" intellectual property
protection. They don't want to invest in deals that cannot be protected. In
today's global economy they will often look at your intellectual property
protection both domestically and internationally.
So study hard and do your
homework if you want outside equity financing, as you will need a perfect 4.0
grade point average to close the deal.
