The Top 5 Points A Venture Capitalist Wants To Hear
May 19th, 2006 by Matt InglotI recently attended a seminar put on by Infusion Angels at the University of Waterloo. This group of angel investors did a fabulous job covering what is involved in obtaining angel and venture capital funding, and what you absolutely need to be able to answer. Half the presentation involved others making pitches to us as a crowd, pretending that we were venture capitalists. Very enlightening experience.
There was a whole lot to be learned here, but the biggest take-away from the whole thing was a list of the top five things venture capitalists look for in a desirable investment. As an entrepreneur you should be hitting every point in your planning even if you don’t intend to seek venture capital, as these are key criteria for an idea that has strong chances of success. Here they are in no particular order:
1) Exit Strategy
This is the number one point actually and the presenters emphasized it very heavily. You absolutely must know how you will cash out and get the big upside from building the business. Venture capitalists and angels are looking for approximately a 10x return in 5 years on their money, so your venture must be able to provide this. A popular exit strategy is being bought-out by a massive competitor or partner, such as the Web 2.0 companies who have been or are hoping to be aquired by a giant like Google. Other strategies like going public or simply liquidating the business exist, but remember that ultimately your exit strategy has to have data and some realistic thinking behind it.
2) Entry Barriers
A great idea is a start, but you need to be able to show that you can stay in the game after the cat is out of the bag. Who will your competitors be? What protects you from a much larger company entering the market with their own product and wiping you out? The stronger your entry barriers the more of the market you can reasonably expect to claim and the greater the chance your company will be around long enough to get that upside.
This was a really interesting one to look at when the people who volunteered to pitch their ideas presented. Patents came up a couple times, as well as some strong legislation banning an existing product. My favorite response came from a really cool laser technology start-up. Someone had asked about the risk of another researcher coming up with a similiar technique tomorrow. These two folks pointed out that their product required high expertise in a number of complex fields, and that very little research was being done in the area worldwide. Furthermore their prototype already worked and the venture was ready to build a fullscale machine as soon as they received funding. This placed statistics and time on their side.
3)What is Product/Service Similiar to?
This was a point I had never really heard before in terms of what VCs are looking for, but it makes a lot of sense. Your proposed business should have similiar ideas out there, or be a combination of similiar ideas. This provides a reference point for the potential investor and allows you to show a proven market.
If you have a really novel idea you can certainly still get funding, but this uniqueness can actually work against you.
4) Existing Revenue
The general rule presented was that angel investors don’t require revenue to be present, but venture capitalists usually do. This ties back to a mistake that entrepreneurs often make - seeking out venture capital funding too early. It’s not all about making the VC happy either. By having real revenue coming in at the time of investment you will also protect more of your equity in the business. This is very important as your VC will end up owning most of the company.
5) How Much Money Do You Need? For What?
You not only need to know that you need money, you need to know how much and how you will spend. The VC will be looking for realistic estimates that show you have a real idea of how much your product will cost to bring to market. Don’t forget the operating expenses, marketing, and legal fees that will accompany your venture. One very good pitcher suggested that she and her partners will work for free until the product is selling. The presenter immediately pointed out that an investor would much rather put a few extra hundred thousand into a multi-million dollar investment and have you concentrating on it fulltime rather than working elsewhere too. So include a salary for yourself!
Another very interesting point was brought up here too - venture capitalists like to hear large numbers (not necessarily true with angels). A VC is obligated to invest a certain incredibly large figure in a very short period of time, and larger investments mean this can be done sooner. If your company puts $20 million to good use, that’s 4 $5 million start-ups that don’t have to be found.
Conclusions
I’m glad I attended this talk and I hope my recap conveys some of the very important information covered. It’s always important to understand where the other side is coming from in business, and in this case real investors were explaining what really matters. None of the presenters hit all five points completely even though some of these were ideas that had already been highly successful pitches in new venture competitions. It’s easy to miss important details and the best way to be prepared is to hit this criteria long before you are seeking funding.
Big thanks to Infusion Angels for putting this event on. They are a Waterloo, Ontario company located at the University of Waterloo’s new Accelerator Centre. Give them a shout if you need funding for an idea.
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May 19th, 2006 at 5:42 pm
[…] Matt Inglot shares his notes from a seminar recently put on by Infusion Angels at the University of Waterloo. The topic? The top 5 points a venture capitalist wants to hear: There was a whole lot to be learned here, but the biggest take-away from the whole thing was a list of the top five things venture capitalists look for in a desirable investment. As an entrepreneur you should be hitting every point in your planning even if you don’t intend to seek venture capital, as these are key criteria for an idea that has strong chances of success. Here they are in no particular order… […]
May 19th, 2006 at 10:18 pm
Hi Matt,
Nice summation, i was particularly interested in a slight skew on point 3. When does similiar become ‘the same’ and did the angels offer any advice on how fine this line can be?
The same basic idea/service can be taken to the market in different ways and this can make all the difference over the mid/long term. Will angels (or VC) listen to this?
Thanks, Dan.
May 20th, 2006 at 12:30 am
I wish a few CEO’s I helped make rich over the years had read that article. Maybe they wouldn’t have blown it.
Is creating a privately held self sustaining profitable business that will forever adapt to changing market conditions and carry zero debt an exit strategy?
Great article.
May 20th, 2006 at 1:46 am
Two contrasting views on exit strategies…
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May 20th, 2006 at 4:50 pm
Hi Dan,
I really can’t speak for the presenters so ultimately I would contact them and ask. The issue of when things become the same was never directly addressed, but these are some points I would consider:
1) The reason VCs like similiar ideas is that there is already a proven market and revenue model.
2) As you said, similiar products can be deployed in many different ways.
3) If you are competing directly with another provider, what makes your solution the new #1? There’s probably some major competitive advantage, and that itself could be something new.
I find that there aren’t a whole lot of hard rules in any aspect of entrepreneurship, so everything is ultimately a bunch of (often contradicting) guidelines that you need to apply sensibly.
May 21st, 2006 at 1:39 am
“If your company puts $20 million to good use, that’s 4 $5 million start-ups that don’t have to be found.”
I don’t know about taking 20M if I only really need 5M. 10X return on 20M sure is a hell lot bigger than 10X on 5M. (not a problem, if you think that making that 10X on 20M is going to be easy)
I’m just pointing out that it’s easier for the VC to give you a larger sum because he has less startups to fund - but now the burden is on you to generate that 10X return.
May 21st, 2006 at 11:18 am
Oh definitely don’t take more than you need. The point was made though that often people try to minimize the money they ask for and underfund their venture. One pitcher demonstrated this really well. She had a terrific concept and presentation, but one mistake she made was wanting herself and her team to work for free until the product is actually profitable. They would support themselves with other jobs in the meantime. The investors would rather they work fulltime on this project and ask for enough money to get fair salaries. Last thing you want is your multi milliion dollar investment to be a part-time job for someone.
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June 12th, 2006 at 10:45 pm
Hi Matt, good to read your notes on this info session, I was the one of the presenters, so I missed most of greg’s talk.
Out of the 5 presenters, which idea do you remember the most?
June 13th, 2006 at 5:33 am
That’s a tricky question Timothy. I think the group that produced replacement parts for many different machines with their tech was the most impressive. They had a great presentation, a great idea, and seemed like they would succeed.
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June 20th, 2006 at 4:08 pm
The Top 5 Points A Venture Capitalist Wants To Hear…
This group of angel investors did a fabulous job covering what is involved in obtaining angel and venture capital funding, and what you absolutely need to be able to answer….
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October 6th, 2006 at 9:49 am
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November 1st, 2006 at 4:17 am
hi matt
great article. I was browsing for info on VCs and stuff. you have really given a fair bit of insight into this. we are also looking for a VC to fund our business venture. may be you could help. do drop in a line if you have something.
thanks.
December 21st, 2006 at 9:41 pm
Sign me up for that … : ) lol
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February 26th, 2007 at 4:56 am
I think Matt is correct, However if the objectives are too short range and if the engagement does not meet the maturity, Thinking ext point in the start may not work.
Ravi Kumar
March 11th, 2007 at 4:00 pm
Great article Matt! We are a new start up and have raised $150k from friends and family and are now putting together are Private Placement Memorandum so we can legitamately get infront of angels for a $1MM round of funding. Sites like this provide essential up-to-date info on the tools required for raising capital and can save start ups a lot of time and a lot of disappointment. I will definately recommend you to other start ups considering angel or venture capital.
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