Forum Directions: WITHOUT PLAGIARIZING read the podcast below , What Venture Cap
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Forum Directions: WITHOUT PLAGIARIZING read the podcast below, What Venture Capitalists Look for In a Proposal, and answer the following below the conversation:
Robin Adney: This is episode eleven of the podcast series. I'm Robin Adney. And here also is the woman who asks all the important questions, Dr. Cassandra Shaw. Thanks for being here.
Cassandra Shaw: Hey thanks Robin, glad to be here.
Robin Adney: And also today we have Marc Grovic with us. He's the general partner at New Marcets Venture Partners, and an Industry Advisory Council Member with American Public University System. Thanks for being here today.
Marc Grovic: Thanks for having me.
Robin Adney: And Marc, given your extensive experience in Venture Capital, it's no surprise that we're going to be tackling the topic of what venture capitalists look for in a proposal. So Cassandra, take it away.
Cassandra Shaw: Great, thanks Robin. I'm really excited about this one too. So I want to get us started off ... just give us what kind of information does an entrepreneur need to have to prepare for a proposal for a venture capitalist?
Marc Grovic: Well, ideally an entrepreneur would have a few different pieces of collateral. Maybe a one page summary of the business, the product, the Marcet, the management team, a little bit about customers ideally. And then a longer form investors deck that goes over those same topics in more detail, as well as a financial model, a product demo, and the availability to bring the team in person, should we get that far. But I'm happy to give more detail around what types of information, but in terms of preparation and different types of material, I would say those would be the core pieces.
Cassandra Shaw: And can you elaborate on what an investors deck is for our listeners?
Marc Grovic: Sure. And to the extent that it's helpful, at newMarcetsventurepartners.com, there is a list of questions that I've curated over the last 20 years to try and be helpful to entrepreneurs so that they know what we're looking for to prepare, but it's basically a ... it tends to be a PowerPoint, and the information in the PowerPoint goes over background of the company, the background of the management team, highlighting successes that the management team has had previously, it describes in detail what the product is, and the business model as well as the Marcet and the competition. And speaks a little bit to milestones the business has achieved, as well as financial terms of the current investment that's being sought, which is typically the topic that we're discussing at the time. And some financial information, both historic and projected.
Cassandra Shaw: So Marc, let me ask you, if someone has a brand new venture, they don't have a history of any successes to highlight ... what would you suggest for them? Could they bring in successes from just their work life in general to show that they have had successes?
Marc Grovic: I think it's worth a second on the venture capital fit, because in my experience, there's less of a fit with venture capital than most early stage entrepreneurs initially think. There's a lot of other ways to fund a business. And depending on goals and stages of business, I would say many of them are superior to think about, and more likely to be achieved than a venture capital investment. So in a very early stage, a start-up company ... particularly outside of Silicon Valley, has very little chance of getting venture capital funding. And the few exceptions that we have made have been with entrepreneurs that we have backed in the past who have been successful. And they're doing something new. So when you see a start-up idea getting funded, typically it's with an entrepreneur who has been successful with previous venture backers, and they're coming in to back him or her again.
More likely sources of early stage capital are angel funding, state funds, there's often programs for interesting early stage technologies ... I know that exists in both Virginia and in Maryland. FDIC loans ... and my favorite way of funding an early stage business is to actually sell a product for less than it costs to make it, and then to take that money, re-invest it, and do that again in the old-fashioned bootstrapping way.
Cassandra Shaw: Okay, great. Thanks Marc. So you had mentioned about expanding on the kinds of information entrepreneurs need to have in preparation. So let's go into that a little bit more. What kind of information would a venture capitalist be looking for in a proposal?
Marc Grovic: So without giving the typical MBA buzz words around competitive advantage, barriers to entry, big Marcet ... those sorts of things ... we in particular like to see happy customers, and one particular investment thesis of ours is when small companies can solve big problems for big companies. That tends to be a pretty interesting place to invest. So we like to see examples of mission critical technology being adopted by big customers that are really important problems being addressed. And those are the Marcet opportunities that are most interesting to us, so even a very early stage company ... if they've won a couple of very good reference customers, then we can speak to those customers. And what that does is it eliminates a lot of both technology risk, because a big company is not going to buy a mission critical piece of technology from a smaller company unless it works and it's well vetted, and it decreases the Marcet risk for us, meaning somebody has actually looked around in the Marcetplace at different opportunities and chosen the product or service from the particular company we're looking at, and opened up their wallet and made a payment ... which is more difficult than you would expect sometimes for early stage small companies to do.
So in our particular focus, which I would say is business to business technology sales, we like the big reference customers. And then that goes a long way to getting us comfortable with a business. Other things we look for are experienced management teams with track records of success, and like you mentioned, that can be from a previous venture. I've seen everything from identical businesses being built and sold, which is a great Marcer, all the way down to people who have been Olympic athletes or Eagle Scouts or different ways where we just see that they've been very successful in the past. Key sales employees who've driven a lot of revenue for other companies. Any indication that the individual has really succeeded in their previous roles. Intellectual property is always interesting, particularly when it addresses a big Marcet. To see very specific, competitive analysis when an entrepreneur is comparing themselves to another company, it's best to really focus in on the one or two key features that are going to drive the buying decisions of a customer.
Oftentimes I see too many features and functions that the particular company says it's better than the others on, when really a customer usually buys on one or two things. So a deeper analysis of competitive advantage around a key feature is more interesting than a broader analysis of smiley faces across a large number of categories.
Cassandra Shaw: I would say also maybe in addition to the features they would need to also really key in on the benefits of those features as well, correct?
Marc Grovic: That's right. The customer value proposition is maybe the most important thing we focus on. And it's really great to be able to speak to an existing customer. So again, we'll go earlier as an investor than most other venture funds. But really getting those initial couple of reference customers so that we can really understand what problem that was solved for them, and who was involved in the buying decision, and why they decided to go forward with this particular product. So the customer for us is the most important reference call.
Cassandra Shaw: So are there any barriers or issues that entrepreneurs should look out for?
Marc Grovic: Sure. One thing that's counterintuitive that I think is interesting to talk about is that a lot of very early companies succeed in raising angel money at high valuation. So you go to your friends and your family, and they invest your first few hundred thousand dollars to get the business up and running. And they overpay. And when I say overpay, that means that typically we're looking for some rational multiple of either revenue or earnings to base the valuation on. But when you're just starting up, sometimes you pick an arbitrary number of five, ten, fifteen, twenty million dollars to value the company, and somebody gives you half a million dollars, and maybe they only get ten or five percent of the business. And then when it's time for us to invest, you've made a tremendous amount of progress as an entrepreneur.
So much better ... it's so much a better company. And the valuation then that's realistic from an institutional investor is lower at that point in time than the angel money, and a lot of time the angels are not that interested in selling additional shares at that point for lower than they paid, and the company has a really hard time raising money from the institutional investor at the price that they want, or upsetting the initial investors in telling them that oh, they over-payed. That's a little bit counterintuitive, because you would think an entrepreneur should raise money as high price as possible, but that's not always the case. So we call that messy cap table, or the cap table represents who the shareholders are.
That's a pretty key mistake. Others are spending too much money, not being capital efficient, raising money is not a good milestone of success. Revenues are, and good customers, and those sorts of things. Too many people think raising a round of venture capital is a good way to measure success. Other pet peeves are ... you know, we're going to get 1% of a billion dollar Marcet, so not really grilling down on what the addressable Marcet is, and profiling your customer in a way that's more legitimate and not as broad brush. Consumer facing websites are difficult for us, because if you monetize them on a CPM, views per thousand basis, which is a typical industry milestone, you need to be in the top five or ten percent of all websites in order to really drive the value that a venture capitalist is looking for.
So a lot of websites and apps are very good lifestyle businesses, but not particularly right for institutional funding. I see certain academics who want to start companies who either have a disdain for business or an over-confidence in their business sense if they're say, engineers or inventors. So, having a good sense of your own strengths and weaknesses, and then surrounding yourself with partners who complement your weaknesses is a really important thing we're looking for in entrepreneurs. And oftentimes, a lacking in their ability to be self-aware in that regards.
Cassandra Shaw: Marc, let me ask you, when should an entrepreneur try for VC funding, or venture capital funding?
Marc Grovic: One, based on the stage, and one, based on what type of company they're building. During the first instance, I would say once a company has achieved more than a small number of reference customers, so that could be depending on the company, it could be three, it could be seven reference customers. It has a proven product that's built at least in a beta phase, they have pilot customers, they have data around efficacy, whatever that might be for the particular business. They've achieved some revenues, and they have a proven business model so that an investment can be used to scale ... the ability to raise money to build a product and prove out an idea is very difficult, particularly if you haven't done it before. Though the best time to raise money is when you have a proven model that you want to scale. And that is evidenced by your ability to show a working demo and have customer references.
Cassandra Shaw: Is there a minimum amount of capital that someone is seeking that fits a venture capitalist? Or any amount of capital that they're seeking ...
Marc Grovic: Really good question, really good question. So another piece of advice that most entrepreneurs need that they don't key in on as well as they should is to understand the dynamics of the particular fund that they're speaking to. So in any given venture fund, the number of investments will range from 10 to 20, typically. Kind of interesting, because a fund could be a 30 million dollar fund or it could be a 30 hundred million dollar fund, or a 3 billion dollar fund. And obviously in each one of those cases, the amount of money that is going to represent a pro rata investment of 10 to 20 investments is going to be very different. So smaller funds are going to make smaller investments, bigger funds are going to make bigger investments. Funds that are earlier in their ten year life span, which is a typical venture capital life span, will make earlier stage investments. Funds that are towards the end of their ten year life span will make later stage investments, because they need to have the business become liquid sooner.
So an entrepreneur who understands exactly how much money the fund has, in the fund that they're investing out of, how old that fund is, how many investments the fund will make, and what stage the fund is in in terms of its maturity will help them match their capital needs to others. So for our funds that are very well suited for a 3, 5, 7 million dollar round of investing, I have some very close friends who are in funds who are looking to make 10 to 20 million dollar investments at a minimum. And those businesses are obviously more mature businesses that can use more capital to scale their businesses. So the smaller amounts ... somewhat tend to be more correlated with earlier stage. I think that makes sense. And the larger funds and the larger investments tend to be more correlated with more mature companies.
Cassandra Shaw: And can you explain how the VC works? For instance, it's an investment. So does the entrepreneur ... need to pay it back? So there's ... some kind of a return for the VC?
Marc Grovic: Right. So for better or for worse, the primary mechanism by which capital is returned to a venture capitalist is through a strategic purchase of the company in which the venture capitalist invests. The one real good checkpoint for an entrepreneur is their interest and willingness to sell the business within a five, seven year period in order to return the types of capital to the venture capitalist that is required. The ability to buy back the shares from a venture capitalist or to somehow pay out enough money to the venture capitalist, to make the return that the venture capitalist is seeking, is almost non-existent in any business. So really, the game is you invest in a company, you give them two million dollars for 20% of their company, which values it at 10 million dollars. And then you sell the company for 100 million dollars, and you make 20 million dollars on your two million dollar investment. And the entrepreneur hopefully makes 80 million dollars at that point in time.
The point being your ability to ... a business's ability to generate a 20 million dollar cashflow to the investor is almost non-existent absent of sale of the whole business. So that is something that entrepreneurs need to get their mind around when they're looking for venture capital. And if you're not interesting in selling the company, probably some form of debt is a more appropriate match.
Cassandra Shaw: Great, lots of wonderful information Marc. Are there any final thoughts that you'd like to share with entrepreneurs that may be thinking of exploring a venture capitalist?
Marc Grovic: I would just encourage people to think like owners and to act like principals, meaning if you have ownership in the company you're working in, if you go to your employer and say "I want to start a new line of business." There's a great story about the guys who worked for Swiss Army, and they wanted to stand up a luggage line, and Swiss Army said "No, we're not interested in that." So they quit, and they said to Swiss Army, "Let us license the brand to build a line of luggage." And they said, "Okay." And that's where all of the Swiss Army backpacks came from, and Swiss Army ended up buying back the luggage line for 100 million dollars from these two individuals. It would have cost Swiss Army much less money to let them run with this new division.
So there's different ways to think about really spinning off your own business, starting your business, being an owner in your company ... lot of people are doing things on the side. Real estate, and restaurants, and this. So I would just encourage people at this day and age, given the macroeconomic environment and the country that we live in, to be comfortable to take risks within certain rational limits, because it really does allow you to pursue what you're most interested in, and what you're most passionate about: your own vision, whether it's within an existing company or a new one. And it's where real wealth is created. And that's why I do what I do, I teach entrepreneurship and I invest in entrepreneurs, and I'm just a big fan. So it doesn't have to be an all or nothing proposition, I guess is my advice.
Cassandra Shaw: Right, thanks Marc so much for being here. Really appreciate all of the information. And Robin, I'll send it back to you.
Robin Adney: And listeners, there's plenty of other great topics you can explore right here at the APUS Entrepreneurship Center. This is Robin Adney, now get back to work.
Speaker 4: This podcast is protected by the creative commons share alike non-commercial no derivative 3.0 United States license. Thank you for listening.
QUESTIONS TO ANSWER:
1. How prepared are you to present your funding plan to a potential investor, even a bank for a small business loan? Explain.
2. What elements do you still need to work on? Describe how you plan to do that.
3. What is the one best piece of advice for you from the podcast?
Explanation / Answer
1. Funding plan to a potential investor, even a bank for a small business loan will require a business plan of the product or service. The plan needs to have detail about the purpose of taking loan and the period in which it can be returned. It is important to explain the viability of the business idea and the industry success rate since the bank will need to know that it will be paid back with interest. The profitability and revenue plan, the scope of scalability of the business needs to be included in the proposal of taking small business loan. The guarantors will help in loan approval as well as the credit rating by the bank. The details of current bank balance also needs to be furnished while taking a small business loan.
2. The elements which needs to be worked out is the chances of success of the business idea. The customer needs and the market conditions are important factors to be considered. The investment which will be required in the business before it becomes profitable needs to be determined so that it is neither less nor excess. This can be done by taking advise from market experts, doing research and contacting the customers. The more experienced and well managed are the customers depending on the product whether it is B2B or B2C , the more helpful it will be in formulating the necessary details.
3.The one best piece of advice is not just focussing on raising amounts for the business instead testing and validating the business idea in market and forecasting the future returns, plan of scaling the business or diversifying and expanding. Customer focus, service and openness to the environmental opportunities is important while securing funding for a business and launching a business.
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