We have discussed the Great Communications Divide in depth. The central premise of that article is the belief that entrepreneurs and investors are constantly misunderstanding each other. Entrepreneurs are passionate and want to succeed. Investors want to invest in and work with successful, exciting people and companies. But, the two are not speaking the same language. So, investors are left with the impression that entrepreneurs are unfocused dreamers and entrepreneurs are left with the impression that investors are condescending and sanctimonious. In the next few posts, we are going to explore WHY this is so and what entrepreneurs can do in order to get past the initial deselection process.
The reality is an entrepreneur has 30 seconds (thus the need for a very tight, well-crafted, and well-rehearsed elevator pitch) to convince an investor to spend 15 minutes focused on their venture. After that first 15 minutes, the investor will dismiss the deal or elect to spend another two to four hours doing a deeper dive. And, the hurdle that must be crossed in this 15-minute window is for the investor to like the entrepreneur (as a human being), the solution, the market, and to establish he/she understands the market well enough to forge ahead with confidence that a happy outcome is possible. This is where the WOW litmus test makes a huge difference.
After the initial conversation with an entrepreneur, an investor is going to request information and begin his/her quick look (cursory review of the entrepreneur, the company, and the market). Then, the Investor is going to ask for a business plan, proforma, and a pitch deck. Each of these will provide a different impression of the company – can you plan a business, are your projections built to be a financial tool for growing your business, and can you create a compelling message to your clients as part of a marketing process? Your ability to close this sale depends entirely on your materials and your presentation.
So, let’s discuss the top five things that get you disqualified in the first 15 minutes: hyperbole, sloppy projections, boring pitches, absence of homework, and guarding information/being a jerk about the process. Each of these paths offers a fast way to ensure you will remain capital constrained while your competition is marshaling their troops for battle.
First, if you want to be deselected fast, pour on the hyperbole. We understand you are “swinging for the fence.” It is in the nature of your venture to be high risk and high reward. Please don’t bother sugar-coating the opportunity to make is sound less risky. That smacks of deceit. And, we are going to figure it out because we go through everything in order to ensure that YOU understand your risks and have mitigation strategies in place. Making it sound less risky leads us to believe you either don’t understand your risks or are in denial about them. Neither of which is good. And, we are not going to invest simply because you are good at “applying lipstick to the pig” rather than “leading us the bacon.” If an investor smells the faintest odor of bait n’switch or hiding information, that investor is going to immediately move the venture into the digital “circular” file, i.e. the one with the cool trashcan symbol.
What should you do about this? Be honest about your risks and your mitigation strategies up front. Tell us what your problems are and how you are going to overcome them to become dramatically successful…in order to return our capital with profit. This should not be a shock to anyone, yet it remains so to many entrepreneurs. Entrepreneurs, by nature, are optimists. Investors read all provided materials in this light. Great deals don’t need hyperbole. Hyperbole won’t make a mediocre deal good and it makes a good deal look sad. And, sad, is an easy way to be deselected.
A second and highly effective method of being deselected is providing a sloppy proforma. Savvy projections are obvious. First, if you have run a business before, costing is easy, and it shows quickly to a trained eye. We can easily tell if your revenue-per-employee is out of whack (bear in mind Google makes $1M – $2M per employee). We can easily tell if you are using plug numbers to “guestimate” G&A. There is a reason we always double your expenses, cut your revenue in half, and extend your timeline as a rule of thumb for deselecting. And, your valuation is going to be adjusted accordingly.
As for revenue projections, there are three ways to build your revenue model:
- Plug in numbers for expenses and for projections to create the curve you want to see in the sales, then back that number into the number of people you will hire and resources you need. There is no validity to these numbers. They are backwards and meaningless being based on ignorance of the sales process and careless optimism rather than calculated realism.
- Start with the sale process in mind. Research how many accounts a salesperson can close and manage in the industry and use that number to build your expenses and projections. At least, this shows you understand how sales work and how to plan a business’s growth.
- Start with a sales pipeline and follow #2 above. This shows you are in command of the sales process, have prospective clients already engaged, are working daily on sales, and you understand how to run a business. Clearly, this is the most compelling of the three and this creates a tool that you can use to grow your business.
The better you build your projections, the less we pad them before making the cut. If you want to make sure you receive no investment or capture only “dumb” money, then go with #1.
Third, nothing deselects a company as quickly as a boring pitch. If you know how to lead with information that makes an investor say “WOW,” then you are 80% of the way to an investment. The opposite is true. If you offer an uninspiring pitch, you are 20% to an investment, and heading to 0% quickly. Investors want to work with exciting companies that can become focal points for change in communities and industries. That should be an exciting proposition for both. And, this is fundamentally a sales job. If you can’t sell an investor shares of your company, then you can’t sell products and services to clients. It really is that simple a litmus test. However, if you want to ensure you get a firm “no,” then lead with a milquetoast pitch.
Fourth, showing lack of preparation is an easy way of getting out of an investment. Investors expect an entrepreneur to create a detailed five-year proforma, a concise business plan (business model canvas is a great tool for quickly iterating a business model, but not a substitute for real business plan), a pitch deck, and key corporate documents (cap table, state registration, website, social media presence, etc.) before they approach the investor. Failing to create these things is viewed in the same light as “the dog ate my homework.” There is no lack of credible sources on the web for what materials are required to entice an investor. Your level of preparation, or lack of doing so, is an easy way for an investor to deselect you in favor of more prepared and astute entrepreneurs…of which there are many!
Similarly, you should do as much research on your investor as your investor will do on you. Your lack of research on an investor will show. Investors invest in people in markets they like and understand. So, understanding the investor’s affinities will go a long way to opening the door. If an investor does not like or understand your market, don’t waste your time. Most angel groups publish their affinities on their website. If you can’t take 60 seconds to look up a website and find these, don’t expect a call back.
Finally, there really is no faster way to get out of an investment than being a jerk. People invest in people. Investors want to work with passionate, inspiring people…people willing to learn, grow, and take criticism. Life is too short to work with jerks, even for good money. Arrogance will get you nowhere…quickly.
Equally as important is your transparency, which is generally regarded as part-and-parcel of an enlightened entrepreneur by investors (i.e. not a jerk). If you respond to an information request from an investor in a terse or defensive fashion or ask for an NDA, you can almost certainly count on being eliminated from consideration. Investors don’t sign NDA’s except for unfiled intellectual property (which is questionable). First, NDA’s are notoriously difficult to enforce. Second, there is no need to play coy or posture about protecting such information as your business plan, projections, etc. These are not “IP” in the traditional sense. You have almost certainly not created a unique, patentable, protectable business model. If you have, then come talk to us and let us know that up front!
Patents are, by definition, public domain…they do that for the express purpose of “teaching” your invention to “others skilled in the art.” And, we can look them up ourselves if you have filed them and the statute has elapsed for confidentiality. You should understand the value of your patents and be able to discuss them at a non-proprietary level with investors. What investors really care about is whether the patent creates a barrier-to-entry for fast followers that could lead to an acquisition. So, learn to speak to investors about the value of your IP. Companies that focus too much on their IP are easy to deselect.
Transparency extends to the team. We expect the same insight of the team as we do of the business. We will look at your social media profiles. We will call references if we have questions. We will perform background checks if we feel it is appropriate. And, we will ask for some simple psychometric information on your team. Be prepared to be transparent. If we get through diligence, we are going to be business partners. Your actions will reflect on us. We want to know we are working with good people ready to do great things. We are going to work together to make you successful and create life-changing wealth for you and your team. We have the right to see the good, the bad, and the ugly before we commit hard earned capital, time that could better be spent elsewhere, and energy we know will be required on YOUR venture. It is said in the industry that the difference between venture and “vulture” capital is how well YOU execute YOUR business plan. I can attest that is true.
Any of these five mistakes will guarantee you will not have to suffer through being capitalized and pursuing your dream. Why risk failure anyway?
In our next post, we will explore what happens when you get past the first 15 minute hurdle – heading into due diligence.
This is published under the Appalachian Regional Commission POWER Grant, PW-1835-M.
Copyright Appalachian Investors Alliance, Inc. 2018
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