Joe Johnson, Ph.D.
Entrepreneur. Investor. Startup Expert.
One funding option that many entrepreneurs keep on tap for the proverbial rainy day is to seek capital from outside investors. While that idea might seem exciting, the path toward its implementation is not necessarily clear in practice.
The process of seeking investors can be lengthy. The majority of startups are not begun with investor-sourced funding. Private equity investors and venture capitalists rarely choose to invest in early-stage startups. Angel investors, on the other hand, have increasingly supported startups seeking immediate growth. To be clear: no professional investor will give you money to start your business. Investors want to see a viable enterprise with a high potential for scalability. They’re not in the business of launching businesses, but of purchasing equity in going concerns and thereby generating a profit. I also want to highlight the fact that most companies never receive any kind of equity investment. While outside investment is a popular source of financing on TV shows, it’s far more rare an occurrence in reality.
Which type of investor to seek will likely depend on your industry and the development stage of your business.
Types of Investors
While your family and friends may certainly choose to invest in your business, I’ll be focusing, for the purpose of this article, on angel investors, private equity, venture capitalists, and the SBIC program.
Angel Investors are widely known for their generous support of young businesses and are usually individuals – frequently entrepreneurs or former entrepreneurs – who invest their own capital. Often, they form angel groups to investigate potential business opportunities and to pool their money. This facilitates their placing smaller investments in a greater number of companies.
Most angels focus on investing in their geographic region and, further, within a particular sector. For example, an angel based in Florida possessing expertise in the health field is likely to focus on investing in Florida healthcare or BioMed companies. Focusing on one sector, especially one with which they’re well-versed, enables investors to make better decisions about the companies they elect to fund. Some groups choose to clearly articulate the industries they’re seeking to fund, thereby making it simpler to ensure that all parties’ goals are compatible.
Angel investors are more likely to fund earlier-stage startups than other investors. If you’re interested in locating angel groups in your area, the following sites may provide assistance:
Angel Capital Association: The ACA directory enables you to find angel groups in your region. From there, you can investigate those groups which may currently be seeking startups in your industry.
Angels Den: Angels Den brings your pitch to investors, albeit with one caveat: there must be a lead investor onboard who has performed the requisite due diligence.
Angel Investment Network: Similar to equity crowdfunding, this is crowdfunding for angel investors.
Private Equity Firm
A private equity firm generally invests in or purchases an existing company that has products and revenue. Often confused with venture capital, private equity firms are not simply investing in a company for which they see potential, but assuming control of a company which they believe could be improved by restructuring. This type of capital will not help you to launch a business, although down the line it could help your business to pivot as necessary to ensure success.
A venture capital firm is the most commonly considered type of outside investment. In contrast to private equity, a venture capital firm aims to purchase equity in a business for the purpose of generating future profits. Unfortunately for startups, more venture capital companies are now focusing on later-stage startups and leaving the early-stage investment opportunities to angel investors. Because venture capital is primarily concerned with managing a risk portfolio, focusing on later-stage startups better serves their risk-reduction priorities.
When beginning to evaluate venture capital firms with an eye on establishing a business relationship, first confirm that they operate within both your region and industry. Also, be sure to ascertain that they don’t currently back one of your competitors. Check to see whether you or your co-founders are acquainted with anyone in the firm or whether you have any acquaintances in common who might possibly provide an introduction. Some sites will require that you pay for a list of venture capital firms. Rather than wasting cash on this fee, simply search for your geographic area and append “venture capital firm” to the query.
The Small Business Investment Company (SBIC) program helps to provide small businesses with long-term capital. According to the SBA website, “…the program is unique in that SBICs are privately owned and managed investment funds, licensed and regulated by SBA, that use their own capital plus funds borrowed with an SBA guarantee to make equity and debt investments in qualifying small businesses.” To be eligible, a startup must qualify as a small business, not be engaged in foreign activities, and be in an industry supported by the SBA. Most SBIC companies are in their later stages, so it’s not an appropriate avenue for launching a business, though it can be an important resource later on.
Prior to Seeking Investors
As with any funding or financing matters, it’s essential to have your own details squared away prior to making initial contact with any parties. Doing so will help you to make a better impression and thereby increase your likelihood of securing the most appropriate funding for your business.
While it’s possible to secure some types of funding without having to show your business plan, it’s always wise to have one prepared. Individual investors, especially, prefer to see a business plan. They want to know who you are, details about your partners/employees, and your future plans. In order to most effectively entice an investor, you’ll need to clearly state your industry expertise and establish your business acumen (and relate its source), as well as that of any cofounders or principles. Additionally, an investor will want reassurance that you’ve performed the appropriate market research and found a good niche for your product or service that will enable your company to achieve profitability. Investors also want to know how you intend to advertise and sell your product or service, your sales projections, and the feedback of your current customers. You should also consider your exit strategy. Are you planning to run your business indefinitely or do you hope to sell?
Your pitch deck aids you in presenting the important information that investors want to know. You should interest them in your business with some of the information – not all of the information. Your pitch deck should not simply be a pasted version of your business plan. Rather, it should provide the essential information investors need in order to determine whether they want to hear more.
While there is room for debate over the ‘right’ number of slides for a pitch deck, you absolutely must achieve one thing in particular: Excitement.
Whether you think 10 or 11 slides constitutes the perfect number (Guy Kawasaki says 10), engaging your audience and getting them excited about your business is key. In order to hold a potential investor’s attention, you must clearly share why your company and product are so amazing. What problem(s) are you addressing? What’s the potential revenue? How scalable is your solution? Who are your competitors and why is your offering superior?
Your pitch deck should contain:
- Your mission or company purpose
- The problem you’re attempting to solve
- Your solution
- Your market
- Your team
- Your business model
- Your competition
- Your financials
- What you’re seeking
Your pitch deck should not be comprised of your presentation, verbatim. That’s one certain way of ensuring that your audience tunes out and simply reads each slide instead of listening to you. Rather, it should merely highlight major points onscreen as you elaborate aloud.
Once you know who’ll comprise your audience for a particular presentation, you should edit your pitch deck accordingly in order to ensure that it appeals to the specific potential investor. Some venture capital firms prefer that pitch decks be presented to them in a certain order. Once you’ve secured a meeting with a firm, be sure that your pitch deck abides by their requirements.
When Should You Seek Investors?
There’s no hard and fast rule about when to seek investors. It’s important to note, however, that securing capital is not a rapid process. Seeking investment as a solution to low cash flow is unwise and very unlikely to result in an investor swooping in to save your company.
Many investors want to see some level of market traction prior to making an investment in a business. This means that it’s necessary to offer some proof of concept. Additionally, it’s important to note that investors are far more likely to invest in a company where the founder has invested his own equity. This clearly demonstrates an unimpeachable level of belief in the product or service being offered. Outside investment is chiefly sought and secured when a company is attempting to expand. By definition, this means that they have a viable product and are creating a level of demand sufficient to justify additional funding.
Research Your Potential Investors
Pre-investment research is most assuredly a two-way street. While your potential investors will be examining your business, you should be looking into theirs, as well. Investors will gain some say in your business; it’s essential that both parties are of similar minds. You may find that you don’t care for the manner in which a particular investor conducts business. The time to make that determination is before closing the funding deal. You’re not obligated to accept any term sheet offered. Ensure that you’re comfortable with anyone who wants to invest in your business prior to signing a contract.
About the Author
Dr. Joe Johnson is an entrepreneur, investor, and startup expert. He is the founder and principal of GoodField Investments and the GoodField Foundation (www.GoodField.com).
Joe has a Ph.D. in Entrepreneurial Leadership and an MBA. He is the author of the upcoming book on The Science of Why Most Entrepreneurs Fail and Some Succeed.
Most importantly, he is the incredibly blessed husband of one amazing wife and father of six wonderful children. He resides in Bradenton, Florida. For more information on Dr. Johnson and his work, go to www.JoeJohnson.com.