Venture Capital firms see a constant stream of start-ups telling them that they have developed a unique product that is going to disrupt their chosen market and deliver huge returns.
To combat this, they will generally have developed a set of investment criteria that nine times out of ten will govern whether they decide to invest or not.
To put it into context, a typical VC might review 2,000 or 3,000 plus ‘opportunities’ per annum and only invest in 10 or 15, while active angel investors might see 200-300 and invest in 4-5. The odds are definitely stacked against you, entrepreneurs, and investors are constantly on the look out for ‘red flags’, or reasons not to invest.
Here are the five I come across the most often – bear them in mind when planning your fundraising activity. They should help improve your odds of success:
1. Lack of sector knowledge
Investors tend to get involved with businesses they understand and sectors they have experience in, as it is easier for them to assess the opportunity and ultimately add value to the business. Whether you are looking for angel or VC funding, it makes sense to prioritise investors who understand your business and the market that you’re in.
2. Complicated share structure and cap tables
Many start-ups rely on ‘friends and family’ funding in the very early stages of growth. This can be an effective source of early financing, but if it’s not managed correctly it can create problems when looking for professional investment later. ‘Friends and Family’ funding rounds should generally be in the form of ordinary shares or convertible loans and should definitely not have any non-dilution terms on future rounds, also you should try and minimise the number of investors whilst maximising the amount of investment – try and keep your cap table short and as tidy as possible.
3. Lack of confidence in the team
For investors it’s all about reducing risk. Investing in someone with a track record of success or strong skills and experience in a chosen field is attractive. If you lack these, make sure you build a team around you with the relevant experience, have a clear understanding of the gaps in your organisational structure and substitute lack of experience with a boat-load of drive and enthusiasm.
4. Financial stumbling blocks
Once an investor has decided they like you and the value proposition, they will pour over the financials as they offer a mine of information on the business. There are a multitude of potential red flags for investors at this stage and three of the major offenders are:
Unrealistic forecasting – Make sure you can support your forecasting with defensible addressable market data and a solid growth plan
Exotic loans – Loans with preferential terms over that of the professional investors will always be a challenge, especially if it’s a large amount
High Founder Salaries – Investors don’t like to see founders taking big salaries while the company is burning cash
5. Valuation of the business
Trying to determine what something is worth is never easy and ultimately comes down to supply and demand. If you have an exceptional business and you have investors queuing around the block to invest then you are in the driving seat when it comes to valuation. If your options are limited you need to be sensible and look at the pros and cons of holding out for a higher valuation, versus getting the funds you need to realise your vision.
It is important to remember that whilst there are many investors out there hungry for the next big investment opportunity, none are obliged to invest in your business. Regardless of how excited you are about your proposition, without proper forward planning and the right boxes ticked, finding investment will be a laborious task.
On the flip side, get ‘investment ready‘ now and you could very quickly find yourself a lot closer to achieving your personal and business goals.
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