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Rick Segal’s 12 Step VC Process

Rick Segal had a good post on his The Post Money Value blog regarding the VC process.

He broke it down into the 12 steps that his firm applies to funding opportunities.

It’s a good read, and will give you a brief overview of the VC funding journey.

If you are seriously pursuing VC funding, you’ll want to read up on it.

Here are some relevant titles:

The Startup Game: Inside the Partnership between Venture Capitalists and Entrepreneurs

Venture Deals: Be Smarter Than Your Lawyer and Venture Capitalist

Mastering the VC Game: A Venture Capital Insider Reveals How to Get from Start-up to IPO on Your Terms

Raising Venture Capital for the Serious Entrepreneur

Term Sheets & Valuations – A Line by Line Look at the Intricacies of Venture Capital Term Sheets & Valuations

The Business of Venture Capital: Insights from Leading Practitioners on the Art of Raising a Fund, Deal Structuring, Value Creation, and Exit Strategies

 

 

 

Why didn’t I get funded at the Angel event?

I’ve seen more than 200 startup pitches in the last couple of years.

Most pitches do not get funded.

Sometimes people who don’t get funded reach out to me and ask, “Why?”

Here’s an example of why one entrepreneur’s pitch did not find any response from the Angels in the room:

Congratulations on your idea and your startup.

You have identified a pain point in the marketplace.

Also, as you probably discovered, while you’ve discovered a pain point in the market, nobody at the angel investor pitch event was jumping up to invest in your idea.

I think some of the reasons are:

  • Business model (service vs. product)
  • Scalability (business model and processes)
  • Sales model (scalability, efficiency, etc.)
  • Team (solo startup, almost always a big red flag)

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A Swing and a Miss

As part of my consulting services, I am tasked with evaluating companies for VC, private equity and angel investors.

I recently attended a private pitch by an experienced entrepreneur to evaluate the potential of the company for some interested investors.

The entrepreneur was the prototype of what many aspiring entrepreneurs or early stage founders wish they could be:

  • Silicon Valley startup veteran
  • Multiple startups
  • VC funded in previous companies
  • Had successfully exited and made his investors money
  • Talented engineer

In short, he had a sterling track record, impeccable credentials and noteworthy references.

To the run-of-the-mill tech startup founder, he was the poster child for “who gets funded when I don’t.”

And, he failed.

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Small Business Acquisition

I’ve been involved with acquisitions, big and small, on both sides of the table.

With small businesses, especially lifestyle businesses, these are some typical factors and scenarios:

Factors that will shape the deal:

  • Your goals for exit (financial, personal and schedule freedom, ongoing participation, etc.)
  • A specific “magic number” financial goal that will enable the future you desire
  • Your timeline for exit
  • Your market size (be as specific as possible)(industry association press releases, manufacturers’ press releases, market analysts reports and trade press stories are great sources for market sizing information) You’ll need to come up with specific $ sizing amounts for the applicable current and projected market segments. At a minimum, you need an “order of magnitude” number for your current and projected markets size, e.g. $2m, $20m, $200m, $2b.
  • Market growth rate (see previous point on good sources)
  • Your current revenue run rate (current revenue rate projected over 12 months)
  • Your trailing 12 months revenue (if you have annual revenues over $10m it greatly enhances your chances of acquisition by putting you into a large, general pool of viable businesses)
  • EBITDA run rate (current EBITA projected over 12 months)
  • Trailing 12 and 36 month EBITDA
  • Gross margin %
  • Comparable acquisitions in your market or adjacent markets
  • Top five companies most likely to acquire your company
  • The one company you think would be the best fit to acquire your company and why
  • Provisional or issued patents for any of the products
  • Trademark, trade secret or any other form of Intellectual Property (IP) protection on any of the products or designs
  • Barriers to entry that prevent your existing or new competitors from entering your market by duplicating your designs / products or designing around any of your IP protection

The Best Type of Corporation

Which type of corporation is best: LLC, S corp, C corp, etc.

First, an important disclaimer: I am not an accountant. I am not a lawyer.

This is a topic that affects your tax liabilities and your legal status so you need to educate yourself on the basics of this topic as well as discuss this in detail with an accountant regarding the tax implications and an attorney regarding the legal ramifications.

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There are three main types of corporate entities that you will consider as an entrepreneur, all of which provide liability isolation but each with different tax consequences:

  • C corporation
  • S corporation
  • LLC and its variants

The best type of corporation for your business depends on many factors. In a very broad sense, if you are planning to seek outside equity (stockholder) investors to fund your business, then a C corporation will probably be best. A C corporation will be a requirement for any institutional investor and most angel investors. If you are planning a small-scale, lifestyle business and just need some liability protection, an LLC can be very inexpensive to create and maintain, while retaining simple, low-cost tax preparation and accounting costs.

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Cash Flow

Cash flow is the top challenge for just about every new business in the world.

Most people who are new to business are fearful, if not overwhelmed, by the financial side of the business. Not many new entrepreneurs have a working understanding of the financial terms, much less the reports, used by business finance professionals. How many new entrepreneurs understand the differences between and the implications of cash versus accrual accounting? Not many.

This is a problem because people tend to avoid, downplay and fear that which they don’t understand. Accounting and finance are no exception. Entrepreneurs who have little to no understanding of finance and even less available time to go up the learning curve on it are naturally vulnerable to financial challenges, if not disaster, in their businesses.

The key to overcoming this is to focus on cash flow, because that is what will kill your business.

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Crowdfunding

A relatively recent form of raising money to start or grow a business is crowdfunding. Crowdfunding is crowdsourcing for money. With crowdfunding, you take in money from a large number of people, each of whom contributes a relatively small amount. Lots of people each invest small amounts of money, thereby spreading the risk of any one business failure among a large number of people and providing anyone who wants to be in the game the opportunity to share in the upside of a big startup win.

While this sounds logical enough, taking money from others in exchange for a piece of your business is a highly regulated activity in the U.S. So many scam artists have fleeced so many widows, children and inexperienced investors out of their life savings to fund non-existent or otherwise fraudulent businesses that the Securities and Exchange Commission (SEC) has made it very, very challenging to accept money in exchange for equity in your business.

The SEC restricts private investments for equity to people who are “accredited investors.” Accredited investors are high-net-worth individuals and people who can prove they are sophisticated, informed investors. The pool of accredited investors is not tiny, but it’s not the millions to billions of people who are available via internet crowdfunding.

The SEC is currently reviewing their restrictions and may authorize an officially sanctioned form of crowdfunding. In the meantime, it is caveat emptor, meaning it is incumbent upon you to ensure that any money you take from anyone in exchange for equity is in compliance with any and all applicable regulations.

The Initial VC Pitch

What should my initial VC pitch be?

When you set out to raise capital, one of your biggest challenges is to craft and deliver an effective pitch.

If you’ve got a business model that is suitable for Venture Capital (VC) funding, you will be participating in a very competitive environment for only a relative handful of capital allocations.

Far fewer than 1 in 1,000 VC pitches receive VC investment, so it is very important to make the most of your opportunity.

The first and most important factor is to research the VC firm before you pitch them.

First, research the VC firm itself. Start with the basics. Do they invest in your market? Do they invest at your stage of growth?

Next, ensure that they have an active fund that they are investing. If the fund is closed out or the remaining balance is being held back to sustain their portfolio companies through tough times, then the VC firm is not a candidate.

Last, check their reputation. Are they people who are assets to their portfolio companies? Do they add value beyond the cash? Talk to CEOs in their active portfolio and, especially, seek out CEOs from companies that the VC funded but later abandoned, shut-down or otherwise shared a negative outcome. It is very important to discover how the VC responds to adversity since every startup is a long string of adverse events overcome, one-by-one.

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Funding via MicroLoans

Funding my business; all I need is a small amount to get started

By far the most popular challenge here at the Idea to Exit answer desk is funding a business, especially in the initial stages.

The first step in funding a business is to understand the basics of funding.

Those who are pursuing a small-scale, lifestyle business or bootstrapping their startup may only need a few thousand dollars to get their business started.

One path to small amounts of startup capital is a microloan.

Microloans are best known for helping people in developing economies build small businesses via loans of very small amounts, from a few dollars to a few hundred dollars, through programs from Non-Government Organizations (NGOs) such as Kiva http://www.kiva.org/ .

However, there are also microloan programs in developed countries, including the U.S., whose purpose is to fund small business startups by making loans in amounts of a few thousand to tens of thousands of dollars.

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Getting Money to Start My Business

Your biggest business challenge this week: money to start my business idea

Capitalizing a new business is one of the largest challenges to overcome.

However, most entrepreneurs focus too much on this factor. They think that their business idea is so foolproof, all they need is some money to bring their idea to market and the business is guaranteed success.

In fact, that is very rarely the case.

Only one in 10 new businesses survives a decade. The failure rate is the highest in the early months and years.

Although a primary cause of business failure is often attributed to “lack of capital,” the real reason is that the failed businesses ran out of time. They ran out of time because most of the new businesses burned through their available money trying to figure out a viable, sustainable business model.

The moral of the story is, before you go seek capital for a new business, be sure you have a proven business model. Take your idea and make a prototype. Do some tests with real customers. Make some sales or get signed letters of commitment to purchase your product or service once you have it ready to sell.

The key to success in business is selling something people want to buy. That is true whether you are tying to start an enterprise B2B company or a local retail business. The only way to ensure that the money you are seeking is going to build a business that sells something people want to buy is to prove that idea before you invest the big amounts of money.

To accomplish that goal, one task I recommend, developed by Dr. Rob Adams, is the 100 Customers Test. Talk to 100 prospective customers first, before you do anything else. You will learn more talking to those customers that you will by obtaining and spending just about any amount of money in the early stages of your business.

Prove your idea and your business model first, then seek and inject capital to scale the business model.

If you need money to prove your business model, start by talking to 100 Customers first. That will cost little to nothing and will almost certainly guarantee that when you do build a business, it will be selling something people want to buy.

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