Raising finance is a time consuming process and can also be quite stressful (particularly as time progresses). There may be some date in the future where your current trading position is no longer sustainable (which has brought you to the table in the first place). It is worth remembering that you need to recognise that the more desperate your situation, the more vulnerable you will be, which will typically result in poor decisions. Hence the sooner you can commence the process the better.
Similarly, if the investment is for growth capital, as opposed to capital to keep you afloat, the circumstances and investment terms will vary.
Firstly, you need to identify some potential smart investors (by ‘smart’ I mean investors who bring more to the table than just cash i.e. access to a network of contacts, distribution etc). You then need to submit a business plan (or executive summary) to them so they can assess the opportunity with more context (ideally you’ll have a warm introduction to these people). Assuming you pass this hurdle they are likely to invite you to a meeting. If you have been asked to come in to pitch you need to remember that the process should be a balanced discussion rather than a monologue. You need to frame the meeting so that it resembles an interview where the discussion is two-way, rather than a one way interaction where the prospective investors scrutinise your business plan as you defend the content. As I have detailed previously, it is not just about the cash, so you need to be clear about what other requirements you have to help you secure ‘smart money’.
The following questions will give you an idea of some of the areas you should explore with them.
- What can they bring to the table other than just cash? While the requirement for funding is typically the main reason to engage with external investors, it is also worth identifying other criteria that are important to your business, such as contacts or ‘access to markets’. Ideally you’ll look to partner with an investor who has knowledge of your specific sector, as well as a network of contacts that can be called upon when needed.
- What is their preferred exit strategy? It is worth gaining an understanding, up front, of the timeframe in which they are looking to exit, as well as an understanding of their future plans. For example, you might want to know whether they are likely to be interested in any subsequent investment rounds (if required).
- What is their required level of involvement? It is also worth understanding at an early stage how active a role the investor wishes to play in your business. There is no point taking investment from someone who does not bring the required contacts to the deal or who insists in involving themselves with the day-to-day running of your business.
- What other investments have they done? You should ask the prospective investors if they could provide you with some references from current investments, as it is highly advisable that you speak to people from companies they have stakes in, so you can fully gauge their style. Venture Capitalist, Mark Suster suggests in his blog post ‘How do you reference check a VC’ that: ‘First, I would say that most entrepreneurs do almost no reference checks or at least do them very informally. Don’t let that be you. Most VC’s will happily supply you with a list of CEO contacts of the people who will speak to you about working with them. Don’t be afraid to (politely and respectfully) ask for this. In fact, they will think better of you because you’re demonstrating that you’re the kind of thorough person that they wanted to invest money into in the first place.’
- What are the terms of their investment? Finally you need to be very clear on the terms of the investment i.e. above and beyond the headline rates. You may receive a term sheet which outlines the terms of the investment, and this will need to be reviewed by someone qualified to do so. While this may seem an ‘optional expense’, it is not, as term sheets can include onerous terms and must be treated with caution. In short, you need to enter discussions with investors from a position of strength rather than a position of desperation!
By having a strong business plan, an impressive team, a viable market opportunity, and a keen understanding of the investment process, you can ensure that you engage on strong terms. As in any negotiation, you are seeking to strengthen your hand. If you can ultimately have multiple investment sources to choose from, you will increase the chances of a satisfactory outcome for all involved.
Alan Gleeson is the General Manager of Palo Alto Software UK