Archive for the ‘Fundraising’ Category

Ask The VC – Live

For those of you in the Boulder/Denver area, I’m giving a 1.5 hour "crash course" lecture on the VC industry. 

The program is February 24th at 5:15 at the CU law school.  You can find more information here

The topics will include everything from what makes VCs tick, who are our bosses, what are things that you can do to improve your chances of receiving funding and things that many VCs don’t want to talk about.  No question is off limits and I hope that it will be a very interactive forum.  Consider this to be a live version of Ask The VC. 

Hope to see you there.

Getting Attention from VCs and Angel Investors If You Are Young

Today’s great post (really an article) is titled Getting attention (and cash) from VCs and angel investorsIf you are in college or a recent graduate, you are starting a company, and are looking to raise money, this is a helpful article.

What Does Your Business Actually Do?

Q: I love your article in the Entrepreneur magazine. It was very information. Thank you.  I am now currently developing the domain name I had for 9 years to due other business and real estate investments.  Do you have any suggestions which VC wants to invest?  Currently looking for $100k to $250K. I only want to serious investors only.  Also, I want a VC with connections and experience in helping develop a company, not just throw money into this venture. This is my second business and so I am familiar with growing a business.

A: (Brad) I took a look at your website and have no idea what your business does.  My strong recommendation is that lead any email you send to a prospective investor with a short (a paragraph or less) description of what your business will do.  Just saying that you are developing a domain name doesn’t really mean anything.

In addition, if you are only raising $100k to $250k, it’s unlikely that VCs are the right target for you.  I’d encourage you to focus on your network of friends and family along with potential angel investors who are either geographically close to you or are interested in what you are up to.

But – most importantly – make sure you are stating clearly what your business is going to do in whatever approach you make to any investors.

What To Do When You Are In A Circular Discussion With A VC

Q: I am part of a tech start-up that’s in a slight conundrum.  In order to place our product in its market, we’ve had to provide it to customers free of charge.  Now, the majority of our revenue model is based on advertisement fee’s and service fee’s collected after the product has already been placed, so normally such a move would not be a problem; however we are finding it hard to raise the money to produce and install our first product. 

To date we’ve raised money from angel investors.  When we approve VCs, we get the same reply, "let’s first see a market reaction, and then we can talk about investment."  But, without VC money, we can hardly demonstrate a proper market reaction.

Should we concentrate on finding more angels, or should we look harder into the VC option?

A: (Brad) Concentrate on finding more angels.  You are in a classical circular discussion with the VCs you are talking to.  Without knowing the details, my guess is the VCs you are talking to are basically saying no to you, without saying no directly.  You can waste a lot of time continuing to go in circles with them, or you can focus your time and energy on getting enough angel money to get to the next step of your business.

It is equally important that you re-evaluate exactly what you are trying to accomplish with the angel money.  Assuming you believe you’ll ultimately need more capital for your business, at some point you will use up your sources of angel money, or you’ll get to a place where you need a larger capital infusion that angel investors won’t be able to provide.  Given the feedback you are currently getting from VCs, you should rethink the approach you are taking to enter the market to demonstrate the elusive "market reaction" the VCs are looking for.  If you feel like you’ve developed a good relationship with at least one of the VC firms, see if you can enlist them to give you direct feedback on what they’d need to see (other than the generic "market reaction") to take you more seriously.

How Does the Current Macro Economy Affect Venture Capitalists and Startups?

We’ve gotten many emails over the past few days wondering how the meltdown is going to affect VCs and startups.  The quick answer is "not much of an effect – so far."  Just linking around, here are some posts that you might want to check out if you’d like to read more.

Mendelson’s MusingsHow Does the Market Craziness Affect Venture Capitalists and Startups?  – Talks about VC and Startup fundraising environments.

Feld ThoughtsBuild Trust by Staying Steady in Rocky Times – Talks in detail about macro cycles, banking and how it ties to the VC ecosystem.  Also see: Gloom and Doom – or Capital Efficiency – reference Fred Wilson’s posts on similar subjects and argues that we aren’t in the worst case scenario. 

or see this presentation from Sequoia Capital which tries to put the current situation into historical perspective.

There are many other good blog posts if you go hunting around, but this should get you started. 

Why Wont The Venture Capitalist Return My Phone Call?

Q: We pitched to a venture group 3 times in July and August. They kept telling us that they were very interested and wanted to learn more about our venture so we shared complete details of our venture hoping that they would invest.

Now for last 6 weeks they have gone completely silent. They used to respond to our emails within hours but now…no response to emails or phone calls. Once we got one of their partner on the phone and he promised to call back and hasn’t yet. We would like to move-on. Are we nuts? Why would they spend so much time then behave like this? Why won’ they just say "NO" to us?

A: (Jason)  To answer your first question, no, you aren’t nuts and yes, you should move on.  Clearly they aren’t interested in funding your company.

The bigger questions is "why do some VCs act this way?"  I really don’t know or understand this behavior, but it’s not uncommon.  We hear on a regular basis from entrepreneurs that VCs frustrate them this way.

What’s probably happening is that they have other companies in their pipeline that are sorting higher in interest than yours, but they’d like to keep you as a potential option if their other opportunities disappear.  That being said, I’ve never heard of a situation where a VC lead goes completely cold and then becomes hot again.  Think of this similarly to any romantic relationship that you’ve ever had. 

We think it’s really important to say "no" quickly.  While it’s not always easy to say no (see Brad’s post on "Why am I passing?"), it really is the most fair thing to the entrepreneur, even if hard to hear.  Dragging the process along does no one any good.  Sorry to hear about your experience – not all VCs are this way. 

What Price Adjustments Do You See Prior To Closing In A Financing?

Q:  Can you please explain what sort of adjustments you should expect to the price that a VC promises in a term sheet between the signing of the term sheet and signing of a final stock purchase agreement (SPA)?

A: (Jason)  To answer your question, we first need to determine what the definition of "price" is.

I don’t care what price per share I pay.  It’s an irrelevant number.  What’s relevant is the pre-money valuation.  That, along with my investment will determine what percentage of the company that I own post investment.  For more on this, see this prior post

If the question is "how often do I see the pre-money valuation change from term sheet to SPA" that answer is almost never.  Only in rare cases of something material happening to the company, I tend to think "a deal is a deal."  If something that bad happens to warrant a price change, it’s probably more likely that the entire deal falls apart.

The only other situation that could potentially change the valuation / price is if something is found in diligence that wasn’t known to the VC at the time of term sheet.  For instance, if founders have deferred salaries or have debt that need to be paid back and a large chunk on the financing is going to be immediately used, this too might change the economics.

If you define price as the "price per share" (not having anything to do with valuation), then I would tell you that I think EVERY deal that I’ve been involved with has had a price adjustment during this period.  The price per share is based on the outstanding equity of the company and rarely does this get 100% figured out until right before closing. 

What Are the Pros and Cons of Investment From a Strategic Entity?

Q:  Can you please touch on issues associated with first round financings from corporate or strategic investors. Particularly when the strategic is a competitor. What are some of the pitfalls and opportunities associated with this type of an investor in an early stage company?

A: (Jason)  There are both potential positives and negatives taking money from a strategic investor.  And despite the arguments for and against, there is also are no bright line rules on wether or not you should accept strategic money.

Let us first look to the positives.  Usually the biggest perk is the ability for a strategic investor to be able to accelerate and help your business in ways that a venture capitalist can’t.  Strategics can offer access to manufacturing capabilities, technical resources, sales channels, foreign joint ventures, guaranteed retail shelve space, etc.  The strategic can leverage their business to help you.

Also many strategic investors don’t consider themselves "financial investors" in the same way that venture capitalists do.  So while a VC might need to realize a return in 5-8 years and be happy with a certain return, many strategics are deriving other benefits besides the ultimate return.  Therefore, they may be a little easier on you if things don’t go quite as planned, so long as they are still deriving utility from the other benefits. 

This also can lead to a problem, though.  If you investor isn’t ultimately financially motivated to see your company succeed, that can be a conflict between them, you (assuming that you are financially motivated) and any venture investors (who I guarantee are financially motivated).  You may find yourself trying to make decisions that will promote one set of interests over the other.

We’ve seen this many times.  The questions is "how do I know of my strategic investor is motivated by venture-type returns versus ‘something else?’"  Here are some clues:

  • If your strategic investor is asking for terms that a venture capitalist would not, such as:
    • A right to buy the company / first look / call agreement (which you should never agree to, as this will kill any other potential suitor from speaking to you);
    • Warrants / other equity kicker for free or based on services provided to the company;
    • Restrictions on who you can sell your product to; or
    • As a condition to financing, entering into some sort of business arrangement.
  • If you ask them if they are financially motivated and they say no.  (Don’t laugh, many will be completely open about this.

To be clear, even if your strategic is not financially motivated, it still might make a ton of sense to take money from them, you just need to weigh the benefits of the "stuff" they bring to the relationship besides money.  For instance, a performance-based warrant for true performance may be appropriate. 

One thing to consider is a board / observer seat.  Most strategics don’t want a board seat as they don’t want the fiduciary duty issues present with their own business and yours.  This is especially true if your strategic is a competitor.  But they many times will ask for an observer seat and you need to carefully consider what type of information will be in their hands at the end of the day. 

A note on competitors investing in your company.  I haven’t seen many of these arrangements end well.  Usually, the distrust of sending information back and forth quickly chills the relationship.  Do you really want your competitor getting your financials and board presentations?  Do you want them to know if you are negotiating a deal with one of their other competitors?

In general, we’ve had both good and bad experiences with strategic investors.  We’ve had deals that without them, we wouldn’t have had nearly the success that we did.  We’ve had deals where we never saw or heard from them again after the funding.  We’ve had other cases where the noise in the machine caused by their wake was quite disturbing.  In this particular case, it appeared that the strategic’s sole intention was the bankrupt the company and take their technology. 

It’s really an individual choice.  I’d recommend getting references from prior investments that they’ve made to see how helpful they really can be. 

How Should I Approach a VC I Don’t Know?

Q:  Everyone tells me the way to approach a venture capitalist I don’t know is through a friendly introduction from someone who already knows that VC. But what happens if I don’t have the connections to get that introduction? Am I screwed?

A:  (Chris) Every entrepreneur who has raised venture capital has heard it a thousand times—the best way to approach a venture capitalist is via a warm introduction. Venture capitalists invest in people as much as they do in technology or business ideas, and having some connection (even if it’s indirect) is immensely helpful to the VC in determining if that entrepreneur is someone he wants to invest in. The logic also continues that VCs are generally bombarded by requests for meetings, so a warm introduction helps an entrepreneur’s request float to the top of the list.

Unfortunately, as you’ve pointed out, sometime you don’t have the luxury of relying only on warm introductions. That doesn’t mean you can’t or won’t be successful in approaching a VC on your own, but I think there are ways to improve your chance of success.

Here’s my advice to entrepreneurs on what to do and what not to do when approaching a venture capitalist cold.

Do… Research the VC, his/her firm and their investments. If you’re asking a venture capitalist to take the time to read your business plan or take have a call with you, then you owe it to him to take the time to understand who he is and what kinds of investments his firm makes. It’s a waste of everyone’s time if you cold call a VC for funding for, say, an artificial heart valve startup when that venture firm’s web site makes it clear they only invest in software companies. By researching investments that the venture firm has made that are relevant to your opportunity (and by mentioning that research when appropriate), you show the VC that you’re serious, thoughtful and have done your homework. Successful fundraising usually isn’t a game of large numbers (i.e. the number of VCs you send your executive summary to); it’s about being smart about who you reach out to, understanding and articulating why you’re reaching out to them in particular, and having the appropriate follow through.

Do… Reach out to the VC in a way that makes it easy for a VC to respond to your approach. Out of the three primary options—USPS mail, phone and email—I think email is by far the best way to make the initial approach. VCs are notorious for their hectic travel schedules, packed calendars and odd working hours. The cold email approach saves you time and makes it easy for the VC to quickly assess whether your opportunity is one that merits pursuing. Regardless of how you decide to approach VCs, make sure they provide all of your contact info (including email and phone number) so they can re-connect with you in whatever way is best for them. Believe it or not, I have actually received business plans (via USPS) where the only contact information provided was a postal address. I can tell you firsthand that the more options you give a VC for reaching back to you, the more likely you are to actually hear back from him.

Do… Be specific in your approach about why you’re approaching that VC and what you’d like to accomplish. I think it sets the interaction off on the wrong foot when I get an email or a phone call from someone and I have to prompt them during the dialogue to get to the heart of why they reached out to me. Conversely, I really respect it when someone cuts straight to the chase and tells me what they’re looking for and why they think I’m the right person for them to reach out to. It not only tells me the entrepreneur knows what he wants and is confident enough to just ask for it, but it also gives me a sense of where that entrepreneur is coming from, whether he’s done his homework and whether his interpretation of the situation matches my interpretation.

Do… Provide the VC with enough information during the initial approach to allow him to qualify that you and your opportunity are interesting. While “dark and mysterious” may work in the dating world, being coy or secretive in the initial approach to a VC usually backfires on the entrepreneur. I’ve been on the receiving end of emails and voicemails that say nothing more than “I have a really exciting idea for a company and would like to arrange a meeting with you at your office next Tuesday.” While I think most VCs like to be accessible and will generally try to return all credible messages they receive, in most cases an attempt on the entrepreneur’s part to create a sense of intrigue will backfire and cost him or her credibility. If you do leave a message or send an email, give the VC enough information for him to determine whether it’s of interest to him.

Do… Recognize that successful fundraising is usually a series of small steps rather than one large step. Most entrepreneurs wouldn’t expect a venture capitalist to read a business plan and immediately write a check to the entrepreneur. Similarly, it’s unlikely to expect that you can pick up the phone, cold call a VC and immediately have that VC spend a couple hours on the phone going through your entire presentation. Nor should you expect that you can cold email a VC and get him to have lunch with you without his having pre-qualified that your opportunity is interesting. Your primary goal when you first cold approach a VC is simply to determine whether he has any interest in your opportunity. That’s your only ask during the initial approach: “Does this sound like something that might be of interest to you or one of your partners?” And all you have to do is provide just enough information for the VC to be able to respond. Assuming there’s an expression of interest, you can proceed with the dance called fundraising.

Do… Follow through when you make your outreach and be gently persistent. I’m amazed at the number of letters and emails I get in which the entrepreneur concludes by saying “I’ll call you next week to follow up and see if you have any questions” and where I never actually get that call. If I get a credible email or letter, I generally will close the loop regardless of whether the entrepreneur calls me, but if the initial contact promises follow through, then not doing so costs the entrepreneur credibility. Likewise, I don’t think most VCs consciously try to test entrepreneurs’ persistence, but our travel schedules, busy calendars, and existing portfolio demands sometimes create a backlog. Gentle persistence in following up can be what keeps you at the top of their minds.

Don’t… Try to make idle chitchat as a prelude to your “ask”. We’ve all had those telesales calls where an anonymous sales person tries to engage you in pleasantries about the weather, how your weekend was, or whether you think <insert sports team here> can make it all the way to the Super Bowl, etc. I don’t know of many people that enjoy it. If you don’t already have some sort of a personal connection to the VC you’re calling, the first cold call isn’t the time or place to try to force that connection. If you assume that you will only get a finite amount of time from a VC in your initial approach (it’s a safe assumption), spend that time wisely on making your case why your opportunity is a great fit for that VC, not on trying to make witty banter.

Don’t… Name drop, try to create a false sense of urgency, or raise a lot of hype unless you can back it up. Venture capitalists exchange emails, have phone calls, and meet with lots and lots of people. Most can smell wh
en you’re trying to bull-shit them, and the only thing this does is make them more wary.

Paul Graham on Fundraising

Today’s great post is from Paul Graham and is titled A Fundraising Survival GuidePaul runs Y Combinator and has been involved in numerous early stage financings since starting Y Combinator several years ago.  Worth a long, slow, and detailed read for any entrepreneur raising money for their startup.