What Is the Venture Capitalist Really Looking For?
When all is said and done, what is a venture capitalist looking for when he reviews a business proposal? Many venture capitalists will tell you that they look for good management— that is, they immediately examine the management teams in depth. I think that most venture capitalists first look for what is special about this situation. In other words, they want to know why this company will make a lot of money. What is the compelling story behind this investment?
Basically, they are interested in the uniqueness of the idea or product or service and in management's ability to make it all happen. That means the venture capitalist will first look at the uniqueness of the product and what the team plans to do to capitalize on this uniqueness. Therefore, it would be wise for anyone preparing a complete business proposal to address the question of uniqueness in several places in the proposal.
Since uniqueness is the first thing the venture capitalist will look for in the business proposal, let's see where it can be mentioned. Uniqueness can first be covered in Part 2 of the business proposal, "Business and Its Future." The question can be taken up directly under "Product or Service." You can even have a section entitled "Uniqueness" as covered above. There may also be unique aspects of marketing and production. You should certainly comment on the unique qualifications or skills of the management team; it is not enough to say that they are good people.
Most venture capitalists consider management to be the key to every successful venture capital investment. This is the second thing the venture capitalist will be looking for, but the VC will place more emphasis on this area. The old saw of the venturing business is as follows: You can have a good idea and poor management and lose every time; conversely, you can have a poor idea and a good management team and win every time. Let us look at what is meant by "good" in this context.
The first thing a management team must have is experience. Unfortunately for young people, venture capitalists believe entrepreneurs should be between the ages of 30 and 45. There seems to be a 15-year open window of a person's lifetime, which the venture capitalist believes, is the best entrepreneurial age. Younger than age 30 usually means that the entrepreneur lacks management experience or the knowledge needed to conduct a strong growth-oriented company. Older than 45 usually means that the entrepreneur has the experience but lacks the drive and ambition. Certainly, there are exceptions to this pattern, but these are the general expectations of the venture capitalist.
Anyone preparing a business proposal should pay particular attention to the backgrounds of the management team. Explain in detail who they are, what makes them tick, and why these entrepreneurs among all the people in the world can take this unique product or service and make a great deal of money with it.
Money is the third key subject covered by a good business proposal. It is incumbent upon the entrepreneur to set out strong growth projections for the company. These financial projections must not only be reasonable in terms of the percentage of growth that occurs each year, but they must also be realistic when compared with the many projections presented to the venture capitalist by other companies. Every entrepreneur should spend a great deal of time making, evaluating, and understanding his financial projections. Some entrepreneurs have an accounting firm prepare the projections on the basis of assumptions made by the entrepreneur. This is probably a poor approach because the venture capitalist will undoubtedly interrogate the entrepreneur to see if the entrepreneur understands the projections and the underlying assumptions. If someone else makes the projections, the entrepreneur will not be able to explain them adequately or convincingly. The ven-ture capitalist will continue to question whether it is possible to expect the amount of growth indicated.
Many venture capitalists routinely cut the sales and earnings of a projection in half, and assume that these reduced figures are more realistic to expect. It will be incumbent upon the entrepreneur to persuade the venture capitalist that the projections are achievable.
How the venture capitalist will exit from this situation will be a critical factor influencing his decision to invest. He wants to know how he will get out before he gets in. The venture capitalist does not want to be a long-term owner in the company. He wants to invest his money, ride with the deal for a while, and then exit. There are three basic exits:
- Public offering, whereby the venture capitalist sells his ownership to the public.
- Sale of the company, including the venture capitalist's ownership to someone else (usually a large company).
- Sale of the venture capitalist's position back to the company, to you personally, or to a third party. You must cover this point in detail in your business proposal.
Remember, you need to cover (1) uniqueness; (2) management; (3) projections; and (4) exit. To miss any of these points is to set yourself up for rejection by the venture capitalist.