How To Find The Right Investors and When
November 22, 2010
Raising investment capital for a new startup can be a real challenge. Peter Ireland of AntiVentureCapital.com goes so far as to call it “by far the most unpleasant task an entrepreneur will ever have to perform.” But while securing capital is rarely easy, certain steps can make the process more straightforward. Largely, it comes down to pursuing the right investors at the right times. By focusing on investors who specialize in working with companies of your size and sector, the odds of getting funded go up dramatically.
What Sector Are You In?
You stand the best chance of getting funded by an investor who understands your industry. Whether it’s your wealthy uncle or Sequoia Capital, this is someone with first-hand experience in your field, who can thus easily grasp why your technology or solution will succeed. Unfortunately, some entrepreneurs take the “shotgun at the wall” approach of pitching to every investor who will listen.
This puts you in the difficult position of having to explain – to a complete novice – not only your technology, but also the entire background story of your industry. Even if the investor understands your explanation, they are unlikely to invest in a field that is otherwise foreign to them. Bypass these difficulties by focusing your effort on a relevant few investors with long histories in your market.
How Much Do You Need?
How big an investment you’re looking for is another indicator of which investors to approach. Roughly speaking, there are three categories of startup investor:
- Seed investors
- Angel investors
- Venture capitalists
If you need a very small amount of money to get going (say, $5,000-$20,000), you’re looking for seed money. A seed investor is one who invests tiny sums into a company during its earliest days, hoping to grab a tiny percentage of companies before they explode. Y Combinator is an example. If you need a larger investment – $50,000 or more – you’re looking for angel investment. Angel investors are typically retired businesspeople who keep an eye out for interesting investment opportunities. Substantially higher investments – $500,000 – $1 million or more – tend to come only from venture capitalists.
What Traction (If Any) Have You Made?
Some entrepreneurs believe the key to securing investment is a polished “elevator pitch”, PowerPoint presentation and business plan. And back in 1998, that often was enough to get the deal done. However, it’s critical to realize that most investors (especially in today’s cautious times) care more about cashflow - real, existing sales – than any plans you might have. According to startup veteran Peter Ireland, “no one reads business plans and no one takes you seriously if that’s all you have to show.”
Of course, there are some exceptions. A wealthy angel investor who knows you personally (like your uncle) might agree to fund you based on your plans alone. If you’re Mark Zuckerberg, so might a VC. For the rest of us, it’s naive and unrealistic to expect funding from prominent investors without showing them traction first. Generate some cashflow (however small) and then approach investors.
When Do Your Targeted Investors Solicit Proposals?
Keep in mind also that some investors prefer to be pitched in certain formats or at different times of the year. Paul Graham’s Y Combinator, for instance, states on its website that they accept funding applications twice a year. Once in the winter and once in the summer. They also outline a structured application criteria that all who want funding must adhere to in order to be considered. Larger firms, such as Ignition Partners, do not accept unsolicited proposals at all, preferring instead to only receive business plans from mutual contacts.
Still other firms welcome proposals at any time during the year from anyone who wishes to apply. Be sure to figure out how and when your targeted investor(s) prefer being approached by entrepreneurs.
What Is Your Liquidation Event?
Any investor you approach will want to know what your exit strategy (or “liquidation event”) will be. Otherwise, they cannot visualize a clear-cut way of getting their money out of your company. For a seed or angel investor, this can be as simple as “we’re going to use your money to get more sales and eventually get funded by a bigger VC.” If and when you do take a large VC investment, however, the pressure is on. Before funding your company (and forever afterward) the VC will expect you to either:
- Go public through an IPO
- Merge with or get acquired by a bigger company
If you cannot demonstrate a clear path to one of these two things, the quest for venture capital may have to wait. If you can, now is the time to approach a VC. Longtime venture capitalist Brad Feld goes in-depth on liquidation events and liquidation preferences in this blog post.
Need help deciding on which funding strategy is right for your company? Click here!