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August 28, 2011

Are You Prepared to Speak With Venture Capitalists?

When you own your own business and you have reached the presentation-stage with a venture capitalist you know that you are heading in the right direction. But venture capitalists are not only going to evaluate the quality of your presentation. They are also going to ask questions and the top 3 they will ask pertain to:

1. The capital amount and reason that you require it.
2. Your valuation.
3. Your exit strategy.

1. The Amount of Capital

We are all aware that whenever you request money from someone they invariably want to know why you need it. This holds true when you approach a venture capitalist with a request for a sometimes large sum of money.

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This is an important question and the way you answer it is also important. You need to really know your business in order to answer it effectively. Make sure that you fully understand and grasp your projected financial model and that you are completely aware and cognisant of how each dollar will be utilized in your business.

It is also worthwhile anticipating that the VC might well enquire what you would do with a lesser amount. For example if you need to raise $2 million they are likely to ask what you would do in the event that you managed to receive only half of that. This is an opportunity for them to find out your main priorities and milestones that you would be likely to accomplish if you had less funds.

2. Your Valuation

Many view this as a trick question and as such there is no correct answer.

When a VC enquires how much your firm is worth it is best to not answer in the high millions. Chances are you will simply be viewed as being unrealistic and incapable of handling the all too real difficulties of start-ups.

On the other hand understating the answer is likely to cause him/her to assume that something isn’t quite right.

Of course you might be able to provide a fair estimate of your company’s value but this could still become a problem in the rounds of capital raising. When you give a fair estimate it actually gives the VC the opportunity to discount it and thereby limit your bargaining power when it comes to the actual funding.

Therefore the ideal answer to the question is to inform the VC that you prefer to let the market decide on the value of your firm. Provided that you can assure the VC that your firm is destined to be successful the VC will create the market themselves. Chances are they will bid against each other and thereby raise the value of your company.

3. The Exit Strategy

The VC is essentially enquiring about getting a return on his or her investment. Usually and ‘exit’ will occur when your company has acquired or already possesses an IPO. Both are common exit strategies however there are more.

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Of course one should remember that the most successful companies tend to have CEOs that are geared toward building a successful company for the long haul. VCs are aware of this and therefore seek leaders who are prepared to devote the effort required for a long period of time.

To illustrate this point consider what Dick Costolo who is the founder of FeedBurner which was acquired by Google said. He said that you should make a map of the way in which you want to grow your business and not a map of what you want to occur to the business.

What he said really illustrates the principle behind successful companies who create their own exit opportunities while they grow. Rather than focusing upon determining ways to exit your business build an excellent business with the ideas that you possess.

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