11 Jun '08 Entrepreneurs' Conference: What do investors want?
Milwaukee, Wis. – Entrepreneurs don’t want to hear that securing capital is like finding a needle in a haystack, but given the wish list of angel and venture investors, there does appear to be some needle threading to do.
The conference not only touted the sophisticated technology of the state’s more promising young companies, but attempted to answer the question on the minds of many capital seeking, start-up business owners: What do investors want?
It’s a question worth pondering in part because Wisconsin ranks low – 48th, according to Daniel Steininger, director of Successful Entrepreneur Investors, LLC – in terms of the number of start-up companies formed, and it attracts only $100 million of the $27 billion deployed annually by angel investors in the United States.
But as it turns out, there is an investor wish list, and it was offered up by a panel of investors as “10 Commandments of Investing.” Having affirmative answers to the following investor needs means an entrepreneur might be investment ready:
• Quality management.
• A strong board of directors.
• A detailed business plan.
• Access to capital.
• Product need.
• Sustainable [product] differentiation (sustainable market advantage).
• Market size and [growth] trajectory.
• Technology risk.
• Investor execution risk.
• Investment evaluation risk.
Selective start-ups
Investor David Brophy, director of the office for the study of private equity finance and an associate professor of financing at the University of Michigan, suggested that start-ups should be selective and seek capital from investors in the top quartile of return on investment. Investment firms at the top of the heap account for the bulk of returns; in fact, Brophy said 90 percent of returns are generated by 10 percent of the venture-equity firms.
Beyond that, he placed a premium on past management experience. Brophy said investors want an experienced management team and past failures – a badge of honor in real technology hot spots – are not necessarily disqualifying.
“We look for the CEO’s failures and successes,” he stated. “What have they done in the past?”
The technology upon which the company is based has to be innovative; it can’t be “me-too” if the compnay expects to reach that top quartile of returns, Brophy said.
For the purpose of sales, a differentiated product should be combined with efficient distribution, and the target market must have “Blue Ocean” characteristics. In other words, the entrepreneur should have the market all to himself or herself for period of time before someone encroaches on it.
“We should be risk mitigators, not risk takers,” Brophy said of investors. “What we’re looking for in an entrepreneur is someone who has figured out what their risks are, and what they have done to mitigate them.”
Geography plays a limiting role, according to Brophy. He said Midwest entrepreneurs can’t count on coastal investors to come here and do seed or early-stage investing because they need a local presence.
“We need to eat our own lunch,” he said.
That’s not necessarily be true of life science investing, according to Steve Burrill, CEO and founder of Burrill & Co., a San Francisco based merchant bank that invests in biotechnology businesses. Burrill, a University of Wisconsin-Madison alum who founded the UW’s student business plan competition, told entrepreneurs that capital like his is “agnostic” in terms of geography.
“Your job in building a company is accessing capital anywhere in world where the value proposition is favorable to you,” he said.
Forget EBITDA
As an investor and an entrepreneur that grew National Business Furniture into a $100 million business, George Mosher cautioned start-ups to be realistic with their expectations. He said a lot of business plans are presented with “hockey-stick projections” (steep growth curves), but the world does not work that way.
“The biggest force in the world is inertia,” he said.
A business is not just an idea; it’s a way of doing something, he said, so putting a together a team can give entrepreneurs a holistic point of view. “It used to be that one person could run a business,” Mosher said. “Now the world is so complex that you need a team.”
Mosher noted that the difference between angels and venture capitalists is that angels often will commit all the capital upfront, whereas venture capitalists commit some in an initial round and more as the company reaches certain milestones.
According to Mosher, one of the business plan details that investors will want to know is when the company expects to make a profit – not a profit in terms of earnings before interest, taxes, depreciation and amortization (EBITDA), but a real profit.
“You can’t take EBITA to the bank,” he said. “For every dollar you take in, you better not spend more than 95 cents.”
As for technology risk, Mosher said entrepreneurs better have people who understand the technology because it has to be explained in a way that makes sense to investors.
Business plan detail
Contestants in the annual Governor’s Business Plan Contest echoed investors on the importance of business plan preparation. Graphene Solutions of Platteville eventually won the contest, but most of the four finalists said the exercise of writing and revising their business plans should pay dividends for their early-stage companies. WTN interviewed three of the four finalists, and each is looking for either angel or venture capital to grow their business.
Jeff Williams, CEO and president of Platypus Technologies in Madison, said the company decided to develop a portable asthma monitor after assessing the market need with physicians. Existing monitors take up considerable office space, so Platypus developed a smaller, tabletop version.
“Before the Business Plan Contest, there was no business plan, there was just an idea,” Williams said.
Related stories
• Nanotech firm wins Governor’s Business Plan Contest
• Strommer: To thrive, Wisconsin must build entrepreneurial culture