This blog post is not really for dummies.  I’m new at this blogging thing, and if you’re taking the time to read my blog, I don’t want to insult you by calling you a dummy.  My goal with this post is to shine a bright light on a common-sense approach to extracting money from VC’s:  stuff that somehow didn’t wash over me until I had pitched dozens of investors the wrong way.  I felt like a dummy when I realized how badly I’d been screwing up for a couple decades.

For starters, fundraising is a lot like Sales.  You are selling shares of stock in your company to an investor.  It’s a lot like selling a widget to a widget buyer.  It’s also kinda like dating.  You and the investor are not going to hook up unless he or she likes you, finds some common interests, and believes that a closer relationship with you might be rewarding.

I had a very successful 10+ year sales career earlier in my professional life, largely because I am a prolific asker of questions, and I’m a good listener.  One of the first things I learned in sales school is that, to sell anything to anyone, you must first find out what the potential buyer wants and why he wants it.  The initial goal of any sales process is to figure out what the other person wants, assess whether you can help him get what he wants, and if so, explain how you can help him get what he wants.  If you don’t know what he wants, and why he wants it, you cannot possibly assess whether you can help him get what he wants.  Fortunately, knowing what a Venture Capitalist (I’ll call him “Tom”) wants is easy because, nuances aside, they all want the same eight things.

What VC’s want from you

• Tom wants to believe that taking a meeting with you is worth his time. Every man and his dog wants to meet with Tom, because that’s where the money is.  Bonnie and Clyde robbed banks for the same reason.  Before investing an hour with you, Tom wants to know whether you are credible, and whether you are selling stock in the kind of company that matches his “investment thesis” (a lofty term that describes what kind(s) of investments Tom wants to specialize in and why).  Tom’s investment thesis may include sectors, such as bio-tech, ad-tech, or retail; specific geographies, like China or the U.S.; company stage, such as seed investments or later stage investments, and other attributes.  You can only sell stock in your company to Tom if your venture matches his investment thesis.
• Tom wants reasons to believe that he can trust what you tell him.
• Tom wants to reasons believe that your team is competent, passionate, and fun to be around. In other words:
  • Can you do the job (of making your company successful)?
  • Does each team member want to do that job more than any other job?
  • Will Tom enjoy being around you while you are doing the job?

You, your VP of Marketing, and your VP of Sales need to prominently display all three of these traits.  If the rest of your team is competent and passionate, but a little more introverted than the others, that’s fine.  Nobody expects the VP of Engineering to be the first one to get naked at a party, though I’ve seen it happen.

As I mentioned above, the first part of this process is just like dating and mating.  It’s mostly about the people, not the business.  Let’s say that Bill and Sue meet at a party.  If they engage in a conversation, they will be looking for mutual friends, mutual experiences, and mutual interests.  If Sue loves rock climbing, skiing, kiteboarding, and adventure travel, while Tom is not athletic, doesn’t like the outdoors, and prefers to spend his spare time reading books and attending the opera, both Bill and Sue are likely to conclude that they are not a match for each other so far as dating goes.  Neither is a bad person, and they may strike up a friendship, but a first date would likely be a waste of time.  If Bill is smart, he’ll make a good enough impression on to Sue to get her to introduce him to one of her girlfriends whose interests are more like his.

Back to pitching Tom as a potential investor — Tom will only want to hear the rest of your story if his top three wants (above) are met. Otherwise, he may text his assistant to make up some excuse to pull him out of the meeting.  If Tom likes what he’s heard so far, he will be ready to hear more of the story:

• Tom wants to understand and believe in your product and your business model. Specifically, he wants to know:
  • Who is going to pay you money?
  • For what product or service?
  • At what price?
  • Why will those customers feel compelled to buy?
• Tom wants to believe that you and your team have a good grasp of the obstacles that you must overcome to succeed, and a strong game plan for overcoming them. Here are some examples of obstacles (that may or may not apply to a given company):
  • Competition – who are your current and future competitors?
  • Competitive response:  What strategies and tactics might your competitors deploy in response to your entry into the market?
  • Regulatory hurdles – current and anticipated
  • Beyond competitors, are there any other entities that will “lose” if you succeed? For example, when the car was invented, buggy whip manufacturers businesses were substantially threatened.  If a successful version of your business causes similar collateral damage, how might those potential losers respond?  Might they will launch a campaign to try to convince potential drivers that your new-fangled automobiles are unsafe?
  • Internal drama/turmoil:  Do you have any disgruntled team member(s), investor(s) and/or board member(s)?  Is some of your company stock in the hands of non-contributors, non-believers or miscreants?
  • Litigation – Are there any current or expected legal threats to your business?
• Tom wants to understand, and know that your team understands, the factors that drive the unit economics for each of your customer cohorts.  A “cohort” is a subset of your target customers that has meaningful things in common with each other, and different from other cohorts.  If you’re selling to other businesses, then large businesses and small businesses may act differently enough to consider them as separate cohorts.  In a consumer business, maybe males age 18 to 35 act differently than females age 50 to 65.
  • How will you acquire each new customer cohort?
  • What customer acquisition cost will you incur for each new customer cohort?  Are there viral or network effects that will lower your customer acquisition costs?
  • What does it cost you to provide your product/service to a customer cohort?
  • What is the projected average lifetime contribution margin per customer for each customer cohort?  (Contribution margin is the amount of gross margin, less direct costs, that each new customer is expected to contribute.)
• Tom wants to know the projected scaled economics.
  • How many potential customers are there in the world?
  • If you capture a reasonable, but not outrageous portion (let’s say 20-30%) of those potential customers within five years, what revenue and profit will you generate?
• Tom wants to believe that he will earn an adequate return on his investment. In this case, you need to ask him what “adequate” means.  All investors want “as much return as possible,” but once you get past that (“ha-ha”), Tom should be able to answer the question.  Investors in early stage deals expect a higher projected return than later stage investors because they are taking on more risk.  Here are the questions Tom may ask to determine what return he can expect from an investment in your company:
• How much investment capital will your company need, in total, to reach sufficient scale to enable an attractive exit for investors?
• If the company delivers the expected revenue and profit at that scale, what will the company be worth at that time?
• What IRR will Tom earn if things go as planned? IRR stands for Internal rate of return.  Think of this as the expected compound interest rate that Tom will earn on his investment in your company between the time he buys shares of stock in your company and the time that he can sell that stock, either to an acquirer of your company or to the public market.  There’s a little more to it than that, but let’s not get bogged down in the details.
• What’s the lowest IRR that Tom might expect if the company does poorly but doesn’t crash?
• What’s the highest IRR that Tom might expect, short of some miracle?

Having given well over 100 investor pitches in my career, that’s my take on the 8 things that all smart investors want.  For whatever reason, I have found that most investors don’t tell entrepreneurs what they want in advance of taking a meeting.  If I was Tom, I would send my investment thesis to every entrepreneur who wants to meet with me and ask the entrepreneur to confirm that his venture matches that thesis.  I think that would save everybody a lot of time.  I don’t know why most of the Tom’s of the world don’t do that.  My guess is that it’s FOMO (fear of missing out) on some hot deal that falls outside his stated investment thesis.

What you should want from a VC

At this point, you might be thinking, “OK…but what about what I need?  What about what’s best for me?”  I really hope you’re asking those questions.  Because what you need does matter, and it matters a lot more than what Tom wants, for at least three reasons.

1. You are not Tom.
2. Tom is hedging his bets by investing capital in many companies, not just one. You, on the other hand, are going “all in” on just one company.
3. You have way more skin in this game than Tom does. Tom is mainly investing other people’s money, not his own, and he is getting paid a lot to do it, even if most or all of his investments lose money.  Just in case you’re not aware of how most VC funds work, here are the basics.  Once Tom and his partners (the “General Partners”) convince investors to provide them with capital to invest, for the foreseeable future (maybe 10 years), Tom will get paid a very generous annual salary (a “management fee”), and enjoy substantial perks whether he invests that money wisely or not.  Tom will also get a nice share (20 to 30%!) of any profit that they produce for their investors, without having to take any meaningful share in any losses they generate for their investors.  I’m serious.  That’s how it works!  You, on the other hand, are investing all your time in this one venture.  You may also be investing your money, and your friend’s money and family’s money.  If Tom invests, he will insist that you be paid a salary far less than his.

Given all of that, it’s even more important for you to find the right investor, than it is for Tom to find the right investment, and you shouldn’t feel bashful or selfish about feeling that way.

The best of all worlds, of course, is to find a “match made in heaven,” a mind-meld where your excitement about your company and Tom’s feed off each other, just like falling in love.  When that happens, it’s a beautiful thing.  If that happens, it will likely be due much more to your efforts than Tom’s.  Unfortunately, most entrepreneurs, especially newbies, view VC’s with a sense of awe, and are too timid and fearful to indulge themselves in this sort of self-centered, “shoot for the moon” thinking, but you should.  Since very few entrepreneurs have enough confidence to feel worthy of this kind of idyllic outcome, they won’t be standing in your way when you strap on some courage and go for it yourself.

Again, my goal in this blog post is to help you, not Tom.  So let’s go over Tom’s wish list a second time.  But this time, let’s take your needs into account as well as Tom’s.

• You both need to believe that meeting is worth your time.

In any match-making exercise, whether it takes place on Match.com, at singles bar, or at a venture capital firm, good things happen only if both parties are looking forward to the “first date.”  I wrote a separate blog post solely about this match-making topic called (my) Biggest fund raising mistake ever.  It’s chock full of ideas on how to find the right match.  I learned how this works the hard way, by making even more mistakes in the VC mating dance than I made in my 20’s, looking for romantic love in all the wrong places.  PLEASE read it, and let me try to save you some of the pain I endured.  It talks about how to find the right investors, and how to get them to join you on that all-important first date.

• You both need to believe you can trust each other.

This is also discussed in the blog entry mentioned above.  The punchline is that you will vet the investor’s reputation and integrity first, during a research phase that produces a “prospect list” of qualified potential investors.  Only then will you ask your network for a quality introduction to Tom, from someone Tom respects, who will vouch for your honesty and integrity as well as Tom’s.

• You both need to believe that the other party is competent, passionate, and fun to be around.

Again, your high-quality intro source will hopefully vouch for you and for Tom on this front, but this is just the beginning. You need to solidly believe that Tom is excited about your company, knowledgeable about your market sector, and fun to work with.  If you don’t believe that, then walk away.  Life is too short to work with the wrong investor, no matter how much money he can bring to the party.  Don’t set yourself up for ugliness with Tom when your company inevitably goes through challenging times.  Talking to other entrepreneurs that are working with Tom is a good way to assess what it’s like to work with him.

At this point, you and Tom are at a critical juncture in the match-making process.  If, and only if, you and Tom believe that there is a possible match between you, based upon (1), (2) and (3) above, should you disclose more information about your product and business model.  If either you or Tom has doubts about the fit after discussing the first three topics, it’s in your best interest avoid telling him the rest of your story.  If you find yourself in this position, I suggest you politely say “Hey Tom, it looks to me like we may not be the right fit for you.  If so, I don’t want to waste your time listening to the rest of the pitch.  Do you know any other investors who might be a better fit?”  This could bring you some value for the time you invested in the meeting (a referral/introduction or two), while still giving Tom back the rest of his hour to spend on things he cares about.

Otherwise, if the meeting proceeds, it could be that Tom is staying engaged because he wants to learn something from you that he could use to help someone else – maybe a friend whose company plans to compete with you.  This isn’t a silly paranoid idea.  I have personally encountered this more than once – as a recipient of a start-up’s deck that would not have wanted me to have it.  Seemingly high-integrity people just can’t seem to keep a secret, so I find it best not to tempt them.

However, if you are getting the right vibe from Tom, it’s show time!  You will want to let your passion for the business show as you dive into your pitch:  telling Tom about your product, your business model, the economics, and, most importantly, how much money Tom can expect to make if he invests on your company.

Your story will no doubt be based upon some facts, some assertions, and some assumptions, and it’s good to call them out along the way, along with proof statements for each one.  What’s a proof statement?  It is simply a reason why Tom should believe the facts and your assertions, and buy into your assumptions.

For the facts, you need to provide credible sources that confirm those facts.  Easy stuff, if they are really facts.

Your assertions are things that you are claiming to be true. For example, if you make the assertion that potential customers will pay $50,000 for your product, your proof statements might include the following:

• You already have orders in hand from customers who have agreed to buy it at the $50,000 price point when the product is available; and/or
• Three potential customers have told you that they will pay $50,000 for your product. Ideally, they will put this in writing for you, or agree to take a phone call from your potential investors.  If they really like the product you are building, they will likely be willing to help you get your venture funded.  Don’t be afraid to ask them for this kind of help.  It’s kind of a litmus test to see whether they really want your product vs. just being polite; and/or
• Your competitors are successfully selling a product that is clearly inferior to yours, at a $50,000 price point.

Some of your story will likely be based upon assumptions.  The proof statements in this case are reasons why Tom should believe that your assumptions will likely prove to be true.  Proof statements here may be (a) a logical argument why they ought to be true, (b) references to credible third parties who believe in the same assumptions.

Back to the list:

• Product and business model. If you’ve done your homework, this one should be easy. You are simply, and convincingly, telling Tom “who is going to pay you to do what, how much will they pay, and why will they want to do that,” along with solid proof statements to back up your facts, assertions and assumptions.

• Obstacles. You and Tom need to arrive at the same understanding of the obstacles you must overcome for your company to succeed.  Tom is not looking for a company that has no challenges ahead of it.  Such companies do not exist.  Every company, new or old, must overcome multiple challenges, many of which are, or should be, known at the very beginning, before any meaningful amount of money is spent on the venture.  I encourage founders to (a) look far and wide to identify all possible challenges, (b) prioritize them based on their potential impact to the company, (c) develop a cogent strategy for overcoming each confirmed obstacle, and (d) test-drive the hell out of your mitigation strategies by trying them out on potential customers so that you build confidence that your strategy will work.

If you are using slides for your investor presentation, include a slide called Obstacles that lists your highest priority obstacles.  During the presentation, however, verbally walk the investor through your strategy for overcoming each obstacle. Do not put your solution strategy on the slide, because you don’t want to tip your hand to your competition if your slide deck happens to find its way to them.  The Tom’s of the world are notoriously bad at maintaining confidentiality.  Proprietary information is part of an investor’s stock in trade, and I have seen startling violations of trust when it comes to maintaining confidentiality.  It’s part of the reason that investors almost always refuse to sign non-disclosure agreements.  You should assume that anything you include in a slide deck will find its way to your competitors, no matter how trustworthy Tom seems.

By the way, the best entrepreneurs can and should make their entire case to investors without slides, using just a white board, a marker, their words and maybe a few pictures.  This makes it look like you really know what you’re talking about, and it helps avoid leaking your proprietary information to your competitors.  If you want to impress Tom, try this.  It works like magic…

• Unit economics. Again, if you’ve done your homework, it should be easy to describe your proposition’s unit economics and scaled economics in detail.
  • What does it cost you to provide your product/service to a customer cohort?
  • How will you acquire each new customer?
  • What is your average customer acquisition cost for each new customer cohort?
  • If your product is a service rather than a widget, what is the projected average lifetime contribution margin for each customer cohort?

• Scaled economics.
  • How many potential customers are there in the world?
  • If the company captures 20-30% of those potential customers five years from now, what revenue and profit will you deliver?

• Investor IRR. What return on investment will Tom earn if he invests in your company?

Again, you need to nail down this story well ahead of time, commit it to memory, and preemptively answer the questions that are on Tom’s mind, which are:

• How much capital will your company need to reach positive cash flow, and why?
• If your company delivers the projected revenue and profit at maturity, what will your company be worth at maturity, and when will that occur? Determining the value of a going concern is part science and part art, but it is usually based upon the market value of public companies that are comparable yours.  For example, if companies like yours (i.e. similar or same target customers, products, price points, company growth rate) have a market value equal to 20 times annual EBITDA (earnings before interest, taxes, depreciation and amortization), you can estimate the value of your company by multiplying your projected annual EBITDA by 20 to project your company’s value at maturity.  Valuation methodologies vary with the situation and growth rate, but there are only a few commonly accepted approaches.  You can read about them here:
  • Business Valuation: the Three Approaches
  • How to Calculate the Market Value of a Company
  • Business Valuation- What Will Your Company Sell For?
• What expected IRR (i.e. internal rate of return) I will earn if things go as planned? This is the realistic
• What’s the lowest IRR that I might expect, short of abject failure? This is simply the pessimistic
• What’s the highest IRR that I might expect, short of a miracle? This is the optimistic

So – that’s about it. If you approach the process with common sense and confidence, it’s not complicated:

• Find your way to the right potential investors and don’t waste time with the wrong ones.
• At the beginning of the meeting, confirm your understanding of what kinds of investments Tom is seeking. If it’s not a match for your company, halt the meeting.  Tell Tom that you will keep an eye out for investment opportunities that match his interests.  Ask Tom for a referral to another investor that is a better match for your company.
• If you’ve confirmed that Tom is a potential match, impress the hell out of him by telling him the rest of your story as described above. Use your words, focusing on what’s in it for Tom, presenting the topics in the right order, because they build upon one another.

If you’re in front of the right Tom, the process is easy.  If you’re not, it’s impossible…