Growing Your Business
It's Never Too Soon to Think About Attracting Investors
Start early and screen carefully to find the right investors.
This article originally appeared on Entrepreneur.com.
It's common for entrepreneurs to face many different challenges during the early years of a startup. Goals, like clearing initial financial hurdles, establishing a credit history, achieving profitability and driving growth demand much of your attention, and rightly so.
But what about the longer term? If there is any possibility you will be looking to bring new investors on board in the future, the time to start preparing is now. That's not to say you should ignore more pressing and immediate concerns, but there are steps you can take that may make you a more attractive candidate to potential investors when the time comes.
Shen Tong, founder of FOOD-X, an international business accelerator program focused on launching food-related ventures, has helped fund 40 startups personally (and FOOD-X has helped more than 300 startups through funding and mentoring). He believes young businesses should pay particularly close attention to the concept of traction during the pre-investor stage.
"At the ideation and early product/market-fit stages, traction may not be [reflected in] financial numbers. It can be social followers, crowdfunding campaigns, friends and family investment," he says.
For example, Tong was persuaded to invest in GreenBlender, a company that offers weekly delivery of recipes and ingredients to make healthy smoothies, because it demonstrated unusually high traction through its Alexa Rank, which measures strength of website engagement.
It was logging around 10 minutes daily time-on-site, high daily page-views per visitor and a low rate of people leaving the page.
The company could be seen as just another grocery delivery business, in which case FOOD-X would not have considered it a viable investment target, but what set it apart was the traction it demonstrated.
"We first noticed GreenBlender in the beautiful and striking-looking smoothie recipe content on their website," Tong explains. He made the investment not just because the GreenBlender idea might capture the snacking and smoothie trends; the potential mega-trends of "superfoods" and fresh ingredients; or the trend of health-conscious consumers touching, handling and making their own food. More important was the fact that "whatever trend GreenBlender might capture, they have shown the right kinds of traction, even before their products, to keep people engaged about know-how, the craft of making a beautiful-looking and healthy smoothie, on a regular basis," he explains.
Business Fundamentals Matter
Investors are also interested in business fundamentals. The specifics can vary by industry, company size, the particular focus of individual investors and other factors, but foundation building should be a part of your strategy from day one.
"A business should begin compiling documentation right away to start setting benchmarks for its performance and to outline some core pillars of the business," Tong says. Examples of documentation he looks for include a founder's agreement, an employee stock ownership plan (ESOP), a proper accounting system, [incorporation documents] and historical numbers (sales, cost of goods, overhead, profit margins, etc.). Investors are interested in any intellectual property (IP) a company might have, "so any documentation to support that is very important," he adds.
Documentation plays an important role in presenting your case to potential investors. "During due diligence, different investors look for varying levels of information on a number of topics, from financial growth metrics to customer testimonials and references," says Michael L. Torto, CEO of Embotics, an enterprise software company that enables self-service IT. "The bottom line is, whatever you tell them, you better be able to back it up."
While individual investor expectations may vary, most will want to see documentation of your financial performance, your background and industry experience, anything that makes your business unique, the effectiveness of your business model and the size of your potential market.
Torto has attracted investors for multiple technology companies he's led over the past 25 years. He credits that success to the following, consistent capital-raising formula of steps:
- Prove the market is big enough.
- Prove a consistent pattern of sales and examples.
- Evaluate the cost to deliver more revenue at scale.
- Determine the competitive landscape and your ability to win. (Torto utilizes a combination of market research and beta testing, as needed, to execute on the first four steps.)
- Only after proving steps one through four, attempt to raise necessary capital and a fair valuation to expand the market and win the space.
Choose the Right Investors
Just as potential investors evaluate and your company, you should do the same with them. Tong and Torto both warn that casting your lot with the wrong investor is a misstep to be avoided at all costs. "You see this all the time, people accepting funding because they want the resources and are eager to put their plan into action; they just assume the rest will work itself out," Tong says.
Torto's even more emphatic: "Avoid taking money from just anyone, as you may wake up one day unpleasantly surprised by their inability or unwillingness to support you—especially during difficult times."
To boost your chances of ending up with the right investors, Torto suggests evaluating them on three criteria: a comprehensive understanding of your market space; a funding thesis that matches your own in terms of growth and value targets; and the fit and reputation of the individual with whom you'll be working, not just the name of the firm. Be sure to nail down specifics such as check size, availability of follow-on funding and key terms of the investment, Tong stresses.
"The reality is that there are enough investors out there and enough capital moving around that you can afford to be patient and find the right investor who believes in your mission and your goals for the business," he says.
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Michael J. McDermott has been writing professionally on business, finance and marketing for 30 years. His work has appeared in a wide variety of publications, including Chief Executive, Entrepreneur, and many other publications.