Venture Funding basics

Jane Levin's Profile

My company is interested in raising a round of Venture Capital funding and I need to help our CEO put together a pitch, find VCs to pitch, and with some luck close on a round with all the legal docs, etc. I would love to hear from this audience how we can best go about this. What should our pitch cover, what should our financial model cover, where do we find VCs, how do we get introduced to them, what should we prepare for due diligence, and what should I pay attention to in the closing documents. Any advice, docs, weblinks, etc. would all be appreciated.

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Let's start with the pitch. There are a few good sites for your pitch. Check out: http://blog.guykawasaki.com/2005/12/the_102030_rule.html, http://blogs.wsj.com/venturecapital/2009/04/09/how-to-avoid-making-a-bad-pitch/tab/article/ and there are plenty of others.

The outline is the easy part, however. The tough part is making your point succinctly. This comes from lots and lots of pitching. In Silicon Valley there are a few organizations that hold "quick pitch" events (like here: http://www.vctaskforce.com/). These events give you 90-120 seconds to pitch and they have a panel of VCs or angel investors who give you quick feedback. Don't think about getting your funding here, think about tuning your pitch. If you can figure out how to a)get your message across and b)say something compelling about your ideas in 90 seconds, the typical 10-15 minute VC pitch will be a walk in the park. Seriously, practice, practice, practice.

Also, don't take the 10/20/30 rule or any of its analogues as sacrosanct. If you think it is key to getting your point across, go ahead and add an appropriate slide or 3. But you do need to keep within the given time constraints and i think a hard and fast maximum of 15 slides is the rule.

Another thing to keep in mind for your presentation deck is that words are to be avoided whenever possible. Use graphics, tables, clip art, anything but words if at all possible. And having struggled with this myself many times, i can tell you that it is very possible to go with about 80% graphics if you work at it and that should be your goal. There is almost always a more compelling way to tell your story than a list of bullets.

Here is a term sheet generator http://www.wsgr.com/WSGR/Display.aspx?SectionName=practice/termsheet.htm on the site of THE prototype Silicon Valley law firm. Some good stuff to read in there as well.

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You don't need a full business plan. I have raised many rounds on just an elevator pitch, executive summary (1 page) and a slide deck.

Once you get past the screening meetings with the VC you will get directly into due diligence where your financial model, customer calls, executive referrals and real operating and strategic issues will rule the discussion. Although you don't need the biz plan, you should have one fully formed in your head b/c you will have to talk to your strategy at length and to many parties.

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http://www.proformative.com/og/resource/general-content/fundraising-executive-summary-template

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I just launched my software company and will be looking for some funding. I don't want to go the VC route just yet. Of course, I do have a business plan and a 12 month cashflow, and I have users as well (no clients yet). I found this very helpful for the stage I'm at right now. Thank you.

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Along with the helpful comments above, I can not urge enough that you have adequate legal counsel, early on, to assist with document review and preparation. There will be a huge amount of disclosure in your documents that want to be sure is right, securities registrations to be aware of at both federal and state levels (e.g. Rule 506 of REG D), as well as complicated terms most likely offered that you need to understand and negotiate (e.g. liquidation preferences, preferred stock, voting rights, etc.).

Make sure your books are in order and ready to audit, or already are. You will get drilled with questions once the due diligence phase begins. Also begin building electronic files of all your banking, legal and corporate documents; also to be requested during this phase.

Have a strong idea of what your company valuation is; then expect to be offered substantially lower.

I somewhat differ on only needing a short 1 pager executive summary. That may get you an initial conversation/meeting, but for the most part gone are the days of investors writing checks for an idea. Know where you are going, show your financial history and build a detailed financial model (that can be easily measured against).

Lastly, consider debt before giving a substantial portion of the company away. Roughly the same amount of work will be needed to get to yes with a bank (and you need to be both cash flowing, as well as have adequate liquidity and debt to equity ratios).

Lived through this many times and dealing with it as we speak on behalf of a couple companies. Feel free to contact me directly if this prompts more detailed requests; would be happy to assist.

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A great book to read is "The Art of the Start" by Guy Kawasaki. Read it through carefully and learn the power point rules.

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I think Bryan Frey is spot on concerning preparation.

Finding the right set of VC's is dependent on your industry and to a lesser degree your geographic location. In order to get in front of the appropriate Venture folks (early stage/growth stage,etc. technology/Life Sciences/CPG, etc.) will take homework and networking. Your professional service providers (CPA firm, attorney and banker) should be able to make introductions. If they cannot, you should find someone else. If you are in the Boston area, I might be able to help.

Good luck!!

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You will certainly need a good financial model. I suggest you use a five year model so that you can show your company getting out on that hockey stick. It's almost a joke amongst investors: the hockey stick is always there. I think they would be surprised to not see it there. Of course it's their own darn fault - they only invest in hockey stick companies. Anything else looks like it grows too slowly or it's too small of a play to be interesting as a "venture" investment. So going out five years lets you get to the hockey stick. If you don't get there, don't bother looking for venture/angel capital.

I like going bottoms up. That is, build your model from the details on up. You can go tops-down, but that looks like (and is) more about hand waving then solid analysis. Everyone knows that your bottoms-up approach is a bunch of assumptions on top of more assumptions, but at least you have run full models through and, presumably, gone to school on the key levers in your economic model. Practically speaking, this makes a real difference in your knowledge of your own business and what makes it tick.

Run full P&L, cash flow and Balance sheet with reasonable cash assumtions around payables and receivables, capital expenditures and the like. The output of such a model gives you the critical metrics that investors will be looking for. Such as all of your margins (gross, operating, EBITDA), cash flow, and cash needed to get to positive cash flow. A critical data point is the total investment required to get to cash flow positive. If you go to this level of detail (not too tough) then you can spend less time talking about what your company might look like financially, and more time discussing core profit and cash drivers and the strategy that will get you there. You will only use the model on one slide (typically) of your pitch, but under intense questioning to get into the diligence process you will be happy to have a bottoms-up model, and in due diligence that model may get a lot of scrutiny and exercise.

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One key to whether your business model is fundable is going to be your assumptions on future Revenue.

Why is (or will) your product different, who are your competitors, how big is the market, what % are you able to service, how much can you charge?

How will you be recognizing revenue? Do you get cash in advance or over time?

How will you be selling? Direct or indirect? To small, medium or enterprise customers? (assuming you have revenue now: How productive are your current salespeople? How well is your marketing engine working, is there enough pipeline for your salesforce?).

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I do financial modeling (from the simple to the very complex), due diligence and other M&A work for a living. I find that one thing many people seeking VC funding can do to help their cause immensely is to align themselves with another person who has proven themselves in their chosen field.

A prime example...a recent client of mine had a solid idea to develop high end properties in a resort location. The idea was good, their research was good and their pitch was compelling. The problem? Neither of them had ever been involved in construction or real estate development. My suggest to them was to align themselves with a proven developer or big time real estate investor...even if they had to give away some equity. Have a person who has proven themselves attach their name to the project. It will open a LOT of doors. As it turns out, it did.

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This is a great piece of advice. It can also help to make connections with the people who know everything about the venture business. Look for the conference organizers (www.ibfconferences.com or www.undertheradarblog.com), who have to know all the venture players and spend time with them on a regular basis. Reporters have to know a lot too and spend time interviewing investors. A good reporter can tell you what a well-known venture capitalist had for breakfast and make a pretty good guess as to what he or she will have for lunch. There are consulting firms that can help you with this too. I've heard good things about Venture Archetypes, for example, but know that they'll charge a commission on any funds you manage to raise.

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Someone else on the thread mentioned this as well, so I won't belabor the point, but there are a lot of snake-oil dealmakers out there that will extract money from you without adding value. And that's if you're lucky! Some will effectively tank your chances of connecting with savvy VCs. Believe me, they know who these people are and HATE dealing with them.

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These are some excellent comments. Another site to check out is the Kauffman Foundation - www.kauffman.org, where there are not only articles, but templates as well. Another excellent site is the Accel Partners website, which has templates too.

A significant number of investments made by funds is through connections and networks. Start networking from now, attending industry events, and talking about the company and its products/services. You have to create buzz about the company and its services.

Talk to a law firm and an accounting firm. Both are big sources of referrals to funds and their partners, and can facilitate meetings.

Good Luck!!

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Its a long tough road without prior VC connections so need a very compelling story, deep industry experience and strong advisors (lawyers,accountants,board members) who have connections. Cold calling rarely works
As suggested keep presentations short and effective - one page exec summaries and 15 slides or less. Critical areas are management (why should we bet on you), market(is it big and viable), competitive advantage/IP (why will you win). Early customer wins' stories are great.
Business model assumptions need to be clear particularly on revenues and use of funds
Good luck!

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Depending on where your VCs are located, the venture investors will expect the company to show that they have allocated sufficient equity compensation (e.g. restricted stock and stock options, etc.) to cover the key personnel which, depending where your business is located, may go as far down the org chart as the receptionist. They will want you to show that you have reserved at least 2-3 years' worth of stock for equity awards to key new hires. Equity compensation in this context is used to demonstrate to the VCs that the company will have the ability to attract and retain the people necessary to make the business successful. You would be wise to have an equity compensation forecast ready and justifiable based on your planned staffing increases.

In addition, if you already have an equity compensation plan in place, you should audit the plan and the corporate governance documents (articles, minutes, etc) to make sure that everything is in order. It will save time if you can go into the deal with the intense investigative work already done and leave spot audits to the VCs attorneys.

And, one final suggestion, having a virtual data room set up with all of the standard documents requested during the VCs diligence phase will make your company look much more professional, on top of saving significant time and money in providing your responses.

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Here is an excellent article on how VCs use the option pool within the context of pre-money and post-money valuation - and how you can be prepared for those negotiations:
http://venturehacks.com/articles/option-pool-shuffle

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If you are not a veteran of VC negotiations you must read the article Achaessa pointed out. Let's face it, VC's have only their interests at heart when negotiating valuations and the option pool issue is a doozy of a giveaway to them. However, they fight like cats when it is their turn to take the option pool dilution in later rounds and immediately insist you do an equity plan. So just do one and be ready for the question when it arises. The moment you push back with your plan they will change their tone and you can move your conversation instead to key hires and their equity ranges. Given the multiple of key execs over the grants of all other employees, that is where the bulk of the attention will be when it comes to your equity plan.

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Virtual data room is a great idea. Check out Pandesa or Box.net. Or you can dedicate a server to it in your own network room, but that is a major PAIN.

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Pandesa is one of the best - a favorita, cost-competive resource.

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i've recently used dropbox for our (free!) dataroom when selling a private company to a public/european buyer. it worked flawlessly. not as many bells and whistles as Pandesa, but it worked great. and is free !

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I would stay away from Dropbox or Box when it comes raising funds - they are great collaboration tools but the security is not comparable to a virtual data room. You don't want any sensitive company information on low security collaboration sites.

There is a reason you keep your important and sensitive business information in locked filing cabinets around the office - they are for authorized eyes only.

Virtual data rooms may cost more than $0 but you are ensuring the safety and security of your vital business documents. Plus you give strict permissions as to who can see what documents and audit those that are actively reviewing the documents so you know who your more interested investors are.

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I recommend you contact colleges and/or universities because many of them have programs and networking groups that guide and advise entrepreneurs through the process. Here in the Boston area we have the MIT Enterprise Forum of Cambridge*, TIE-Boston*, the Enterprise Center at Salem State College, and the WPI Enterprise Forum, to name just those that come to the top of my head. Also, the National Venture Capital Association (NVCA) is probably a good resource.

*Both MIT and TIE have branches in other regions.

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...what are the typical commissions a broker might earn in securing a deal?

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Proformative

http://www.proformative.com/og/discussion/cfos/broker-fees-securing-investors

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thanks John, I read that thread the other day, but...as with the posts below...I appreciate the help...but the answers seem to vary quite a bit. I realize that there is no "one right answer", but i have seen anywhere from less than 5% to 12%+ and that is obviously a great range...I was hoping for a few people echoing the same range within a couple percentage. Oh well. thanks everyone for the help.

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Hillari - Generally variable depending on 1. Size of deal and 2. Type of deal. In my limited experience, rates range between 7.5% (deals under $250K) to 150 bps $10MM+. And there are plenty of other twists - commission can age/diminish after certain period of time, commission can be tied to revenues post deal, commission can be higher if broker brings in multiple buyers/ deal settles above your considered price. Hope this helps.

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The number I usually think of is 5%. But, it depends on how much the finder is involved in the fundraising. If they are only pointing out the fish...it may be less. If they are cleaning and gutting...it could be more.

You should know that most finders are in violation of securities law. This article is interesting: http://www.inc.com/magazine/20050301/priority.html.

Most of the risk is to the finder. But...there is some level of risk to the company that theoretically an investor may have the right of rescission if a finder is involved. Talk to your attorney!!!

Also, VC's hate money that goes out the back door and not into the making the company successful.

That being said...finders are used all the time. Entrepreneurs are risk takers. Regarding finders, after hearing from their attorney & CPA, they will acknowledge the risk and do it anyway.

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