You have just quit your high-paying corporate career. You’ve been flung into a world of uncertainty, brimming with a lack of security and full of unknowns. Maybe you over-stayed your welcome on a friend’s couch (like I have), barely pulled a salary for 12 months, or firmly established yourself as the number one customer of any establishment with a two-for-one special. Why? Entrepreneurship…
That niggle in the back of your mind to solve a problem close to the hearts of a specific segment of people or potential customers. That’s why.
Recognising that a number of different ingredients go into the creation of successful ventures, one such ingredient is suitable finance.
In Zero to One, Peter Thiel’s book on entrepreneurship, the following observation is made: “The 12 most valuable technology companies are all venture backed. Together, those 12 companies are worth $2 trillion — more than all other tech companies combined.”
The short of it is that finance, or getting funded, matters. According to the 2015 South African Venture Capital Association (SAVCA) survey, assumptions about funding availability in South Africa were confirmed. Dry-powder capable of being deployed by some of South Africa’s most eminent venture capitals and funds is being kept locked away in chests, buried deep and well out of the reach of prospective entrepreneurs and portfolio companies of such investors.
While the number of venture funds has increased by 40% (from 22 to 31) over the course of the past four years, average independent deal values over the same period have decreased by more than 7,5 times, from R25 million to R3,4 million per transaction, and total value invested in the particular ‘asset class’ by more than 45% (from R281 million to R146 million).
Why? Having started a number of entrepreneurial ventures, worked with South Africa’s most established venture capital fund, and currently assisting entrepreneurs to raise finance, some interesting patterns emerge.
Entrepreneurs are flagging the lack of available and ample risk capital, while investors point at a lack of quality entrepreneurs. Exposure to both perspectives can only lead to one conclusion: there is hope. If anything, the last six months have served to reinforce what was initially believed: through En-novate, (a venture recently co-funded and co-founded by Dan Brotman and Natan Pollack, in association with Investec), I have had the great privilege of gaining access to South Africa’s top entrepreneurial talent, which is far greater than often believed.
From the murkiness, a question emerges: if there is plenty of capital to go around, what is the key to unlocking interest in getting your business venture backed? More apt perhaps: how do you get funded?
Anecdotally, the following is important:
Venture returns are not randomly distributed; they follow what is known as a ‘power law’, where a negligible or small segment of a portfolio generates all, or the largest proportion of funds’ returns.
But the fact remains that 20% of investments drive more than 80% of returns. Investors are exclusively looking to find, back and grow this 20%. Your job is to convince any prospective investor that you are worth backing, and by virtue, fall within the ambit of the highly regarded 20%.
How to get funded
The following observations are drawn from my experience at the coalface of venture finance in South Africa; be it through unsuccessful five minute pitches, or long-nights around dimly lit boardrooms late into the early hours of the morning, ultimately yielding success.
1. Foundations are key
Venture capital has always been good at funding the future. What does this mean?
The world’s most valuable companies have, among many, one thing in common — making peoples lives better: Important problems, being solved for a large base of sufferers in need of particular and fitting solutions.
100% of the world’s smallest market does not mean anything. You need to fundamentally understand and articulate why your solution exists, why it matters, and why it is going to get BIG. Technical talk splayed over a meaningless solution to a non-existent problem won’t fool anyone, especially astute investors who look at investments for a living. Moreover, some of the world’s most profound business models with the deepest of economic moats have come as a result of the ruthless pursuit of impact, not the other way around.
The entrepreneurs who get funded by the top investors understand this better than anyone.
Tip: Find those investors who are intent on making the future better, articulate your existence in that version of the future, and think about how your product, solution or service will assist in realising that future.
2. Returns matter
Venture investors have their own base of investors to answer to, and to generate returns for. (Investors into venture funds are commonly known as Limited Partners, given the proclivity for venture funds to be housed in partnership structures.)
Furthermore, with so few venture-backed companies returning entire funds, you need to think about and construct your version of 10x.
Tip: Be able to answer why your business will generate a return of at least ten times the money investors initially look to provide. To some, this might seem out of kilter with known-knowns. The reality, however grim, is that very few investments make it big, and that investors need to look for and find those companies that ultimately will. Hence the need to understand why your company will be crucial in making the future better, be valuable for that very reason and therefore return multiples on money initially invested.
3. Why you?
We often see entrepreneurs fixated on their product, their market, or perhaps the unit economics underlying the ability of their enterprise to capture economic value. For the most part, entrepreneurs forget the single constant in all venture-backed businesses: great people and the drivers behind their success.
Looking at the websites of some of the world’s most successful venture funds, or talking to any local investor, you will find one thing — it’s all about people and the founding teams that drive entrepreneurial ventures.
It’s not hard to see why…
The funny thing about early stage companies is the desire of such businesses to change and evolve over time, often way beyond the scope of what was initially envisioned. Investors know this better than anyone and look to find those people who will succeed above all else.
Great people shape the DNA of great companies. Without people, DNA does not exist.
4. The three Ts
Team, Team, Team — Enough said.
As venture funds have become more widespread, and the asset-class accepted into the mainstream, an interesting pattern of fragmentation has started to emerge.
Among many, funds are being created and developed around frameworks that relate to the following: to gain exposure to specific industries; to acquire minimum ownership stakes; to become active in managing and running portfolio investments; or to apply capital for social good.
Moreover, clear beliefs about investment stages, cheque sizes and qualifying criteria exist among South African investors.
Tip: Allow your investment requirement, the stage of your business and your business’s industry application to drive and dictate your strategy in finding suitable investors. Just as ‘product market fit’ is important, so too is investment and investor, i.e. selling your business and vision to the right buyer or recipient. For the most part, information pertaining to investment requirements is to be found on the websites of venture funds.
Whatever the unique parameters of your situation, or that of your company, it is imperative to optimally match you, your company, and any investors you are looking to onboard. In short, this means understanding where respective interests lie, and ensuring that they are aligned with those of investors.
Instead of sharing your marketing materials or your financial model with the first result returned by a generic
Google search, think about:
- How much equity you are willing to give away and why
- Your industry, what your company would need to succeed (in addition to capital)
- Strategic benefits that particular investors are able to provide in helping you ‘make it’
- Whether you are looking to grow and exit from your business in the near-term, or create value for the long-term
- How your business fits in with the existing portfolios of potential target investors
- Your desire for investors to get more hands-on and deeply involved in the operation of your business.
And while the outline above is no guarantee to getting funded, thinking about these questions deeply and meaningfully is sure to get you better prepared, assist you in crafting a story that will resonate with the frameworks and language spoken by investors, and ultimately drive a higher probability of receiving a cheque from an investor that is burning to see you succeed.
If there are any takeaways to be had, it is this: think deeply about the process, your business and resist the noise. The most important asset you can have is the ability to think independently, however painful this might be.