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VCs vs Angels. I get a lot of questions about what Venture Capital (VC) investors look for when they are considering investing in a venture. Many of the characteristics I’ll cover here are also what “Angel Investors” look for in prospective investments. These days, a significant % of such investors have been at it a while and have reached a level of investing sophistication that is hard to differentiate from that of VCs.
Screening factors. In my experience and that of my client companies, the venture characteristics discussed below usually play at least some role, and often a significant one, in the investment screening decisions of VCs & more sophisticated Angel investors.
1. Strong Management Team. Pretty much every VC I know will agree with the old saying, “I’d rather have an A team with a B idea than vice-versa”. The reason for this is that startup ventures and even those a little further along in their development, rarely go exactly as planned. There is always “execution risk” in any venture, but the earlier the stage of the business and the more cutting-edge the technology being exploited, the greater this risk becomes. In such situations, it is very helpful to have a team that has been around the block and has a track record of success of maneuvering in such dynamic environments.
2. A Growing, Sizable Market. VCs typically are not looking for “small” opportunities. They are looking for ventures that are targeting markets which show promise of significant growth for at least five or ten years into the future and which are of a size ($1B+, minimum) that will allow their prospective investment to enjoy considerable returns. So, if you are looking to corner the market on widgets in your small town, or if you are looking for working capital or even growth capital for your business in a mature, low-growth industry, don’t bother contacting VCs. The one nuance to this is – if you are doing something to “revolutionize” a low-growth industry in a segment that has reasonable size, you may then be able to stir up some interest from VCs. Also, clearly there are VCs & Angels that will look at opportunities in small, highly targeted segments, particularly for some very specialized technologies, but these are fewer and farther between.
3. Strong Margins, allow you to make a lot of mistakes and still be around to fight another day. They also allow the potential to make tremendous Net profits & Investor Returns – if the company grows as planned. For these reasons, VCs like to see strong gross margins (60%+) in their prospective investments. That said, it is widely known that business opportunities with such high gross margins are not easy to come by. VCs & other investors are willing to look at businesses that don’t quite reach that benchmark – particularly if there are other positive characteristics that make the venture attractive. Sometimes, for example, while strong gross margins would be a “nice to have,” it is much more important to the venture and the investor that the business achieve critical mass (for example, a large number of subscribers) quickly to become the leader in the market and attract the interest of potential acquirers. Every situation is unique, of course, but all else being equal, strong margins currently or at least “projected” at some point in the future, raise the attractiveness of a potential investment.
4. Exit Potential, is very important. There are very few VCs that want to be in an investment for “the long haul”. In fact, VCs typically raise their money from institutional investors & wealthy individuals, in order to invest it and obtain the best return they can in a short period of time. So there is an investment horizon and as managers with fiduciary responsibility to their investors for the money they have raised from them, VCs do not have the luxury of not considering how they will exit from the investment. While the situation for Angels who are investing their own money is distinct from that of VCs investing money on the behalf of others, their “exit mentality” is usually similar. For these reasons, both VC & Angels will typically strongly consider how they’re likely going to be able to get out of a particular investment, before they will invest a dime.
5. Proprietary Technology. The focus on proprietary, patented (or patent-pending) technology will vary depending on which industry or industries the VC is focused on. In some industries, this may be much less important and in other industries, such as biotechnology, proprietary technology and such things as FDA approval may be extremely important. Regardless of the industry, most all VCs, knowing how competitive any new market environment is, will want to see what many refer to as your “special sauce”. “What is it that you do differently or have that’s unique, that will allow your venture to excel in the marketplace? The answers to this question can vary widely. They may relate to operational advantages, marketing strategies & tactics, or financial advantages you bring to the table. They may also come in the form of technology or business processes that you’ve patented that will give you an advantage in the marketplace. Whatever they may be, you must show up to the table with some “special sauce” elements of your business, or you are not likely to get too far in obtaining VC or sophisticated angel investment.
#6. Big Upside Potential, 7. Good Use of Investment, 8. Reality-based Projections, 9. Market Traction, 10. Scalability, 11. Vision & 12. Chemistry with VCs, in 2nd Blog.