One of the most common things I hear from entrepreneurs trying to raise early stage capital for their venture is, “they just don’t get it”. “They” being the Angels and VCs who the entrepreneurs have recently pitched too.
The truth however probably isn’t that, “they don’t get it”, but rather your perception of an investors interest and role, as entrepreneurs, is flawed. Entrepreneurs love risk, they love the VERY early stage of development (before anything has been proven), they love pushing the envelope, they love trying to turn personal vision into reality. Investors on the other hand hate risk (not to say they won’t take SOME), typically don’t like the very early stages of a venture development (always some exceptions) and they care first and foremost about dollars versus personal vision or expression. Most investors are NOT ENTREPRENEURS (this is not a knock). Perhaps they once were, but as investors it’s no longer their role (and rightly so). INVESTORS are primarily looking for OPTIMAL RETURN with MINIMAL RISK.
Ask yourself if you were a savvy stock market investor would you invest in penny stocks with a very high risk reward ratio, but without much transparency /predictability, or would you invest in things that had more transparency, more predictable projections based on existing performance. This is where traditional investors live, including early stage startup investors (only to a lesser degree), in a world where risk has been mitigated as a result of some transparency and proven trends/data, but where opportunity still exists.
How many times have you heard a VC say, “it sounds interesting come back when you have a little more traction”. Do you know why they say this? They’ve learned that in the early stages of a venture it’s very hard to determine or know what will work and what won’t, regardless of how compelling the “story” is. When investors look at a myriad of deals every day they discover it’s hard to pick the winners from the losers. The market (when you show some traction) is a far greater barometer of success than any individual prognostication.
Think of it this way. The life cycle (growth) of most businesses looks like a bell curve. Entrepreneurs are the impetus in the early stage (flat part of curve), VC’s and early stage investors like to come in the traction stage (early vertical part of curve) and later stage investors and professional managers usually come in when the business is quite proven and needs more structure for scalability and growth (mid to later stage of the curve).
Tpically Four Drivers for Early Stage Investors
Early stage investors typically invest based on one of four reasons…
1. TRACTION… Traction usually trumps everything else! If you walk into an investor meeting with a great story and NO traction, and I walk in with nothing more than one slide, showing a graph that illustrates all my key metrics are in a hockey stick phase (growing rapidly) who do you think the investor will gravitate to? As mentioned investors want to mitigate risk and maximize return and traction is usually the best indicator to achieve this.
2. WHO’S ON YOUR TEAM… A phenomenal team made up of proven startup people with excellent track records also goes a long way in assuaging investors fear of risk. They’ve learned that past behavior and success is often an indicator of future behavior and success. They know that startups usually have to pivot over time and a successful team has navigated this before, and knows how to figure it out. They will often bet on a proven team, sans any traction or even a product, again because risk is mitigated.
3. DO I KNOW YOU… Most early stage investment, pre-traction, often comes from people you’ve known a long time because they believe in YOU! This is why so many start-ups initially find friends and family to make smaller investments. They are betting on YOU!
4. BENEFCTOR… These are perhaps the best investors to seek if you don’t have any of the above. Benefactors are really investors that have an interest in your space and what you are trying to achieve, beyond the motivator of profit. It may be for personal reasons/nterest or it may be for synergistic reasons (as is sometimes the case with strategic investments).
So as an entrepreneur what can you take away from all of this…
1. If your venture is in the early stage, pre-traction look for early stage investors who are also entrepreneurs and like your vision within an industry they know or are interested in. Entrepreneurial investors do exist, but they are the exception versus the rule (look for angel investors, serial entrepreneurs and some select VC’s who TRULY play in the entrepreneurial stage).
2. Figure out early on what metrics you need to achieve to show traction — # of users, viral rate, stickiness, revenues, etc.. If you aren’t sure, ask the investors you talk with what would be proof points to show your venture had legs and potential.
3. Focus on achieving the traction benchmarks if possible, before pushing for funding. There are two big benefits of this, you’ll be more likely to close funding, and you’ll be in a better position regarding funding valuation and terms.
Just remember INVESTORS AREN’T USUALLY ENTREPRENEURS!
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