Raising capital for a startup company is never easy, though there are steps entrepreneurs with a dream and a vision can take to help their cause.
Early-stage investors want to back companies with innovations that solve a problem in the market and have a potential for high growth. One of the first things they look at is a startup’s management team that a founder has assembled.
The due diligence investors perform on an investment prospect will include not only analyzing relevant experience and the quality of the management team, but also determining how well leaders listen and learn. They’ll want to know as part of their due diligence how “coachable” a company is, said Jeff Wesley, executive director of Red Cedar Ventures in East Lansing, the venture capital subsidiary of the Michigan State University Foundation.
“Team is everything. The person’s attitude is everything. When that person walks in the door, is this somebody I can engage with? Somebody I can coach? Will they listen to advice?” Wesley said during a recent webinar hosted by the Michigan Venture Capital Association.
“Have they gone out and gotten advice from lots of people they can reach out to, or are they set in their ways in terms of what they want to do? I don’t think you can make an investment if you can’t check all of those boxes,” Wesley said. “You can have the greatest technology, but I really believe in leadership and I really believe that sets the stage for the whole culture and the team. I think that’s a key element of de-risking any opportunity.”
Wesley and Paul D’Amato, managing director of two venture capital funds run by Grand Rapids-based Grand Angels, emphasized the need for entrepreneurs who pursue a capital investment to view investors as partners. Investors want to know how well entrepreneurs and the management teams they back will listen to their advice.
Wesley described the business relationship between the investor and a startup’s leadership as a marriage.
“We have to be able to work together on a day-to-day basis and be aligned if the company is to be successful,” said Wesley, who’s also executive director of Michigan Rise, a new early-stage seed fund launched this past summer.
Backed by the MSU Foundation and Michigan Strategic Fund, Michigan Rise invests in young tech companies in the state. Since launching in August, Michigan Rise has looked at 75 to 80 applications that were submitted through its website and funded 10 so far, Wesley said. He expects Michigan Rise to close roughly 30 deals a year.
As investors perform their due diligence on investment prospects, startups just as importantly need to look closely at their potential investors, D’Amato said. The notion of “open and coachable” goes both ways, he added.
“We need to work together, and if they think they can’t work with us, then I’d rather know that right up front. We’re probably going to work together for five or six years. That’s the average. That’s a long time, and it’s not always going to go in a straight line. Sometimes there will be tough things we’ll need to work through,” D’Amato said.
The trust factor includes entrepreneurs understanding that investors are not there to steal their idea, D’Amato said. Grand Angels has been in business for 16 years “and we would not be in this business any longer if we started doing that,” he said.
As due diligence proceeds, startups must commit to full disclosure. Investors will hold their information in confidence, D’Amato said.
Companies that withhold or decline to part with requested information — whether financial projections or highly detailed information on their product or service — won’t get funded.
“If we say we need 10 pieces of information and we get five, I can’t make a decision. I just can’t do it, and that’s how it goes sometimes,” D’Amato said. “It can slow down our process, and in the past it’s also just killed deals. We just couldn’t get the information we needed and we just had to pass.”
Entrepreneurs need to keep in mind that they are competing for a capital investment and that few companies that investors look at ever get funded, heightening the need to put their best foot forward with a polished pitch when they do get in front of prospective investors.
Grand Angels has looked at more than 2,000 prospects this year, completed a “serious level of due diligence” on about 300, and invested in six, D’Amato said.
“So that’s a pretty sharp funnel,” he said.
Investors who back startups can also bring more than needed capital. They offer an extensive professional and peer network that startups can tap for advice, guidance and insight, Wesley and D’Amato said.
Those peer networks can also lead to a key introduction to a potential client or vendor, expertise needed to develop their product or service or on financial and business planning, or to secure additional capital in the future.
“It’s a big part of what our value proposition is as an organization beyond the check,” D’Amato said. “We’re in it to help at any level and wherever we can. We’re trying to add more than just a check.”