There’s been a lot of talk lately about investors laying low due to the recent slowdown in the economy. Looking closer at the numbers, it appears that there is a lot still happening.

Ben Kuo at SocalTech points us to the recent National Venture Capital Association (NVCA) study published just a few days ago. Though the amount of venture capital invested in southern California from Q1, 2007 to Q1, 2008 has decreased from $1.1B to $856M, the number of deals has actually risen! 93 companies were financed Q1 this year versus 85 last year.

Though valuations are lower and capital may be more difficult to come by, venture investors are still alive and well. Yes, exit markets are tightening up. Yes, the IPO market for venture baked companies seems to be in a drought.

However, keep in mind that there is a very distinct cycle to venture capital. Companies receiving their first round of institutional capital this year have a 3 to 5 year time horizon before they exit.  Don’t forget that several household names (i.e. Google, Paypal) “grew up” during downturns - just like the one we’re in right now.

Today’s Los Angeles Times carries an article that predicts that 2008 will be even tougher for start-ups seeking cash. There are a few themes in this article that we often talk about:

Venture investors will be very picky and, specifically, they will be looking for “the complete package”:  great technology, a big market, a strong team and, most important, evidence that the company has already started to get traction. This is a bit self-serving, but we think that groups such as Momentum can help bridge the funding gap by providing bridge funds and  management that is willing to go at risk to get traction.

There is also an interesting anecdote on a theme we often talk about: high valuations in early rounds are often a BAD thing. A company featured in the article was unable to raise additional capital during the current economic slowdown because they had been so successful at achieving a high valuation in an earlier round (it is always difficult to do a “flat” or “down” round).  So, the company went out of business.

If there is any news is in this article it is “more of the same”. You should not expect to fund a great idea or a great product but should be working to build a solid company one step at a time.  As you take capital along the way, don’t always focus on valuation but instead focus on getting the right amount of capital from the right partners.

Noam Wasserman, a professor at Harvard Business School, came up with a core concept about startup founder motivations:

Rich versus King?

Academics are long known for coming up with interesting, but relatively impracticable concepts. This is not one of them. Founders need to understand their motivation for starting the company. By taking time out in the early stages to understand why you are building the company, you can avoid a lot of heartache and headache down the road. Continue Reading »

For many years, I’ve been frustrated by the banking community’s reaction to financing SaaS (Software as a Service) opportunities.  In my view, long term contractual commitments from credit worthy customers should be an asset that can be evaluated and funded. HOWEVER, from an GAAP perspective, the contracts aren’t considered a “receivable” as the service hasn’t yet been delivered. So, banks don’t tend to be very creative! I’ve run into SaaS Capital a few times and I think their model has a lot of merit. The linked white paper below, provided by Saas Capital, walks through SaaS financing issues and options.

Understanding the Financial Implications of the SaaS Business Model

One of the first questions that investors will ask you about your company is “what is stopping others from copying your ideas or technology and beating you at your own game?” I’ve found that the “barriers to entry” question is one of the most difficult to answer when raising institutional money. If you answer too boldly the investor might feel that you are naive about the nature of competition. Conversely, if you answer that you simply have a head start, you may not be making a strong enough claim. Neither answer will build a sufficient level of confidence. Following are a few thoughts that may help: Continue Reading »

Hello Matt,

I attended the Santa Clarita Entrepreneur conference and found the investment panel very helpful and liked the way you presented information. I’ve written down a few questions that I was wondering if you could help me out with.

1) Which business structure is most appealing to investors?

**** If by “investors” you mean institutional investors than this is a fairly straightforward answer. A “C” corporation is generally a requirement for investment by institutional investors and, as a general rule, a Delaware C corporation is a good bet. You will also hear arguments for the C corporation of the particular State in which you are doing business but I think the Delaware C gives you the most flexibility and will generally save your company money in the long run as most attorneys, regardless of location, are familiar with Delaware corporate law. The is a long list of reasons why the C is important for any company that could grow to have a large number of investors or which might take institutional investment. This list is probably too long and complicated to deal with here but most corporate attorneys will be familiar with the issues. If you are talking about individual investors they may actually prefer a pass-through corporate structure which allows you to pass through your losses in early years directly to them to write off. If you believe you will never be at a point where you will need institutional investment (or go public) than you can look at these pass-through structures (e.g. partnerships or LLC). It is possible to convert from a pass through to a C corporation later, but in my experience, it is simply cheaper and easier to start off with the right “long term” structure from the beginning given your long term goals for the company. *****
Continue Reading »

“I don’t know what my business will look like three months from now let alone three years!”

Every entrepreneur hates the dreaded financial model. Just the thought creating one can cause heartburn, fatigue and endless discussion about the unnecessary burden put on entrepreneurs in order to raise money. Less-experienced entrepreneurs often will try to dodge financial modeling with claims that “our market is so big, you don’t need a model to convince yourself we have a great business” or “I’m too busy running a business to spend any time building spreadsheets”. But the reality is that if you’re going to raise money, you’ll need to build a detailed three to five year financial model. The surprising news is that the exercise of building a model will help you better understand your business and make you a better entrepreneur. Continue Reading »

In response to the blog post on “Venture Capital 101″ we got a question, “What is a typical rate on preferred returns? I had an investor ask for a 130% preferred return plus equity. Is this normal?”.

Returns and the related concept of valuation seem to be a good topic for a blog note so I’m responding here rather than in the comments. I’ll provide some background before answering the specific question. Continue Reading »

Our firm spends a lot of time working with entrepreneurs to define “accretion points”. Essentially, these are moments in time where an accomplishment or a set of accomplishments make it obvious to everyone that the company is worth much more than it was prior to achieving these things. Our fundraising strategy for early stage companies is often defined by accretion points. Continue Reading »

This post is in response to requests to share a presentation I sometimes give on why business plans aren’t great tools for early stage companies. The link below is to a .pdf version of the presentation that shares views on why Business Plans don’t work well for investors or for managing a company. There is also an outline of how best to approach investors, with what materials. I hope it is helpful. Download the PDF

Why You Shouldn’t Write a Business Plan