If you think it's hard being an entrepreneur trying to raise money from a venture capitalist, consider the challenges facing the VC. It's typical for a VC to meet with between 500 and 1,000 entrepreneurs a year and invest in two or three companies at most. That means investors -- who may take about 60 minutes with each entrepreneur -- meet with a lot of people whose companies they never fund.
But just because you have someone's attention for an hour, doesn't mean the pitch is going well. In the pitches I have listened to over the last 15 years, I've shared the tension VCs feel when they want to shut down the conversation after a few minutes but feel obliged, out of politeness, to stay silent. Within the first three minutes of meeting an entrepreneur, a VC decides whether the next 57 minutes are going to be excruciating or whether he will want to spend four more hours with the entrepreneur.
From my own experience, I can tell you there are five missteps that can knock you out of investment contention in the first three minutes of a pitch:
1. A long-winded introduction. Entrepreneurs can become very self-absorbed with the pressure of running a company and forget that others may not be as familiar with their business as they are. At the same time, a VC usually has spent decades in the technology business and thus knows the industry very well.
Entrepreneurs should start off their pitch with concise, simply-worded answers to four questions:
- What problem is your venture trying to solve?
- Why is this problem painful to potential customers?
- How will you solve that problem better than the competition?
- Why are you passionate about solving the problem?
I have sat through numerous pitches that appear to be solutions in search of a problem. If there is one difference between passable pitches and winning ones, it's an in-depth understanding of why the customer will buy the product.
2. Lack of credibility. If you have already sold or taken another venture public, you are likely to have an easier time getting a VC's attention. If you are a first-time entrepreneur, VCs will bet on you only if they believe you have the potential to become a CEO.
How to do that if you don't have a track record? Were you a winner in a sport or did you excel academically? These are just two ways to showcase your leadership and success. If you don't demonstrate that you know what it feels like to win, VCs will quickly lose interest.
3. Weak team-building. The ability to attract and motivate an excellent team is a skill VCs want to see. For example, you want your lead engineer and sales person to have track records of new product development and rapid sales growth.
Communicating this to a VC is simple if you have the goods. In my conversations with startup CEOs who create winning teams, they brag about the famously successful products their chief engineers designed or the fast-growing companies their VP of sales helped transform.
If a VC decides you have pulled together a weak team for your startup, he will seriously question your judgment.
4. Asking for the wrong amount of money. You should take a rigorous approach to analyzing the markets into which you're selling. That means that before you, say, ask a VC for $10 million, you should be able to demonstrate the market is big enough to generate a return on such an initial investment.
While the basic math required to do this is fairly simple, the real challenge is making it clear that your market is big enough to make the numbers work.
As a rule of thumb, VCs typically expect the maximum market share a startup gets to be 10 percent and that in order to go public or realize a meaningful exit, you will need to generate at least $100 million in sales.
That means a startup's addressable market would need to be at least $1 billion. In my experience, startups tend to say their market will reach at least $20 billion -- citing studies by research firms like IDC or Gartner -- and that they are going after, say, a 10 percent segment of that market. Although I recommend this approach for information technology startups, a biotech startup has much higher capital requirements. Each entrepreneur must figure out the right numbers for their business.
5. Undemonstrated potential to be a market leader. The way to convince a VC that you will become a market-leading company by getting that 10 percent share, is to show you have deep insight into the customer problem your startup is trying to solve. You should be able to explain the specific criteria customers use to evaluate products that compete with yours and describe why your product wins on these key attributes.
If you can't convince a VC your startup will get that big, you should seek other sources of funding.