June | 2012 | Surreal Entrepreneur

June 26, 2012

Structure: What?

As you can tell we are starting to wade into some heavy financial terms now. This is where most ideas fail, when an entrepreneur cannot back up his or her idea with financial data in order to get the proper funding to start. We’ve talked about why it is important to understand what metrics the angel investors will use to decide whether or not to gamble on your company in the form of monetary support. We have also looked at how to frame your company into the proper metrics in order to facilitate the angel investor in their decision. Now we need to talk about how to create a reward for them once they start thinking about giving you a loan and how to protect their investments and your rights.

We we discuss structure in the angel investment realm we talk about the ways that we distribute a profit to our investors. For all intents and purposes we will focus on the basic understanding a breakdown of the terms that are heavily used in the angel investment and venture capital worlds.

Convertible Debt

This refers to a promissory note (I owe you) that allows the investor to purchase stocks later in the funding process at a discounted price. Basically this means that if a business does succeed into a second round of financing then the company will start selling stock, anyone who was a part of the initial seed funding will be able to trade their promissory not in for a discounted price on the stocks that will be offered. This allows them a greater chance for investing money into a growing business with less risk.

Preferred Stock

This is a topic that is hard to define without shedding some light on the inner workings the risks of investing. While early stage investors are certainly appreciated the ability to nail down exactly what rights they will have with the rest of the business dealings in the future is difficult. Not knowing how the company will actually do in the market creates a large necessity for generic and broad yet simple rewards for investing. Preferred stock comes in waves. For instance, the first investor might be in series A, then the second few investors might be in series B, etc. So why would you need a series? In order to entice more investors you need to constantly evolve the package of rewards you are offering. By creating increasingly more defined rules and rewards based on how your investment efforts and company performance is going, you can more effectively reach out to investors. So preferred stock is basically offering guidelines that protect the investors and your company while showing the investor that they have the possibility for great reward.

Common Stock

This is a very simple way to recruit investors with whom you have a trusting relationship with. While the other options are difficult to completely define without much experience this option allows new entrepreneurs the flexibility to offer incentives for early investment without tying themselves to dangerous deals. Common stock is a form of ownership in the company which pays dividends of company profit based on percentage.

Overall each of these options are great places to start your research and start creating packages to offer potential investors however, most investors (angel and venture capital) will have experience in one of these areas and might suggest a particular approach. Be flexible because this area might cost you financing or at the least create a bottleneck for progress.

June 24, 2012

Valuing in Early Stage Investing

The last installation of this blog was about Evaluation, understanding Valuing is another imperative aspect of early stage investment that will allow you to think in the same terms as angel investors. If you can understand exactly how your business idea will be scrutinized by potential investors it will certainly be intelligent to present your information to them as clearly as possible to help answer those questions before they even ask.

In the book Winning Angels: The 7 Fundamentals of Early Stage Investing the authors walk you through 5 different models that Angel Investors use to value your business. The five different models are certainly worth taking a look at and they seem to be the industry standard for valuing ideas. However, these models can be a little wordy and hard to understand without having a financial background, so I’d like to paraphrase a great article by Brian Perry on TheAngelInvestor.com (an online Angel Investment publication).

He explains that there are 3 basic approaches to valuing a company:

Asset Based

Investors will look at all of the physical assets of the company and do an inventory of the value of those assets. Then they would look at the earnings that the equipment could produce.

Market Approach

This matches up the business model to other similar businesses and creates a parallel comparison about how well the business could do based on similar figures. This is difficult when the business is completely innovative and unlike any other business.

Income Approach

This focuses on the numbers that business is currently putting up. Factoring in the ability for the company to earn money and then putting equations in place to dissect the amount of money that will be spent versus the amount of money that will be coming in.

Overall you need to understand that the angel investor is looking to make a smart decision when it comes to handing money out. They are looking for ideas that will succeed and if you can show them that you are a safe bet while backing yourself up with numbers you are more likely to get their attention over the hundreds of other business jockeying for funding. Also remember that the value of your company can also be summarized as what someone would be willing to pay you for it.

For more information on these three basic forms of valuing look at Perry’s article http://www.theangelinvestor.com/article/100028;jsessionid=27A08521BE15DE213B925471FB093494/Valuations:-Understanding-The-Pieces-Of-The-Puzzle/

Or purchase Winning Angels: the 7 Fundamentals of Early Stage Investing

June 5, 2012

Evaluating: How To Get the Attention Of Angel Investors

I’m finding myself in a tough stage where I know that the ideas that I have will bloom if given enough sunlight and water. That being said I am in a realm of business-people. These men and women do not look at intentions, they look at cold hard facts relating to where their money will go once they give it to you. More importantly they look at if their money in your hands will grow. So in this post I’d like to walk through the discoveries that I’m making in how the business world evaluates new business propositions.

A book that I am reading, Winning Angels: The 7 Fundementals of Early Stage Investing outlines the first point of the evaluating, and even possibly the most integral part of the funding process, is pitching the idea. One must know the ins and outs of not only the idea that they are gathering support for, but also one must have the charisma and presence to be able to outline convincingly that the idea is a good idea, and that the investor should investigate further. Once you have them through the door, now you have to let you financials do the talking.

Not only are the four outlined areas of focus for the investors important to have clearly displayed in any business plan, but they are also perfect places to truly start evaluating your own ideas. If one of these areas comes up without a very solid answer and a description then you could be in trouble.

1. People

Angel investors are curious about who is going to be protecting and growing their investment, this not only includes you but also your team and other investors.

2. Business opportunity

They will look closely at your business to see if there is a potential for returns based on the opportunity your business presents

3. Context

Angels will look at all of your market research to try and digest the market you will be appealing to. This is the part where they will also check to see if anyone else is doing what you’re doing , but better.

4. The Deal

This is where they want to know what you’re asking them to do, how much it will cost them, then how much it could make them in a timely manner.

Don’t expect this to be a painless process, they will be going over not only your business plan, but your personal character with a fine tooth comb in order to be confident in their money expense. At the end of the day, though, if you have supported your idea using all these four areas as guides to base your research, and you have a good reputation in your network as a trustworthy and tenacious person, you should be able to get some all important initial investments.