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September 26, 2008

Ready to look for a Venture Capital Investment Partner?

One of the great things about blogging is that you meet the most extraordinary people. A while ago I had the good fortune to meet Mr Jerry Tice , the Managing Director of The Appalachian Group  . They help companies to traverse the treacherous path to venture capital, as well as being a hub for innovative people.

Jerry has been kind enough to contribute this guest post for all of you who might be thinking about trying to partner up with a venture capital firm. Great stuff... 

Hi Folks, Jerry Tice with the Appalachian Group here. Daryl asked me a few weeks ago to do a piece about what Investors and VC’s are looking for in a consultancy looking for funds.

First off, let me say that if you have heard how tough it is to get VC money for a normal start-up, you haven’t seen anything yet. Consultants have special challenges to overcome when pitching to VC and Angle Investors. However, do not despair because it is not impossible when you find the right one.

It is important to note that there are some significant difference between VC’s and Angles but at this point in the discussion they are more alike than not.

So let us start by reviewing what it is that VC’s and Angles in general are looking for in an investment.

  • First they’re looking for an ROI of 10X the investment within 5 years with a clearly defined exit strategy;
  • Then they want high entry barriers into the target market;
  • Next they look for similar products or services already on the market to prove there is a market;
  • It is even better if you already have an existing revenue stream for services you want to expand;
  • It is essential to have a plan for using the money;
  • and finally they want to see passion, commitment and character from the entrepreneur.
To sum those points up: VC’s want to make a lot of money with as little risk as possible. Therefore, the idea then is to first show them the money and then show them the protection. As a kid growing up on a farm, I trained horses and I have found that there are many similarities in that activity to getting money from a VC.

It is not an overnight process nor a one shot deal.

First you have to get them interested enough to come close to you. With horses it is usually some type of food; sugar cubes, molasses coated oats, etc. With VC’s it is the potential to make money, and lots of it.

Next, you have to build trust enough for them to let you touch them. Trust that you will not hurt them and trust that you know what you are doing. Once they get close enough to touch, then you will need to do a lot of handling. You will need to spend a lot of time grooming the relationship until the day they let you slide on the saddle and step up in the seat to ride.

That is the decisive moment and while you may have done the best job in the world building that relationship, you may still get bucked off. You then have two choices: walk away or get back on. I have never found walking away to be productive.

That, in a nutshell, is the general idea of what you have to do with VC’s. Now let us talk about some specific challenges that consultants face when trying to raise capital.

We will start at top with the money. Unless you are starting the next IBM, Accenture or Bearing Point, you will not be asking for enough money to pique the interest of the top tier VC’s. They are looking to place tens of millions or hundreds of millions of dollars at once.

They don’t even get out of bed for a less than a million. You will have to dig deeper and do a lot more vetting before you will find someone that operates in your range. The best bet is to start looking for Angels instead of VC’s. Same principles will apply; they just work in a smaller arena and are a lot easier to deal with.

Okay, so they are looking for a return in the range of 10X’s the investment and they want that return in 5 years or less. It is not enough to tell them that you can deliver this. You have to lay out a clear path that they can see, and the exit strategy has to be well defined. Are you going to buy them out? Is the business going to go public? Etcetera.

It has to be clear and it has to make sense. How many consultants do you know that go public? Here again Angles are better to work with than VC’s because Angles are little more flexible in how the deal is structured and the time limits for getting out.

High entry barriers are a real problem for us. They want high barriers so that they have a locked up market, at least while they have their money in it. They do not want competition. However, anyone can hang out their shingle and call herself a consultant.

Therefore, your job is to show why you are special. You have special knowledge that takes years to gain. You have to have special connections that get you to the right people. You have special Intellectual Property that you can defend if necessary that locks out the average Joe. You have to have something along those lines that creates a barrier for others to keep them from jumping into your market and creating competition.

Similar products would not be so difficult except for the fact that, in consulting, similar products could mean that you are not so unique and kill the arguments you just made when defending your barriers to entry. This is an extremely tight rope to walk.

Again, special knowledge or intellectual property will help you maintain your position of entry barriers while allowing you to demonstrate that similar services exist which in turn reassures the investor that a market is available.

An existing revenue stream shows the investor that money can and is being made in your particular line of consulting. This should not be a problem for those already consulting on their own and just want to grow. For those trying to break into the business or are working for an existing consulting firm, forget VC’s, it’s not going to happen. The good news is that Angels will enter this area if all the other conditions are met and some individual Angles and Angle groups have very deep pockets.

A plan on exactly how much you need, how you are going to use every dime of it, and what you expect to get in return for those dollars is essential. It is their money after all. They want to know that it is going to be used wisely. Think about it. Why would they need to give you $600K when $500K will do the same job and get them the same total return?

Finally, the most important aspect – YOU. It does not matter what type of investor you are pitching to; they have to believe in you. You have to show a passion for your business. You also have to show commitment. They are not going to go into business with someone they feel will walk away when the going gets tough, and if you have been in consulting for more than a week, you know that the going can get really tough. That is where character comes in.

You have to show sterling character. Not just on the day you walk in to meet them, but also every day of your life leading up to that day because before they hand you a ½ million dollars they are going to turn over every rock in your past.

These are just a few very basic things that you need to think about as you prepare to embark upon the adventure of raising capital. And what an adventure it can be, full of pitfalls and dangers. At the Appalachian Group, we help our clients develop comprehensive business plans and plot strategies to help them navigate through this adventure to a successful conclusion.

If you would like our help or just want to bounce around a few ideas, please drop us a line through Daryl and his excellent blog, the Consulting Pulse. Until then…


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