Why do venture capital firms and entrepreneurs have such conflicting views about each other?  It could be experience or reputation.  Venture capital firms have seen all types of entrepreneurs and think they can spot a “type” in an instant.  On the other hand, entrepreneurs may hold negative viewpoints about a venture capital firm because of its reputation.  However, all these expectations cause potential conflict between a VC firm and an entrepreneur. 

If you want to avoid this type of negative imaging that may cause a loss of venture capital funding, here are two ways you can change your viewpoint.

Entrepreneurs Want Money…VCs Want Partners

Many times, conflict arises when an entrepreneur has an egotistical desire to retain control of his or her business.  They seek capital funding for millions of dollars from a venture capital firm, but then expect the VC firm to keep their “hands off” the company.

From the venture capital firm’s viewpoint, they have invested millions of dollars in a startup company.  They want to assure that their investment is nurtured and moves in the right direction for maximum profit potential.  Therefore, their perspective is that they are a partner in the business and not an arms-length lender.

New entrepreneurs would be wise to take the advice of a VC firm.  Input from a VC firm is based on experience and previous knowledge.  An entrepreneur may hold on to a specific idea, but if the VC firm is insistent that it will not work, it’s best to take that advice and move onto other parts of operating your business.

Softening Greed and Ego

It is true that many venture capital firms have been started by rich investment bankers who saw a “gold mine” in certain industries or particular geographical areas.  Those who reach financial success sometimes forget how persistence, determination, and luck are needed to become a success.  Instead, these rich new VC investors believe their way and experience is the only way to make money.  They do not give new entrepreneurs any leeway in making decisions or exploring creative options. 

If a start up business will succeed, it needs not only capital investment, but careful nurturing and guidance.  New entrepreneurs would be wise to heed the guidance of wiser venture capital investors.  And VC investors need to know that even though they do hold the money strings, it is important that ingenuity and innovation are free to take a startup company toward the riches it deserves.

Who are the successful entrepreneurs who have been awarded venture capital funding?  Are they just lucky?  Did they hit on a timely idea?  Were they well connected?  Was it a combination of all three?  

Neither luck, a great idea, nor networking is dependable enough to set an entrepreneur apart from the rest of the pack.  Instead, here are three “p” qualities that an entrepreneur needs to assure at least a modest chance of acquiring venture capital funding.

Preparation

How will you get your startup company ready to be shown to venture capital firms?  The most likely candidate for VC funding is an entrepreneur that is well prepared.  That means getting everything in order to make an investment choice easy for start up financing. 

Get your business plan written and polished.  Show that your market is poised and receptive to your new product.  Practice your VC funding presentation over and over so it’s ready to go at any time.  And most of all, prepare to be committed to your own project.  Entrepreneurs who have an attitude of, “let’s just see if it works” will not be very successful at securing venture capital funding.

Positioning

A smart entrepreneur will have a strategy for positioning his or her start up business for the right venture capital firm.  You must understand that there are thousands of venture capital firms ready to invest in thousands of different types of start up businesses.  That means you must have a product that is tested and primed for a receptive market.  You must assemble a top-class management team.  And you must know which VC firms who are good candidates for your type of business.  Get your start up positioned correctly, and finding a VC funding firm will be much easier.

Perseverance

Those entrepreneurs who give up after the first rejection will not succeed.  However, those who persevere and understand that the next opportunity might be the right one will be the ones to take home the VC funding.  You must be willing to put in the time and energy necessary to get everything just right.  Make adjustments.  Reposition.  Re-assemble management teams.  Do what you need to do to persevere and make your start up the right choice for a VC firm.

Venture capital funding is not an exact science.  However, past experience shows that entrepreneurs who possess these qualities have a better chance at venture capital funding success.

New and startup businesses may get their proverbial foot in the door of venture capital firms by securing a joint venture with another established and reputable company.  Venture capital funding is difficult enough to obtain as it is, but with the help of a big business name on your side, your business may walk to the head of the class in a VC firm. 

In most joint ventures, an agreement is drawn up between two companies or business owners to share in a business venture strategy and share the profits resulting from it.  A simple joint venture may be cross promoting a business or bundling products for merchandise sales.  A more complex joint venture might be the formation of a new company to pursue a separate business prospective.

In the case of trying to obtain VC financing, it may be just a simple category joint venture that gets you in the door.  Why?

Instant Credibility

Say you started a business manufacturing a new high-tech coffee or hot beverage holder.  If you approached the coffee giant, Starbucks, with a proposal to sell your innovative container exclusively in their stores and they agreed, you would then gain instant credibility with any venture capital firm by having the Starbucks’ name and reputation at your side. 

Or perhaps you have invented a new or innovative bottling process that has been picked up by PepsiCo.  Knowing the brand and market share that PepsiCo has on the soft drink market, your VC proposal could be a gold mine with the right capitalization.

Access to Large Markets

Though VC firms do not invest as much into retail businesses, you may have a green flag with your joint venture with a big name company.  They know that you would have access to a potentially large market with a company like Starbucks as your product distributor.  With a large market comes the need for expanded production and manufacturing, which would be a prime reason for the need of venture capital. 

An example of instant access to a large market is an innovative idea that could be used in conjunction with licensing agreements with the likes of Disney or comic book characters.  A new, innovative product like glow stickers or action figures could land you a joint venture licensing agreement with Disney or DC Comics.  With that green light for product development and access to an already established market, your chances at VC funding grow substantially.

Time to Market

Expanding into national and global markets takes time.  It takes time to get the marketing word out and time for the customer base and demand to increase.  That time span decreases considerably when you have a big name as a joint venture partner.  With the credibility and customer base already established, you can more easily convince a potential venture capital firm your need for capital expansion. 

When you are ready to take your new or existing business to the next level and want to try raising venture capital, don’t forget the potential and favorable possibilities with joining forces with an already established company. 

When an entrepreneur thinks of capital funding, the first thing that comes to mind is venture capital.  However, depending on the stage and growth plans of the new company, an entrepreneur may be better suited to pursue an angel investor. 

Many venture capitalists receive proposals for capital financing from companies that just do not meet their requirements for scaling, industry, or funding amounts.  This happens frequently when entrepreneurs fail to properly research the role or expectation of a VC firm in comparison to an angel investor.

An angel investor is an individual or private company that may wish to invest capital into new businesses that need help getting off the ground.  A previously successful entrepreneur may become an angel investor as a way to help new entrepreneurs get past the self-funded stage.  Typically, angel investors will fund companies that need financing in amounts anywhere between $150,000 and $1.5 million.  Though angel investors are easier to acquire than VC, they still require higher return amounts than traditional bank loans.

Venture Capitalist vs. Angel Investor

How can you, as an entrepreneur and business owner looking for capital growth, know which investor to approach?  Here are some guidelines:

Type of company

Venture capitalists have a preference for certain industries, particularly those with high growth, such as biotechnology or software with large expansion potential.  Though angel investors like high growth industries as well, they are more apt to be a capital source for other smaller growth industries. 

Size of company

The growth potential of the company is a tremendous factor in VC funding decisions.  They expect big returns when a startup company goes national or global, is acquired by a major corporation, or offers an IPO as a larger corporation.  Angel investors, however, will look at smaller companies that do not require as much capital for initial startup or capital growth.

Experience

VC firms are notorious for picking and choosing startup companies that are lead by experienced entrepreneurs.  Experience may be within the industry they are entering or through other successful entrepreneurial ventures.  Angel investors, on the other hand, will more likely help a first-time entrepreneur.

Amount of capital needed

Whether you need only one round of capital financing or a series of rounds, if you need more than $3 million for your capital needs, you should seek VC funding.  VC firms will usually not consider startup or small companies needing less than $1 million, unless the VC firm specializes in seed capital for startups. 

Generally, if the total capital required to create a positive cash flow in just a few years is less than $3 million, an angel investor is the way to go.

If you are an entrepreneur who wants to get an innovative business off the ground with a capital inflow, consider your options carefully.  Think of how big you want to take your business, your experience, and your ultimate capital financial needs.  You may find that a VC firm is not what you’re looking for after all. 

If you’ve successfully walked through the door of a VC firm and given a presentation, your next step may be having the VC firm perform a valuation on your business.  A successful presentation is indeed a commendable feat, but before you receive a check from a VC firm, they will do their due diligence and valuate the true potential of your business.

Some call the process of valuating a business an art rather than a science.  The results can be highly subjective rather than objective when considering the value of an untested business idea or process.  Particularly the entrepreneur’s opinion of his business may be inflated due to the enthusiasm that clouds better judgment.  But conversely, a VC may undervalue a business to be ultra-conservative in estimating potential losses.

Valuation Factors

A VC business valuation must take many factors, including:

• Risk vs. Reward – A VC firm must evaluate a company from the viewpoint that it is risking its own capital to capitalize another company.  And for that risk and use of money, they deserve a reward.  The higher the risk of financial loss, the more reward will likely be asked of a potential portfolio investment company.

• How Much Capital is Needed? – A VC firm will try to assess the amount of capital that a business needs in order to succeed.  Too little capital and the business risks failing.  Invest too much capital, and the VC firm has tied up more money than it needed, thus losing other potential investment earnings.

• How Fast Will Revenues Grow? – Another factor that venture capitalists must consider is the rate at which revenues are predicted to increase until they can take out their “reward” or financial return.  Some companies may take up to five years or more before they even see a profit and are able to incorporate with an IPO.  The longer that VC money will be tied up, the more return they will ask for at their exit point.

Valuation Methods

There are many methods a venture capital firm may employ to valuate a startup business.  Most of these methods are subjective since the future is always unknown.  Here are a few of the most common methods:

• Cost Approach – This is also known as book value.  The cost approach tries to determine the future book value of a business at the exit point after liabilities are subtracted from assets. 

• Market Approach – A market approach to business valuation would try to determine what the business would be sold for on the actual market.  Sometimes this means comparing the actual recent sale price of a similar sized business in the same industry. 

• Income Approach – An income approach uses a capitalization rate, or cap rate, to determine a subjective valuation.  The cap rate is divided by the net income of a business at a particular point in the future to calculate the valuation.  For instance, if a startup company expects to have net earnings of $10 million at the projected exit point in eight years, and a 10% cap rate is used, the business valuation would be $100 million.

Business valuation is an important step for VC firms and entrepreneurs.  It must be completed to reconcile the valuation between what the business owner thinks the company is worth, and the conservative estimates of a VC firm.  If you’ve reached this stage, you’re well on your way to receiving VC funding, but be prepared to cooperate fully with a VC firm in their requests for valuation information.

Not every entrepreneur who seeks venture capital should.  Many entrepreneurs starting or running a small business believe that the only source of funding they should seek is through a venture capital firm. 

However, what entrepreneurs must keep in mind is that VC firms are not banks.  If you need only a small amount of capital, say under $1 million, your best bet is contacting your local corner bank and getting a SBA backed small business loan.  If you’re after VC, then both your capital needs and growth plan should be big.

VC firms are typically in business to help startup companies with big growth potential get the capital and support they need to make it successfully on the market.  VC firms may finance as little as $500,000 and upwards of $10 million or more in a company.  However, for that price, they want their money back plus interest – and more.

VC Firms and ROI

A typical arrangement for a VC firm is to gain an ownership stake in a company in which they invest.  Depending on the amount of money invested and the total company worth, a VC firm may get a majority share in a company with full controlling rights.  But whether they are a minor or majority shareholder or owner, their intention is to relinquish their ownership stake and “cash out” at exit. 

Usually an exit strategy occurs at the time the company goes public with an IPO.  The VC firm exchanges their ownership stake for shares in the firm.  If the public shares take off and gain exceptional value, then the VC firm has gained a considerable ROI, which can be a staggering eight or nine figure dollar amount.

Big Ideas

However, to get such a large ROI, an invested company needs to be reaching for the sky at the time the VC firm invests.  The company must have realistic dreams of grandeur – one that must also be in high demand.  For example, a big business idea that attracts a VC firm might be a health technology product that will be needed in millions of health care facilities around the country or around the world. 

An idea doesn’t need to be an expensive product, but one that will sell to a wide market arena, resulting in large sales figures.  If you have an inexpensive product idea, be prepared to expand your business to access that larger market.

Big Expansion

A business may need capital not to develop a business idea, but to take their product or service from regional sales to a national or international level.  Capital is needed to make a big marketing push, as well as to expand production to meet the new demand. 

If you are currently vying for VC attention and funding, have a big plan in place.  Have a strategy to multiply your sales rather than small incremental percentages.  With the help of VC funding, however, you can take your business to the highest level.

Raising the large amounts of capital needed to grow a new technology company is one of the hardest challenges faced by entrepreneurs.  Though financing can be acquired through angel investors, traditional bank loans, and other private investors, the large amounts of capital and resources needed for fast-paced growth are usually only found among venture capital groups. 

What can you do to increase your chances of VC funding?  Here are some questions to ask of yourself and your business to be sure you are ready to approach and present to VC firms.

1. Do I Need VC Funding Yet?

Many startup companies are not yet ready for VC funding.  Though there are small numbers of VC firms who provide seed investments in smaller startups, if you need first round capital financing, you may want to hold off on approaching VC firms until your company is past the market research and product testing phase. 

Most new companies go through three different sources of raising capital, which includes seed money, 2^nd round, and 3^rd round financing.  Seed capital can be found among angel investors and other private investors.

2. Do I Have the Right Leadership Team?

VC firms are hard-nosed when it comes to investing large amounts of capital in new and high-growth businesses.  They want experienced leadership in the company that will lead it to successful profits and possible IPO status.  Be sure you have the best and most experienced management team you can assemble before you approach venture capital firms.

3. Have I Studied My Competition?

Many entrepreneurs do not pay enough attention to the existing and potential competition in the industry or niche in which they want to enter.  However, you can be sure that venture capitalists will want to know all about your competition and how you plan to beat them, or at least gain a substantial market share to become profitable.  And that leads to asking yourself…

4. Have I Studied My Market?

A great idea goes nowhere without a market to buy it.  VC firms want to know that your business idea fills a niche within an established industry or market.  Many entrepreneurs fail to completely and fully research their market, especially in terms of a national or global scale expected of VC portfolio companies.

5. Have I Fully Revised My Executive Summary?

Your business plan is the document that will get your in front of a VC firm.  However, in order for venture capitalists to ask for your business plan, they will usually look first at your executive summary, which is a short version of your entire plan.  A well-written and many-times-revised executive summary has a better chance of getting the attention of VC directors.  Write and re-write your executive summary until it reads smoothly, is succinct, and provides the intriguing details of your business.

Entrepreneurs are often chomping at the proverbial bit to get in front of venture capitalists to ask for large amounts of capital.  However, the ones who are successful and receive a VC firm’s consideration will be the cool-headed business owners who ask the right questions before approaching venture capitalists.

In March of 2009, the tech stock trading group, NASDAQ, approached the SEC to request rule changes that would allow them to open an unregistered venture capital market.  The new unregistered market would allow qualified institutional buyers (QIBs) and accredited investors to trade ownership stakes in startup and fledgling pre-IPO companies. 

The rule that that NASDAQ is attempting to modify would open safe-harbor exceptions to accredited investors as well as QIBs.  Currently, accredited investors may trade on an unregistered market, but may not resell for six to twelve months, creating potential liquidity hardship.  The safe-harbor rule extension to accredited investors would provide better liquidity and transparency to venture capital markets.

Where Did All the IPOs Go?

The last few years have proven to be a detriment to the IPO market.  Since many startup and seed companies backed by venture capital have an IPO exit strategy, the VC industry has suffered in this vital U.S. economic industry.  In fact, only one venture-backed company has made an initial public offering on the NASDAQ over the last 12 months!

Some experts say that many VC firms are still investing in startup companies but avoiding an IPO by simply selling them to already established and larger public companies.  That may not be what many entrepreneurs and business startups had in mind when they approached the VC firm for capital financing, but with most VC firms taking a majority stake in startups, entrepreneurs usually have no choice. 

What NASDAQ is Attempting to Accomplish

With the rule change in the unregistered market, accredited investors, such as VC firms, could have more freedom in exchanging securities and have much more liquidity help.  It does not, however, fix the problem of attracting retail investors needed for small cap market stocks. 

The SEC has shown to be receptive to changes in regulatory rules in order to improve the market for smaller companies.  During the last few years, the SEC has adopted changes in trade rules that were recommended by smaller business and the small business trading community.

How the New Rule Could Benefit the Economy

The new trading rule changes could ultimately help the economy.  Since the decline of the IPO market, there have been fewer economic drivers to replace the lost investment engines.  The fact is that in 2008 venture capital returns outperformed both the NASDAQ and S&P 500 indexes.  While the public trading indexes saw losses of around –22%, VC saw positive, though modest, returns in early seed and later stage VC companies.

A freer unregistered market would open up more trading in pre-IPO companies.  Since VC backed companies have historically been a major driver of the NASDAQ market, it is important to maintain ways to continue the capital formation of new companies and enhance trading in capital markets.

The job of obtaining much needed capital from a venture capital firm can be long and arduous.  With this in mind, could hiring a venture capital consultant help you obtain the best possible chance in front of a VC firm?

VC consultants are those who have had experience in the venture capital industry.  A consultant may be a former venture capitalist himself, a previously successful entrepreneur, or someone with many contacts in the VC field.  Through the help of a VC consultant, a small or startup business may get the guidance it needs to become a hit with a VC firm.

VC Consultant Costs

What is the potential cost of a VC consultant?  Some consultants charge as much as $1,000 per day for their proven experience and contacts.  However, when a company is looking to raise $5 million for capital leveraging, $1,000 a day is a small investment indeed. 

Along the lines of VC consultants are rumors and reports of those who want an ownership stake in a business in lieu of a fee.  It is best to avoid paying a consultant this way, as you know in advance that a VC will also want a large ownership stake in your company if successful.  A trustworthy VC consultant knows this and would not ask a startup for this type of compensation.

What a Venture Capital Consultant Can Do for Your Startup

An experienced and good VC consultant can help your business obtain VC funding in many ways.  Here are the main areas that could help you:

• Contacts – VC consultants usually have many contacts in the industry.  They can recommend the right list of potential venture capital firms for your industry, or find the right ones if not known right offhand.

• Business Plan Review – The business plan is the main document that gets you in the door of a VC firm.  A consultant will work with you to revise and re-write your plan so that it will be most attractive to a VC firm.

• Market Research – If your business is a startup and you need market research to firm up statistics and market potential, a VC consultant will help you down that road.

The Bad and the Ugly

Within any industry are vultures who wish to take advantage of unsuspecting or desperate people.  The startup and VC industry is no exception.  Naïve entrepreneurs and small business owners who are desperate to obtain large amounts of capital funding may get the “blown away” routine from an unethical consultant, even if the business idea is bad.  That means a consultant will look at a potential business plan and idea and tell the entrepreneur that they are “blown away” by the idea.  These consultants will go on to virtually guarantee VC success. 

If you, as an entrepreneur, wish to go the route of hiring a VC consultant, be sure to remain savvy.  Research potential consultants.  Check references.  Verify previous success.  You want to find a consultant who will not blow smoke and give you false hope.  A consultant who is honest and forthright may be the best investment on the journey to obtaining venture capital.  Even if the result is “you don’t have a chance,” it still saves a lot of potential money spent pursuing the false hope of VC success.

Since venture capital is not easy to obtain, it can be helpful to hire a consultant to give you the guiding map toward successful capitalization.  However, be sure to research every potential consultant and hire the one best suited for your business.

The list of entrepreneurs who want to start a business and obtain venture capital financing is almost endless.  And the number of different types of businesses and industries are almost as numerous.  However, a savvy entrepreneur who wants to get a hefty check from a venture capital firm will look closely at the main industries in which these firms like to invest.  Here are the top 4 industries VCs invest in, according to PricewaterhouseCoopers (PWC):

#1 - Software

Even since the dot com boom and bust in the early 21^st century, VC firms continue to be most heavily invested in software companies.  However, no longer are unproven business models the norm, nor are the large amounts of total capital invested.  New and emerging software products, whether internet based or custom installed, must have a niche market or be able to obtain a good share of an established market. 

In addition, according to the PWC study, the tens of billions of dollars invested in the software industry in 1999 and 2000 have dwindled to only $5.5 billion in 2007.  And despite slow and steady growth in VC investments since 2003, it appears that the stagnant economy will present a drop in total 2008 and 2009 investments.  Only $4 billion was invested in software companies by the end of 3^rd quarter 2008. 

#2 – Industrial/Energy

The number two VC invested industry is the only one continuing to grow through a down economy.  $3.2 billion was invested in new energy technologies in 2007, and already before the end of 2008, $3.6 billion was invested in new energy technology companies. 

The growing concern for the economy and the larger demand for “green” products have fueled this industry, and venture capital firms are taking note of the potential profit rainfall with new energy companies. 

#3 – Biotechnology

Although still one of the top four VC industries, biotechnology fell the hardest between 2007 and 2008.  $5.2 billion was invested in biotechnology firms in 2007, but by end of the 3^rd quarter of 2008, only $3.6 billion was invested. 

Biotechnology firms use biological substances to perform specific industrial or manufacturing processes, such as pharmaceuticals, bulk food production, and the bioconversion of organic waste.  Despite the drop in VC financing, the biotechnology industry is still expected to continue its high growth.

#4 – Medical Devices and Equipment

Dropping from 3^rd place in 2007 to 4^th in 2008 is the medical industry.  New technology for medical equipment and devices dropped in demand in 2008.  It appears that the economy has affected existing companies who currently produce new medical technology, with many corporations laying off workers in order to navigate through the struggling economy.   However, even through tough economic times, the medical device and equipment industry still is strong.  Venture capital firms invested about $2.8 billion by end of 3^rd quarter 2008 into the industry.  This amount is far ahead of the next straggling industries of IT Services and Media & Entertainment, with only $1.5 billion invested by 3^rd quarter end 2008.

Entrepreneurs who are most likely to obtain VC funding should take a look at these popular industries.  Venture capital firms invest more in these top four sectors than all other industries combined.  And despite the lagging economy, these industries still look to be the top four for 2009.