For entrepreneurs and small business owners with dreams of becoming a large, nationally recognized technology company, venture capital is often an option for acquiring small business funding.

However, venture capital firms are not in the technology industry; they are in the finance industry. Thus, a venture capital firm will more likely look at a small business in terms of market potential, executive team, and previous financial management - and not just focus specifically on technology, even if it is superior.

But that doesn’t mean you should avoid identifying and fully disclosing your technology risks with a potential VC firm. They will expect it. So what kind of risks exist? And how do you identify them?

Product Development Stage

Many small technology companies attempt to acquire venture capital way too early in the venture capital process. If your company is still in the beginning stages of product development, there is a much larger risk for both you and the investing venture capital company. On the flip side, the further along in the product development stage, the better off you’ll be.

If you have a prototype that has been tested, and even analyzed and improved an efficient manufacturing process, you will have significantly less risk and be more attractive to venture capital firms.

Product Acceptance

You may have a product with superior technology, but why will customers purchase your product? And if similar products exist, why will they purchase yours over the competition?

These types of questions must be answered. Venture capital firms love superior technology, but they also understand that it must be marketable and have some advantage to acquire a large market base.

Failure to Commercialize

If you already have a product on the market, a tremendous risk exists if you are unable to fully penetrate the market. Your product must be marketable to the point where you generate enough revenue to exceed fixed costs and earn a large enough gross margin to make a profit. And commercialization is the way in which you capitalize on your superior technology with customers.

Proprietary Measures

Do you have proprietary technology? If so, if could be at risk of competitive espionage, or simply of commoditization when other companies try to copy your superior technology.

Be sure you take all measure to protect your proprietary and intellectual property. That includes:

?  Patents - Be sure to patent and protect your technology from copycats. Register your products with the US Patent Office.

?  Copyrights and Trademarks - If you have intellectual property, be sure to protect your property and trademarks with copyrights. For instance, the Walt Disney Company vehemently protects its intellectual property. Don’t even think of placing the famous mouse or any other protected character on any of your products. And be just as vigilant with your own. No one should use your intellectual property to make money without your permission.

?  Non-disclosure agreements - If you are afraid of espionage, don’t hesitate to use non-disclosure agreements with those with whom you share information. The at least gives you some recourse should your proprietary technology be released without your permission.

Identifying your technology risks can be a challenge, but by doing so, you ensure that a venture capital firm is fully aware of the challenges you face.

If you are looking to obtain money from a venture capital firm, you may be asked the question, “so what is your expected burn rate?”

The burn rate is simply a calculation of the amount of cash that a start up business spends each month. Usually, the burn rate is based on the assumption that a new business will spend start up capital at a loss for some time before profitability and positive cash flow occur.

The burn rate is a critical measurement of the potential financial health of a start up, as well as how much start up capital may be required before profitability begins.

Calculating the Burn Rate

A new business owner may simply want to say that the burn rate is an average of typical monthly costs. However, one needs to consider what other sources of cash (not necessarily revenue), are available as well.

Consider a burn rate to be in terms of negative cash flow. For instance, the following simple formula helps provide the monthly cash flow:

All sources of current and expected income or revenue (not current cash on hand) LESS: Monthly operating costs, including interest and taxes (but not including depreciation or amortization

= BURN RATE (NOTE: Cash flow will probably be negative for start ups)

If the start up does have some cash available, such as loans from family and friends or other angel investors, the “Cash Zero Date” is the date in the future when the cash runs out. For instance, if the burn rate is $50,000 per month, and there is $150,000 in the bank, the Cash Zero Date would be three months in the future ($150,000 / $50,000)

Managing Your Burn Rate

It is important to have the burn rate calculation ready to present to venture capital firms. Some firms will want to know all future burn rate expectations. For instance, when the product is ready to be promoted “live” to the public, you may be in a position to hire more people, causing an increase in the burn rate before actual revenue is expected.

Of course, it is best to learn how to control expenses and keep the burn rate as low as possible. Constantly monitor expenses month-by-month, and continually compare actual expenses to the predicted ones. If a venture capital firm knows that you are in control of your burn rate and have predictions in the future that protect their investment and lower their risk, you’ll have a much better chance of approval.

Most people in America are familiar with reality TV game shows. Survivor is probably the oldest and most common reality game show that still retains popularity today. In Survivor, the contestants are put to the test in a remote part of the world.  To eliminate the competition and get further in the contest, alliances are formed usually between two or more people.

Using this kind of comparison, you can see how an alliance with a key business may be useful to obtaining venture capital funding. While your alliances will probably not be as cut-throat as a contestant game show with $1 million on the line, a key alliance or two may be the element you need to attract venture capital as an investment opportunity.

Advantages of Alliances

What are some of the advantages to alliances? Imagine finding greater success and building more revenue to attract venture capital through:

• Additional sales channels – Utilize your alliances to penetrate additional markets and reach more sales channels you could not do on your own.

• Shared technology – Through strategic alliances, you can get access to technology you wouldn’t otherwise have. Instead of investing heavily in new expensive equipment, an alliance may be the way to utilize that technology without burning through all your seed money.

• Credibility – A strategic alliance with a very prominent or visible partner could mean added credibility to your business idea. Imagine presenting venture capital firms with your idea that includes Disney characters, McDonalds logos, or 3M technology.

Tips on Forming Alliances

You can never dream too big when it comes to finding the right alliances.  As an example, Mello Smello, a small mom and pop sticker company, partnered with 3M and Disney to create scratch-and-sniff stickers that propelled the small company into national status. 

There are different strategies you can take to form alliances, including:

·         Joint Ventures – Talk to the top management in a business with whom you want to align yourself. Sell them on your business idea, and show them the benefits they will receive by joining you in a business venture. If you can get a few good alliances on your side, it may win over venture capital firms. 

·         Go National – Don’t just think locally for your potential alliances. Think national. As mentioned, the more high-profile your alliances are, the more credibility you get with venture capital firms. 

Don’t be shy or reticent about forming an alliance or two before you approach venture capital firms. Get these types of key strategic business relationships on your side and face the unique challenge of impressing venture capital with your partnership abilities.

Obtaining start up financing from venture capital firms is never a breeze. In fact, many new entrepreneurs and inventors face rejection after rejection when they approach venture capital firms with their new business ideas.  

Getting a “yes” from a VC firm may be a question of approaching them at the right time of your product development.

How do you know when your product is “ripe” for showing a venture capital firm? Here are a few tips:

Innovative New Business Ideas

Venture capital firms like to see innovation in the startups they finance. Brilliant new business ideas that have innovative solutions are a step ahead of someone who is simply reinventing the proverbial mousetrap.

Product Development

How long will it take for your product to get to the market?  For venture capital firms, the faster your product can launch, the better. 

Of course, this doesn’t mean you should race through research and development. However, if you still need many more years of research to turn a new idea into a marketable product, a venture capital firm may give you the “pass” instead of “fund” stamp.

By the same token, don’t be afraid to show your product-in-development to a venture capital firm in order to obtain start up financing. Your product doesn’t have to be perfect. Simply prepare your product to the point where it represents a good prototype that will give venture capital firms a reasonable idea of its use and purpose.

Proprietary Status

Does your product have potential intellectual property rights? Have you filed patents? Or registered copyrights?

The proprietary status of your product or idea can have a large impact on a venture capital firm’s decision. New business ideas that obviously require patent filing, such as unique inventions or improvements on an existing product, should have a patent filed or pending before you approach a venture capital firm. Let them know you have done your due diligence in keeping innovative ideas proprietary and safe from competitors “leapfrogging” your idea.

Don’t let the details of product development be a reason to avoid venture capital consideration, nor let it be the reason for rejection. Get your product ready for presentation, and you’ll have a distinct advantage with your venture capital presentations.

Before you go in front of a venture capital firm, are you ready to explain your exit strategy with them? Venture capital firms are particularly interested in this portion of your long term plan. The exit strategy is simply the way that the venture capital firm will “cash out” its investment at the end of the investment term.

Venture capital firms know that start up financing is not a short-term investment. It is a high-risk, long-term venture, but the rewards are also high if the venture is a success. Indeed, venture capital companies know that they could lose their capital investment in a company as many as seven out of ten times.  However, the few start ups who make it are worth the payoff.

How will your start up’s exist strategy pay off for the venture capital firm?  They already expect to wait between five and 10 years to get their money out, but after that time, the venture capital firm will want to receive money or marketable securities for their trouble.

Subsequently, if you do not have a viable exit strategy, a venture capital firm is not likely interested in making the investment.

What are possible exit strategies? Here are the most common:

• IPO – An Initial Public Offering, or IPO, is the point where a new start up company takes their business public on the stock market. They offer marketable securities in the form of preferred and common stock. The venture capital firm will usually be a major part of an IPO, with a preferred stock holding in your company.

• Merger or Acquisition – An IPO is not always an option. Instead, a small start up may look to be acquired or merged with an existing larger corporation. The buyout will supply the funds to pay back the venture capital firm.

• Reorganization and Recapitalization – Sometimes a small business start up may take longer to achieve success, but the VC still wants its money back.  Therefore, in some cases, it may be necessary to reorganize and recapitalize through other investments in order to pay back the VC and continue with the product research or market saturation process.

• Liquidation – In actuality, the majority of new businesses that receive venture capital start up funding will fail. Your exit strategy, though hopeful for the best, should also plan for the worst with a liquidation plan if the venture does not succeed.

Venture capitalists are not interested in slow-growing businesses. Take heed of their advice and be ready to present a viable exit strategy when you approach a venture capital firm for funding.

New business ideas may sound great on paper, especially to an enthusiastic entrepreneur. However, venture capital firms are more concerned about the risk the product faces in a targeted market.

Venture capital firms will ask many questions about your product or service, particularly regarding the acceptance in the market.  If you’re an entrepreneur, what are some of the questions you should ask yourself about your product or service before facing a venture capital inquisition? Here are a few key things to think about and prepare to answer.

1. What is the Trend You’re Riding?

Trendy technology faces a big risk. Will the trend be a short-term fascination with the market and fail to sustain regular sales and profits?  In order to avoid being a ‘trendy’ flash in the pan, be sure your product or service offers an integrated total solution, rather than something that falls by the wayside when the next best thing comes along.

2. How is your Product/Service Different from the Competition?

Can you quantify how your new business idea will differentiate itself from what’s on the current market? It’s important to brainstorm a short sentence about your market differential.  At the same time, you should also create a full matrix designed to spell out point by point how your product stacks up to its competition. This will give you the ammunition needed to show why your idea can take the market by storm. 

3. Is the Industry Aware of Your Product/Service?

Some new business ideas are unique and have yet to fall into a defined industry category, while others are ones that have been recycled.  Be sure you are fully aware whether your new business idea is a breakthrough “revolutionary” idea or whether the product/service already exists in the market. Keep in mind that a “revolutionary” product will have a much more difficult time carving out a new market.

4. How Safe is Your Technology?

If you do have a unique technology, you need to ask yourself how safe it is from potential competitor theft. Do you have all the patents and other intellectual property protection that keeps your technology away from curious eyes that can potentially take it to market first?

Remember, venture capital firms are in the business of taking risks. Just be sure that you also know the risks involved with your new business idea.  Be prepared to show a venture capital firm that you understand and are aware of the potential acceptance factors of your product.

Many new entrepreneurs have a skewed view about venture capital funding. Some believe that a great idea and lots of passion and enthusiasm are all one needs to convince a VC firm to become partners in a new business venture. However, VCs particularly scrutinize fresh entrepreneurs – especially if you don’t have funding and a track record already.  

To separate fact from fiction, a VC firm will not lend any money to a new company that does not already have some form of small business funding.

If you read that correctly, then yes, you need money before you can get money. VCs want to know that you are taking a financial risk yourself.  Of course, all entrepreneurs start by bootstrapping, but you still need more business capital before you approach a VC to ask for more money. 

Self-Funded Capital

Where can you get it? There are many forms of startup business capital. The top three self-funding capital types are:

• 401(k) – Either through your 401(k) or other types of retirement fund, you can take loans against the funds to invest in your start up.  Though it’s not recommended, you could even withdraw a portion or all of your fund to get startup capital.

• Savings – If you have substantial savings, this is a good way to show investors you believe in your business idea.

• Friendly Loans – Also known as “Friends and Family,” or F&F loans, these are also a common way for start ups to get their seed money.  If you can encourage the people close to you to get onboard, VCs might take a second look at your idea.

Third Party Funding

Other forms of small business funding may come from other outside sources before you approach a VC firm. Here are the top three you might consider:

·      Corporations – Though the last few years have been modest, corporations are known for investing money into startups. They know that VCs can make a substantial return on their projects – and so can corporations if they invest wisely. Approach corporations in the industry of your new startup. For instance, if you have a technology idea, you might talk to Dell, Cisco, or Microsoft for a stake in your new business.

·     Angel Investors  - “Angels” are similar to VC firms, except they are typically wealthy individuals who make it a point at helping startups. Angel funding can certainly be a good step toward obtaining venture capital funding, especially since angel investors are well suited for funding smaller amounts of capital. 

·     Incubators – This type of initial investor is one who may not invest cash, per se.  However, you could get valuable technical or business consulting, bookkeeping or accounting services, donations of office or research space, and even networking help.

To get to the next step of business capitalization, you need to have investors and/or your own money on board. Get to these types of initial business funding and then take your new venture to the VC firm.

A new company started by a fresh, enthusiastic entrepreneur will often choose a private corporation as its business form.  With a start up company, the entrepreneur will not only have to fill key management and director positions, but also seek out a board of advisers. These are the people upon whom the entrepreneur will heavily rely to take his or her new business idea to the next level, as well as even help in obtaining venture capital.

The board of advisers can help transform a start up company into a viable investment opportunity for a venture capital firm. Their experience, status, and networking contacts are always a benefit, especially during the funding phases. Here are some other top qualities you need on your start up board:

Share the Vision

Does the candidate share your vision with your product or service? It’s essential that you get board members involved who are receptive to your enthusiasm for your idea.

Successes and Failures

A good board member is one who is not only successful, but has his or her share of setbacks. This kind of experience is invaluable in providing advice for the new entrepreneur in making wise decisions.

Experience with Growth Companies

If you are able to locate board candidates who have previous experience with growth companies, all the better! Their advice will be key in getting your company in front of a venture capital firm for an investment opportunity.

Specialty in Operations

Experienced board candidates will usually be executives or even CEOs of existing companies, but they should have a particular specialty. Consider your industry. The advice from a finance executive, medical operations manager, law firm partner, insurance company VP, or technical research executive could be the catalyst in getting approval from a venture capital firm.

Committed and Available

The board members you choose may share your vision, but not be able to commit to the duration of a board term. Their availability with other projects or commitments may prevent them from giving you the attention you need with your new start up.

Don’t be tempted to ask a great choice to become a board member just because of his or her status. Make sure they can commit to your business growth as well.

Be wise in your choice of board members. Your key board advisers could be the people who help your new business idea turn into the success you dream.

Once you have successfully presented and interviewed with a venture capital firm, you may undergo a second round of qualification in order to be considered a “finalist” for venture funding.  In this process, one of the important steps a VC firm must take is valuating your start up business.

What is business valuation? And how does a VC firm valuate a company that is not yet earning revenue?

Below are a few ways that a VC firm analyzes your product, people, and markets to determine whether a business capital investment is a good choice. Here are a few steps you’ll encounter in the valuation process:

Comparables

A start up company with no documented revenue history may be valued much like real property – through comps or comparables. A VC firm may determine a business investment opportunity by looking at other existing companies with strong similarities to the one they are considering. They will talk to other investment analysts and specialists, examine 10K reports, and perhaps even research public documents to find good comps.

DCF or NPV Method

Whether a company is earning revenue or not, a VC firm may perform a discounted cash flow (DCF) or net present value (NPV) method to determine current value. By taking the projected cash flow for the next three to five years, a VC firm can adjust cash flow factors, risks, and assumptions to determine if the company is a good business investment opportunity.

Size of Market

VC firms will definitely take a look at the size of the potential market. Knowing whether a new start up company can capture a percentage of an existing market share could give them insight into current venture funding valuation.

People in Your Company

It’s not just the product or service that makes your new company successful – it’s the people too. This is actually one of the top factors VC firms will use to valuate a company. If a new company has an exceptional management team, it is more likely to succeed and meet projected financial targets, and thus, this factor increases the value of your start up. 

Product Qualities

Of course, a good business investment opportunity will solely rest upon the product in question. Your new business idea or product will be heavily scrutinized about its uniqueness, intellectual property or patent potential, and even brand strength.

Be prepared to be flexible and sharing with your information if a VC firm wishes to valuate your company. With your cooperation, you can be sure that a VC firm can make a valid venture funding decision.

Technically speaking, a niche is an interior design term for a special recess in a wall meant to show off a decorative object.  The object is set apart within its niche.  Taking this definition into entrepreneurship, how are you set apart in your business from others? 

Finding your niche in business is paramount to gaining success and effective branding.  You might think that big corporations like Burger King and McDonalds are both places for fast food burgers and fries.  However, each has a niche.  You get tasty flame-broiled burgers and can have it your way at Burger King.  McDonalds is famous for streamlining the process of preparing good McFood quickly and for little money. 

Your niche will be the element that sets you apart.  Will you offer the best possible customer service and satisfaction?  Do you plan to manufacture a better design of widget?  Whatever your business, you need a focus that makes it unique and fills the metaphorical “niche” that your customers can easily find and remember.

Why a Niche is Important

Too many entrepreneurs go into business as generalists.  A photographer can point a camera at any subject and take a snapshot.  An architect can create designs of any structure.  But what if the photographer strictly created stunning images from sunset landscapes?  Or the architect specialized in designing ecological and “green” commercial buildings?  The more specialized your business becomes, the better suited it will be to obtain more business from customers who need your special product or service.

When you are creating your business plan, be sure to note clearly what your business focus is in specific terms rather than general.  For example, if you are opening a clothing retail store, instead of indicating that you will be selling women’s apparel, define the business focus on a specialized niche of indie designers and eco-friendly goods.  Your niche will help you better acquire financing, market your services and products, and secure the right customers.

How to Determine Your Niche

You may already have a good niche in your business and not even know it.  If you have not yet determined what your niche is, there are many ways you can narrow the focus.  You can create a niche using any or more of the following:

• Place – Do you perform your business in urban areas?  Rural?  East side?  West side?  Downtown?  If you are the only business of your kind in a particular area, then you can specialize in catering to that location. 

• Industry – What special need do you fill in your industry?  What problems do you solve that are currently outstanding in your industry? 

• Customers – Who are your customers?  The elderly?  Children?  Sports fans?  Religious groups?  Honing in on your specific customer base can help you further define your niche. 

• Methods – How do you perform your business?  One on one?  Subcontractors?  Books and tapes?  Telephone?  If your method of delivering your goods or performing your services is unique, you can brand your niche around this facet. 

Before you market your business or even try to secure financing, determine what your niche or specialty is.  Get focused and project to the world how you can solve problems and create solutions.