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FIVE COMMON WAYS TO KILL
A VC DEAL
Richard Koffler,
CEO, Koffler Ventures
As the years-long
nuclear winter in the capital markets turns into spring, growing
numbers of hopeful entrepreneurs are back knocking at the doors
of early-stage venture capitalists and angels investors.
Whether winter or spring, though, many entrepreneurs with viable
ideas and even market momentum will make fatal mistakes that will
kill their deals. Let’s look at five common deal-killers.
First, obvious as it may be, too many entrepreneurs ignore that
the fundamental goal of investors is to make very high returns on
their investments at the lowest risk and in the shortest possible
time. In this context, investors classify each company they see
as bad, good, or a possibly good investment opportunity. That is,
not all good businesses are good investment opportunities, where
“good” is in the eyes of the beholder: what is in one
investor’s sweet spot is not necessarily in the sweet spots
of others.
Investors make educated guesses about the upside potential and downside
risk of a deal based on highly limited information. In general,
they assess the following risks:
- Execution
-- Can management lead the company to a profitable exit?
- Product/technology
-- Can the first and subsequent versions of a unique, defensible
technology be “invented”, refined and productized?
- Market
-- Will competition let the company survive and flourish? Will
customers buy at good gross margins? Is the market large enough
to support rapid and sustained growth?
- Financing
-- Will the company get enough financing to reach self-sufficiency?
Will subsequent investments still allow previous investors to
make adequate returns on their investments?
In this context,
the five common deal-killers are:
1. Incorrect management. Nothing kills a deal faster than
having the wrong management team, especially the CEO. There is much
debate and little science on how to predict who will be a good CEO
and who won’t. For instance, the axiom that engineers don’t
make good CEOs gets contradicted every day. Conversely, the stellar
track record of a CEO may not always be a predictor of future success.
The one sure thing, though, is that “vision” and “money
raising” are not a CEO’s primary traits. The right CEO
understands that he works for his investors, so his main goal is
to give them excellent returns on their investments. To accomplish
this, the CEO must:
- Have the
correct attitude. He must be passionate, tenacious, resourceful,
optimistic, and much more.
- Be a leader.
The right CEO is always a team player and builder, and is open
to 360º listening, mentoring and delegation to and from everyone
around him, including employees, colleagues, investors and so
forth.
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"Entreprenuership
is the relentless pursuit of opportunity regardless of
the resources at hand"
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- Have been-there-done-that
experience. Investors’ money can’t pay for learning
on the job, so the CEO must have enough expertise from a previous
life experience to understand and react quickly to the team, markets,
competition, and technology.
- Be a superior
salesperson. If the CEO can’t be his company’s best
salesperson perhaps he shouldn’t be the CEO.
- Details-driven,
obsessive for quality, efficient. When it’s all taken into
account, a CEO succeeds by paying attention to everything –
business development, customer satisfaction, product development,
financial management, operations, and so on. The right CEO is
allergic to overhead, able to stretch dimes into dollars, because
he knows he might never get additional money from investors.
- And finally,
the most important trait is impeccable integrity. For investors
it’s first and foremost about trust and honesty.
2. Wrong
market development, growth or financing strategy. This includes
incorrectly positioning the company or its products; chasing after
the wrong customers; underestimating competition; misjudging distribution
channels, packaging, pricing, gross margins; overestimating marketing
& sales productivity; misjudging market potential; and pursuing
the wrong way to finance all of this.
3. Bad business plan. Both content and form are important.
The biggest enemies of a business plan are lack of clarity; substituting
fantasy for reality and then forcibly arguing that fantasy is reality;
and providing incorrect data even if unintentionally.
4. Intransigence on control, valuation, or percentage ownership.
CEOs make the frequent mistake of focusing on what percentage of
the company they’ll own after investors take their share. What
CEOs must focus on is the worth of their shares. A small piece of
a hugely successful company can be significantly more valuable that
a large percentage of a dud. On the issue of control going forward,
if CEOs don’t trust their investors’ judgment and intentions,
they shouldn’t take their money in the first place. In addition,
if a CEO doesn’t agree with investors’ needs to convert
their equity into cash at a high multiple, then as explained above
the CEO is not right for the venture.
5. Corporate “hair”. This is a broad deal-killer
category related to the company’s general and structural well-being
that includes issues like messy legal affairs – corporate structure
& agreements: equity, control, corporate, employment, customers,
IP, licensing, distribution, etc.; messy accounting – bookkeeping,
tax returns, etc.; debt overhang – loans, accounts payable,
unpaid taxes; and open litigation.
All told, there is plenty of venture and angel capital available
to fund all good software investment opportunities. The devil is
in how well CEOs make their cases to investors. Although avoiding
deal-killers like those explained here might not be sufficient to
get funded, it will certainly improve your odds.
Richard Koffler is CEO of Koffler
Ventures LLC, a management advisory firm concentrated on recovering
and growing software companies that are off the winning track, challenged,
distressed, under performing, or in transition. He is also an active
member of Tech Coast Angels.
Richard can be reached at (310) 883-5588 or rk@kofflerventures.com.
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