Types of investors: what is an investor in a business

By special guest Steve Barsh, from Dreamit Ventures

Most startups are obsessively focused on how to find investors to back their idea. Someone to take a chance on them. Someone who wants to get behind the “next big thing.” But often founders are perplexed on how to find those investors, why it’s taking so long, and how to speed up the process. Let’s dive in.

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Do you really need fundraising?

Ok, no matter what kind of startup you are, the first thing I want you to think about is: do you really need outside investors in the first place? It seems most startups and founders feel that “getting investment” is a milestone they must achieve to get started. They read the headlines about deals getting done -- this company just raised $3M. This other company just raised $10M. And they get dollar signs in their eyes that “success” is always raising outside money. I want you to try to back away from that concept for now. The first thing I want you to think really hard about, and push yourself on is… do you really need to raise at all?

I don’t see enough startups trying to start by bootstrapping. It’s a great way to go but you’ll have to push yourself and ignore the “X just raised $Y!” headlines.

Instead of burning up so much of your time trying to convince investors to part with their cash, how about you spend more time trying to convince CUSTOMERS to part with their cash.

I know… you may be saying “but I need money to build the product.”

Yep, but I want you to think outside the box here. I want you to consume your intellectual capital before outside capital. Raising outside capital is extremely time consuming and often yields poor results. How can you do things differently? Can you find co-founders who you can live with or everyone works remotely from home, and you can all take a little salary and within a few months have a basic working product? Can you find a CUSTOMER who will pre-order or pre-pay for a product? If you are b2c maybe you could start by using Kickstarter or IndieGoGo to raise initial funds by pre-selling your product.

If you are b2b, maybe if you could find three b2b CUSTOMERS and cut them a sweetheart deal, that’s your “startup capital.”

Let me give you a bootstrap example from a baker I met this week who started a company, Hawk in Sparrow, in Midway, Utah near Park City. He makes the most AMAZING bread. Instead of taking the approach that “I need money to rent a location for my bakery. I need this expensive oven, etc.” Andrew started his company from his garage. Bought an oven, and started by selling wholesale to restaurants and consumers with a “bread subscription service” in the local Park City area. He’s building his business with an amazing product. Now that he’s up and running and has an actual product, if he does want to raise, he can give investors a “taste” of the product, talk about his vision of how and why he wants to expand. It’s going to be so much easier for him to raise money as many of the base assumptions are gone. He has a great product that people love and he can find customers at a reasonable cost of customer acquisition. His only real problem now? He does not have enough capital to keep up with demand, hire more bakers, and expand.

So, ignore the headlines, and try everything possible to bootstrap.

When the time comes to raise funds

Now… let’s say the time comes and you do want to raise outside funds. Maybe it’s a friends & family round. Maybe it’s your Seed or Series A round.

The first thing I want you to think about is how much money are you raising, and why THAT amount of money?

Think carefully about how that money is going to get you to cash flow breakeven or to your next set of fundable milestones. 

Do NOT think about the amount of money you are raising in terms of the number of months it buys you. We see so many startups that when you ask “why are you raising $XM?” they respond with “because that buys me 18 months.” TIME is NOT a fundable milestone. 

Investors don’t care how much TIME it buys you. They want to fund things like rapid learning, goals being met, and revenue. Don’t forget to add at least 3 months of cash to how much you are raising so you can hit those fundable milestones and leave yourself enough time to raise your next round before you run out of cash.

The investor search

Now that you know how much you are raising, you can focus your investor search so it’s as productive as possible.

- The easiest place to start is to ask yourself what investors place bets in my sector? Usually, investors will openly state their “thesis” about a particular sector. E.g., some investors like “space” startups. Now that you no longer need NASA to get a vehicle into low earth orbit or create or launch satellites with the advent of cube sats, a space investor’s thesis is that the industry will be disrupted and new revenue streams will emerge rapidly from startups that are taking advantage of new breakthroughs.

Bringing it back down to earth, there are some investors that feel consumers want everything on a subscription basis. So those investors feel that subscription-based direct-to-consumer startups can beat out decades-old billion-dollar brands that have no direct relationship with their customers.

Whether you’re selling space or soap and all points in between, make sure to identify the investors that invest in your sector. 

Next thing I want you to think about…

- What investors typically invest at your stage? You want to find investors who align with your level of risk. There is a huge difference in investors who will do an angel, Seed, Series A, or growth capital round. 

While thinking about the stage, you should also target investors based on the “check size” they typically write. (For the record: They don’t actually send checks… it’s nearly all by wire transfer but you know… we call it “check size”). So… If you are looking to raise $400,000 to get your new franchise off the ground, don’t approach investors who typically write checks for $1M. How can you know how much they invest? Research online or shoot them a note and ask.

- Next, think about geography. Many investors want to invest in their “own back yard.” A company or startup can go and see. An entrepreneur who they can meet with every few months to see how things are going or to be there for a Board meeting. There are some investors who will focus on broad geographies like South America, the US, Canada, Europe, or Asia. If you are starting your new e-commerce company in Poland or Turkey, reaching out to investors in the US will most likely be a waste of time. Think local. Start local. And expand from there.

- Next, add to your targeting criteria if you are looking for an investor that does debt or equity rounds - basically, how do they like to invest? Some investors will basically “loan you money” as debt. In many early-stage tech companies that will be via a convertible note or SAFE. There are other investors who never went to get into debt rounds, and instead, want to buy priced equity -- stock in your company. Make sure you understand what type of funding you are looking for and narrow your search to investors that align with it.

- We talked earlier about looking at investors that are active in your vertical. One way to quickly eliminate investors is when they have an investment in a direct competitor. You may think it’s a good sign “look, they invested in a company just like us, so they are interested in the space.” But, it’s just the opposite. Usually, investors will only place one “bet” on a company solving a specific problem for a specific target customer. So if you see an investment in a direct competitor, don’t target that investor.

Angel investors

Now I want to point out a special investor type that’s important for really early-stage startups no matter what type of company you are -- angel investors. Angels will invest for a multitude of reasons. While they are almost always looking for great investment opportunities, there are often other reasons they’ll do deals. They are typically much further along in their career, successful, and are looking to invest in a space they already know very well. They often want to enable an opportunity for another entrepreneur.

Maybe they made their money in the food business… so they want to fund the next great restaurant or breakthrough food concept (or bakery!).

Maybe they made their money in real estate so they want to help startups in an area they know well. They also may want to take personal advantage of a product or service that solves a problem they know intimately well.

The point is, you can think about connecting with angels on more than one level. Think about how you can identify angels that have been successful in your sector. Search them out online. Pitch them on how you think what you are doing is well-aligned with successes they’ve had. And further, ask them for their advice on the 2 or 3 most critical things you should be focusing on.

There is a funny saying we have… if you ask for advice, you tend to get money. And, if you ask for money, you tend to get advice. So… ask for a lot of advice ;-)

Oh and let me share some thoughts on the best tools and sites you should be using: Google, LinkedIn, Crunchbase, and AngelList.

A final thought

Jeff Bezos had 60 meetings to raise $1M for Amazon, giving up 20% to early investors. He ended up getting investment from 22 people who put in ~$50,000 each. So if you think “Wow, this is hard. So much rejection. I can’t believe how many people I’ve had to meet with…” Be like Bezos and stick with it. No one ever said fundraising or startups were easy… but wow are they a ton of fun!