Question on Venture Capital Funding

Question: I often hear that entrepreneurs are worried about VC involvement. Does a Venture Capitalist necessarily threaten the business owner’s interests and position?

Answer: It is probably inherent in human behavior that many business owners prefer to run their business with their personal capital and avoid any external involvement. There would, of course, be those who are strongly motivated by their ideas but lack the needed corpus of funds due to which they venture out for external financing.

When approaching VCs, one may get discomforted by the kind of questions put up but that is the case only since they are direct and wish to probe if the business can deliver the returns projected, as well as check the commitment of founders/management.

Entrepreneurs looking for funding should feel intimidated by VCs if they trust the business potential of their ideas. Alternatively, they can turn to pooling in capital from personal sources and grow their business gradually from the relatively small capital employed if they wish to avoid VCs.

Venture capitalist involvement does not imply that it would be conflicting to the business owner’s interests and clarity of goals and terms of the business can act as a safeguard. Any possible friction/misunderstanding can be prevented by keeping all terms written and well-documented while dealing with VCs.

Question on Venture Funding and Investments

Question: What are the hidden areas and factors that a small business-owner needs to watch out from while reaching out to investors and financiers? How can I protect my interests from highly aggressive investors willing to provide me financial support?

Answer: The basic mandate that a small business seeking investments should set for itself, is to have a detailed business plan substantiated with quantifiable data. The depth may not necessarily be gauged by the number of pages of the plan but the clarity of vision, resources and expectations.

The entrepreneur must maintain clear list of “haves” and “have-nots” to ensure that one is clear on what to expect from an investor. He must have a clear perception of whether he is looking only for capital or business expertise as well from the investor.

In addition, all key business functions must be well described: team members and backgrounds, sales & marketing plans, financial projections.

Foresight must also be employed to identify the problem areas like cash-negative positions that may arise in the business and there are a number of precedents when such unforeseen situations led to the failure of a business plan.

The entrepreneur must not feel threatened in projecting one’s strong business capabilities such as IT, automation or manufacturing process to investors. Intellectual property can be shared after non-disclosure agreements (NDA).

Be ready to face skeptical financiers in banks or lenders who don’t have expertise in your business area.

Please understand that only about 1 in 100 business plans gets funding. So there are many business plans that are not upto the mark. VCs have to be conservative because they are the guardian of investor funds and have to protect their downside risks.

The way to go in protecting one’s interest with investors would be to maintain transparency in milestones and expectations from the business. This should be further enforced by keeping the terms and facts of the agreement documented as far as possible.

Fund Raising: Requirements for IPO or Private Placement

Some of the most common questions we are receiving is how to get investors for a start-up or an early stage venture. Here is one recent question we received:

“Is there a minimum size in revenues or profitability for a company to access the public markets through IPO? Can private placements also raise similar level of funds in the Indian market today? Any notes or guidance here will be appreciated.”

Here’s a brief answer by Vivek Lodha, Director- Investment Banking of HEM Group. He is also a member of 7Avenues.

A company can access IPO market with a minimum track record of profitability in 3 out of past 5 years. In case, company is not 3 years old, it can still go for an IPO but with other terms and conditions satisfying given in SEBI guidelines. As of private placements, this is an alternative and quicker route to raising money, and then eventually leading to an IPO as the investor would also need an exit route. But, one must always remember that going for a Private Placement would be at a 20-25% discounted price to what you are planning for IPO. A lot of Private Equity firms buy stake in companies and then exit after IPOs.

You can also refer to this Public Issue FAQ, and the website of Hem Financial Services Limited (HFSL) for anyone interested to learn more about doing IPOs or Private Placements in India.

Interested people can contact Vivek directly with any doubts
and queries by email to: vivek @ hemonline.com

He has the expertise to advise you on the following topics:

• Managing the IPO as Lead Manager
• Underwriting
• Syndicating IPOs and FPOs
• Project counseling and advisory assistance
• Private Equity Placements

Start-up Problem: Less Capital & Broken Plans -What to do?

I joined a start-up 4 months back as its CEO, after discussing the business plans and growth objectives with the promoter/investor. The company is based in India, and the promoter/investor had intended to set up a branch in the USA around this time, and we had jointly prepared business plan, sales and financial estimates, and it was approved when the company was started 4 months ago.

Then problems came-up: insufficient funding given by the promoter/investor for the approved business plan, which meant I could not recruit the right people, and the overall technical capability is much less than what is required to go the US/Europe. We are facing serious problems, and obviously the business numbers are not being met. At the same time, my promoter/investor has decided to give 15% stock of the company instead of cash salary that was agreed at the time of my joining.

So today, after 4 months of full time work here, I have not got a single rupee/dollar. Can you please advise me? Thanks. Best Regards, A Kumar

Kumar, this is a difficult situation for you, and this is not uncommon in start-ups, to switch compensation between cash and stock, depending on how things are happening. In your case, it does look like your promoter/investor is not fully committed to this business yet (assuming he is not facing genuine capital shortage).

Please have a direct conversation with him, and tell him you want to make the company successful, but the current state of affairs is bad, and there are two options only:
(a) X amount of funds need to be made available to the company within next Y days, of which you will a modest Z rupees/dollars as your salary and allocate the remaining into the business. Or (b) You will be forced to leave because of promises that have not been kept.

Do not postpone this important conversation…the sooner the better.

I hope it helped, and feel free to reply on this post if you want further help.
Best Wishes/ Shankar

How Much Transparency is Good for Start-ups?

Here’s the question of this week, along with our answer:

“Non disclosure agreements, half hinted at products, having nothing but hype to report at networking events… Secrecy can be a real hassle sometimes! So in this day and age of open sourcing, blogging and social networking, is it really necessary? Have you seen someone fail because of too much disclosure or secrecy?”

In my experience, only a few senior execs and business owners actively evaluate this question – so its interesting that you asked. I can give some specifics for internet business ventures, which we can be applied to other information technology intensive indutries too, like life sciences and financial services.

If you break down your business into the 3 core parts:

—> SUPPLY (talent sourcing, constituent software products)
—> PRODUCTION (training techniques, development methods, etc)
—> DEMAND (website, user management, etc)

From a business perspective, share whatever is required by DEMAND side (through blogs, ads, etc), but most clients are not interested in your SUPPLY and PRODUCTION details, and you should not share it.

So if someone asks, please check their motive. NDAs may or may not help. For a start-up, the only people who need to know all details are the investors.

But in many start-ups and even established companies, we find that the PRODUCTION or SUPPLY details are revealed, knowingly or unknowingly, in some document or interview, and the Competitors are happy to use it to sell against your company and you won’t know about it.

So, you should prepare a list of information items coming out from your business, and write who the required audience should be, and share that with the leaders of your ventures. Let’s treat information as an asset right from the start, and put the right flows and controls.

Thanks/Shankar