Management should prepare strong, SHORT, consistent answers to the logical questions that investors are likely to ask. SHORT answers enable investors to ask revealing follow up questions. A long winded entrepreneur loses the opportunity to HEAR useful questions by informed investors. SHORT ANSWERS also allow time for SHORT QUESTIONS to weed out service providers posing as investors, and others more interested in talking than investing. Conversations between entrepreneurs and investors are inherently uneven. The investor has money. The entrepreneur wants some of it. So bear in mind that behind every stated question by an investor is the unstated question, “What’s in it for me?” Effective answers should be attentive to the investor’s interests and concerns.
Explicit questions by the investor, regarding his interests, might be worded: “How is my investment secured?” “How long before the company is in the black?” “What is your competitive advantage?” “Let me see the financial projections.” “What will you do with my money?”
Well prepared management can have 1-2 sentence answers to each of these. Implicit questions about “what’s in it for me” might be worded in a variety of ways. Some examples of questions and approaches to answers:
“Tell me about your management team.” This question is not (note underline) about biographies. What does the investor want to know: Is this team going to be effective in this endeavor? Is it going to make me rich or lose my money? Develop answers that demonstrate why this management team is the best one to preserve the investor’s money and marshal it to a lucrative end. For example, is the management team invested in this deal or looking for a salary and a nice office address? Consider the terms of the management’s compensation from the investor’s perspective. Has management successfully fielded a business in this industry before? Has it sold a prior company at a profit? Has it returned investor money at a profit?
“Who is your competition?” Never say no one. This answer implies naïve tunnel vision. Rather, identify those companies that the public might perceive to be competitors, and then briefly explain either niche differentiation or your ability to deliver faster, cheaper, better, or with an enviable barrier to entry, or a low cost/high margin solution. If an investor is interested in your industry but finds your answers weak, s/he might consider investing in your competition! Besides, “smart money,” – investors who know your industry well - are testing your knowledge when they ask this question, and comparing it to their own. Satisfied “smart money” investors do not have to do as much due diligence, and will often write a check sooner than investors outside of the industry. Know what they know, about you, your competition, the market.
“What is the structure of the deal.” The investor wonders what he’ll be left with if the company’s potential is unfulfilled and the deal fails. How attractive are the terms to the investor? For example, what is the security of the investment, the use of funds, the seniority of the debt or equity, what are the interest payment terms? Are there any tax write off advantages if he loses money? Is his investment leveraged in any way, by the state, a grant, or other means. The use of minimum/maximum funds raised will traverse what path to profitability? Will the investor’s money pay salaries, buy assets or build inventory? Does the state of incorporation protect the rights of investors?
Naturally, entrepreneurs are optimistic about their future success; otherwise they wouldn’t be pursuing it! Entrepreneurs are also ACCOUNTABLE for optimistic projections. Written and verbal answers to investors ought to be delivered as though to the investor’s attorney, CPA, or banker, because sooner or later, they will be. The bigger the deal, the longer the investor will spend on due diligence. His research should mirror your research. Verbs like, “believe, project, hope, anticipate, plan, expect” are to be expected in forecasting future business conditions. Verbs like “will, promise, guarantee, know” could be construed, in retrospect by a disgruntled investor, as fraud or misrepresentation. Also pay attention: the SEC holds entrepreneurs accountable BOTH for errors of commission (saying something that is false or misleading) and errors of omission (not mentioning something material to the investor’s decision making process). Obvious examples of omission include suits against the company or members of the management team. Less obvious examples might include “sweetheart” deals with friends and family of the management team for products and services targeted as a use of investor funds. It is more appropriate to disclose this before you take a check, rather than afterward.
By the time you are ready to approach investors, your company should have developed a due diligence file of documents about your own company that investors are likely to want to see. By developing a logical list of “who, what, when, where, why, how” questions for these files, and prepping your management team on the appropriate responses to them, your company will convey an impression of knowledge, integrity, and full disclosure.