How To Approach A VC?

n the beginning there was the word.

And the word was God. Maybe; but

as far as VCs are concerned, the ‘revenue model’ alone is god, as it is the

only exit route via the Initial Public Offering (IPO). ‘Know thy revenue model

and it shall set you free’ is the new commandment. Gone forever are the days

of ‘page-views’ and ‘sticky eye-balls’ when VCs were liberal with money.

After the recent correction witnessed at Nasdaq, VCs are clearly in a bearish

mood.

That’s not all. Unfortunately, there is no sure shot method

by which VCs can be convinced to fund projects, howsoever sound they may be. All

VCs ask for a business plan. But the fact is that no VC can be impressed with an

impressively drafted plan. In fact, every VC seems to have very different ideas

about what details should go into such plans. Therefore, in all humility, this

piece does not have any pretensions about giving out the exact modus operandi to

obtain VC funding.

Reality check

However, before a VC is approached, perhaps the first step

would be to ask a few questions. For instance, does the business idea have

anything unique about it? Does it have a sound revenue model? Will the business

have too many competitors? After all, an idea can easily be replicated or

refined further. Finally, will the business generate enough returns to make it

attractive for the VC to lend his money?

There is hardly any dearth of ideas trying to make it big in

the e-economy. However, only a few sound and sustainable ideas are likely to

attract VCs. Winning ideas are most likely to be those that are scalable, have

an inbuilt first mover advantage, have erected strong entry barriers, strong

brand equity, originality and are executed speedily.

Scalability

The idea should initially target a small segment of the

market and should be rapidly scalable to a larger customer base. The opportunity

should be able to exploit the unprecedented reach of the Internet and the fact

that it breaks the barriers of time and distance.

First mover advantage

First mover advantages are not always relevant. Ideas can be

replicated and refined further by competitors. However, there is some advantage

in being the first mover, especially in the B2C and B2B markets. In each market

segment, large customer bases have been built by the first player best able to

exploit mutually reinforcing community size, customer lock-in and high gross

margins (network effects). For example, in B2C, first movers with a definite

advantage are Hotmail (email), Yahoo! (portal), Amazon (shopping), eBay

(auctions), eTrade (brokerage) while in B2B, there are Ariba (eProcurement),

Chemdex (chemical) and VerticalNet (cross industry). In the short-term, first

movers benefit from high valuations and loyal customer base because of little

competition.

Entry barriers

Entry barriers are best ensured by building a strong brand

equity and by ‘locking-in’ key distribution and supplier partnerships. This

is most relevant, especially in the case of channels.

Execution speed

Execution speed

While a unique idea would definitely be attractive from an

investment point of view, one must not forget that no matter how brilliant the

idea is, it will remain just that — an idea — unless it is IMPLEMENTED

speedily. That requires more than just a visionary leader to ensure that the

idea gets translated into action. Teamwork and professional management is a must

and VCs always look for good teams. The emphasis is on being nimble and

aggressive. Hierarchy and control should be minimum.

What do VCs look for?

There are certain key factors that VCs tend to look for in an

aspiring venture opportunity. The business concept must clearly add value in the

market. The proposed product or venture must have a large and growing market

with favorable conditions.

The team should include members who have a long experience in

the industry at which the venture is aimed and have a strong track record in

their careers. The team should display characteristics of successful

entrepreneurs and work well both internally and with external parties. The team

should either have or show an aptitude for learning basic business skills.

The financing and business plans must be credible and

executable, namely, financial plans, operational plans, marketing plans,

expansion plans and the legal structure.

However…

There are certain things to be borne in mind. Nobody is

really aware of what is happening in the Internet world and the truth is that

nobody knows how to value an Internet company. Nobody in the Internet world can

predict what’s going to happen next year; there is a high level of

uncertainty.

The VC goes on intuition and can sense if you can do it or

not. Be prepared to enjoy criticism. When Exodus first began (today Exodus is

one of the biggest success stories of the Internet), the first business plan and

what was actually implemented were totally different. Any VC would confirm that

you might start with something and what finally works might be something very

different.

Lastly, practice your PowerPoint presentations for the umpteenth time before

you approach a VC (but praying to God can help). Also, remember to approach at

least four to five VCs. Never limit yourself only to one or two. All the best!