Further Evaluation – Who and What are we Dealing with?
If Bob feels a business plan has some merit, he will have an associate review it, and then the associate will meet with the entrepreneur. Information gathered from this meeting supplements the business plan, and it is analyzed at a staff meeting. The next step involves further meetings between the entrepreneur’s management team and the MTDC’s staff. “People are probably the number one item for me. You can have a great product, but if you have poor management you’re not going to win. You can have a good product with excellent management and that is always the best of the two choices. If I go out and visit with a company and the CEO is talking for a while, I will ask someone else at the meeting a question. I don’t really care about the answer, what I want to see is if that person answers the question or does the CEO jump in. If the CEO jumps in that tells me I don’t have a team here, at best I have a benevolent dictatorship. I am much more interested in the intangibles.”
Bob believes a common mistake made by entrepreneurs is their rigid approach to a face-to-face meeting. “This is particularly true of engineers. They want to run the meeting by a strict agenda and point by point.” To test an entrepreneur’s adaptability skills, Bob will let the person follow the agenda for the first couple of bullet points, then he will deliberately jump out of order. “This is what you’re really looking for. There are a lot of people that are great practice players. What you want is someone you can give the ball to in the last 5 seconds of the game and they are not going to freeze. Whether or not they make the basket is irrelevant. What’s important is do they have the confidence to make the shot?” The firm is entrusting a lot of money to this person, so they clearly want a sense of the person’s makeup.
Bob also wants to know the entrepreneur’s level of salesmanship. Entrepreneurs have to constantly sell themselves, whether it is to VC firms or consumers; therefore, Bob carefully looks for this ability. Other criteria includes a company’s gross margins and its location. “We also consider how much we are needed in the deal and how much of a percent our funding represents in an entire round of funding.” If the MTDC is the primary funding source, they have more involvement in the venture.
The MTDC tries to avoid involvement with service companies. They look for companies that develop or manufacture products. As the product company grows, it will expand its facility, thus creating jobs. When a service company grows, they expand by location and this may be out of state. “I also have a personal bias for investing in a product company. A successful product company will continue to grow in sales and as that happens its cash needs will also rise. Thus at some later point the only way the company is going to get the money it needs to grow is by selling out to another company or by going p ublic which is a liquidity event that will give payback to the investors. A growing service company will not have the same cash needs. The need for a service company to go public or be acquired is not there. As an investor my experience shows that you will not get that same type of return.”
When it comes to investing in the marketplace, the MTDC ‘s preferences lie off the beaten path. “We do not wish to be part of a herd. The Internet is an example of an industry where there is a herd. When something goes from a cottage industry to a mature industry in 14 years such as PC software, there have been winners and losers. I think the time frame is going to shrink for the Internet. We don’t want to get involved in such a large realm of opportunity where it’s like people throwing spaghetti against a wall to see what sticks. It’s not a good way to grow a business. We tend to look more for niche situations where there is a real opportunity where other people aren’t. We tend to try and avoid the crowd.” They also feel they can afford to be more patient with a venture. “We are more sympathetic to a deal that will be more a single or a double than a home run. VC firms that have five deals to choose from will pick their number one and number two. We go for numbers three, four and five. I have yet to see someone with the wisdom of Solomon to know which ones will be the top two.”
Because of the level of scrutiny that goes into the evaluation, and the variable nature of entrepreneurial companies, the time to complete an evaluation is never a constant. “The process can take anywhere from three months to one year. Often times we have an opportunity that needs further evaluation and maturity before it can be considered. The main thing is considering the people, the opportunity, and the resources they will need. There are a lot of intangibles in this business. You also have to have a sense of humor! If you’re too stiff you’re not going to make it in this game, and it is a game.”
Post-Evaluation Involvement and Return on Investment
After the company receives its funding from the MTDC, a new relationship begins between the organizations. The MTDC provides managerial advice and assistance to the entrepreneur; the reason why its staff has diverse business experience. But, the MTDC is careful to remain at arms-length from the venture’s operations. “There is a tendency in this business that people like to wear battle ribbons to present what boards they are on.” Bob feels there is potential for trouble, if there are too many VC people on the company’s board. “This is a big ego business and if there is room for only one VC person on the board, how is that person chosen?” He says the board should be balanced with people who have good business, marketing, and technical skills. “We retain observation rights to go to board meetings which we can participate in. We prefer to not go on boards but will if requested or needed to. My experience shows that you make more money on the deals you spend less time on.”
And just what is the VC firm’s expected rate of return? “Our cumulative rate of return since we started is about 17% a year.” According to Bob, the standard rate of return in the VC business is 40% or five times the investment in five years. “In the early 80’s VC partnerships earned good returns, then a lot of money started coming in and the returns in the late 80’s and early 90’s went down. There was too much money chasing too few deals.” Bob felt there was a time in the mid-80’s that a person could sit at a word processor, write a business plan, drop it in the mail, and a check would come back. Those type of deals are bound to fail. “Because of this environment we do not have a target return rate, so 20% a year would make us thrilled.”
As in life, and in business, some outcomes cannot be anticipated, “We have never made a bad investment. They have gone bad, but when we got in it appeared good to us. You have to have the competence and maturity to realize that not everything is going to work out. An effective practice that I always adhere to in my work is what I call the “doctrine of no surprises” which means that if there is a problem, put it out on the table. Don’t sweep it under the rug because the rug is only going to get bigger.”
The State of Emerging Business – You are not Alone
As explained above, the funding process can take anywhere from three to twelve months. It is naive to think your business plan will receive the immediate attention of a VC firm. “We receive 300 business plans a year. From that 300 I take a serious look at 150. The ones we don’t look at are either out of state, want too much money, or are simply not relevant to our interests. We then take a more serious look at 40, then a very serious look at 10, and go forward with six to eight.” An entrepreneur can take some basic actions to facilitate the process. “This is probably true of any VC firm that you could contact them to get their investment interests, goals and requirements to ensure your plan is going to a place that is appropriate. It’s worth the call to get this information and facilitate an introduction. An introduction is not a prerequisite but it won’t hurt you.”
Emerging business is a steadily growing world phenomenon thanks to corporate downsizing and to increasing technological resources available to aspiring entrepreneurs. This phenomenon is keeping the VC community very busy in its search for viable entrepreneurial companies. “I think the environment continues to be strong. We continue to see opportunities. Downsizing is creating opportunities because growing companies are accessing talent that they could not access before. Companies are also nimbler now because of the corporate revolution as well.” The current economic environment appears to be conducive to a start-up company seeking funding to grow a fledgling operation. Regardless of the funding source, an entrepreneur must understand that, “If you have something that is going to solve a problem, and you can define what the problem is, what your solution is, and what you need to get from here to there, that’s all you really need.”- ###