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What are venture capitalists, and how do I attract their interest?

October 8, 2011

If you’ve ever watched an episode of Dragons’ Den – and find me anyone in business who hasn’t watched at least one episode – you’ve seen some venture capitalists in action.

Venture capitalists, or VCs as they are commonly known, are people who invest money into other people’s businesses. They do it because they think that the business is going to grow extensively. They know that they can profit from this; either by taking their share of the profits each year, or by getting a significant return on their investment when the business is sold.

VCs are normally rich individuals or those representing venture capital funds. If you have made some money and want to invest it into another business in return for a share of ownership, then you could be a VC.

The key thing is that they don’t get too involved in the day to day running of the business. Yes they have a say as a shareholder of the business – and would be expected to bring their expertise to the table – but they are not buying the business outright.

Venture Capitalists invest to make a return

Instead a VC is simply looking at a business as an investment; as something that will give them a return on their investment. For this reason, when you approach a VC you will need to show them an exit plan. That is how the business will be sold, or they can sell their stake in a number of years.

There are only certain types of business that a VC will usually be interested in. As Vcs look to make a very high return on investment, this would typically be a young business that can achieve substantial growth using the money invested.

For example, it might be a business formed to push a particular invention or innovation in a market. The VC’s cash would be used to get the product to market and get it selling quickly, before a competitor has chance to act.

Raising capital but reducing your control

For an entrepreneur who can see an opportunity but doesn’t have the money to act on it, VCs can be a wonderful thing. If you have been turned down for funding elsewhere then a VC can be the lifeline you need. But you need to be careful and aware of the consequences.

The real cost of VC funding is high as part of your business will be owned by someone else. The loss of complete control over what you are doing can be a major blow, especially to someone who values the independence that being in business brings.

At the same time, a VC should contribute more to the business than just cash. Sometimes having the right person on board can be all it takes to secure a specific deal or unlock the secrets of marketing to a particular sector. And surely it is better to have 60% of a business worth £1million, than 100% of one that’s worth £50,000.

Five key points a VC will look for

So how do you get a venture capitalist interested in your business? There are five key things you need to be able to prove:

1. Competitive advantage

What makes your business different to your competitors and a sure-fire winner? You might have a process or a piece of technology that puts you in front. Make sure it is something competitors can’t steal or copy.

2. A barrier to competition

A patent or copyright protection helps to prove that your business will stay unique for a period of time.

3. Huge potential to grow

If you’re trying to launch a new business you need to show how you are going to turn it on its head and take significant market share. Beware of trying to launch in a saturated or dying market. VCs want a business that is rapidly scalable.

4. Big profit margins

VCs are in it for the money. So you need to convince them they will make lots of it. This means knowing your figures inside out before you go looking for an investor.

5. A market that will demand what you do

You can have the best product in the world with the highest profit margins… but if no-one wants it that’s no good. VCs will want proof that people will buy what you offer… or better still are already buying it.

If your business meets all of these criteria, a good place to start is the British Venture Capitalists Association.

You could also network locally, spreading the word that you are looking for an investor. You never know when you will find a bored businessman sitting on a pile of cash wondering what to do next.