Why isn't everyone a venture capitalist?

What do venture capitalists look out for before they join a startup as investors?

Venture capitalists are essential for financing young, growing companies (startups). For them, it is usually a lengthy process that takes a lot of time and confidence to find the right candidate for your investment. Once they have found it, however, they often invest considerable sums of money in venture capital. It is therefore crucial for company founders to attract the attention of such investors. What they pay attention to when making their selection - and How you can find investors for your startup yourself - you will find out in this article.

Table of Contents:

  1. What is venture capital - and who are venture capitalists?
  2. Why are venture capitalists so picky about the startups they fund?
  3. What types of companies do venture capitalists invest in?
  4. The 5 most important factors to consider by venture capitalists before investing in an aspiring start-up
  5. Conclusion

What is venture capital - and who are venture capitalists?

To increase their fortunesome financiers invest their capital in companies with high long-term growth prospects - as well as an equally high possibility of failure during this development process. The funds used in this way are subsequently used by definition referred to as risk capital (venture capital). You can either multiply very quickly (and strongly) as you would with a risky bet in a casino. Or just as quickly dissolve in thin air. Or better said in wrong business decisions and wrongly developed product ideas. Investors who use their capital in this way are therefore called venture capitalists.

Every beginning is hard: So also when founding a company. The search for investors in particular often presents founders with great challenges. Funders - and even more venture capitalists - are hard to find. Getting them to invest is even more difficult. According to the data compiled by Fundable in this infographic, less than 1 percent of all (Software) startups funded by VCs. That means you really need to know what they're looking for in a start-up company in order to raise funds for them.

Why are venture capitalists so picky about the startups they fund?

As a founder, you have to understand that investors do not take insignificant risks when investing in a startup. Newly founded companies usually generate little or no sales in the early growth phase, whereby they have a high capital requirement in this. Especially young company founders logically lack management experience, so in the end they often only develop a superficial business plan. But what if venture capitalists invest in a company that doesn't break through? Short answer: you lose your investment. To 100%.

And it is for this very reason that venture capitalists are particularly careful when investing their money.

Despite this fact, billions of euros have already been invested in startups. So the question is, what ultimately causes VCs to pull out their checkbook? What are the most important prerequisites an investor looks for in a start-up company in which he wants to invest?

In the case of established and sufficiently self-financed companies, the process of adding value is simple. These produce sales, profits and cash flow that can be used as a reliable measure of the company's value. In a start-up, VCs have to work very closely with them before making an investment

  • the Company profile,
  • his Business idea,
  • and the (possibly) offered by it opportunity

    employ.

What types of companies do venture capitalists invest in?

On the one hand as already mentioned, it is one The fact that venture capitalists sometimes invest huge sums of money in start-ups. They hope that this will allow them to grow into billion-dollar companies.

On the other hand it is important to keep one other circumstance in mind: We live in a time in which it countless investment opportunities and start-up pitches there - so VCs have a number of criteriathat you check before you invest. These include:

  • Management team,
  • Business concept and plan,
  • Market opportunity,
  • and as well as risk assessment.

In the following we want to elaborate on some of the most important factors Which investors should pay attention to when choosing a startup for their investments.

The 5 most important factors to consider by venture capitalists before investing in an aspiring start-up

The following 5 factors are the most important, which potential financiers check for a promising candidate for their investments. You should definitely fulfill these in order to get the desired (and required) financial injection for your startup idea.

1. Competent AND experienced management

The management is the most important factor that potential investors include in their considerations. VCs always invest primarily in a management team and its ability to implement the business plan presented. However, you are in it not looking for successful managers. The interest applies Executives who have experience building businesses which subsequently achieve high profits.

Startups looking to invest in venture capital must therefore:

  • Be able to have a List of experienced and qualified teams to be submitted for all business areas.
  • Perhaps be willing to hire experienced executives from outside the company. 

There is a saying that VCs would rather invest in a bad idea that is consistently implemented by competent management than in a great business plan in the hands of a team of beginners.

2. Great product value (including an equally great competitive advantage)

VCs want in innovative products and services with a long-term competitive advantage invest. Because of this, they are looking for solutions to problems that have not yet been addressed. You are looking for products and services that consumers are not yet familiar with. But which you don't want to miss once you know them.

In the market - no matter which one - there is tough competition. A new product must always be able to create a competitive advantage. Otherwise it will be difficult to generate sales and profits in order to prevail against the competition. If a product idea does not have this potential, it will be difficult to sell to investors. And even harder on venture capitalists.

3. Market valuation

As a startup You have to show that you are targeting the largest possible market. No funder will invest in a niche product for a few users or consumers. To be considered "big", the targeted market must be capable at least 1 billion euros or more in sales per year to generate. A business idea - at least (D) an initial one - should always be suitable for the masses. If this has (hopefully) made you rich, you can still work on other projects afterwards. With your own capital. And independent of investors.

VCs therefore expect that your business plan contains a detailed analysis of the potential market size. This means that this should be determined according to both the "top-down" and the "bottom-up" approach. These always include the provision of data from market research reports. Feedback from potential customers is an added benefit. But only if it clearly shows the willingness of consumers to use the potential product. And above all, to pay for using it.

4. Risk assessment

From the moment a potential investor speaks to a company founder or reads their business plan, they want to be clear about what the company has already achieved. And what it still has to achieve above all. This includes assessing the following points:

  • Could legal or regulatory problems Pop up?
  • Consists the opportunity to exit the investment? And if so - is there also the possibility of seeing a return before this exit?
  • Furthermore, is the market willing to spend money on the product?
  • Are funds already available for product development or are other investors willing to provide capital?
  • Is there a possibility to withdraw from the investment? And if yes - is there also the possibility to see a return before this exit?

These are just a few of the questions that investors try to reduce their risks. Which of these - and whether any more - are provided depends on the type of financing and the people who make the investment decisions. So be prepared for all eventualities before talking to a potential investor. And be well prepared.

5. Estimated value and equity structure

The business valuation that the founders have in mind is fundamental as it determines the proportion of the company that the venture capital firm will own as a result of its investment. Therefore, investors always pay attention to existing participation and previous investment rounds, as well as the share of equity.

Conclusion

The prospects for a successful, high-return investment are not always there when venture capitalists invest. Sometimes seemingly profitable investments can turn into losing deals. Therefore, before investing, VCs spend a lot of time analyzing the points we have listed in this post.

Potential donors want to know whether the management is up to the challenge. Whether the product and the targeted market have the potential to increase the money invested. And whether the included risks are also within an acceptable range.

So what are investors looking for in a startup? You are looking for teams like us! we are a Team of dedicated developers, have an extensive track record and VCs love to work with us. If you have the idea for a startup, but you lack solid management, a structured workflow and / or a tried and tested process to get off the starting blocks - then we can help you! Here you can find out more about our offer: CTO as a service. If you are ready to start your product development as soon as possible, Just send us a non-binding message. We will get back to you as soon as possible!