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Attracting Investors

How to Turn Investor Buy-In Into a Win-Win

The downside of a mega valuation and how to turn investor buy-in into a win-win.

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Win-Win

Entrepreneurs fight for that big first valuation just like job seekers fight for the biggest salary – figuring the more they get now, the bigger the payday will be down the road. It’s inherent to the hustle. This fight over ownership and control pits entrepreneur against investor the minute talk of a company’s valuation begins.

The investor wants a bigger percentage of the company via a lower valuation; the entrepreneur wants the opposite. But why the hostility? The reality is that both parties could learn a bit from the smaller-piece-of-a-bigger-pie analogy. Here’s why.

Related: 5 Critical Questions You Need to Ask a Potential Investor

It’s a tough way to start a wedding.

Investment partnerships are pretty darn hard to break up. As such, starting your journey together after a big valuation fistfight is not wise. Investors are folks who are going to be at your side, formally and informally, for a long time.

Entrepreneurs should realise that they’re competing for their investors’ attention and money, vying against both new opportunities and investments already in the VC’s portfolio. The last thing a founder wants is to push hard for a high valuation at the start, only to have the investors write the company off down the road because they don’t have much to gain anymore.

Down rounds are bad.

Too big a valuation at the starting line can set expectations too high for future rounds of capital. Unfortunately, the VC world doesn’t do well with this type of correction. Going from a R10 million Series A round to an R8 million Series B round carries a stigma – namely that your team or idea was overvalued.

 Making matters worse, it’s not the investors who usually suffer in a down round, it’s the founders who often have to give up a much larger portion of equity to secure that round and keep the lights on.

Up rounds can go only so high.

Investors are always doing the maths, and as company valuations get higher, the calculations get tougher. If the going acquisition price for a company in your industry is, say, R100 million, your investors will work backward from that to arrive at the maximum valuation they can stomach.

If they hope to make ten times their investment, they’ll be hesitant to get involved in an initial valuation north of R10 million.

Everyone recognises early-stage valuations as an imprecise science, but they also realise that over time, a company’s value trends toward what it’s actually worth. In my job as an investor, I try to set the valuation bar a little lower at the beginning and make it up to the founders in other areas: Option pools, preferred returns or performance compensation, to name a few.

This way everyone wins – except for maybe the founder’s ego, as he or she won’t get to enjoy bragging rights and buzz over a big valuation number. Instead, the founder will have to make do with a vastly improved chance for success.

Related: The Cheat Sheet to Winning Over Investors

Attracting Investors

Alan Knott-Craig Answers Your Questions On Finding a Funder To Managing Your Staff

What you really need to know to land an investor.

Alan Knott-Craig

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Focus on one customer at a time. Make that customer happy. Move to next customer. Aim for ‘1 000 true fans’, then keep them happy.

The rest will come.

1. How do I find an investor?

You have 4 options:

1. Angels

Applicable if you only have an idea, and you need cash to make your idea a reality. Usually between R500 000 and R1 million. You need to milk your network: Parents, friends of parents, colleagues, parents’ friends, friends. If you have no network, you need to build a network or use your savings. There is no math to these investments. You get money because they believe in you, not because they seriously expect a return.

2. Early-stage VC

Applicable if you already have a working product with traction, ie: users and/growth, and you need cash to build out. Usually between R1 million and R2,5 million. There are a number of early-stage VC’s in South Africa, just ask around. Knife Capital are amongst the best. Ideally you want an introduction from a trusted party. Failing that, just email them directly. Give a simple pitch. They’re looking for 15X return on investment.

3. Late-stage VC

Applicable if you have a critical mass of users and meaningful revenue, ie: R10 million a year, and you need cash to grow. The late-stage VC’s are the likes of 4Di, hard to get access without an introduction from a trusted third party, usually one of your existing investors. They are looking for a 5X return on investment.

4. Private equity

Applicable if you have a cash-generative business that requires capital to either exit a shareholder, or to grow profits exponentially. Looking for 25% IRR.

There are also state-sponsored sources of capital for entrepreneurs from previously disadvantaged backgrounds, for example the Technology Innovation Agency. This is ‘soft’ money, requiring no equity or personal surety. If you can get it, take it.

Investors are looking for return on capital. If I invest R100 in an early stage company, I want to get R1 500 (15x) back within a reasonable period of time, ie. no longer than five years.

The key metric is Total Addressable Market (TAM). The size of the market you’re targeting determines the potential size of your business.

Assume you target a market with a TAM of R100 million (profit), and you assume you can get 10% of that market by 2020. That means your business will have R10 million of profits in 2020.

A private company is valued at a maximum of 7x profit, so your company will be worth R70 million in 2020. If you ask me to invest R1 million today, I need 21% of your company in order to realise a 15x return (R15 million) by 2020.

Start with TAM, work from there. Remember, every assumption you make will be questioned. Minimise your assumptions. Maximise the evidence for your assumptions.

Related: Alan Knott-Craig Answers Your Questions On Money And Partners

2. If you are a start-up, what’s the most important thing you can do to grow?

Focus on one customer at a time. Make that customer happy. Move to next customer. Aim for ‘1 000 true fans’, then keep them happy.

The rest will come.

For consumer products, always make it easy for your customers to share. Friction-free sharing is the easiest marketing tool you can have.

Feature-creep is a big risk and can be a big distraction. You need one single value proposition that is enough to get customers. Having fifteen cool features will never compensate for the lack of one killer use case.

Related: Alan Knott-Craig Weigh In On Living Your Entrepreneurial Dream

3. Our staff is growing, more than 20 now. Any tips on management? 

Having four or five staff is not hard. You don’t need to be a good manager or leader. You can muddle along. It’s when your team starts growing past the twenty number that management becomes a skill rather than a word.

There are hundreds are articles written on the art of management, but Jack Welch (former GE CEO) broke it down to this:

  • People want to know who they report to.
  • People want to know how they’re being measured.
  • People what want to know how they’re doing.
  • That’s it.
  • One boss. Clear KPIs. Regular feedback sessions.

Read this

13-rules-for-being-an-entrepreneur-coverAlan Knott-Craig’s latest book, 13 Rules for being an Entrepreneur is now available.

What it’s about

It’s easy to be an entrepreneur. It’s also easy to fail. What’s hard is being a successful entrepreneur.

For an entrepreneur, there is only one important metric of success: Money. But life is not only about making money. It’s about being happy.

This book is a collection of tips and wisdom that will help you make money without forgoing happiness.

Get it now

To download the free eBook or purchase a hard copy, go to www.13rules.co.za.  To browse Alan’s other books, visit bigalmanack.com/books/ 

Ask  Al

Do you have a burning start-up question?

Email: alan@herotel.com

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Attracting Investors

XPRS Capital Africa Bridges Funding Gap Faced By South African SMEs

XPRS Capital Africa answers local SMEs call for funding.

XPRS Capital Africa

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Small and medium enterprises (SMEs) are a vital component of the South African economy. However, there is a substantial portion of the country’s estimated 650,000 SMEs that have no access to funding to assist in their continued growth

In response to an increase in demand for reliable and easily accessible capital for businesses like these, XPRS Capital Africa opened its doors in South Africa. The specialist business funding provider is geared towards rapidly vetting and approving short-term business funding ranging from R50,000 to R500,000. In addition, XPRS Capital Africa specialises in extending funding to SMEs that may not qualify for funding from traditional lenders.

Simon Leps, CEO of XPRS Capital Africa explains that XPRS Capital has its roots in the US, having been founded in 2013. “The company is a renowned and established alternative online business-to-business lender. Together with a team of data scientists and using thousands of data points, XPRS Capital has developed a proprietary credit vetting algorithm and packaged product set.”

Related: Angels & Demons: What To Know When Negotiating Equity Funding For Your Start-up

“The technology and approval processes developed by XPRS Capital has a massively successful track record overseas and the experience that our company has gained over the years will help many more SMEs in South Africa to reach their potential,” says Leps.

“The XPRS Capital platform has processed over $1b worth of loans and has a proven track record of funding thousands of businesses across hundreds of industries,” he continues.

Leps adds that the company’s sophisticated algorithm allows XPRS Capital Africa to provide funding to many South African SMEs that are usually denied loans on the basis that their owners have less than ideal credit records. “Traditional lenders are often reluctant to lend capital to SME owners whose credit histories place them in higher risk categories. This has created a massive challenge for many promising SMEs. At XPRS Capital Africa, we focus on the health of the SME, and use state-of-the-art technology to provide businesses the cash flow they need to grow and flourish.”

Using the unique algorithm that we have optimised for the South African market, we are able to accurately assess any SME that has been in business for over a year, to rapidly provide a 3 to 12-month funding solution, notes Leps. “The online application takes less than 10 minutes, allowing SME owners to spend less time filling in forms for funding, and more time on their business.”

XPRS Capital Africa provides funding directly, working closely with SMEs to offer the fastest approvals, best possible repayment terms and most accurate risk profiles for any business.

“Cash flow is the lifeblood of every single business. Our mission is to provide this quickly, affordably and reliably,” Leps adds.

He notes that, given the high number of businesses that have trouble accessing financing, SME owners should also know how to maintain their own positive credit records. Thereby they can ensure that their businesses have access to as many options as possible.

“Ensure that all areas of your company are looked after to the same degree as most funding providers want to see that all aspects of a business are well managed. Up to date, audited financial statements and management accounts, well managed bank accounts, and good budgeting and forecasting show that the owners are attentive. Owners also need to know their businesses inside and out and be able to answer questions about their cash flow and deal pipeline.”

Related: The Investor Sourcing Guide

In addition to this, Leps says that the customer’s experience when dealing with the business could also have a measurable impact. “Any touchpoints that are available to your customers will be looked at by potential funders, so all customer facing assets should look professional and be kept up to date. This goes for websites, online portals and social media accounts.”

“The ability to access additional funds when your company needs it is the key to long-term survival. That’s why it is paramount to maintain the best possible credit record. However, it is also important to remember that, whatever the financial state of your business, business owners are never completely out of options,” Leps concludes.

For more information or to apply for funding, please visit https://www.xprscapital.co.za/ or contact XPRS Capital Africa on (087) 625-0665  or info@xprscapital.co.za.

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Attracting Investors

The Dangers Of Crowdfunding With Coolest Cooler Founder Ryan Grepper

Crowdfunding is about more than simply raising quick cash for your business idea.

GG van Rooyen

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In 2013, Ryan Grepper launched a crowdfunding campaign on Kickstarter for a product he called The Coolest Cooler. Ryan described The Coolest Cooler as a “party disguised as a cooler,” and he equipped it with things like a cutting board, blender, Bluetooth speaker and USB charger.

The campaign was a failure. Ryan had set his goal at $125 000, but the campaign only made around $100 000. According to the entrepreneur, there had been a couple of reasons for this failure. He felt that he had set his goal a little too high, and he also thought that it had been a mistake to launch in winter when people weren’t thinking about beach parties and picnics. Most importantly, though, his product hadn’t quite been ready. The prototype he based the campaign on wasn’t ready for market.

Related: Equity Crowdfunding In SA Explained

So, in July 2014, he went back to Kickstarter with a more polished version of his cooler. His target this time around was also a more modest $50 000. The campaign was an immediate success. Less than 36 hours after launching, he hit his goal, and astonishingly, a day after that the campaign hit $1 million. By the end of the campaign, The Coolest Cooler had raised more than $13 million — 20 000% more than its $50 000 target.

Sadly, though, this story doesn’t have a particularly happy ending. The Coolest Cooler became a victim of its own crowdfunding success. Ryan had a clever product idea, but nothing much more than that. In return for all that money, he had promised funders a reward in the form of their very own Coolest Cooler, and he now faced the daunting prospect of fulfilling $13 million in orders. As many product-based start-ups also do, he had grossly underestimated the cost of building his cooler. During the campaign he had priced the Coolest Cooler at around $175, but it quickly became clear that he would need to sell it at $400 to make a profit.

Eventually, Ryan had to demand that funders send in an additional $100 to get their coolers, and he also started selling the product on Amazon before all the funders had received their coolers. Two years after the campaign, 36 000 people were still waiting. The Oregon Department of Justice eventually started investigating Ryan’s company and reached a settlement in 2017 that will hopefully see funders receive a portion of the company’s future profits. Thousands of backers, however, will probably never get their Coolest Coolers.

If done correctly, crowdfunding can offer more than a capital infusion into your business — it can also allow you to test the market and find out if there’s an appetite for what you’re offering. A successful campaign won’t just help fund the business, but will also help you create a loyal and vocal group of customers who can help you spread the word.

Related: Kickstart Your Business Through Crowdfunding

As Ryan Grepper’s story shows, though, there are dangers. Given the very public nature of crowdfunding, you won’t be explaining problems to your investors behind closed doors — instead, you’ll have to answer to annoyed funders on social media.

For this reason, it’s important to understand exactly what crowdfunding is, and what the expectations of potential funders are likely to be.

Watch Ryan explain what the Coolest Cooler is below:

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