For aspiring IT entrepreneurs, a venture capitalist could just be the vehicle for launching that brilliant new innovation or business plan. Tamara Plakalo investigates.
So, you've made a decision to do a Gates stint? Your garage has been turned into a launch pad for a company the success of which will be measured by the number of times people (or the Department of Justice) refer to you as "the monopolist" or "the enemy of the state". You've got an idea that is sure to obscure a view to any of Bill's numerous Windows and, most recently, you've taken to yelling Jerry Maguire-type obscenities down your phone line while "rappin" to the rhythmical vibe of the multi-syllabic exclamation "show-me-the-money"!
Well, it doesn't take an FBI profiler to figure out you're an IT start-up with a great dream, but no money. It takes even less to realise you are set to try your luck with a venture capitalist (you know, the one who could turn any "group-of-bright-citizens" into a 3000-staff global IT dynamo), because, you believe that - when one has the money - the rest comes easy! But, is that really the case? And if it is, how does it work?
Arguably the most important point to remember when thinking about attracting investment from a fund investor is that venture capital is also known as risk capital. Point number two is that in this term, you are represented by the first and your investor by the second appellative. In other words, you are "the risk" that ultimately needs to be kept away from the investor's "capital".
However, you are also an inevitability, because without you there would be no venture capital, since, as any investor involved with venture capital funding will tell you, venture capitalists generally invest in new and unproven business enterprises.
What is common to both of these descriptions is that, whether you see yourself as a "risk" or "inevitability", you still need to satisfy several criteria in order to access a venture capitalist's pot of gold. So, where does one begin?
"In being successful and attracting venture capital, you have to think about what the venture capitalist wants, not what you want," proposes John Palfreyman, managing director of the 1998 Venture Capital Awards laureate, North Sydney-based information security and smart-card specialist Baltimore Asia Pacific.
As an active player in an investment that ultimately delivered both a return to its fund and the realisation of a dream to the company's founders, Palfreyman is definitely a person whose mastery in the art of playing the venture capital field should be referenced in all "how to" first-time funding seekers' guides.
Once known as Security Domain, Palfreyman-led Baltimore is an archetypal example of a six-person company turned global dynamo, a witness to the potency of the skilful use of venture capital and, most importantly, proof that venture capital funding can be obtained locally and made profitable globally.
Established in 1989, the then consultancy used Australian Government venture capital funding to grow from six to 40 staff before merging with UK-based Zergo in 1998 and then again with Baltimore Technologies in January this year. Today, they employ over 100 people, out of which nearly half are involved in research and development at Baltimore's global R&D centre in Sydney.
Yet it took Security Domain almost a year to find a willing investor, the process that Palfreyman remembers as a "bit of a soul-destroying mission", which could be made easier for you provided you have the necessary knowledge and some "key points in place".
"The key things a venture capitalist is going to be looking for are a very good idea, a plan to execute and take the idea to market, the right people in place or the ability to attract the right people to lead the process, and, last of all, the money, as this is where the venture capitalist comes in."
Looking at Palfreyman's four points from a chronological perspective, it is obvious that the process of preparation for an investment has to begin long before you put down a plan and send off a proposal to a venture capital firm. Put in simple terms, this means that you have to get your ingredients right before you open the Yellow Pages looking for an investor's phone number.
"First of all, you should be developing your own technology, rather than reselling a technology that some company has developed overseas," Palfreyman advises.
"In addition, you should also be developing a marketing strategy that you could test by raising funds from sources such as Industry Research and Development grants that are particularly useful if your company needs funding in order to complete its product development."
Following the above advice has two advantages for a start-up: one, you could secure the often necessary funding well before you decide to leap into the world of big capital; and two, your company will appear more "able" and thus more attractive to your prospective investor.
The biggest obstacle in your path, however, is the fact that an average venture capital company in Australia receives hundreds of investment proposals each month and has only limited funds to allocate.
According to the Australian Venture Capital Journal and Pricewaterhouse-Coopers' Venture Capital Survey, of $472.9 million invested in private companies in 1998, only $46.2 million was invested in IT and software companies. And getting your share of that ain't easy.
How to snag attention
Thus, as Allan Aaron, founding shareholder and executive director of Technology Venture Partners (the group that made Security Domain's dream a reality), points out, your first chance to snag an investor's attention will be to send a short and effective proposal.
"You need to be able to communicate your business strategy clearly. This means that your proposal should outline not only your plans and goals, but also show that you know your industry and your potential to compete and grow within it," says Aaron, adding that a good proposal would typically include a product description, market analysis, your company's investment requirements and goals and a statement on the ability of your management to execute the proposed plan. So, when writing a proposal, remember that a venture capitalist is not a bank, but an investment firm that will demand and take on an active management role with your com-pany, especially in the early stages of involvement (but usually for as long as it takes them to reach their return target).
Peter Campbell, a consultant for the development of fast track programs with IT venture capitalist Allen & Buckeridge, explains that while the investor will take a risk, no one is willing to gamble with millions of dollars.
"When we select a product, we make a very calculated risk and a part of that calculation is that we will take an active role in the management of your company's growth." Allen & Buckeridge will nevertheless seek to secure its "calculated risk" by making sure that you are seriously committed to the venture.
"If you are committed to your dream, you will ask for a lot of money, because you are serious about reaching the top. So, when you look for money, don't ask for 100 or 200 thousand dollars, ask for millions."
And then there is the issue of a viable exit strategy. "Our investors don't want to keep their money tied up with your company forever, they invest because they want to get returns," Aaron explains. "We will spend anything between two and six million and four and eight years building and guiding the company, but after that, we want to be able to sell our share and use the profit."
While it is true that more often than not, your ability to turn "a great dream" into something a tad more tangible will depend on the ability to convince a venture capitalist to answer your prayers and show you that money in the first place, it is from the business aptitude, skill and courage (as well as from your technological ingenuity) that your money will start to grow, making your investors happy and your Bill Gates dreams less of a fantasy.
Thus, one of the biggest issues in looking for capital is not so much the possibility that the search itself might turn into "a bit of a soul-destroying experience", as Palfreyman warned, but the fact that, if disheartened, you might "drop the eye off the business". So, what is Palfreyman's advice?
"You need to have a balance between business and searching for money," he offers.
"And don't back only one horse! Go to a couple of venture capitalists, and if one shows interest, send your proposal to five others, because, remember - we're all in it for the money!"
What you need to know about venture capitalA venture capital firm will typically invest between 2 and 6 million dollars.
They will seek to maximise their returns within 3 to 8 years and then sell off their share.
When assessing your company, they will look for a unique technology, ongoing sustainable profit margins, good management and flexibile people willing to "uproot" and go where the best business opportunities are.
They will take an active management role in your company, often selecting and appointing the CEO.
The investor will usually control your board by appointing a person from its company as Chairman of the Board.
Allen & Buckeridge
Tel (02) 9252 3600
Technology Venture Partners
Tel (02) 9223 1070