This is a stenography from one of the latest episodes of This Week in Startups. Jason Calacanis features the esteemed investor Jed Katz; he explains how to (and how not to) correctly interact with investors and achieve funding.
I found this talk very useful because it displays the inside thought process of investors, and it shows how they decide on who they will fund. It is particularly relevant for me because down the road my startup may need venture capitalist funding. I think anyone who is thinking about raising money from a firm will find this information useful.
I tried my best to condense the talk into a readable format. I altered some words and omitted/rearranged sentences for sake of readability. If you want to listen to the podcast click here. Katz talk is around 40 minutes. The speaker after is Kyle Hill, founder of Homehero; it is about company culture, and it is also very good.
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This is going to be a boring but practical talk. These are a bunch of pointers on pitching series A funds. What you should be thinking about. What the investors are going to be thinking about, and things that will make a difference.
[We will be going over] personal traits, choosing who to talk to and how to connect with them. Deciding how much to raise. What you need to show to get to a yes.
We will also spend some time on avoiding things that will lead to a quick no. Although a quick no is better than a no that takes forever to come your way.
The goal of the first meeting is to get a second meeting. That is all you’re trying to do in the first meeting of series A. It’s not like a seed meeting where someone might write a $50,000 dollar check after a half an hour of talking. You’re trying to get a second meeting. You’re trying to avoid a no. You’re trying to get the investors intrigued by yourself as a founder and your product, market size — all the things that are important to them.
Generally you will try to determine if there is a match between the two groups. Will your team work well with the investors? The goals of the first pitch is not to cover every detail about your business, they will not want to know every detail. The true details will take several meetings to get there. They want to know the most important things to either arrive at a no or spend more time on you.
The investor should see you as a great communicator; you need to be able to tell a story that wakes them up.
Let’s imagine that it is 2 o’clock in the afternoon. They just had lunch, they are tired — you need to get their attention. You need to be a good listener as well, they are going to give you feedback along the way and question you. The more you represent that you are hearing what they’re saying, and that you are going to apply it the better.
Part visionary part operator: you can’t be a hundred percent forest and hundred percent trees. The vision for what you want to accomplish is really important. But you need to convey that you can execute, that as an operator you can actually succeed.
Something that is very important at our firm is that your data focused. Your metrics focused. You study what goes on in your business. You can iterate along the way. The more you show that to us the more that will trust your abilities.
We look for founders that are sophisticated and capable. That doesn’t meant that you are forty-five and this is your fifth startup, it could mean you are twenty-two. But you have a way of handling yourself. You’re going to be able to have conversations with future potential investors. You’re going to have biz dev conversations that will result in deals.This is not about your age it is about your abilities.
Intellectually honest transparent: if we think your bull-shiting us at all, trying to sell us, or hiding from things it is just never going to work. If there is something that you’re still trying to figure out, and you don’t know, or there is something that your competitor is doing — get it all on the table and have an honest conversation. The more honest you are the better working relationship it will be.
Jason referenced Thumbtack early, one of the things we liked most about their pitch was when we asked questions they didn’t know, and they said they didn’t know, and then they dove into their database to look it up. It showed us they are intellectually honest and data focused.
Scrappy high velocity: we like businesses that get stuff out there. Iterate on a product and push it; see how customers react to it and make adjustments. Do things quickly. Especially in the beginning stages of a company. You don’t have all the answers. You just have to try things and make adjustments. We don’t like companies that spend months discussing every little change they’re going to make.
Mission driven passionate: you have to be doing the startup for a reason. There is a goal you want to accomplish, and you walk through fire to accomplish it.
Great at recruiting people: team is everything at the end of the day. You need to bring in A plus players. This will be the difference between becoming huge or just decent.
This is how series a investors should see your business: very clever, unique, and solving a major pain point that has not been solved; if it is being solved, then it is being solved poorly.
Your product needs to have a huge Total Available Market (TAM); it needs to be in the billions of dollars, this doesn’t mean that if you are building an eCommerce website, then you will give me the whole TAM for E-commerce. That is not your TAM.
Whatever your true TAM is should be in the billions to get a fund from our size (which is anything over a hundred million dollars). You should be able to show that that is actually your TAM.
Creating both a substantial revenue stream and strategic value is important to us. We don’t want you, when you succeed down the road, to be acquired for some multiple of revenue which is a preset number. We want you to be bought for some huge premium because multiple companies must have you and can’t imagine their competitors having you. And thus they are willing to pay out for you because of that strategic value you have created.
Leverage is important, potential for explosive growth, with revenue being able to grow much faster than expenses — so scalability.
Your business should be a business that people want to work for. It is solving some sexy problem or it is so scaleable and explosive that it would be really fun to work on.
Very focused: we tend to run away from companies that want to boil the ocean; companies that are trying to do way too many things at once. It’s fine once your company gets more mature, but at the beginning you have to do one thing really well.
Having great product DNA and marketing DNA is crucial to us. If you just have one or the other, then the business never grows. You have to figure out what to build and how to get customers to want it. What you build needs to be hard to duplicate and compete against.
Choosing which VCs to approach: fund size and investment amount must match. If you are raising ten million dollars for series A, then you don’t go to a fund that is 40 million dollars.
Identifying a champion is really important. You have to find the partner in the firm that is going to shepherd this through the internal conversations. He will help you with your presentation and give you feedback. He will make sure that if there is a risk you, then you will have an opportunity to deal with that risk.
You want to find investors where the board member that would be joining your company would actually be helpful. I’ve been on many boards where one of the members is just a time suck and creates all this stress for the entrepreneur. Pick someone who you love working with; think of them as a partner or co-founder.
It is better if they have relevant skills or network that can help you. The investor is not just an advisor. The investor is somebody who you should think of as a constant or brainstorm partner. He is someone who you can email/call at 10 o’clock at night and they will take it; he is in it on a such a frequent basis that he knows what is going on, and their advice is actually relevant.
Venture capitalists will be both empathetic and brutally honest. Jason is great at that. Everyone knows he is honest. But he also has a lot of empathy for how hard it is to create a startup. There will be stresses. Startups are not easy. You need somebody who is supportive, but will tell you when you’re full of shit, and tell you when you made a mistake, and then work with you on it. Somebody who is not offensive to you but helpful.
Your company needs to be meaningful to their fund. Meaning, it is a big enough bullet for them where they are going to care. If you’re small in comparison to the fund, then they won’t really care if you go out of business. If you are a big chunk of their fund and go on to raise B and C investments, then they really care and absolutely want to see your company succeed.
Try to find someone from the start who is going to care if you win. It is going to be as meaningful to them as is it is to you.
Getting to Venture Capitalists: if you can’t find a warm introduction to a fund, then you probably don’t deserve to pitch them. I can’t think of a time when we funded something that came in cold. I don’t know if it has ever happened. Try and get to a reference from somebody the fund respects.
Whenever possible start the relationship early. The earlier they know you and can see what you said you were going to build, and then watch you do some of it and create more metrics and learn, adapt, and improve.
You can then go back and say in confidence and say, ‘You’ve known me for a while now, now I am ready for the series A. I am starting to talk to firms. Because you have been following me for a while, I am talking to you first; but I am going to be out there.’
That is infinitely better than going at them cold when they know nothing about your business. You as a person also begin to know to them. The better they get to know you as an entrepreneur, the more they have trust in you. By doing this, it becomes easier for the investors to make that investment.
A lot of this stuff is about removing risk for the investors. Anything that can remove some of the risk gets you in the ‘probably want to do it’ column instead of the ‘that seems scary/too many other companies I should focus on’ column.
How much to raise: 18 months plus in cash. Assume you need enough to create some amazing progress and show some real metrics on your business. And then a bunch of cushion to fundraise because fundraising takes time.
Series A is hard right now. So many companies need Seed Financing so it is harder to raise series A. Just assume it is going to take a little more time. Whatever you can raise for that cushion will help.
And the same thing applies to series B; it will be a little bit harder. When you raise series A, raise enough to make it to series B plus cushion to show phenomenal results. Things will always take longer and cost more than original budgeting.
Assume anywhere from 20–30 percent dilution. It changes based on how much you are raising and how far along you are. Which investors are coming in. Sometimes it is worth it to take that extra dilution. In fact, it is very often worth it to take the extra dilution to work with the investors you want to work with. Five extra points of dilution at the end of the day to get the partner that will help you build is an easy trade off.
Your model should be realistic if not pessimistic. The worst thing is when the model is just not real or way too optimistic. You know you’re not going to hit it. We know you’re not going to hit it. Be realistic with yourself and the investors. This goes back to that intellectual honesty thing.
We can tell when it is real or when you are blowing it up. Show that you are going to stay scrappy when you get series A funding.
Don’t raise too much money at a too high valuation. It is a mistake commonly made. It’s better to take a lower valuation that you will zoom past than to hope everything will work out perfectly.
We approach these investments in a reasonable way. We don’t want too much dilution for you because we want you to be super motivated. We want you to understand that if you’re at too high valuation, you could get in trouble with it.
Getting a Yes
Wake the investors up. Make the partners in the room as passionate about the business as you are. Really act like you’re trying to recruit them into the company. Don’t make things to complicated. Simplify. We see too many pitches during the day, and sometimes it gets hard to remember the ones we saw that morning — especially if it is too complicated.
I am very impressed when somebody really knows our criteria before they come pitch us. They have spent the time to learn about us and what we invest in. It means the entrepreneur is in the right room.
Product demos are important. I would do those early in the presentation — at the very beginning. And then everything your saying after that relates back to the product demo.
Show that you take feedback. Be responsive. If there are any unanswered questions that you did not know the answer to, then go and do the research, get the answers, and then email them as quickly as possible with the answers so that there is nothing the investors are left wondering about.
The more organised you are with the diligence accomplishes two things: it shows us that you have your shit together, and it shows us that you’re talking to other funds. It is always good to show there is some kind of competitive thing going (i.e. other investors are looking at you).
Ask for ways that the partners can help. Your choosing your partners as well, so you should be interviewing them too. The presentation should not be a hundred percent them pummeling you with questions. Some of that time needs to be you pummeling them with questions.
Figure out not just their backgrounds, but what is relevant about their network. Figure out what they can add to your business, and why you would want to choose them as a partner. It shows that you are smart and impressive. It also ends up being a really good conversation. It shows that we would work well together as board members.
Leave them intrigued at the end. The single best thing you can do to get a terms sheet is create competition. The more you can show that there are terms sheets coming, the more serious they will take it.
Avoiding quick a No:
Be likable. It seems easy but sometimes you forget to show personality.
Don’t be boring. We have passed on great businesses multiple times because the CEO was just too boring. They struck us as if they would have a hard time raising the next round, doing a strategic deal, and recruiting people because they are boring.
Don’t oversell or provide overly optimistic projections.
Don’t underestimate your competition. [Some entrepreneurs] come in and say, ‘the existing guys are slow and dumb and they can never catch up’. It sounds ridiculous. Often times they are talking about the bigger companies like Facebook and Google. But those guys are really smart; if they choose to truly compete and copy you, they could do it.
So do not assume the competition is dumb. Assume they are smart. Assume they are going to be hiring people and allocating resources to beating you. Investors want to hear how you would compete with your competitors if they decide to compete with you.
Don’t act like it will be easy. That is a huge mistake. Any startup is hard. Acting like you have all the answers, or like this will take no time to get done will more often than not lead to a quick no. Don’t make it seem like your task is impossible either. Admit where it is challenging, and where you will need help, and the things you will be focusing on to nail this opportunity.
Don’t be impatient or over eager. If you seem like you have to get an answer from the fund within the next 3 days because you’re running out of money or just feeling flustered about everything, then they will run the other way. Show patience. Work with them. It is a relationship building game. Get to know them. Get them excited about the business. When you feel it is time to start putting on a little more timing pressure and creating some urgency, then do it, but do not do it too quickly.
Be someone they are proud to work with. Someone who would they want to introduce to their other portfolio companies. Somebody who they would want to go on social media and brag about. Be that person.
Associates are not useless. Associates are very useful. They can be the younger one in the room during a partners meeting that is really banging his fists on the table saying, ‘I use this app all the time and all my friends use it. It’s great. Trust me on this.’ Or they can do the exact opposite and say, ‘You know I didn’t like that guy because he reminded me of that one thing that failed or whatever’.
It may be right or wrong, but the partners will listen to them. So don’t treat associates like they don’t matter. Often times associates can introduce you to the partners before you pitch in a way that sets you up right. And that is really important; it gets the meeting going the right way.
Try and meet later in the week. Most partners do their meetings on Monday. We remember the presentations that are earlier in the week better. I don’t know if that is statistically relevant, but there is certainly a better recall on Monday for companies we met later in the week.
Don’t over negotiate. Don’t be set in what had in your mind when you walked into that room. Different funds like to do things different ways. It should be open during the conversation. It shows that you can be somebody who the investors can work with.
This isn’t about negotiating the single best deal. It is about trying to figure out what is right for the business.
What is the right amount to raise to safely get to a series B? Do the founders and rest team have enough equity? Is there an options pool created where you can recruit enough people. Is this the right amount of capital?
If you over-negotiate and stick to the one thing you had in mind you will probably lose.
Telling a really big but believable story. We are going for huge exits here. We are looking for the companies that will be outliers. We want to think that you’re going for that grand slam, but that you can actually do it.
I would rather you give a believable pitch that shows your company can become worth a billion dollars, than an unbelievable pitch for a fifty billion dollar company.
Lower the perceived risk any way you can. Venture capitalists are looking for ways to say no. We see roughly 150 deals a month. We say yes to one every six weeks. It is pretty easy sometimes, even if it is not intentional, to say no to companies. It is easier to push them off and focus on the companies that are hitting all the criteria. So look for ways to get risk off the board. Look to get the reasons for saying no off the table.
Learn from every meeting you have. When you first start out pitching, pick funds that you think you will be less likely to get because it really trains you better. The more real-world pitches you do the better you become over time. Afterwords have a meeting with your co-founders and learn the feedback from the investors. Adapt the presentation, how you deliver, and you will be better the next time.
This is the best free advice and help you will ever get at these meetings. Ask for ideas, referrals, customers, because you will get it. They want to see what happens if they send a customer your way.
Have a good time. The companies that produce an enjoyable conversation, a sense of fun or flow, and everyone is happy — in a good mood. Those are the ones we tend to have the longest conversations about on Mondays.
Calacanis— That was amazingly comprehensive and gave me a lot of ideas. What is a company that you said no to and is successful now? Give us some of your anti-portfolio.
Katz — A recent one we said no to was Laurel and Wolf. They have since gone on to get tons of customers and raise a successful series B. Laurel and Wolf help get interior designers online and set up things for them.
Calacanis— When you look back on that, why did you disqualify them. What did they fail?
Katz — There was a lot we liked. They got really close. The product at the time was not good enough. Whether it was our failing or their failing at the time, probably a little bit of both — the conversation did not lead to exactly how the product would adjust and iterate along the way. We really did like the entrepreneur. It was more about the business than the entrepreneur.
Calacanis— So the business didn’t work well enough?
Katz — The product didn’t.
Calacanis— It would be like if you used Uber in the early days and the car didn’t show up?
Katz — Right. And then I passed on Kickstarter. They were super early when they pitched us. They went in a much broader direction, but they focused on things like what the city of New York would need to raise money for.
Calacanis— They didn’t understand how people would use their tool?
Katz — Maybe they did understand, but they didn’t articulate well enough at the time at how broad it could get. These big ones that we passed on are just as much our failings as they were theirs.
Calacanis — Okay. Questions?
Audience Member 1 — One of the founders I talked to earlier said that the lead on his seed round didn’t even touch or try out his product. Do you play with or use all the products pitched to you?
Katz — Usually someone in our office does. It does not surprise me with seed deals. A lot of times with seed deals it is purely the entrepreneur. It is, ‘this guy is going to thrive somehow. He may or may not have it figured out right now, but he is going to iterate along the way and get there’.
The fund amount may only be twenty-five or fifty thousand dollars, and the the investor is taking a bet on the entrepreneur. It is hard to try Software as a Service (SaaS) products. Some of these things just don’t apply to the investor.
For dating apps we might have the guy in our office try it. Instead of relying on just our one experience with it, what is more valuable is talking to many different customers who do use it. That gives us real feedback.
Audience Member 2 — You said to start early when building these relationships. Does that mean we should be talking to series A investors now even though we are not at the stage to be raising series A?
Katz — It’s not it is something you have to do, but it is helpful. If we know each other now. And I see your week twelve presentation, and it is that much better. And as you start to get more user data, you send me a some updates. Not every day, but every couple months saying ‘hey this is what is going on. We are going to be pitching in about four months’.
And then you reach out to me in four months; I will go back and look at those emails, and I’ll remember those conversations and pitch — I’m coming in much more educated than if I never met you.
Jason — I think it is wise. We have a lot of folks in our first and second class of the incubator. They took the time to meet with venture capitalists early. All the sudden it is a year later, and they have had three meetings. Now things are not a ‘no’. They are a ‘let’s keep talking’. Really what you’re trying to do is connect the dots to make that line. Your building credibility along the way.
Audience Member 3 — Jason said on an older This Week in Startups (TWIST) that he finds it really off putting when a CEO does not lead an investment conversation. Do you have an tactical advice on who should be presenting in the meeting?
Katz — I think the CEO does need to be the CEO. It can be confusing when too many people are talking. I’m fine with other people jumping in. Especially if it is on their area of expertise. You want to get a feel for how the company is actually managed. My personal pet peeve is when people come in and they are both called founder. You don’t know who the CEO is, and they don’t know who the CEO is. That will end up being an issue at some point.
Jason — That is a red flag. Co-CEO is an even bigger red flag.
Katz — And married couples are an automatic no.
Jason — It almost never works. But, when people come with co-CEOs, it is basically like they are institutionalizing disfunction. ‘This is a dysfunctional relationship. We are not even aware that everyone sees us as a red flag.’ Or they are aware of it, but they do it anyways even though everyone has determined that co-CEOs never work. Whoever is the best communicator and leader should be the CEO. Whoever is the best technical should be the CTO.
Audience Member 4 — You said that the CEO should be talking, does that apply to mainly the presentation or the questions too?
Katz — I don’t want the CEO to be the only person to answer questions. If there is a question specifically about a sales strategy, and the VP of sales is in the room, it is great if they take it. But the CEO runs the show.
Jason — In a functional company the CEO would be the one to direct the question. If one of you chose to be the CEO, and one of you chose to be the chief product officer. The product officer would take questions about the product.
Katz — We don’t want anyone in the room to be a wallflower. If somebody is in the room and never says one word, bad — don’t even bring them if that is the case.
Jason — Rolling up with too many people is also a bit of a red flag. It is usually two or three people. When more than that come the company looks dysfunctional.
Katz — Also sit on the same side of the conference table. It makes the conversation awkward if you’re spaced apart.
Audience member 5 — Not an example of an amazing founder, but amazing fundraiser was Lucas Duplan from Clinkle. He famously brought [some well known investors] to his office (instead of going to the investors office). The investors ended up investing five million plus in the seed round. At the time it was said to be the most courageous moves by a founder. What are your thoughts on that
Katz — If you’re going to be that cocky you better be that good.
Jason — How did it work out with Clinkle?
Audience member 5 — Clinkle ended up with a 30 million dollar seed round. The founder took a picture with a hundred thousand dollars cash. It went all over the internet
Katz — Oh jeez. See that guy — no. I’d be running the other way from that. That’s a guy who’s going to have such a big ego, and he will blow so much capital.
Jason — It will be very hard for him to step away from a mistake too. Oh we’re going in the wrong direction? Great, let’s go over the waterfall…..
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Great job making it to the end reader, keep up the good work.
Once again, here is the link to the full show.
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