What Investors Want to Know About Your Small Business
Okay, so you had this great idea for a new small business venture and, through hard work, ingenuity and perhaps a little luck, you find yourself with a viable business on your hands. You want to take things to the next level but, in order to do so, you’re going to need some external financing.
The primary basis for any lending or investment decision will be your business plan. Every prospective investor or lender will have their own way of looking at your business, but they all want four key areas to be addressed.
Market – what is the addressable market for your product or service and what segment of that market are you targeting? Be very specific, and avoid the tendency to overstate market size and thereby understate the market share you need to capture.
Competition – who are the primary competitors for your product or service and how will you differentiate your offering from theirs? Don’t think your product is so unique that it has no competitors; this is a sure-fire way to lose credibility.
Sustainable Advantage – will your product or service have a sustainable competitive advantage? Intellectual property rights, strategic locations, long-term contracts give you an advantage. “Personalized service” or “rock-bottom prices” do not.
Cash Flow – will your small business generate enough cash to cover expenses and provide an adequate return to investors? Investors also rely on their estimates of future cash flows to determine what they are willing to pay for their stake.
Profitability Model – what are the gross and net profit margins for the product or service? Be crystal clear about pricing, cost of goods sold, gross profit and “overhead” expenses. Understand variable costs vs. fixed costs, and how they impact profits.
Balance Sheet – does your small business have sufficient assets to cover its debt and other obligations? Lenders will look for assets that can be collateralized to support any additional borrowings.
Growth Opportunities – be specific about where future growth opportunities will come from, whether its organic growth, product line extension, geographic expansion or acquisition.
Scalability – can your small business ramp up sufficiently to support growth expectations? This is relevant particularly in the context of the cash flow and profitability questions above. Clearly specify the investments that will be needed and impacts on cost structure.
Demographics – is your product or service supported by demographic trends or potentially harmed by them? This ties in with the previous market analysis but is more forward-looking, which is important to potential lenders and investors.
Management Team – does the management team have the experience and qualifications to execute on the business plan? Investors will expect industry expertise, functional experience and, ideally, a successful track record with other startups.
Organization – is there an organization chart and are roles well-defined? The small business environment is often described as “organized chaos,” but investors, especially on the equity side, want to see some structure to promote operating discipline.
Capital Structure – what is the current mix of debt and equity and how will future financings be structured? As the small business owner, you should formulate your own clear ideas on this topic before sitting down with prospective investors. There are many sources of capital out there, each with its own implications for the long-term value of your investment in the business.