"When investors are ready to look beyond the numbers, here's what they'll want to investigate..."
Let's say you have spent a year seeking an investor to invest in your business venture; you spent considerable time pulling your business plan together, contacting potential investors, and making management presentations. Now investors are ready to get beyond the numbers. It's time for due diligence.
What Exactly Should You Expect?
Business investors want to be sure there are no skeletons in the closet or that your venture is not the next Madison Priest "black box technology".
Priest's famous black box was a revolutionary technology that claimed to allow ordinary phone lines to transmit data into people's homes at unprecedented rates - rates faster than fiber optics. By staging impressive demonstrations, Priest convinced private business investors and seasoned companies such as Blockbuster and Intel that looked beyond the numbers, to invest money in his venture. In the end, Priest's 'magic box' was nothing but a high-tech hoax.
Four Important Areas Business Investors Will Hone In On Beyond The Numbers...
Finance, management, manufacturing, and marketing are four areas of concern to most business investors. Specifically, these concerns can be segmented as follows:
Cash. Cash is king. It's the lifeblood of all businesses - start-up or on-going businesses. Business investors know this. They will spend the time looking beyond your numbers to understand your cash flow assumptions. And, if you're an existing business, they'll analyze your cash management practices. Poor cash management or shaky cash flow projections are immediate red flags.
Profitability. Expect investors to compare your actual or projected gross margins from year to year. This provides a quick indicator of your historical or projected manufacturing efficiencies and pricing environment. It can also highlight potential control issues, excessive overhead, or under pricing strategies to capture market share.
Bank problems. Out of compliance financial ratios, scrutiny from banks, or suspect bank relations - personal or business - are all red flags to business investors about how you manage your financial affairs.
Outdated financial information. The lack of monthly financial statements or detailed cash flow projections or, for an on-going business, statements that are not prepared on time are all indications of a loosely run operation or a lack of planning.
Continual crisis. To look beyond the numbers, business investors watch closely for signs of weakness in you or your management team. Constant interruptions by emergency phone calls and demands for immediate decisions are signs of disorganization and lack of management.
Substantial changes in key personal. Unusual turnover in key management positions can be viewed as a lack of leadership.
No changes in senior management for many years. An established company with little or no changes in the management team can indicate a stagnant business, not current in new methods or processes, or a very autocratic management style.
Lack of pride or enthusiasm. Seasoned business investors can just sense the true tempo and spirit of an operation and its management team. Ask them how they do it and they'll tell you it's a sixth sense or gut feel. Nonetheless, it is something they are looking for beyond the numbers and expect to see and feel.
Outdate methods and processes. Your manufacturing and service methods and processes provide a quick indication of your ability to compete in the markets you serve. They help investors move beyond the numbers to understand how quickly you can shift gears if the business doesn't go as planned. Even if you're a start-up, business investors want to know the methods and processes you plan to use to manufacture your product or provide the services you plan to offer.
Rejects. If you are already in production, investors expect you to know your reject rates, the problems causing them, and the quality controls you have in place. How you handle rejects is an important issue to business investors. Remember, rejects are not limited to only production rejects. They also include missed service calls, late deliveries, and other process failures.
Just in time (JIT). Inventory is often the first place business owners and entrepreneurs get into trouble. Too much of it and you can quickly run out of cash; too little and you'll quickly start missing deliveries and losing customers. How well you manage inventory and understand it is a key strength business investors are looking for in the management team.
Sales per employee. The measure of overall productivity is a good, simple benchmark investors can use to measure your historical or projected performance against other companies in your industry. Questions like: What is it that you plan to do differently than your competitors to allow you to use the number of employees you use or plan to use? Why do you think you can earn more or less per employee than the average for your industry? All help investors get beyond the numbers.
Market share. Be ready to compare your expected market share or changes in it to your competitors. Remember to only measure the relevant markets you serve. Also, avoid justifying your market share by taking small percentages of extremely large markets. "Our projections only assume we get 1% of this billion dollar market" is one of the most meaningless statements a business owner or entrepreneur can say.
Trade shows. Investors will be interested in the activity and interest your company's booth generates at trade shows compared to your competition. Some may even want to attend and observe the next trade show you attend. To help investora get beyond the numbers, to take pictures and videos. Conduct customer surveys to demonstrate and support the interest and activity surrounding your booth.
New products. What is the percentage of new products or services that generate future sales? How often will new products or services need to be introduced to maintain your market position? What is your success rate with new products and services?
Business investors are constantly trying to get beyond the numbers to sniff out symptoms of trouble. It's important that you never mislead or deceive them. Most investors have extensive business experience and regularly see or have seen many different businesses and industries. The questions they ask often stem from their real world experiences. That's why it is important not to get defensive by their questioning.
Smart business owners and entrepreneurs take the time to tap into the knowledge and questioning business investors have to offer to improve their business and prepare for other investor meetings.
Mike Elia is a chief financial officer and an advisor to venture capitalists and leverage buyout specialists. His business plan ebook "Business Plan Secrets Revealed” shows how to make your business the most appealing investment choice to venture capitalist, bankers, and other business investors. Click here to learn more about getting prepared for when your investors look beyond the numbers.