What do investors look for in a tech startup?

Most successful tech businesses will raise equity finance in their scale-up journey. Usually, they’ll have several funding rounds.

If you find the right investor you get the cash you need to accelerate your growth. The equity you give up is small relative to the extra business value you’ll create.

You also get a new business partner that’s aligned to your goals. Even better, they have experience helping tech businesses grow. You gain skills and a formidable network that your bootstrapping competitors can’t access.

Of course, it doesn’t always work out like this. The wrong investor will insist you ringfence their cash and use it in a way that best suits them. They expect more equity than you think is fair. Worse, they want more control over your business than their share holding warrants. They provide the skills you’re looking for via salaried advisors that you need to pay for.

The trick is to make yourself as attractive as possible to investors. Show you have these seven qualities and you’ll become an Investment Magnet. You’ll attract the right type of investors and never feel pressured to accept a bad fit.

#1 Solving real customer problems

Investors are attracted to tech businesses that solve real customer problems. Everything else is secondary. The number one thing you need to do to attract investors is give them:

  1. A clear description of the problem your tech solves.
  2. Proof that customers are willing to pay to solve the problem.
  3. Proof that your tech solves the problem.

You must convince them of these three things in your initial introduction. If you do, the rest of this article is about increasing how much rather than if they’ll invest.

#2 Growth potential

You must have a compelling growth story. This means:

  • Your product solves the problem of a large or growing market.
  • You have a proven strategy to access that market.
  • Competition isn’t a problem, no large dominant brands, or other well funded start-ups.
  • Or, if competition is a problem, that your product is disruptive.

Managing your broader funding strategy and cashflow is critical here. Strong market research and a good marketing plan will get you so far, but they won’t differentiate you. Investors hear from hundreds of start-ups and scale-ups with a plan but no traction.

Savvy investors will be far more attracted to tech businesses with hard evidence. The only way to do this is by building traction in the marketplace.

For your first round, this means balancing your tech plans with the seed capital you have. You want to be post revenue (or at least post MVP) before your first raise.

For later rounds, it means managing your cashflow and being strategic in your product development. This means you can show maximum traction between raises.

It’s also important that the evidence you present is compelling. You need to have the right finance operations. And, they need to be providing you with the right performance analytics. Investors want to hear impressive numbers. But, they also want to understand, and see you understand, what’s driving that growth. The better your analysis the more they’ll trust you to replicate and extend it.

#3 Your passion as a founding team

Investors are investing in you as much as they are in your business. This is especially true while you’re still on your scale-up journey.

The stronger you can claim to be leaders in your field, the better.

But, they’ll expect to see more than tech smarts on a strong CV. They’ll want to see you have customer focus and that you have deep insights into your target market.

Above all, you’ll need to convince them you’re a cohesive unit where the whole is more than the sum of it’s parts.

You have to pitch yourselves not just your product. What makes your skills unique? How do your individual skillsets complement and reinforce each other? What are the major setbacks you’ve had, and how did you pull together and use your strengths to overcome them? How can you showcase your passion and creativity? How does the journey you’ve taken so far show your flexibility? How have you adapted to market changes?

#4 Sustainability

Investors taking on extraordinary risk investing in tech start-ups and scale-ups. They do it in the hope of extraordinary returns. Convincing them of your growth potential is only half the battle.

You need to convince them your product can generate sustained growth. To do this, you need to be clear about your structural advantage:

  1. How will you become more powerful with scale?
  2. How will you be difficult to copy?

#5 Having a credible financial plan

The type of investors you want to attract are those that specialise in what you do. Usually, this means they’ve built up their wealth the hard way. Fudged figures and exaggerated claims won’t wash. Nor will a plan that focusses on what you’ll achieve without the resources you’ll need.

They’ll spot any hole in your financials a mile off. You need a robust financial model that’s can output the following:

Forecast turnover and profit

These provide the hard numbers that spell out your growth potential. You need to explain your key inputs and assumptions. And, you need to show they’re reasonable based on your current traction. The clearer and more transparent you are, the more you’ll gain your prospect’s trust.

Forecast cashflow and balance sheet

These explain the resources you’ll need and when you need them. No matter how strong your growth potential, investors want to know:

  • How, and when, this potential gets turned into cash.
  • That you’re not going to run out of cash first.
  • That you’re not forgetting about other liabilities. Tax, employee share schemes and the myriad of other costs that are difficult to model and easy to get wrong.

Most “DIY” financial models can’t, or don’t, extend beyond modelling P&L . This leaves your investor guessing about how realistic your plans are and harms your credibility.

Risk

To be taken seriously, you have to acknowledge the uncertainty in your assumptions.

The right model identifies the assumptions that have the greatest impact on business value. And, it measures their impact.

This won’t always be intuitive or obvious, especially to the potential investor. You need to do the analysis for them and present alternative forecasts showing a range of other scenarios.

If you demystify the risk they’re taking, they’ll expect less equity as compensation.

#6 Why them?

I usually get a blank look when I ask clients this. It’s easy to get wrapped up in the need for funding and in how to pitch your business. There are two dangers to this:

Firstly, investors want to work with founders who understand that investment is a synergy. It’s not enough to present a great business opportunity to them. They expect you to understand what they want from the relationship. This means doing your homework and tailoring your pitch to focus on why you’re such a great fit.

It also means making sure you’ve applied for and received advance assurance from HMRC that your investors will benefit from SEIS or EIS treatment on their investment. This isn’t a direct tax benefit to you, but it does create massive tax savings for them.

These tax savings are an important part of what makes you attractive as an investment opportunity. By taking this step, before or shortly after your initial conversations, you remove any uncertainty and signal that you take their needs seriously.

Secondly, you lose sight of the need to attract the right investors not the wrong ones. You need to step back and think about who your ideal investor avatar is. The clearer you are the more you’ll attract the right partner.

#7 Have no skeletons lurking in your closet

If you’ve ticked each of the above boxes, with a bit of luck, you’ll end up with an “agreement in principle” that suits you.

The final hurdle is to make it through the financial due diligence process. There are two hurdles that you’ll need to jump:

Inconsistencies and irregularities

Expect your investor to send a team of accountants that’ll make a detailed inspection of your financial records. They’ll be looking for any inconsistencies between what you’ve said about your business and what’s actually recorded in your accounts.

It’s likely your business has, so far, been flying below HMRC’s radar. Your investor’s accountants to be looking hard for any tax irregularities.

Don’t let some fudged bookkeeping, or guesswork in a VAT return trip you up. It’s essential that your finance operations are being managed by a safe pair of hands. Someone with the competence to keep you safe and experience in audit and investor due diligence.

Contingent liabilities

It’s common that you’ll have made your seed capital go further by taking on consulting work. Perhaps your ongoing business plan involves a hybrid business model, combining your tech product with consulting and implementation support.

Investors know there’s limited scalability in consulting work. They want to invest in your product only.

It’s not only that they don’t value the consulting business. They’re repelled by it. It introduces risk that you’ll make a mistake that you’re sued over. With them having to pick up some or all of the bill.

The solution lies in your corporate structure. Put your product and consulting businesses sit in separate corporate entities.

Done correctly, there’ll be group tax reliefs that mean you can continue to cross subsidise your early development out of consulting income. Then, when you have investors ready, they can buy equity in your product, without having to worry about your consulting work.

The sooner you can get your corporate structure right the better. Leave it too late and you’ll have a shock at the tax bill. You’ll also create delay and complication that may mean your investor walks away.

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