The Thinking Blog

Build it and they will come…right?
September 7, 2010

I’ve been working on the Part 2 of “What does “real” due diligence mean?” but I’ve had numerous conversations over the past few months and one this morning that prompted me to address something very fundamental…well at least to me.

I’ve always found it fascinating how people who are attempting to raise capital seem to do everything except the actual necessary documentation to secure financing. It reminds me of the commercial that Sprite did a few years ago called “Death Slug.” Maybe you remember it. The executive walks into the boardroom and asks his people, “what do you got?” So the first guy shows a poster and says, “Death Slug, large lizards are out.” The executive says, “Nice.” Then he turns to the next guy and asks about action figures to which he replies, “Nice.” He then goes on to ask about kiddie meals, music video and all aspects of the merchandise line, each time saying “Nice” after they present their ideas. Then the executive asks about the movie at the last minute and the last guy says, “well we don’t have a script but we can bang one out by Friday.”

This is how I feel most people approach the process of raising capital. They will spend all of their time energy and money on development and then when absolutely forced to, try to bang out a business plan by Friday. This approach doesn’t work. I’ll explain in a minute, but I also want to address another viewpoint I hear all the time.

So here is the comment, “I know this guy who knows a few close friends and they are good for $100K.” Sometimes it’s even as high as $1 million that the alleged friend will throw into a deal. Now I’m not saying that some deals aren’t done quickly and with large amounts, as I’ve seen those deals happen. But here is what people don’t see that happens behind the scenes on those seemingly quick funded deals. Even if friendly wealthy investor Fred decides to verbally put in a $1 million into a deal that looks incredible. Fred, before he hands over his investment capital, he will first hand the documents over to his attorney, CPA or financial advisor. Fred just wants to make sure his people are aware of the deal he is about to invest in. Well, if Fred hands his people a half-baked plan, no financial forecast and a private placement memorandum that is not up to speed…do I need to spell it out for you? Fred passes on the deal.

I will agree with some of the other experts out there who say you don’t use a business plan to raise capital. No, you use other components of the due diligence package to attract investors but eventually someone representing the investor in fact, does read the business plan. Keep in mind, that investors look for reasons NOT to invest. That’s right. It’s safer for them to pass then to risk it on a technology they don’t understand and on a team they don’t know.

So do you want to take the “we’ll bang one out by Friday” approach or do you want to do it with peerless integrity and professionalism? I suggest the latter. Do the work in advance. I’m really stunned by the number of companies that have spent years working on a product but never bothered to do a business plan. I mean you want to talk about risk. Why would you start spending money before you knew what the possibility is? Oh, I see, maybe you’ve got the cure for cancer and the whole world needs it. Well, even in the cure for cancer case, the investment world is not based on the “build it and they will come” strategy. No, that was the dot com era and thank God that era is over. The more prepared you are at every level, the more you can justify your valuation. You are getting into business to make money aren’t you? And you want to make lots of it, right? And you realize the more equity you retain, the better your down the road payoff, right? Believe it or not, these conversations take place even with public companies so don’t think that the rules are different for them. They are not.

So what do you really need to secure your financing? Well the truth is you need several documents. The business plan being one of them. The business plan is the most dreaded, hated, despised and loathed documents because nobody wants to spend the time to put it together. The experts out there that say you don’t need a business to raise capital are…well, full of something other than wisdom. With all of the mess that has occurred with Wall Street investment banks, Bernie Madoff and a few other scams, the bar on the documentation just got a lot higher.

In addition to the business plan, you should have an Executive Summary or what we’ve been doing over the past several years is an Investment Brief. It’s a one page, double-sided document that explains enough to get a person to request the due diligence package. If you’re selling equity, then you’ll need a private placement memorandum (PPM) to make sure you are in compliance with all applicable Security and Exchange Commission laws. Then there is the pitch presentation. The pitch presentation should inform and excite and be designed to bring closure to the investor you are pitching to. I’ve seen a lot of presentations over the years where everything is great except the company forgets to actually ask for the funding. All of these documents should be living documents, at least while you’re raising capital. I suggest you keep the business plan as a living document even after funding. Most people won’t, but those that do are ready for almost any situation that arises in the future.

So if you want to bang your plan and materials out by Friday and risk it all, it is your choice.

Here is to your success.