Last week I spent a lot of time running from one VC conference to another to get a handle on the state of the market for early-stage deals–especially for deals in the New York City area.
The news was decidedly mixed. While fewer VC deals are getting done nationwide, the local market seems to be holding up–at least for now. Last week, Crain’s New York Business reported that New York area technology firms continued to attract venture capital in the first quarter, bucking the national decline. Sixty-six area companies received $526 million in venture funding during the quarter, according to a report released by PricewaterhouseCoopers and the National Venture Capital Association. Funding was up 12 percent from the previous quarter and 35 percent from the same quarter a year ago. While most of the money went to expansion-stage companies ($200 million) and later-stage ventures ($171 million), early-stage ventures landed $121 million, unchanged from the previous period.
Still, the froth seems to have come off pre-money valuations (the price at which companies are valued before the VCs put their money in), peaking in the third quarter of 2007 and slumping in Q4, according to Dow Jones VentureSource and Thomson Financial. Venture-backed liquidity events (that’s VC talk for mergers and IPOs) are also way down this year.
The reason? VCs are trying to get into deals at lower valuations in order to cover their downside if the market slides further and to maximize their upside when the market rebounds. And while every VC would love to back the next MySpace or Facebook, traditional metrics such as ROI and cash flow have reappeared on VCs’ checklists.
So what’s an early-stage company to do? Here’s the scoop according to Ryan Ziegler, investment manager at Edison Venture Group, a New Jersey-based investor in mid-Atlantic information technology companies. Speaking at K&L Gates’ Innovation 2 Exit conference in Newark last Thursday, Ziegler said the key is to be prepared for what the VC is going to ask you and to understand the process that VCs go through in picking their portfolio companies.
Here are some of his pointers:
1. Present your executive summary in no more than a couple of pages. What’s the business problem and how does your company plan to solve it? Present a case study of a specific client implementation, if possible.
2. Map your business plan to the VC’s strategy. Align your plan with an investment thesis the VC believes in. Be flexible and open to the VC’s suggestions.
3. Make the first meeting count. Deliver a concise and compelling presentation (roughly six to 10 slides) in 30 minutes or less. Show the VC that your model is scalable–in other words, that you can grow the business to $30 million-plus in sales and give the investors a fivefold to tenfold return on their money.
4. Keep the dialogue going. Just because one of the VC firm’s partners likes your deal, don’t assume that the rest of the firm is sold on it. Even if you don’t make the cut the first time around, keep the firm updated on your company’s progress. Once you gain traction, the VC may come back to the table.
5. Be realistic about valuation. When the VC finally offers you a term sheet and it’s time to talk turkey, show that you’re a reasonable person the VC can do business with. Don’t get hung up on simplistic valuation formulas or big-dollar deals.
And what does Edison itself look for in the deals it funds? Recurring revenue, high gross margins and a founder who believes that a little dilution today will lead to a far more valuable company in the future.
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