2. Affinity (Connections to people and/or industry)
3. Comfort (Understanding of the business opportunity)
4. Potential Return
Yes, potential return is on the bottom of the list! Most people naturally want to disagree with this. Your instincts tell you that investors’ top concern is potential return. This is false. Their top concern is preservation of capital – even with start-ups. Investors’ main concern is mitigating risk. This risk mitigation is accomplished with early stage companies through trust in the principals, knowledge of people around the company and/or industry and their overall comfort level with the business opportunity. Investors are willing to take total loss risk, but they need to make a determination about the likelihood of failure. This likelihood of failure is balanced with an estimation on what their investment should return if the company is successful – this is the investor’s required rate of return. When the potential risk of a 100% loss is more than remote, investors require a huge return opportunity i.e. “homeruns” to balance their risk-reward ratio.
Investors care most about trust. Writing checks is always about trust. You put money in your bank because you trust the bank will be open the next day and worst case, you trust the FDIC to repay your funds if the back goes under. Think about when and why you write checks – while not a conscious level, your most likely decision point in your process is a conclusion about trust.
So, when you are raising capital, how are you and your company building trust?
How well are you equipped to quickly build trust with potential investors that you have never even met before?
Patrick E. Donohue, CFA