Playing with fire

Which presentation practices draw cash from investors — and which draw their ire? You'll find the answers in the Dragons' Den. "You can't put lipstick on pig" is a well-worn saying in investing circles, and for good reason. It means that no matter how well you dress up an investment opportunity with flashy PowerPoint presentations and surgical double-talk, you cannot disguise a bad business as one worthy of investors' cash. Sadly, countless entrepreneurs have tried this trickery, and I suspect many more will. What's even sadder, however, is how many good opportunities go unfunded because the entrepreneurs involved fumble their pitches for funding. "Smart guys with great products but bad pitches get nothing," says Laurence Lewin, the co-founder of lingerie retailer La Senza and one of the fire-breathing investors on CBC-TV's Dragons' Den. So let's assume (as almost every entrepreneur does) that you have a great product, a great management team and a great opportunity. What should you keep in mind when pitching to potential investors? This is an area I know well, and not just from my full-time job of coaching entrepreneurs to raise capital. In my role as a special advisor to the show's producers, I spent Seasons 1 and 2 on set, advising contestants on endless last-minute decisions about how much investment to ask for and how much equity to give away. (Unfortunately, they didn't always listen.) I've also been a member of the application review team; this year, collectively, we judged more than 3,000 live auditions and the equivalent in online applications to be one of the 200 or so entrepreneurs to visit Toronto and present to the Dragons. The great thing about Dragons' Den is that it's not just entertaining; it also provides real-world examples of the mistakes that sink investment pitches in the real world. Here are the top tips from inside the Den. Don't be an ass! Putting your lifeblood into a project is a prerequisite for entrepreneurship, but that sometimes creates a hazardous sense of entitlement — which is not something equity partners want a share in. As Dragon and Boston Pizza magnate Jim Treliving puts it, "We are going to work side by side for years, and I don't want to work with an ass." You will soon be branded an ass if you take the wrong approach in your pitch. "You want to stand up to hard questions, but not be defensive," Dragon Robert Herjavec advised one contestant pitching a novel pancake mix. Investors will try to poke holes in your pitch, but the process is not meant to humiliate — rather, they're testing your knowledge of key aspects of your business plus your ability to carry yourself. "Questions shouldn't scare you," says Herjavec, a Croatian-born tech millionaire. "They should give you a chance to engage your audience." Perhaps because they were caught off guard by the Dragons' intense interrogation, some contestants became aggressive and attacked the questions (and, in one case, the questioner) rather than answering them. They never got a deal. Those who did raise funding demonstrated the value of their businesses and their value as partners. Bring endorsements Entrepreneurial passion often transforms into the blind faith that leads an entrepreneur to believe their business is the next big thing. That's why investors seek third-party validation of every pitch. As this year's new Dragon, Arlene Dickinson of Calgary-based Venture Communications, told one contestant, "An idea or vision is a prerequisite for funding, but it's not sufficient — you need to show me someone else believes." That someone could be joint-venture partners, investors or, best of all, customers. One pitcher who wowed the Dragons actually brought his customers to the set! Investors always seek to mitigate risk, with "market risk" (i.e., if you build it, will anyone buy it?) at the top of the list. (Management risk and technical risk are close behind.) Third-party endorsements can go a long way toward addressing market risk, and the Dragons found great comfort in those proposals that were backed by some form of third-party endorsement. Just consider these figures: of all the deals done this year, 80% were based in part on some endorsement, while half of all the pitches that failed did not have third-party backing. Really know your customer While all pitchers in the Den knew their product inside and out, few knew their market and customers as well. Lewin repeatedly probed contestants on their customer knowledge: "How do you know that this is what your customers want? I don't want to invest based only on your say-so; I want to know what makes them buy and, more to the point, I want to know that you know what makes them buy." Unless you have a deep understanding of what makes your customer tick, Lewin will not invest in your business. But he's not unique in that regard. In fact, most investors demand their investees have "domain expertise," which includes a deep understanding of what customers want, how they make buying decisions, the sales cycle and any competitive offerings, plus the key indicators of the market itself. Do the math Knowing the customer is only the start. Dragon Kevin O'Leary, who anchors TV shows on business and investment, grilled contestants time and time again on the numbers. Some entrepreneurs, like the producer of a bitless horse bridle who entered the Den, failed to raise money by failing to know the gross margin of his product. "Without knowing the margins, how can I calculate my return on investment?" asked O'Leary. "And without the ROI, I can't do a deal." Among the dozen or so other metrics you should be able to discuss with investors are: €¢ COGS = cost of goods sold (i.e., the money needed to get a product ready for sale) €¢ ARPU = average revenue per user €¢ BE = break-even point (the date/sales volume at which a company/product becomes profitable) €¢ TAM = total addressable market (the upper limit on your company's potential customer base). For example, Nike's TAM might be the total number of people who are looking for athletic shoes and can afford $100 or more for a pair; it is not the sum of all humans with feet. Show your ugly side Jim Treliving may be the only former cop among the Dragons, but his views on honesty are shared by all. "Don't B.S. me," he warned during one pitch upon discovering the contestants did not own the patents on their product outright. "I don't expect you to be perfect. But I do expect you to be honest." While Treliving might have overlooked this red flag had it been raised by the presenters, he was less accommodating when it surfaced only upon cross-examination. Being open and honest are paramount to creating a strong relationship with investors, but it's harder than one might think. Entrepreneurs sometimes feel the need to exaggerate their successes and downplay their struggles. "What they don't realize is that any misstatement, even a small one, undermines credibility and trust," says Treliving. "And without trust, I ain't doin' a deal." Position for partnership When one contestant went so far as to inform the Dragons their involvement in his business wasn't welcome, no one was more irked than the normally jovial Treliving. "If all you want is money, then don't go to angel investors," he says. "While I don't want to run your business, I do want to know that you're open to my input. This is, after all, an investment partnership, not a loan." In the real world, many angels want to be hands-on partners in their investee companies, sometimes assuming management roles (often chairperson) in an effort to reduce risk and spending (they often work for free) and to improve ROI through mentoring and strategic operational assistance. These assets can be just as valuable as any cash an investor brings to the table. However, some angels are more passive, wanting a return but not the work. Either type of angel is fine, provided you align the expectations and interests of all parties. Dumb it down! As a successful seller of Internet security software, Herjavec knows this better than most: "The more complicated the product," he says, "the harder you have to work to make it easy to get." That sentiment was echoed by Lewin during one pitch for a highly technical e-mail platform, who told its inventor, "If I can't understand it, I can't fund it," he said. "It isn't for me to get it; it's for you to explain it." In my business, I coach entrepreneurs to sideline technobabble in favour of talk everyone understands. Speak about the pain of your customers, the cost differential and the solution — not the lines of code, the algorithms or bit-transfer rate. One of my most frustrating moments during Season 2 taping came when a highly recommended entrepreneur, with two successful business under his belt and a great idea for a third, could not explain the purpose or need for his cutting-edge product. The Dragons tried over and over to understand the opportunity until O'Leary ran out of patience, leaving his seat on the panel to join the entrepreneur on the pitching floor. In less than a minute, he re-pitched the idea to the other four Dragons, explaining it more clearly in a minute than the entrepreneur had done in the previous hour. The lesson: unclear pitch = unfocused management = not a good investment. Have a spending plan Many Dragons' Den entrepreneurs failed in their quest for capital because they had not adequately considered their "use of proceeds" — in other words, how they planned to spend any cash they raised. To win an investment, you should be able to succinctly describe three things: how much money you are seeking; the tactical uses of that money; and the specific results the spending will achieve. Thus, a poor proposal might go like this: "We are seeking $200,000 for 10% of our company." A good one might go like this: "We are seeking $200,000, which will go to hiring six new salespeople across North America. Our goal is to turn the investment into $1 million in sales from 20 clients within 12 months." All investors are different, but most prefer that their capital go toward mitgating market risk, which would include any initiatives to build sales, such as establishing distribution arrangements or hiring sales staff. Conversely, some uses of proceeds are deal killers, including paying down debts, repaying shareholders and funding litigation. Show how the money is made During a pitch for one warm and fuzzy concept, O'Leary scolded the entrepreneur for her warm and fuzzy revenue model: "I love love as much as the next guy, but I love money more." His point: if the entrepreneur can't clearly explain how the business generates cash — as this contestant was unable to do — then an investor can't calculate how he or she will make money on the deal. This was the bane of many pitchers at the cross-Canada auditions. Many could not explain how their business would generate a return on investment; others could not even explain how their firms would generate revenue (e.g., direct sales, product licensing, advertising sales). No one will back an entrepreneur who doesn't know these critical basics. There's also the question of how much money your business will make. While you might be satisfied with a business that pays a decent salary and outperforms your mutual funds, angel investors want a payout of five to 10 times their investment after three to five years. If all an investor wants to make is 8% a year, they wouldn't put their money at high risk in a privately held startup. Dale Carnegie said it best more than 80 years ago: "The royal road to a man's heart is to talk to him about the things he treasures most." So whether you are pitching for investment, trying out for Season 3 of Dragons' Den or making your next sales presentation, remember to focus on your audience and their needs. But, most of all remember that agood pitch may be the beginning of a long and profitable relationship, while a bad pitch is almost certainly an end to the opportunity. Sean Wise is one of Canada's leading entrepreneurial evangelists and the managing director of Wise Mentor Capital in Toronto. His new book, Wise Words: Lessons in Entrepreneurship and Venture Capital, is now available at Amazon.com.