The Important Factors That Investors Take into Consideration While Investing in Entrepreneurs

Sharad Nair Feb 27, 2017

India’s growth with regards to the start-up ecosystem in the recent past has been much dynamic. It is heartening to note that India comes in second to the United States of America as a country that fosters many operational start-ups. This puts India at the forefront for fostering entrepreneurial zeal surpassing China and other developed nations rightly proving that the youth of the country are innovative, creative and are raring to go given a holding hand.

While the country has brilliant minds that can propel the growth of the country significantly, many entrepreneurs are still struggling to secure funding for their companies that have the potential to be the next unicorn. And from the investor’s side, although with plenty of dry powder at their disposal, investors are being very cautious of who they partner. The gap here lies in synergy between the requirements of the entrepreneur and the expectations of the investor. Often, entrepreneurs are not able to assess the needs and requirements of the investors while investors hope that the entrepreneur is able to resonate to the expectations and requirements of the investor.

What attracts investors to Indian companies and especially start-ups?

Keeping in mind the mega market opportunity, one cannot ignore the growth potential of Indian companies. The market size and needs are so huge that if the concept is good it is bound to succeed. When compared to the Indian markets, the global matured markets are well-served and have access to testing ventures that is highly expensive. However, while India does present a plethora of innovative and determined entrepreneurs, many times, entrepreneurs often misunderstand what are the factors that an investor considers while deciding to invest in a particular start-ups. To list down a few:

Investor is always looking out for is innovative ideas. While many have worked on the “replicate the innovative model”, this is no longer a driving factor for investors. Investors are quick to realize that replication may not hold long standing credibility, hence entrepreneurs should focus on ensuring that their offerings must be what has not been under the “trial and tested” scanner Entrepreneurs who have pursued innovative ideas never lacked funding or enthusiasm from investors.

A solution driven approach adopted by an entrepreneur can go a long way while interacting with an investor. Investors greatly appreciate an entrepreneur who works towards solving a particular challenge in the speediest and most efficient manner possible.

Financial models and business plans are key in any start-up to present to the investor. Understanding the financial acumen of the start-up is key to get them funded. It is important for the new generation of entrepreneurs to get well integrated into the finance of his enterprise and quickly learns the skill sets to mentor and monitor the cost and revenues. A well thought of financial model is what reassures the investor that the entrepreneur lays emphasis on all aspects of his venture and is able to assess the feasibility of his venture. This also helps reduce the risk on the product or services.

Liquidity is one aspect that investors are very particular about. Historically, India has always attracted foreign investment. In the past 3 decades, it has significantly improved from the initial liberalization in 1990s to the present ‘make in India’ schemes. The highly matured and regulated Indian stock markets provide sufficient liquidity for the matured investors. As a prudent investor, one will look to have his investment converted into cash at the most opportune time to reap the fruits of the investment gains. The primary and secondary market in India is so huge that it provides enough opportunity for investors with liquidity.

The culture and earnestness to one’s endeavor is deep rooted in Indian startups. Besides the new generation who have worked elsewhere in the world, Indian entrepreneurs have a basic desire to contribute to their own country’s development. They are equally aware of the huge market which remains untapped.

The new work culture today has moved beyond the stereotypical 9:00 AM to 5:00 PM work hours and instead focus intensely on ensuring productivity. With start-ups, this dedication, earnestness and zeal is even higher which is a critical factor for an investor to bear in mind.

Legal frame work is yet another aspect an investor looks into. Given the fact that while dealing with a dozen regulators to get the startup up and running in itself is the litmus test of compliance to regulatory regime. Although, sometimes neglected, investors greatly emphasize on the implementation of a robust legal and regulatory mechanism set in place while considering investing in a start-up venture.

Common misconceptions start-ups have about investors:

Entrepreneurs often feel that an investor’s goal is to build valuations of a portfolio company and eventually opt for a buy out at a superior valuation. However, what the investor mainly is focused on is partnering with entrepreneurs to build the next path breaking solution to a present day problem. For investors while valuations are important, they are rather a lot keener on building stellar companies of tomorrow. If entrepreneurs are realistic about the commercial success and maintain their stability, they have the potential to repeat history like Infosys did.

The start-ups also often bear a misconception that investors are open to accepting risky business propositions. Entrepreneurs must understand that while investors do factor in the risk component, investors are sharp to asses if the risk outweighs sustainability of the business venture. If entrepreneurs are able to apply this aspect while looking for the next round of funding, they will find themselves surrounded by a whole lot of small and medium investors who are willing to invest through crowd funding.

Sometimes, entrepreneurs have the wrong perception that angel investors are sitting with liquidity, surplus cash and the process of acquiring funding is a quick and easy process. Entrepreneurs fail to understand that the investor requires time to assimilate the business risks and manage his liquidity before the cash comes through. It is important that entrepreneurs adopt a patient attitude while looking at funding options.

There is yet another challenge that often the start-ups are not familiar with FDI process and documentation. Entrepreneurs often depend on their bankers for assistance. Unfortunately, not everyone has the knowledge which is why entrepreneurs must reach out to the right set of advisors. If the right advice is not rendered, it often leads to confusion in the documentation until the investment is made available to the start-up. It would be advisable if entrepreneurs are well acquainted with the legal, regulatory and compliance related norms which enables entrepreneurs to be self-reliant and aware of what are the nitty-gritties required to run their venture successfully.

What dissuades an investor from investing in a start-up?

It is more often than not the start-up entrepreneur is a good technocrat and a poor finance manager and administrator. This challenges the professionalism that are expected by the investors who are treated with great care by matured professionals who often bring the investment proposal. While the business idea is of ultimate importance, equally important is the knowledge on other aspects for running a business. An investor with his experience is quick to realize when the entrepreneur has focused on the other business areas as well.

Another factor is the entrepreneur’s enthusiasm to replicate the multiple valuation as secured by their peers. Often entrepreneurs lose focus on the running of the business and turn a blind eye to the ethical approach with which the project ought to be taken forward to meet its logical end. It is vital that entrepreneurs understand that realistic valuations could help in the long running of the business.

Lastly though of most importance is that investors are most dissuaded with the lack of commitment by the start-up entrepreneur to sustain his project when it hits road blocks in terms of regulatory and / administrative documentation. Lack of prior experience often exerts tremendous stress on the entrepreneur and make him drift from the project to resort to dilute the commitment to the project.

As a wise Korean friend once said, “In other countries, investors may lose money by making bad investment decisions. However, in India one may lose money because of the fear that one may get fleeced by employees and partners.” Often, I have seen that the lack of integrity amongst Indian partners cascades to employees & other stakeholders. A handful of unfortunate examples create a ripple effect of caution that can cascade to the rest of the ecosystem which could affect the funding opportunities of genuine entrepreneurs.

It is critical the start-up idea by entrepreneurs sustain a positive cash flow after at-least 24 months of starting business. It is important that every transaction delivers net profit as per the business plan. A quick monthly MIS comparing the actuals with milestones and detailed road map as per the business plan in a transparent manner shared with investor will gain immense investor confidence.

What more can the government do to increase investment?

Though India is a forerunner in the number of startups and has creative talents, it is possibly one of the few countries where one business has to deal with multiple authorities. Start-up entrepreneurs are well aware of their businesses but needs extensive and proactive advice on meeting the regulatory requirements.

Today many start-ups struggle with several aspects of running their ventures due to the lack of clarity and clarification on several regulatory, tax related and compliance related aspects. A single window clearance or more time (say 5 years from the day of startup incorporation) to meet the compliance will assist these start-ups to generate enough resources to invest on regulatory documentation and initial years to focus on their core concept / product.

In most well governed countries a tax is a tax and falls under just one jurisdiction of the tax department. One can only imagine the learning curve to understand all the above agencies and their functions. The best government can do to fuel start-up growth is reduce various taxes and regulations for companies younger than 10 years old. This will give the start-up entrepreneur the time to learn the administrative and compliance skills and eventually turn the start-up to a sustainable commercial venture. It will meet twin objective of one nurturing a start-up to be a successful venture and second to be compliant and ethical in the society.

To conclude, we should emphasize on building an environment that allow the next generation of entrepreneurs some wings to fly and libertarian business policy for growth!