The following characteristics are attractive to investors. Businesses that have these characteristics are more likely to secure investment capital than those that don’t. Very few companies check every single box.
A+ management team
A strong management team is the most important element of an attractive investment opportunity. Investors spend a lot of time getting to know management and evaluating their strengths and weaknesses. Strong management teams have proven executives, strong leaders, and industry experts.
Strong market position
Investors prefer to invest in businesses which are best positioned to lead the market and win new business. Great investment opportunities have differentiated products with meaningful value propositions that compete effectively with other industry players.
Track record of growth
Most investors (turnaround firms excluded) want to see a history of growth. As a general guideline, established companies (non-startups) with revenue growing north of 25% are good growers. For startups, investors look for over 100% growth per year.
Multi-pronged growth strategy
If you want to get an investor excited about your business, discuss your multi-pronged growth strategy. Companies that have the opportunity to become much larger get investors excited. The prongs of a growth strategy are: 1) More sales of existing products to target customers, 2) Selling existing products into new customer segments or geographical regions, 3) Launching new products to the market and 4) Acquiring other businesses that achieve either one of the above or open up a new transformative opportunity.
Attractive customer dynamics
Investors want to invest in companies with a diversified base of happy customers. Investors want to see low customer concentration among your top customers (limits the risk associated with losing a customer), increased same-customer revenue, and low customer attrition. Well-known customer names is a bonus and point of credibility, because it’s not easy to win big accounts.
The ability to forecast and predict future revenue gives investors more confidence in ongoing growth. Companies with multi-year contracts, repeatable sales cycles, and recurring subscription revenue tend to be most attractive to investors.
Ample free cash flow
For leveraged buyout investors, debt is often essential to the deal and paid down with cash flows from the company. Since debt is senior to an investor’s equity, leveraged buyout firms avoid companies with limited cash flow as they won’t be able to pay down debt, interest payments or cover operational costs.
Limited operational risk
Investors evaluate the operational risk of each process and department within a company. Companies with high concentrations in suppliers or channel partners, with no available substitutions, are riskier. Companies without internal processes to manage sales, marketing, customer service, IT, etc., are also riskier.
Favorable industry trends
Investors want to see a large, growing industry with favorable regulations and trends. Investors prefer to invest in sectors that will exist for years to come, rather than industries that could become obsolete with new technological innovation.
Reasonable valuation expectations
Professional investors invest other individuals’ capital, who expect a certain return. If investors pay a high valuation for a company, they will have to get an even higher exit price to meet return goals. Regardless of how great a business may be, if investors don’t have a path to achieving their return thresholds, they won’t be able to do the deal.
Multiple exit/return opportunities
Investors make most of their money when they exit companies. To sell a company, there has to be a buyer. We will evaluate the logical buyer universe before investing. An ideal scenario is a broad landscape of potential strategic acquirers as well as other private equity firms.
Nearly Always Unattractive Businesses
There are a few types of businesses where very few of the above characteristics apply, and it’s incredibly difficult to raise capital. Not impossible, but very difficult. Here are a few examples:
- Single-Person Service Providers – If you’re an independent service provider, it’s much more difficult to raise capital. The success or failure of the business is dependent on you not getting hit by a truck, which presents a significant risk factor for all capital partners.
- Small Turnaround Businesses – Small businesses that are going through a downturn or on the brink of bankruptcy have a tough time raising capital. If you do find a capital partner, the terms are going to be unfavorable.
- Products with no sales – If you invented a product and had zero or minimal sales after a long period, it’s difficult to find someone to invest in the business.