Start-up funding options and making a compelling funding pitch.

DC Palter, Dave Erickson, Botond Seres

Dave Erickson 00:04
Trying to get your startup funded? Is all you hearing from investors crickets? How can you get an Angel investor to fund your startup? Many startups are so focused on their product that they overlook creating a business model and funding presentation that can actually get them funded. We're going to discuss how to get your startup funded on this ScreamingBox Podcast. Please like our podcast and subscribe to our channel to get notified when next month's podcast is released.

Dave Erickson 00:57
Looking for 100k for your startup? What can you do to ensure that you get the startup capital you need to make your business come alive?

Welcome to the ScreamingBox technology and business rundown podcast. In this month's podcast. I, Dave Erickson and my co hosts Botond Seres are going to find the money by talking to DC Palter, founder of DC is an Angel investor, a startup mentor and a published author and novelist. He has invested directly in about 37 companies over 10 years and he's invested in hundreds of others through to Angel investor groups. He's a part of the Tech Coast Angels and Chemical Angels Network. He started his career as an energy engineer and energy sustainability remains his passion Even though most of his working career and his two successful businesses that he built, were actually in the computer networking industry. Today we're going to discuss Angel funding and how you can make a fundable business model and a winning funding presentation. So DC, an impressive resume, anything you'd like to add?

DC Palter 02:07
Oh, well, I've done a lot of different things. Got a lot of gray hair to show for it, too. So it's kind of hard to summarize the long career in a paragraph, but I think that does a good job of it.

Dave Erickson 02:22
Great. You obviously have a lot of experience in funding businesses, particularly at the Angel level. So we're kind of excited to explore that. I think maybe the

DC Palter 02:34
and thank you for having me on today.

Dave Erickson 02:37
We're actually happy to have you looking forward to this discussion. So Botond, anything you would like to start out with? I know you've been involved in startups and in kind of getting businesses together a little bit. Maybe you have some funding questions?

Botond Seres 02:52
Let's say that I tried and haven’t yet succeeded. But it strikes me as quite peculiar to see that you started out as an energy engineer. And it's not typically a path that people take to then become an Angel investor, and a startup mentor. So

DC Palter 03:12
No, it's, it's been a long and winding road, but that's not unusual at all. So yeah, I started off in energy engineering, because I wanted to work on energy sustainability. There weren't any jobs in that, so I ended up working in the defense industry, I ended up working at a steel company, went back, got my MBA. And where were the Jams in the 90s? Well, it was in startups doing, it was bubble, right. So, and I'm in California, so I ended up at a startup doing computer networking, and I loved it right after working in big companies for you know, at that point, it was already about 10 years, like, wow, this is so much better. You get to do everything, you get to be part of a team. You know, you get to see your success, you get to, you know, talk directly to customers. So it's just very different from the, you know, being a small cog in a big machine at a big company. I just really love the small, small business. And you know, that every day is a struggle, right? You know, the company, you know, you're gonna get a paycheck, startup, you never know, right? You know, if the product doesn't succeed, then well, then you move on to the next thing. And there were a couple times where we had to pivot, we had to find something new, company ended up being acquired and what do I do? I started my own startup after that. Did that for a while, you know, everyone thinks I'll just take a couple of years and love the product out and then I can you know, then I can be rich or retire or go play golf or start my next startup. The first one took 10 years, the second one took 13 years. So it takes a while. And at that point, I was able to sell that business and then focus on my writing, which is something that I had always wanted to do but never had the time to do while working with startups. Um, instead of building my own this way, instead of doing one for 10 years, I can help mentor startups get them started, I can do, you know, tend to them over the course of a year just, you know, not a full time job, and then also be able to contribute by helping them get funded and get off the ground. So yeah, it's kind of a strange course. And it's kind of come full circle that now that I have some flexibility to decide what I want to work on, as opposed to where the jobs were. I can focus my investing and my, my start mentoring, particularly on companies in energy sustainability and climate tech. So that's been, that's been rewarding, at least on the, on the personal level, not so much in the financial level yet.

Botond Seres 05:46
That’s understandable, I mean. But, there are lots of government grants these days for energy sustainability, I would think like, especially solar is huge right now.

DC Palter 05:56
Yeah. That is , actually, I think that's something really worth digging into and I think we're probably going to talk about it more, but how you get started with the business and kind of the usual way that everyone has this myth that everyone has is a great idea, I'm gonna put together a business plan, I'll put together a pitch deck, I'm gonna talk to investors, they'll give me $2 million, and they'll go off the pitch. And that's fine if you've already built two, and you've made the VCs a billion dollars, and I'm like, sure, yeah, whatever you need, here's a check for, you know, a couple million dollars, no big deal. And we're, we’re sure you’ll be successful. But if you don't have the experience, you don't, you haven't done it before, they're going to be like, Well, show me that you can build it first, show me the customer base, show me your expansion. And then you know, then you have the catch 22, right. I want to build, I need money to build a product, but I need to build the product before I can get money. And this just comes up over and over and over again, in early stage startups. For software, which is probably 80% of the, of the successful startups you see, you can bridge that gap by working weekends working nighttimes, by kind of having a few friends put together something that's good enough to get out in the market, until you can get a few customers and then you can get the the the funding to be able to hire a full team and really build it out. When you're talking about sustainability, energy sustainability, hard tech batteries, green, you know, green hydrogen, new fibers, new way of producing methane, whatever. You can't do that, you need a factory, right? You're not going to build a factory on the weekend and in your spare time. So fortunately, there are a lot of government grants around different, different, different things and one of them is energy sustainability, where there's quite a lot of government grants. The US has a program called the SBIR, which is really wonderful. It depends on which agency you're getting it from, but typically you get like 250,000 to kind of build your prototype. If that's successful, then you can get a million dollars to work on the commercialization of it, if it doesn’t work out, then you go work on your next thing, right? There's really, you know, the government's putting money in for you to do the research and to see if there's a business there. And that's, that's wonderful. There's different programs. So the Department of Energy is going to be big in energy sustainability, the Defense Department's probably the biggest with those grants, if you have something that's somehow related to national security, whether that's energy related because it somehow helps the military or whether it's more traditional defense related things, they will fund that if you have some medical technology, then the National Institute of Health has grants, the National Science Foundation has grants that are kind of more related to you know, kind of science in general. But there's a lot of overlap between these and you can get multiple grants, not for the same thing, but for different aspects of what you're working on. So if you're building a hard tech company, that you actually need to do research, you need to buy equipment you need, like full time engineers actually working on things, that's a really great way to get started instead of going out to investors first and say give me money to build them. That's US specific and it's run by the government. So it's very bureaucratic. There's lots of special rules. It's got its downsides, but it's, it's almost like free money. And if you're doing a hard tech startup, that's absolutely my recommended way for people to get started.

Dave Erickson 09:46
I've actually gone through an SBIR grant application for solar. You know, the, the process itself and producing the grant. Even if you don't get the money, it's actually a really beneficial process because it forces you to really get a lot of your information together to get, kind of, what you're trying to do, what you're trying to achieve, why it is different, why it is good. It was a great process, it was very lengthy, it took a lot of work, it's not an easy thing to submit, but it actually even if you don't get it was very valuable in helping with putting a business model together. And maybe that's where we can start DC with you. You know, I don't think a lot of people, as they're inventing their newest product, or developing software or a hardware product, is thinking about, what is my business model? Or how does my business model, you know, why would somebody fund my business model? So maybe we can start there.

DC Palter 10:50
Yeah, so. And that's where they need to start. So I like to invest more on people who come from industry and say, this is a problem that needs to be solved. And our company has this problem, everyone else in the industry has this problem, we're, our business is not going to solve it, it's another core thing, but I know how to solve it. So I'm going to leave, I'm gonna do my own startup, I'm going to build it. And that is the story. I really like to hear what I hear more often, it's not wrong, it's nothing. It can work. But it's, I've developed this great new technology, now I'm going to try and find a market for it. And that tends not to work as well, we call that problem in search of, sorry, solution in search of a problem or technology in search of a problem. And you get that from a lot of, the researchers say, I invented this great thing, there's a million uses for it. And we're like, okay, but what is that one use that people are going to drop everything and say, I need this right now, here's the money. And so I do like to see it working the other way. But even if it doesn't, you need to be thinking about the business from the beginning. It's and this is something else I think a lot of young founders don't really get. It's not about the product. It's not about the technology, it's about the business. It's about the event for investors, it's not even about the business, it's about the investment, or how are we going to make money out of it when you're pitching to us. So a lot of times from very early stage startups, I hear a pitch that is either about the technology, like it's great for a grant application. Or more likely, it's about the product they've developed and how wonderful it is, and how these features and then a couple of sides about the team and so forth. And that always kind of leaves me like, okay, that's nice. But if I'm putting money in how do I make a return, and that hasn't, that usually hasn't been thought through. So that's kind of one of the keys to a good pitch, is don't pitch your product, don't even really pitch your business, you're selling something, you are selling stock in your business. So when you're talking to customers, you pitch the product, you're going to tell them how it's going to solve their problems. When you talk to investors, you're, you need to pitch on why they are why this is going to be a great investment for them. And so what you're selling is stock in your business and really don't, don't forget that. And the reason that stock in that business is going to be worthwhile is because somebody else is going to buy the business or it's just going to be so big that you can do an IPO. But most cases for niche products it’s going to be, somebody's going to buy business, who's going to buy and how much they're going to spend, what are the milestones to get there. And they're going to buy it because you've invented something great, and you have a great business. So that's part of the story. But it's leading up to this being a great investment as opposed to yeah, we've, we've got this great technology, or we have this great business idea.
Dave Erickson 13:47
It seems like you know if the presentation can start out with something like, I was trying to do this and every time I tried to do it, I ran into these problems. So I thought about it and figured out that if we did this, instead, it would solve the problem. And I go talk to a bunch of people in the industry and they all agree that if we had this, it would be wonderful. That's probably more interesting. Then I invented something and I'd like to get it funded.

DC Palter 14:14
Yeah.Yeah, absolutely. That's, that's the beginning of a good pitch. Here is a problem that I struggled with and I found a solution for it because no one else was doing it. And because I have some unique skills that nobody else has. And there's a million people just like me who have exactly the same problem, or there's like 100 big companies, they're gonna spend a million dollars apiece on it. So that's usually the beginning of the pitch: Problem, Solution, market size.
Botond Seres 14:43
If I really got to the problem and the solution, and the strate.., market strategy that works, so I'm already turning a profit and expanding, then why would I want to sell my stock? That's the eternal question. I feel the most interesting.

DC Palter 15:00
Right? So bootstrapping is a really good way to go. And I always tell entrepreneurs, do not dismiss bootstrapping. If you don't need money, don't take money. If you don't need investors, why would you want them in your business all day long. If you can grow the business yourself, because you're generating revenue that is sufficient to, to grow the business, absolutely, that's the way to go. But in most cases, what happens, so take software, you've built it in your nights and weekends, and you've gotten some customers, but you know, you don't have a sales team, you don't have a marketing team, you know, you barely have a website, you don't have designers, you don't have a customer support team. So you're going to need a couple of million dollars to actually build a functional business at that point. Plus, there's probably 100 features that you haven't added yet. You just have an MVP, a very basic, almost a prototype of the product. So people are buying, it says great validation. But that's if you can go from there to the full business, that's great. But, in most cases, you won't be able to. So that is your validation that there's, that there's a real market, now we can go out and get that $2 million from investors so I can go off and hire a full team. That'll last probably, typically about 18 months till we get to the next milestone where we have a million dollars in revenue. A million dollars, if we have a million dollars in revenue, we can get another five to $10 million in, in funding and then really, you know, like, just hit the market with all of the, with all the salespeople, with all the marketing, with kind of everything to get the word out there because no one's heard of us, right. So marketing is always tough, and takes a lot of money. So that is kind of the typical way things go with venture capital, that you build a prototype, you get into a, you know, you get to first customers, first revenue, that gets you money to be able to build the team, then you get to a decent ARR and that gets you the money to really kind of build out the business. That, again, is not the way you have to do it. And if, if you can do it yourself, either from your money or from customer money or from grants or whatever, then you have a lot more flexibility, because the challenge is if you get investor money, people, a lot of people don't get this, and unfortunately, this is kind of like the key, right? If you take investor money, what is it investors want to make? Oh, what, why are investors giving you money? Because they want to make money, right? And they want to make more money, right. And we work from the assumption, if we're working with early stage startups that probably 90% of them are going to fail. The one out of 10 that succeeds is going to take about 10 years to succeed. To get our money back, just to get our money back, we need to get a 10 times across the whole portfolio, we need a 10 times return. Okay, so we're not talking about making 10% per year, we're talking about a big check being written for 10X just to get us to break even. We want to actually make money and we, you know, we're in it to make money more than investing in real estate or investing in um, public stocks. I mean, anybody can buy Apple or an Nvidia or whatever. And the nice thing about those is, goes up goes down, we can sell it tomorrow, we get our money back and do whatever we want. We invested in a company, you don't get your money back until the company is acquired as an IPO and that's probably typically about 10 years. So very high risk. So we need a very high return to make up for it or else who, you know, what's the benefit of investing in startups instead of, instead of in Nvidia or Apple. So, or real estate. So we want 100x returned, ideally. We want one of the companies in our portfolio to just absolutely kill it and give us 100x return. That sounds crazy, but if you're investing in a company at a 10 million valuation, they invent something incredible, they're successful. Google buys them out for a billion dollars, that's 100x return. If they go public. It can be 1,000x return in the end as they keep growing. So it sounds crazy, but that's the returns we're looking for, minimum is more like 25. So if what you're building can't generate those sorts of returns, then you can talk to VCs all day, but they're going to be like yeah, this isn't really for us, this isn't a venture investment. So what the pitch needs to do, again, is show how they're going to make money and show how they're going to make a lot of money. Because this is going to be the one out of their portfolio out of all those 1000 decks that they see, this is going to be the one that's actually going to kill it and, and make a return. That's, that's what you got to convince them of. Otherwise, this is the part a lot of people are missing, there are other ways of funding your business. If you are not building a rocket ship, if you are not building some incredible technology that’s going to grow like crazy and be acquired for some huge, outrageous amount, then venture capital is not the way to go, because when you take venture capital, that's what they're looking for. And then they're going to be on your board, they're going to own part of the business, they are going to be pushing you day after day to grow the business as fast as you can to get to that exit as quick as you can. Because the earlier they get the return, the higher the returns are. That is the deal you're making with them.

Botond Seres 20:39
One thing, you got me extremely confused there. So what I, what I know about venture capitalist is not much aside from what you told me, I just watch Shark Tank, and stuff like that. And every time they want someone, around 50%, which means that they are on the boards, and I believe he just said that VCs are not usually on the boards which…

DC Palter 21:03
So we need to make a distinction with Shark Tank. People think Shark Tank is venture capital, it's not alright. And Shark Tank is operating partners. And those are a kind of different industries, they're a little bit, they can be a little bit of both, sometimes they do investments in, in some of the rocket ships. But you'll notice they mostly invest in small businesses that generate nice returns. But then they work out these really complicated deals where they get, they get their money back out at the cash flow, and then they get some royalty on top of it. And then they own some percent and maybe they own 50%. They also don't tell you this, but they charge you. They end up doing your marketing, they know for all of those referrals, they get to Bed Bath and Beyond, or you know, or wherever, and they help you set up your Amazon thing, they charge you for that. So they are really then a business partner and that's not the way venture capital works. Venture Capitals gives you a check. Usually, one of the VCs will be on the board and as you go further and further rounds, or maybe more VCs on the board, they won't own 50% at the beginning. There'll be like 20% and you'll do another round and be more like 40%. Eventually, when you're a billion dollar business, they may own 60% or something like that. So they may end up with control, but we're not really out looking for control of the business, we don't want to be in your face every day, we want to give you a check. And then 10 years later, you come back and give us a big, big check. Because we're investing in 10 companies, 20 companies, 100 companies at a time, right?.

Dave Erickson 22:40
And you don't have time to be on all those boards.

DC Palter 22:43
Yeah, we can't be on all the boards, we can't. And we're not experts in that space, right. So our business is to give you money and for you to give us money back. And the way we're going to do that is to have our incentives aligned. When you go, have a huge exit, you're going to be a multimillionaire, you're going to be a billionaire, and we get a nice return too. So there's a lot of things in place to say you don't get, you don't get a nice salary, you don't get a fancy office, you don't get any of those kinds of perks of having a successful business until we get our money.

Botond Seres 23:22
Oh that’s a huge misconception in general, like, throughout TV is like the first thing people do when they get the VC investment is buy the huge office or rent it or buy a new house all that.

DC Palter 23:34
Yeah, no, you're working for what we call ramen wages, because if you're making a nice salary, then you have no incentive to grow the business and get to an exit quickly. So we want you to lean in hungry. Yeah, your staff may have to be paid a salary. But we also want the key people to be paid in equity as much as possible and not use the cash, we want to use the cash as little as possible for things like marketing.

Dave Erickson 24:00
Angels and VCs are, are looking for particular types of business models. I know, on the VC side, they're looking for a business model that, you know, realistically in 10 years could be 100 million or 500 million kind of company.

DC Palter 24:16
That kind of rule of thumb is you need to get to 100 million in five years or at least have a plan for that. No one actually makes it, but that needs to be the story that we're gonna get to 100 million, because that's where you're, at 100 million, you're a good acquisition target. So with no acquisition, we don't get anything. So we want to make sure you have, you're going to be an acquisition target within five years. Realistically, 10 years is more likely, but that's, that's what the pitch needs to show how you're going to get to 100 million in five years.

Dave Erickson 24:45
And is that pretty much the same with Angel investors as well? Okay.

DC Palter 24:52
Yeah, so that's kind of this other misconception of Angels are just these rich people like, like Shark Tank that will give you money so that you can build your small business, and that's, that's not the case. We are early stage venture capitalists right? Now, their first round of funding is often not your traditional Angel investors who are looking for a financial return. They're gonna be friends and family and call them friends and family round, which is, as it says is your friends, your family, whatever money you can, you can get together, if you haven't, you know, rich uncle, John, who can give you you know, 500k, wonderful, great if you don't, you know, Kickstarter or whatever kind of grab as much, you know, whatever money you can, you can put together may not be very much, but at least the more you have, the more you can hire outside people to do the things you can't do. And then sometimes there's kind of this intermediate stage before you get to what we'll call financial Angels who are looking, who are investing to get a return. There may be other motives, social impact, energy sustainability, but you know, this money is coming out of my retirement fund so, this is, I need it to go back into the retirement fund, or my wife is not going to be very happy. So I am looking for financial return along with impact and, and change. But there are a group of investors that are also called Angels, that it gets confusing that are people are not really advertising themselves as Angels. They're not out looking for deals. They are people who are in the industry. They are people who, when you tell them what you're doing, they're like, Yeah, somebody needs to build that and they may be advisors, they may be mentors, they may give you introductions, they know the business, understand what you're doing, they think it's great, you haven't built it yet, but they can tell you exactly what they think it needs to be. And they may invest. Or they may have other friends. So if this guy who's an industry expert says, Dave, that is the greatest thing I ever saw, you know, and I'm going to introduce you to DC. He comes to me, I'm like, Yeah, I don't know, Dave, I don't know the product. But you know, this guy says this guy who knows the industry says is the greatest thing ever. Okay, yeah, I want to know more about it. So there is the group of people, I think we would call them industry insiders. They can be customers, longtime customers, sometimes their suppliers that really know what you're doing. They think this is a great idea. Maybe it solves a problem for them, maybe it'll give them a new product to sell. Maybe, you know, maybe they, they just want to see it built because they want to see energy sustainability, or whatever you're building. Or it may be that, you know, they've built their own startup before. And now they're like, Okay, yeah, this is the next generation, this thing is great. You know, we made $10 million in our last $100 million in the last month and I can throw in100k to help you out. So they are industry insiders. And what you're looking for is kind of part of your customer discovery calls, your industry calls, your trade shows, really get yourself inside the industry, as opposed to like going on LinkedIn and looking for people or Angel investors, because those people like me are you got to tell us why there's a return. I actually feel both roles is kind of strange. That the way I tend to do my investing is I'm part of these Angel groups, we go through the full diligence process, we do an analysis, we we you know, kind of look at you know, is there a minimum 10x return, if there is then you know, we'll invest as a group, if it's something that really gets me excited, I'll do an individual investment on top of the group investment. And then we'll you know, each of my two groups will typically invest in about 10 companies each year and it’s just like, all across the industry. A lot of stuff I know nothing about, right, the med tech stuff comes through, I know nothing about it. But we've got doctors in the group, we've got med tech experts in the group, we've got an FDA, you know, employee, former employee in the group. So if they say it's great, fine, but my money that's part of my pool, if they think it is really great, then I'm like, I don't know anything about it. But these days, people think it's great. So I'm gonna invest. So that's really just financial returns, and it doesn't matter what it is, might be consumer product, as long as it's not something I'm like, really dead set against like, like cryptocurrency, then or, you know, or other things I don't like, then I may invest in it as well. Separately, I do a lot of mentoring and in the Lean Tech space I work with entrepreneurs who are kind of, very early stage, they're not really ready for investment. I can't bring them to the investment groups. They don't have customer traction yet, but I've been working with them for, you know, three months, six months, I've seen them progress over the course of the year. I think that we're onto something and I've got some inside information. I can see they've got some traction. It’s still early, like the team, like what they're doing, and I love the product right. I understand the industry, I see there's a real need. And so I'll invest in them as well but it'll be a small investment because I, I kind of mentally write those All right, this is more, it's more like a donation than an investment. Right? So I'd love to see him succeed. So I do like a half size or third size investment in that stage, to try to help them get to the next stage where they can go to the, the Angel groups or the big Angels and be able to show why it's a great investment. So I do a little bit of both, which makes things confusing. But there are both of those sorts of investors out there.

Dave Erickson 30:26
Well, it gives you exposure to a lot of different businesses and types of businesses.

DC Palter 30:30
Yep, I'm sure that's what I love. Yeah.

Dave Erickson 30:34
So when you're working with a startup and consulting with them, I assume that, and my experience has been, even as a development company, people come to me and say, well, here's this thing we want to make. And in all honesty, part of that is trying to understand why they want to make it. I assume that in investment, there's a kind of a way that you look at their business model, but also their, their initial pitches, which I've seen initial business pitches are usually far off the mark. So maybe we can talk a little bit about, you know, what are you looking for in a business pitch? What makes a good business pitch for investment?

DC Palter 31:18
So what gets the Angel groups excited, what gets the VCs excited, is customer revenue and then we don't have to figure out all the other stuff, right? If you are actually selling it, not only does that prove that you can build a product and people will pay for it, but now we need to talk to those customers. And that will tell us you know, we don't have to just listen to the, the founder saying there's a huge market for it. We can talk to those people, we can say why did you buy and what competition did you look at? How many more of you are there out there that needs exactly this? And we can talk to two or three customers, that gives us a lot of confidence. When you're pitching something…

Dave Erickson 31:56
For software products that at a relatively small step You make an MVP, and we're gonna, we put hard products or engineered products. That's more difficult, right?

DC Palter 32:08
Yeah. So in the ones where, so there is an intermediate step, where they've built, won't call an MVP, but they built a prototype, they built a pilot system, they've demonstrated the technology scales to some extent and they have started working with some customer to do evaluation. So again, we have some third party that we can start talking to. If they're before that, they're gonna have trouble getting investment from Angel group, some are a little bit more a little bit more less risk averse than other ones are, and we’ll invest a little bit early, but you're going to really need to show not that you have great technology, but that there's a big market, that there's not competition that's just going to eat your lunch, that you have the intellectual property to, to protect and that you have a team that, that can build us. And if you can show those things, and show that, you know, once you build it, there's going to be customers who get into the huge market for it. And then there's an exit for it, because, just because you've built a big, nice business doesn't mean somebody's going to want to acquire it, you can show those things, then it will, it can look like a good investment at a low valuation, the risk is very high. So that will be reflected in, in the valuation.

Botond Seres 33:27
Speaking of intellectual property, that's one of the things I am mostly missing, whenever someone is pitching me some ideas or I'm pitching someone else an idea. So we usually just end up going around like, Hey, I've seen this kind of business working somewhere in some other parts of the world and there's, there's not a lot of competition here. But we always get stuck at that exact step that there is no IP involved at all and that feels like a non-starter every time.

DC Palter 33:59
Yeah, so there's two ways to build a protectable business. One is I should say this one is that you have patents that say nobody else can build the same thing as you right. The second is that you have some expertise that is going to be hard for people to copy and that may be you know, there's there's five of you competing against a giant with 5000 engineers but you know, if you're building a medical device you may be you know, the one professor in the world who studied this obscure thing and and that's all that really matters no one else is going to have that knowledge. And then lastly is marketing. So if you're building a consumer product, the intellectual property you're protecting is your brand name and you need to be out in front of everybody else. La Croix is a good example right with their, their flavored waters. Anybody can make a flavored water. There's, there's nothing patentable about it. It's bubbly water with some flavor in it. They've built such a great brand name that everyone's like, I gotta buy La Croix, I gotta buy La Croix, I'm not gonna buy the store brand, not gonna buy the Trader Joe's version. I'm going to buy La Croix, right, because that's what everybody wants. And so you know, they have revenues in the, in the billions of dollars. So those are kind of ways to go. Building a brand is really expensive, but that's what you have to do for consumer packaged goods, the easier way is to have a patent if you have some technology. So let me go back again to the VC business versus the non VC business. If you're building a VC business, you're going to have to show again how you get to the 100 million dollars, and somebody's gonna require you, if you don't have any intellectual property, the big guys can copy you, you know, the guys in, in the garage can copy you and the fact that no one's copied you yet doesn't mean anything. Because, just because it doesn't exist now doesn't mean somebody you know, once you've shown that there's a $20 million business, they're gonna line up. You know, once you start stealing market share from the giants are gonna be like, Oh, yeah, we should build that too, and they're gonna go work on it. So you need a way of not just kind of flying under the radar now, but protecting yourself once everyone's like, Oh, yeah, well, that was a great idea, right. And so patents are the kind of the usual way of doing that in the technology space for software, it's, it's often a little tough to get patented, but you may have, you know, you want some sticky stickiness to what you're doing. For a non venture business, the idea is being profitable. The idea is to generate profits for yourself not to get to an acquisition. So it doesn't matter if you have a you know, what's a good example? Let's say, if you open a fried chicken shop down the street, well, there's probably 10 fast food places near me, and they're all competitors. Do I care? No, as long as mine is generating profits, I'm happy. If it's, you know, generating $10 million a year, no one's gonna buy me out. But if that $10 million a year is generating $2 million in profits, woohoo, I'm doing great. So it's kind of a different mentality of, do I build a business for profitability, in which case, intellectual property doesn't matter? What matters is having customers generating profits. Whereas if my goal is to be acquired by somebody, because I've grown really quick, and I have something they can't copy themselves, then yeah, there's no intellectual property, then it's it is you're right, Botond it's a it's a non starter.

Dave Erickson 37:32
As a person who's gone through the patent process, you know, there's a saying: patents are only as valuable as the amount of money you have for the lawyers to defend them.

DC Palter 37:41
Yes, absolutely. Yeah. A lot of people don't get that either. I think that's worth a lot more discussion, because they're really expensive to you know, they're not all that expensive to get a patent. But if somebody copies you, it's, you know, $2 million to $10 million to defend it. And that's fine if you're Intel, fighting against Qualcomm and Apple. But if you're a little startup, you're right, by the money. I mean,

Dave Erickson 38:08
kind of the only reason for getting a patent or submitting for a patent is because you're trying to get VC capital, you want to say you have IP, right?

DC Palter 38:18
Yeah. Because if your goal is not to build a $10 million business, your goal is to build, you know, $100 billion business that’s still growing rapidly, you know, on its way to a billion dollar business. So you may be your you can't think of yourself as a small business, you have to think of yourself as a business, big business in its infancy. Yeah. And so you have to be thinking 5 to 10 years down the line if we're a billion dollar business, yeah, absolutely. We do patents to keep out all those new startups that are going to try and eat our lunch.

Dave Erickson 38:45
But let's kind of go back a little bit towards pitches. What kind of are the components that you look for in a pitch for funding? So we've kind of talked about there needs to be some kind of IP or at least differentiation? What are some of the other components of, of a good capital pitch?

DC Palter 39:05
Okay, so good question. That's kind of the thing. I ended up mentoring all day, every day about because people sent me pitches and I'm like, okay, but, but but but but. So I divide the pitch up into three sections, this kind of goes back to our goal is to craft a story about why this is a great investment. So we start off the first, third, and early stage founders, it tends to be two thirds, but needs to be about 1/3 of product solution market size. What are you building? Why are you building it? Who needs it? The zero to one, right? Why are we building this product? What is it? That, that's only the first third? That's probably 3 slides. I see. Sometimes these are 10 slides, points, I like the product doesn't matter, right? The investment matters. So that's the first third. Second third is okay, we built a product. How are we going to get from 1 to 100? How are we going to build the business how we're going to keep out the competition? So Well, first third product solution products solution market size. Second third is going to be things like the competition, intellectual property team, to show that we know how to build $100 million business and, and revenue projections, how are you going to get to know what's, what's our growth rate to get to $100? million? So those are the things I like to see in, the in the second, third. And then the last third is why is this a great investment? So you can't imagine how many pitches people send me that don't have terms in it. And I'm like, well, that's like going to a supermarket and not having any prices on anything in there. I'm trying to invest in things that give me the best risk return. I can judge the risk. In a first glance, I need to know what the return is. I can't do that. If you don't tell me what the, what the price of the stock is. So, and some things, you know, be like them. That's, I don't know, there's something here. I don't know what you told me. It's, you know, the valuation is 4 million. I'm like, Oh, okay. There's a very early stage, I get it. High risk, the very high return, okay, might invest in that you tell me the same thing is 20 million valuation Like, yeah, you're smoking crack, right? You know, that's that I got 1000 things I could invest in that have better risk return than, than that. So there needs to be a slide that shows the exit strategy. Who's gonna buy the company? Why are they gonna buy the company? How, you know, what size is the company going to be in five years? How much is the, what are the deal terms here? And how much more money are you going to need? And what are you going to do with that money to get you to the next milestones? Or I forgotten the middle is probably a milestone section of What have you accomplished so far. So there's some building someone can move between the second, first, second and third section. But that was, those are the things I hope I caught them all. It’s about 11 slides until people or 11 topics to cover, and you have 10 minutes to do it in. So it depends on you know, who you're pitching to, and maybe maybe seven minutes, maybe 15 minutes, but typically, it's about 10 minutes. 11 topics, that's a lot of stuff to cover. So you got to go quick. The idea is not to tell me everything about the business. The idea is to get me excited that we can now sit down and have a two hour meeting that gets me really excited that I can spend, you know, the next week with a group of people really diving into it. So don't try to tell me everything, just try to get me excited that this is going, this is going to be that one deal over, you know, over the 10 years, it's going to make investing worthwhile.

Dave Erickson 42:30
A 10 Page slide you got a minute a slide? Yeah. You need to kind of talk about what this thing is. Yeah. And what, what problem you're solving. Then you got to talk about kind of who you are, and why you think you guys can solve it or make a business out of it. And then you got to talk about okay, well, this is what the business could be. And these are the terms of how you're gonna get your money back.

DC Palter 42:56
Yeah. Oh, I forgot go to market strategy. Right? That's, that's part of the middle of a very critical part of the middle. Yeah, there's, there's a lot of customers out there, but how are you going to get to them? So that's, that's also a critical thing.

Dave Erickson 43:09
How do you kind of get a feeling as to whether it's a crowded market, it's not a crowded market? Does it matter? Sometimes a crowded market is fine, because they've all been doing the same thing and somebody comes along with a different way. Does that mean much to investors?

DC Palter 43:25
Well, a crowded market is, is not good, right? We'd rather not see a crowded market and that's usually one of you know, as we do our, our discussion afterwards. Sometimes people say up, stand up and say, Well, you know, that's nice, but there's, that's a crowded market and we're like me, okay, so it's gonna be a difficult investment. So there may be some other people doing something that isn't quite the same thing. It's nice to know, there is some validation, there's a market here, but we don't want you know, 20 startups all working on the same thing and a couple of big companies with big teams that you know, can jump in and, and eat your lunch. So yeah, crowded market is not good. Something new, different, that you have some unique expertise and some unique insights on and some some key intellectual property is going to make for a more exciting investment now. So in a group like Tech Coast Angels, where there's 150 of us, but we're hearing pitches. I mean, we're an Angel group that's kind of specialized in being part of the Los Angeles startup community. We hear everything right everything from organic cider to to the med, you know, med tech cancer drugs to a lot of software, but we've heard women's handbags right? It can be anything. Didn't invest in that, we did invest in the organic cider. It’s not a good investment, but it can be anything. And so we kind of count on there being somebody in the room and hopefully more than a few people out of those 150 that have some expertise in that space. And we don't have anybody in the group that has some expertise in the space who can really dive into it, and leave the deal, then we're probably not going to be not going to get involved. Unless they come from another Angel group and there's people there that we trust, and somehow or other, we can't evaluate it without having some industry knowledge. And, you know, if we don't then find Well, sounds great, but we can't pass. So I don't I personally don't invest in med tech stuff, or life sciences, because it's a specialized world. And I don't know how to evaluate it. I don't know how to, you know, I don't know what other people are working on. The great thing about chemical Angels is we specialize in things related to chemistry and materials. Most of the group is like PhDs in chemistry, they work in places like 3M and BASF and, you know, so when somebody comes in with something that's chemicals related, it's like, yeah, we either know a lot about it, or somebody in the room who kind of looked at it, we know who else is doing what we kind of know what was invented, we can actually dive into the intellectual property. So, you know, I really liked the specialization group. And the best is when we can combine the two, right? When we get somebody pitching to one Angel group that will do like a Tech Coast Angels we’re like, Well, that sounds great. But we don't have anybody who's an expert in batteries, for example, but we want you to pitch to this battery group, because there's an Angel group that does nothing but batteries and if they're excited about it, you know, we can look at the market size, we can look at the financial stuff, we can look at the team, we have these people who are specialists in technology in the industry. And so there'll be some cross fertilization there that I think is incredibly valuable. Whereas the VCs can't do it differently. They have money, right? We're all, we're investing our own money. We're, we're volunteer groups. We're just kind of really, a tech leaders, probably not a nonprofit organization around it to run the operations, but fundamentally, we're just a bunch of people who get together to jointly invest in things and so we don't have money other than our own. Whereas the VCs, they are, you know, that's a business, right? So they collect 2% fees, they get money from big organizations like, like universities and insurance companies and pension funds and things like that. And they'll bring in $100 million. And they get, they take 2% of that a year to run their operations, they have $2 million a year for a medium sized fund. And then they keep 20% of the upside profits as well. But they've got $2 million. Some of that will use their own operations, they take salaries or full time people, but then they can also hire consultants. So somebody comes in and pitches battery, and they're not battery experts. Well, they can hire a battery expert as a consultant to come in and look at it. And some of the Angel investors will actually work for VCs, as consultants as well.

Dave Erickson 48:07
What kind of terms are investors, like Angels or the small VCs looking for? What would you consider reasonable terms?

DC Palter 48:17
So there's kind of two separate pieces. One is what the structure of the of the investment is, and the other is the the evaluation. So structure, your choices are usually either preferred shares, and that's what investors like but it's expensive, it's time consuming, a lot of lawyers involved. So unless you're getting a big investment in, you know, like $2 to $5 million or more, you probably don't go with preferred shares. In that case, your two options are going to be safe agreement or a convertible note. Some investors hate safes because the old safes were horrible. The new safes are great, but a lot of people haven't gotten the memo yet. So some investors will just say we don't invest in safes. I've also seen a lot of safes that don't have deal terms in them they're just give us money and you know, get discount off of whatever we ended up negotiating five years from now. So I don't like those either, but a post money safe, that's kind of the technical term post money safe with a valuation cap, I think is the best investment a lot of people disagree with me and they say, Well it’s, we prefer to have convertible note because that gives us more flexibility. And we can add in special terms in there like liquidity, references and stuff like that. So kind of danger community is a little bit split. I like saves a lot of people prefer convertible notes, I think either one is usually acceptable. Preferred shares are better if you're at the stage when you can do it, in terms of valuations. That depends on who you are talking to and what stage so friends and family typically 2 million to 4 million sort of valuation your first round of investors four to six when you get To the Angel groups, it's like 6 to 12, when you get to Series A, it tends to be around 20. But there's a wide variation, and it keeps changing every year. Last year, it was just an insane bubble and so we were seeing, you know, pre seed rounds at $20 million. And like, we're not gonna make any money from that, but you know, they were getting investment. So, so great. It's kind of come back down a bit, but not all the way where it was. So valuation really depends on the details, it depends on the market size, depends on the team, depends on the traction, it's hard for the entrepreneurs to know what their valuation should be, because it's not a spreadsheet calculation, you know, net present value sort of thing. It's really kind of an auction of how you compare to all the other investments that we can invest in. So the only real way to figure out what your valuation should be is to talk to investors and say, you know, what terms would this be attractive to you. And that's, there's kind of the two state steps of the, especially when you get into the not the original friends and family and kind of industry people, but after that, usually there's a lead investor, and lead investor whose job is to negotiate with you what the terms are going to be, once a lead investor is set the terms you have to sign term sheet, then it'll take somewhere between a quarter and half of the deal, then you bring in the other investors who just like, okay, that's the terms, we'll either invest in that or or not. And then a lead investor will usually end up being on the board, or at least a board observer and kind of represent all the other investors. So yeah, the terms, it's really tricky. And one thing is, I think, interesting, it depends on what part of the country you're in. Not just what country you're in. But what if you're in the Bay Area, valuations are higher than Los Angeles, and that's higher than say, Indianapolis, just because there's more money. It's an auction, right? So there's more money, there's more people investing. So valuations tend to be higher in the, in San Francisco than they are in, in LA.

Botond Seres 52:00
So if I was to make an investment, am I gonna lose the house, if I lose the company? Just to put it in the simplest terms possible.

DC Palter 52:11
No, you, you,you shouldn't be mortgaging your house unless you're doing a loan. If you go to a bank, they will ask for the House as security, you go to the VCs, we kind of work differently. That's our, we're investing in that business, and that's it. But on the flip side, we don't want you to take any big salary, because then you know, then you're kind of sucking money out of the business that we weren't invested back in and growing the business. So no, you don't lose your house, but you will lose your, your, the business goes kaput, you're back to zero, and you have to go off and find a job or start another startup and get more, more funding.

Botond Seres 52:55
I have a feeling that a lot of people go for the second option to start the next startup.

DC Palter 52:59
Yeah, yeah. Yeah, yeah, we hear a lot of people saying, well, the first one failed, but I learned so much from it. And now, now I know everything we need to succeed. So the other people who stayed for my research, and now you get the benefit of yes, that's a pretty typical story, and that works. One of the nice things about Silicon Valley is, you know, failure is considered a learning experience, as opposed to a, you know, something gone wrong. So, and most founders have, have failed. I've built five startups, only two of them had been successful. So I don't say I've failed 60% of the time, I say, I've got two I, I built five companies and two successful legs. And everyone's like, Oh, well, you're too successful. Like, that's huge, you know. So that's, that's kind of the way Silicon Valley thinks. There's nothing wrong with, with failure. It won't stop you from, from starting your next one.

Dave Erickson 53:56
Alright, Botond, do you have a kind of a final question for DC on this?

Botond Seres 54:02
I mean, they might have the perfect final question. What does the future of investing look like?

DC Palter 54:09
Wow. You know, no one has ever asked me that and that's like the perfect question. Because, you know, VC has been there forever, but it's kind of exploded recently. But a lot of people who don't probably shouldn't be doing venture investment or doing venture investments a lot people are gonna lose some money. So we'll probably see some, some pushback. I don't see the venture world going away. It's a business model that works for a particular sort of business that's going to grow rapidly. What we need more of has always been frustrating is a funding mechanism for the companies that are looking at profitability. And that's, that's really the majority of startups that I see, they call themselves startups. They're really more like small businesses. That I need a way of getting a million dollars to build the product, get themselves out there, and then generate healthy returns. But that doesn't fit with a venture model. So I would like, you kind of come back to the shark tank model right, is there a way of like, paying back investors early, you know, kind of so is a mixture of being like a loan with some amount of money coming out of the revenues. And then, but also keeping the equity is an upside stake, with some way of doing a buyout, you know, because we don't want to just sit with equity for, you know, 20 years, so some way of having that converted to money afterwards. And then there's venture debt, which was kind of taking off and that's great if you have, if you've got $10 million in revenue, and you need another $10 million, you know, a big bank will give you a loan, Silicon Valley Bank was kind of the big people in that they were a little bit too aggressive. And that's reasons they, they ran into problems. So I'm kind of hopeful that there are more hybrid, as more people get into this and it's not just a few venture firms with big pots of money that have to invest $10 million or $100 million, that time, that there are some more hybrid models that kind of make funding more feasible for, for a wider, wider group of, of startups. But unfortunately, it's not there yet. That's what everybody wants. And that's what everyone's hoping from investors want, everyone thinks it is from watching Shark Tank, but that it's still pretty rare.

Dave Erickson 56:40
You know, in the intro, you know, one of the things that caught my eye a little bit, because I do a lot of writing myself is that you are a published author and novelist. Maybe you can tell us a little bit about that.

DC Palter 56:53
Oh, absolutely. Thanks for giving me a chance to mention it. And I happen to, by the way, I happen to have a copy of my novel right here. To Kill The Unicorn. is a mystery novel, about Silicon Valley, is a bit roughly based on Theranos. If you're familiar, I guess. Elizabeth Holmes just went to jail yesterday for her fraud. But imagine if a startup wasn't just a fraud, fraud’s easy, right, we're just gonna hide things. Imagine if they had this really great product, but it had some bugs in it. But that product was worth a trillion dollars. Now, would you go off and tell investors, Yeah, just hold off for five years till we figure out some solutions and maybe there is solutions, maybe there isn't a solution? Yeah, come back in five years and you know, we'll see whether this is worth a trillion dollars or not? Or would you just kind of hide that in the back room and, you know, maybe it kills a few people, but you know, okay, but it's a trillion dollars, right? So this belt startup that's doing some very suspicious things and they've promised that they're going to revolutionize transportation. They've got this great technology, but now the chief scientist is missing and his friend who is a hacker who works at a company that's kind of similar to Google needs to use his hacking skills to figure out what's where his friend is, which means figuring out what's going on inside this company. So it's a bit of a farce about Silicon Valley, but it's also it a little bit science fiction. But fundamentally, it's a noir mystery. So I tell people, there's a lot of books about, you know, building startups and Silicon Valley. This is, this is the most fun you will actually have reading about Silicon Valley. I tried to make a fun, crazy story about startup life and it really appeals, I mean, the money in the business plan for this book was not very good, right? If you want to make money at a mystery, you write for the mystery book clubs, which like their cozy mysteries tend to be, you know, the ladies in their mystery book clubs, a lot of money in that this book was written for people who are in the startup community. This is for founders. This is for programmers, this is for developers, this is for people who live and work in the Bay Area are just kind of connected to the startup ecosystem with something that I think is, really tries to show it from, from the inside. And hopefully, will, will find humorous. There’s a lot of engineering humor in there too. Like you know, a lot of Hitchhiker's Guide to the Galaxy references and things like that. So thanks for giving me a chance to mention it and hope everybody is now excited about it. You can find it on Amazon, like everything else To Kill The Unicorn.

Dave Erickson 59:37
Cool, cool. Now it sounds like a fun read and it sounds like something that can be enjoyable and obviously, it's a passion of yours for writing. Are you already started on your next book?

DC Palter 59:49
The next book’s already finished. Okay, next, the sequel of this book has already finished. I'm waiting for it to go through editing and be, hopefully, come out later this year and not working on my third, my third book, which is completely different, has nothing to do with Silicon Valley and these characters, it's, it's about Japan and sake brewing. It's a, it's more of a traditional mystery going back to that business plan of how do I actually write a book that will, will make money. This Agatha Christie style mystery of a, a group of people going on a tour of Saki breweries in, in Japan and one of the people on tour dies after eating blowfish boo hoo. And obviously, one of the people on that tour was the murderer and you get to find out all these suspicious things that help people in the tour or are doing. I’m working on that one now.

Dave Erickson 1:00:41
Well, well, DC it has been really great talking to you. Thank you so much for helping us see the money on some great trip tips on creating a fundable business model and funding presentation. For our listeners, please join us in the first week of next month for another ScreamingBox technology and business rundown podcast. Until then, keep focused on finding the money.

DC Palter 1:01:06
Thanks, Dave.

Dave Erickson 1:01:09
Thank you very much for taking this journey with us. Join us for our next exciting exploration of technology and business in the first week of every month. Please help us by subscribing, liking and following us on whichever platform you're listening to or watching us on. We hope you enjoyed this podcast and please let us know any subjects or topics you'd like us to discuss in our next podcast by leaving a message for us in the comment sections or sending us a Twitter DM. Till next month. Please stay happy and healthy.

Creators and Guests

Botond Seres
Botond Seres
ScreamingBox developer extraordinaire.
Dave Erickson
Dave Erickson
Dave Erickson has 30 years of very diverse business experience covering marketing, sales, branding, licensing, publishing, software development, contract electronics manufacturing, PR, social media, advertising, SEO, SEM, and international business. A serial entrepreneur, he has started and owned businesses in the USA and Europe, as well as doing extensive business in Asia, and even finding time to serve on the board of directors for the Association of Internet Professionals. Prior to ScreamingBox, he was a primary partner in building the Fatal1ty gaming brand and licensing program; and ran an internet marketing company he founded in 2002, whose clients include Gunthy-Ranker, Qualcomm, Goldline, and Tigertext.
Start-up funding options and making a compelling funding pitch.
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