Mr. Michalowicz started his first business at age 24, and with limited resources, no experience, and no funding, he managed to turn it into a multimillion dollar success off of passion and determination. Upon selling his first business he immediately developed another and sold it to a Fortune 500 company.
Mike is a recurring guest on CNBC’s Big Idea With Donny Deutsch , Author of The Toilet Paper Entrepreneur, and among many other accolades, he is the recipient of The SBA’s Young Entrepreneur of the Year Award.
Checkout his latest ventures at www.toiletpaperentrepreneur.com, and www.obsidianlaunch.com. Mike is experienced and has been where all of us hard working new entrepreneurs currently are. He understands what it takes to succeed in business, and has been so kind to answer our questions and spread the word on how to make it all happen. Take this well accredited advise to heart. Trust me.
Recessive Market, Progressive Business
Funding a Successful Startup Company During a “Bear” Economy-Evaluating What Is The Most Effective Option?
In your opinion, why should startup companies steer either away from venture capital or angel investors?
I call it the “Other People’s Money Syndrome”. It is much easier to spend someone else’s money, than it is your own. The “Dot-Com” bust is the perfect example of this. When an entrepreneur uses his or her own funding, they will be more invested in the project, and therefore will be more careful to protect it. When using someone else’s money, one will be much more risky. A lack of money forces ingenuity.
If an entrepreneur starts without funding and builds a business on passion and desire, they will be more successful. They will be required to make smart decisions, have a better foundation, and do better with cash flow. Many larger well known companies that are VC and Angel funded, such as Twitter and Facebook, are not making money. Where as, smaller unknown companies built on passion and desire, make money. They have to in order to stay alive.
Do you currently see more startup companies moving towards other funding options as grants, personal savings etc, as opposed to venture capital?
Yes I do, but my view is somewhat biased because I work with only what I call the “Scraper Entrepreneur”. VCs and Angel Investors are taking a new approach and setting stringent requirements on their investments such as Mark Cuban has done. He requires that his invested company show proof of profitability in 30 days, which is extremely fast.
But this is becoming more common because investors want a guarantee that their investment is secure, and will show a large return in a short amount of time. This could be drawn upon by the effects of the “Dot-Com” bust of the 90s where many companies lost large investments, as well as companies like Twitter which currently has not been able to become profitable after 3 years. It is better to start your business without outside funding.
What are the basic terms that venture capital, angel and private equity investors generally administer when investing in a new startup, and why are these terms concerning for a new entrepreneur?
They use what is called a “3,5,10” format. Simply put, this means that the investor is looking to see a full return on investment or be able to sell it within a maximum of 3 years. They want to get their entire investment back. Within 5 years they want to be able to exit the investment and be profitable, and realize 10 times profitability. For example, if they invest $10 million, they want to be able to get back $100 million in 5 years, while gaining the entire $10 million initial investment within the first 3 years. Venture Capitalists and Angel Investors fully understand that most companies fail, and therefore they are looking for a grand slam investment opportunity.
What is the number one common mistake that a startup company makes when searching for funding?
Many entrepreneurs practice what I call the “Get Rich Quick Syndrome”. They go into business for themselves for the wrong reasons. They go into business to get rich quick. On the surface, these get rich quick schemes look attractive, but they mostly don’t work, and you actually have a better chance of winning the lottery. Stories like that of facebook founder Mark Zuckerberg is not typical.
Venture Capitalists are not looking for the extremely fast get rich quick investment anymore, after the “Dot-Com” bust. They are looking to invest in companies that offer a great scalable idea. During this down economy, the smooth talking get rich quick entrepreneur will no longer cut it.
The entrepreneur must be truthful, passionate about the business, have a scalable idea, and able to show profit realized profit. Entrepreneurs must go into business with a passion for what they are doing and a serious interest in using what they are doing to make a difference. These people have different priorities, the make the most money, and they become the best at what they do, and ultimately their product or service will be in high demand.
Do you think that the current recessive economy is an opportune time to start a new business? If so, why?
Absolutely. This is the best time for business. Consumers are spending less during the current economy, but they are also spending in a different way. They are shifting their spending from one more well known brand name item, to that of a more unknown name brand that is cheaper but of similar or even better quality.
Entrepreneurs should focus on being different and better than the competition. They should offer the customer something new, in order to capitalize during this time. Starting a company is tough regardless of if the economy is up or down. Its very similar to giving birth.
Whenever you birth your baby, its going to be painful. You could fail at business regardless of what the economy is doing. If you start your business now, by the time the economy recovers, you will be well established. Go for it now. There is a high likelihood that you will make it a learn a lot in the process.
Why is it so important for Entrepreneurs to not give up equity in their companies?
Giving up equity is one’s company is something that is so easy to do in the beginning. The biggest financial reward for an entrepreneur, will come on the day they sell their business. If you give up equity in your company, by involving venture capitalists, angel investors, or a business partner, this day can be very tough when you receive less payoff for all your hard work. The best way to divvy up equity is to base it off of performance.
For example, start off with 5% equity for each of two partners, with the company itself retaining 90% equity. Additional equity is then split among partners according to different performance based parameters. These parameters can include, dollar amount of sales, hours worked, billable work, etc. When partners hit goals set on these parameters, as the company grows, they will receive additional equity ownership. Equity division should always be performance based. This goes for partners as well as investors.
Why do entrepreneurs often think that money is the number one obstacle in their way of doing business?
Money is a quick fix, and allows people to do dumb things. Entrepreneurs look at money as a material definition of success. They focus on money because they are focusing on having the office space, hot secretary and the company car. They are concentrating on what the money offers in the form of how it looks to others from the outside in. In short, they watch too many movies, and are basing success off of what they see the high profile businessman or woman have. Truthfully, money kills seed and doesn’t nurture growth.. Many people say that you should not put all your eggs in one basket, in order to shield yourself from failure. I say, do put all your eggs in one basket. Because when you do, you will be very protective of it and make sure decisions.
Did you start your companies with investment funding? If not, how were you able to grow your startups and help them survive?
I have been successful in raising angel funding. I have pitched an investment opportunity to venture capitalists, but I was successful in selling my company halfway through the pitch. So I have never raised venture capital.
They way angel investor operate is that they see the purpose behind the business. The choose investments on more emotional reasons, and look for how the company will better serve the world. They look to make a difference first, and to make money second. Venture capitalists usually are looking to make money first, but are starting to get more in line with the focus of angel investors.
Do you think it is even more important for entrepreneurs to keep equity to themselves and not bring in investors, during the current recessive economy? If so, why?
Yes I do. When the economy is bad, that is even more reason to not give up equity. Do not give up equity during this time, because when you do, when the economy recovers, you have not only giving up your short-term potential now, but also your company’s long-term potential for the future.
Is there a correct time to look for Venture Capital or Angel Investors for a startup company? Or should startups always look to hold onto equity first?
The best time to seek out venture capital or angel funding is when you have established your company with a scalable business model and generated revenue. At this point, you want to actually not be the expert in the company, and be at a place where you can be replaced and the investor can come in and run the company. Before you seek funding, you want to have built a solid foundation where all you need is money to help it grow.
What do you think of companies that want to charge the entrepreneur in order to allow them to pitch their idea for VC funding? Are they a scam? Are they legit?
To my knowledge, most of these companies are credible. Though, this does not mean that you shouldn’t be careful and protect your investment. People get scammed when they are seeking to secure funding for the sake of obtaining money first, instead of in order to build their passion. Don’t focus on the money, focus on the business.
In addition, always ask questions and interview potential investors. Find out whom their most recent client was, their oldest client, and a client that did not choose to contract with them. If they are not able or willing to provide this information, this send up a red flag. A credible investor will appreciate this, because it speaks to your character and business savvy.
Rest assure, they will be doing the same when deciding whether or not to contract with you. These companies act as middlemen and provide a convenience for both the entrepreneur and the investor by bringing the two together. It is much easier for the entrepreneur to get in contact with potential investors this way, versus searching for and contacting individual companies, and hoping to get a chance to pitch your idea.
At the same time, the investor does not have to look at all possible investments, but instead is presented with only those that meet their criteria. These types of services can definitely be worth consideration.
How important is networking and finding resources in building a new startup company, as opposed to focusing on finding funding?
Networking and utilizing resources is more important that funding. Its Business 101. That’s where business is made. Getting funding just pushes it along faster.
Is the business plan as important as many people make it out to be? If so, what portion is the most important, or what portion should be focused on most? If not, why not?
It is a total waste of time in the traditional sense. They focus on a 5 year projection on profits and introduces the company’s “Dream Team” of managers. The fact is, if you can predict the business for 5 years, you can predict it for 10 years, and will become a millionaire. The real equity is built in the company through the entrepreneur’s blood, sweat and tears. That’s what makes it happen. What I suggest, is that you use what I call the “3 Sheet Strategy”.
- 10 year vision – What are we trying to achieve if everything pans out? Place the “X” on the map, and plan your prosperity.
- Quality Planning – Only worry about the next 90 days. Stay focused and lay a good foundation that will allow you to adjust quickly if needed, and will ultimately lead you to your 10 year vision.
- Daily Metrix – Measure your company’s health daily. Cash flows are your car’s tank, and sales are your speedometer.
Are VCs investing a lot less in this economy?
They actually investing more now. They are operating of off the old adage “Buy low, sell high”.
How exactly is your company, Obsidian Launch differentiated from
that of a VC or Private Equity Firm?
At Obsidian Launch, we do not fund companies. Instead we provide an infrastructure including legal, marketing and accounting resources. We bring the entrepreneur a network of which to work in and utilize to their company’s advantage. Again, the best way to grow a business, is through networking.
We have a 5-year or $5 million plan with our partners. If we have been working with a company for 5 years, we will then exit the relationship, unless that company has reached the milestone of $5 million in annual revenue. If so, we will then bring the company to a venture capitalist, because again, once the infrastructure is solidly in place, this is the opportune time to bring in venture capital.
What is the message that you are trying to bring to entrepreneurs
with TPE and Obsidian Launch?
The foundation of the economy is main street USA entrepreneurs. Its people doing stuff out of passion. We want to support and be an advocate for the “scraper entrepreneur”, and help them take it to the next level.