The decision to raise outside capital can occur at any point in a company’s lifecycle and for myriad reasons, but it is only the first step. After identifying prospective partners, conducting due diligence, working out deal terms and accepting an offer, the business owner must then learn to communicate and work alongside the new partners. Raising money for the first time can be a daunting process to an owner who would rather focus on running the business, but in reality, finding the right capital provider can help the entrepreneur achieve his or her vision.
To get more insight into the process of identifying and working with a capital partner, Brown Brothers Harriman sat down with entrepreneur Mike Ellenbogen, who has extensive experience raising capital and running businesses. Ellenbogen founded Reveal Imaging Technologies, which develops advanced detection technologies for aviation and physical security applications, in 2003, and after growing the company through several rounds of funding, sold it in 2010. In 2013, he launched his latest venture, Evolv Technology – a company focused on developing an advanced threat detection system – through which he has gained even more insight into partnering with investors. Following is an excerpt from our conversation.
Brown Brothers Harriman: As an owner-operator, tell us about your experience with seeking capital to grow a business.
Mike Ellenbogen: Some business owners aim to achieve certain corporate milestones before seeking institutional funding. I started Reveal Imaging Technologies in 2002 and knew based on the amount of capital we needed to build our first product that we would require venture capital up front. I had worked at venture-backed companies and was comfortable going down that path. You need to go in knowing what your investors expect and what that inevitably is going to lead to – from day one, you’re beginning the process of moving toward an exit, whether through a public offering or a sale of the business.
BBH: After you sold Reveal, you became an executive in residence at one of your investors and were able to observe the funding process from the other side. What did you learn from that?
ME: I recognized that the entrepreneur has as much say and value in the process as the investor. It’s a challenge for investors to find great opportunities. I think most entrepreneurs who raise funds for the first time don’t give themselves enough credit for what they’re bringing to the table and are just happy to get that initial investment. If you go in with an understanding of the strength of your position, you may hold out for a slightly better deal.
We started Evolv Technology with a track record. Our existing investors were interested in continuing to support our team, and the dynamic is slightly different – you look at them more as partners as opposed to investors. They’re members of the team, not just your board of directors, and I think my time on the other side of the table helped me realize that.
BBH: How did you identify potential partners the first time around?
ME: We had a CFO who had been through this process several times. He made a number of introductions to Boston-area venture capitalists. Warm introductions are always the preferred way of getting in the door.
We were building bomb scanners in 2002/2003, and no venture firms had experience in the field, so it was difficult to get meetings. The reaction from most of the firms we talked to was that we had an interesting product and a great team, but that they didn’t know much about the market and had to pass. However, a few were willing to roll up their sleeves to understand what we were doing and its value proposition. We eventually chose two of those investors. A third had done the work to get to the point where we had a term sheet, and when the first two found out who the third was, they asked if we would make it a three-way deal, and we agreed.
At the time, I didn’t realize how valuable it is to have a name brand on the investor team. The original two investors at Reveal were just getting started, but the third was well known and established. When we talked with potential customers about who our investors were, you saw a change in demeanor when we mentioned the big brand. It opens doors and gives you credibility that you may not necessarily have on your own.
BBH: What did the investors focus on, and what was different about the successful meetings?
ME: Investors want to know about the team’s background, market opportunity, growth strategy, product development program and intellectual property, or IP, position. The company’s vision should be presented in a well-thought-out plan with a solid, specific story for what you will do with the money and what you will achieve within a year or two as a result.
Investors say they invest in the team, and I think good investors really do. They know that the company’s eventual path is never what was originally projected. When you run into a wall, it’s the team who figures out how to change direction.
At the point we raised capital, we were burning through cash with no significant revenues; however, we had a great team in a growing market and were developing a technically differentiated product. We brought a depth of experience, had a compelling technical path that was defensible, were known by the market and made a convincing case to the end customer – in our case, the airports – in terms of return on investment. You have to put together a convincing story that you can take that upfront capital and turn it into a significant return for the investors.
The best meetings also involve intangibles, such as the feeling of mutual respect and trust. Sometimes it is more about connecting with the individual investment partner who you are dealing with than the entire firm.
BBH: Did you conduct due diligence on the investors?
ME: We checked references and went two or three levels deep. Our CFO had worked with some of the investors in the past and vouched for them, which carried a lot of weight. We got lucky that our investors were senior partners in their firms. In hindsight, I would pay more attention to where the partner is in the firm’s hierarchy and fundraising process. Junior partners may need to float decisions up through multiple layers, as opposed to somebody who has the authority to follow through on a decision made around the board table. In addition, look at the stage of the fund, which can have a tremendous impact on the investor’s ability to participate in follow-on rounds. There’s more flexibility earlier in the fund lifecycle.
BBH: How did you think about the relationship with your partners after the investment?
ME: First, no surprises – you have to be open with them. Great investors have seen many ups and downs, so they can be a great resource as you map out a response plan.
Have faith in yourself – seek advice, not approval. Investors have a right and want to know what you’re going to do, but they don’t want to be making the decisions. The investment is in your team, and they want to see you drive your vision – not seek out what their vision may be for your company.
Standing board meetings and calls should be scheduled far in advance. These meetings and calls create work, so you have to ensure they’re adding value. We try to get an investor package or a board package out a number of days before the meeting, and rather than plowing through all that material, address any questions and then pick a topic of importance on which to spend the majority of the meeting. Make the board meeting something that’s going to be helpful to you as the CEO. I think investors appreciate that.
BBH: You mentioned vision. Did your partners help you achieve the vision you had for Reveal?
ME: Yes, they were certainly helpful. Because I was a first-time CEO, a number of our investors became like coaches to me in terms of thinking through how to grow the business. A big challenge they helped with was how to deal with personnel and personality issues. We had a fairly established team when we took the initial investment; however, not everyone who is with the company at the beginning is the right individual for that position as it grows, and those are the most difficult changes to make. Having partners who had seen and dealt with those situations was helpful; it pushed me into that discomfort zone that you sometimes have to be in to recognize that changes are a normal part of growth.
BBH: Do you lean on your partners differently at Evolv now that this is your second time around?
ME: At Reveal, we knew exactly where we were going, and nobody knew our market better than we did because it was so unique. With Evolv, I’ve relied more on my investors for advice and directional discussion because what we’re doing is broader, and we’re entering new markets with different dynamics that are closer to some of the areas our investors know well. We sought partners who brought in new strategic connections. We want to tap into a number of different capabilities and technologies that come from different sectors, and our investors are instrumental in helping to shape our thinking in areas that go beyond our direct experience.
BBH: What advice would you give to a CEO about running a business while raising capital?
ME: Capital raising should be a focused, concentrated effort for a specified period so that you can get back to running your business. It’s not unusual to take six months or more to raise funds. Having a specific date in mind for a close helps to drive the process forward. It’s easy for these things to take on a life of their own, and you don’t want to leave it open-ended because that leaves all your potential investors hanging.
Another important thing is to have a clear understanding within your company about who is supporting each aspect of the process – due diligence, finances, marketing and so forth. Investors always want to call customers to conduct diligence, and if you’re an early-stage company with a limited set of lead customers, you don’t want them inundated with phone calls. Investors understand that, so if you push back and say let’s get to the next stage first, that keeps the process moving.
Lastly, if you go down this path, raise more money than you think you’re going to need. Do it earlier – you never want to be raising capital when you have your back against the wall. Seek out great partners because once they’re on the board, they’re your boss, and two, the real value-add is the people you surround yourself with and what they can do to help you be a better CEO and help your company grow.
BBH: How did the conversations you had with your investors about the eventual sale of Reveal take shape?
ME: The investors never brought up the sale of the company or a liquidity event. We had grown quickly, there was some inbound interest, and everything was aligned to the point where I felt it was the appropriate time and brought the idea to the board. We looked at both a private equity recapitalization and a strategic sale, and after evaluating the options decided to go with the latter.
BBH: You have been through many rounds of fundraising. What was something you learned early on that you have since changed or adapted?
ME: I have a better understanding of what’s important to investors, as opposed to feeling the need to explain every aspect of the business down to the technical product details. Investors want to see progress on product and market development. They want to understand what you did with your last round of capital, what you will do with a new round and the expected outcome. Discussions are more focused on how we can best build value in the business.
BBH: How do you think about dilution?
ME: At the end of the day, the ideal compromise is to minimize dilution while maximizing runway. To state the obvious, you need to keep in mind how much of the company you will own when you reach the liquidity event, and you’re shooting for as much as you can hold onto. We look at every option on the table through the lens of what it does for us as a team in terms of maintaining motivation. We want to make sure we have enough time and runway to get to a successful exit and that when we get there, it is worthwhile. Finding investors who can help you achieve that is the goal.
BBH: Mike, thank you for sitting down with us to discuss your experience and insights.
Interview conducted by Jake Turner, Ajit George and Kyle Gordon, and article written by Kaitlin Barbour.
Reveal Imaging was a BBH Capital Partners portfolio company. The testimonial may not be representative of the experience of other clients. The testimonial is no guarantee of future performance or success.
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