Investing in start-ups is a very risky proposition, as most of them will fail within the first 5 years, according to the US Bureau of Labor Statistics. Lacking collateral, a proven track record, or even a validated business idea, most start-ups struggle to raise capital from sceptical investors, and many are unsuccessful at it. Yet, some start-ups do manage to raise the capital they need. How do they do it? New research by ESADE Assistant Professor Jaume Villanueva in the International Journal of Management Reviews reveals some of the strategies that entrepreneurs have at their disposal for attracting investors. ESADE Knowledge: What is the secret to attracting investors as an entrepreneur? Jaume Villanueva: After an exhaustive review of the literature for the past 30 years on this topic, we reached the conclusion that there are few strategies entrepreneurs can use to attract investors. In fact, one could group all the activities that successful entrepreneurs engage in into two overarching strategies, which we call projective and interpersonal. While interpersonal strategies focus more on exploiting entrepreneurs' social networks, the focus of projective strategies is on persuading investors of the merits of the idea as an attractive, worthwhile investment opportunity. It is really about projecting a vision of the future that is so compelling, so attractive, that investors will fall over themselves to get a slice of the action. The name of the game for investors is growth, of course, and that is what the projective idea of the future must focus on...a slice of the pie that today is worth, say $100 thousand could be worth a million 5 years from now. These kind of projections play a key role in 'selling' the investment. EK: But projections are not tangible results... JV: We talk about projective in the sense of conveying a desired vision of the future, not actual forecasts (although financial forecasts are expected). Actual financial forecasts are not, per se, what will attract investors. Most investors are quite sceptical and are likely to have lots of doubts about any given investment opportunity. It is unrealistic to think that one can fully convince them. What one needs to strive for, as an entrepreneur, is to create a seed of doubt ("maybe it will work out"). Speaking colloquially, one needs to foster FOMO (Fear Of Missing Out). Investors may not be fully convinced and may still have a lot of doubts about the potential of the venture but what if they are wrong? "What if I am missing out on the next Snap, Twitter or Facebook?" It is the fear of missing out on a great opportunity that may help entrepreneurs overcome the doubts that rigorous risk analysis on the part of investors will inevitably raise. EK: What other strategies can entrepreneurs use? JV: Another way for entrepreneurs to attract external resources is by using interpersonal strategies. This type of strategy is based on the relational capital that exists between the entrepreneur and the potential investor, in other words, using one's connections. This does not mean that the quality of the opportunity is irrelevant, or that expectations of the future do not come into it. What it means is that the focus of the strategy is on the relationship of the entrepreneur with the potential resource provider, rather than on the nature of the venture itself. Interpersonal strategies appeal to the investor's sense of obligation and reciprocity toward the entrepreneur based on the nature of their relationship. EK: Your research shows that entrepreneurs can use the same type of tools for both projective and interpersonal strategies. JV: Yes. First, it should be said that these two types of strategies are not mutually exclusive. Entrepreneurs can simultaneously engage in both projective and interpersonal strategies. Second, when it comes to the tools that entrepreneurs have at their disposal to implement these strategies, it seems that the list of alternatives is also fairly limited. We have identified four main types of tools by which entrepreneurs implement their resource acquisition strategies, both projective and interpersonal. One of the most common and most effective set of tools is what we call 'Words', which refers to what entrepreneurs say and how they say it, in any given communication form, to influence investors' perceptions regarding the future of the new venture (in the case of projective strategies) or the nature of their relationship with the entrepreneur (in the case of interpersonal strategies). Another set of tools for entrepreneurs is what we call 'Actions', which refers to specific activities that entrepreneurs undertake to signal positive qualities about the venture (projective) or to exploit ties with investors (interpersonal). 'Associations' is another set of tools, which consists in creating or demonstrating ties with prestigious or reputable parties to signal positive qualities about the venture and its potential. Signalling is a common strategy in contexts of very high uncertainty, as is the case in investing in start-ups. Although investors may be unsure of whether the start-up will succeed or not, knowing that other reputable parties are tied in lowers their sense of the risks involved. Finally, what we call 'intangibles' are a set of tools by which entrepreneurs exploit are 'soft' assets at their disposal, such as skills, capabilities, intellectual or symbolic capital, to gain access to external resources. EK: Have entrepreneurs access to all these tools? Is there a set of tools that works better than others? JV: Most entrepreneurs will not have access to all these tools. Some will be able to engage in relationships with prestigious parties, others will not. Some will be able to carry out activities that could be perceived as high quality by investors, others will not. It is up to each entrepreneur to understand the tools at his/her disposal and the ways in which they can be exploited in the implementation of a successful resource acquisition strategy. One thing all entrepreneurs have in common is the ability to communicate with potential investors in some way or another. For this reason, 'Words', or the set of tools underlying any communication strategy, such as rhetoric or storytelling, are probably among the most useful ones for entrepreneurs, or at the very least, among the most widely available. For projective strategies, in particular, evidence suggests that the way entrepreneurs pitch their new projects influences how potential investors see business opportunities. It is no secret that telling a good story will go a long way. EK: Does storytelling really persuade investors? JV: There is growing evidence that it does. In fact, I am conducting research in this area myself. For example, I have run an experiment with a sample of angel investors in which the description of a new venture opportunity was altered at the narrative level, while keeping everything else equal. Investors were randomly assigned to one of the conditions and were then asked to evaluate the new venture in several ways. Results show that the narrative version affected investors' assessments in several respects, albeit in an inconsistent manner (some positively, others negatively). Much remains to be understood about the effect of storytelling and other forms of communication on investors' assessments, but it seems clear that they do have an impact. All we know at this point is that, regardless of the kind of communication used, entrepreneurs should pitch to investors the best, most compelling, credible and attractive version of their vision of their venture's future.

ESADE

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How entrepreneurs can attract investors

10/2017

Investing in start-ups is a very risky proposition, as most of them will fail within the first 5 years, according to the US Bureau of Labor Statistics. Lacking collateral, a proven track record, or even a validated business idea, most start-ups struggle to raise capital from sceptical investors, and many are unsuccessful at it. Yet, some start-ups do manage to raise the capital they need. How do they do it? 


New research by ESADE Assistant Professor Jaume Villanueva in the International Journal of Management Reviews reveals some of the strategies that entrepreneurs have at their disposal for attracting investors.


ESADE Knowledge: What is the secret to attracting investors as an entrepreneur?


Jaume Villanueva: After an exhaustive review of the literature for the past 30 years on this topic, we reached the conclusion that there are few strategies entrepreneurs can use to attract investors. In fact, one could group all the activities that successful entrepreneurs engage in into two overarching strategies, which we call projective and interpersonal. While interpersonal strategies focus more on exploiting entrepreneurs' social networks, the focus of projective strategies is on persuading investors of the merits of the idea as an attractive, worthwhile investment opportunity. It is really about projecting a vision of the future that is so compelling, so attractive, that investors will fall over themselves to get a slice of the action. The name of the game for investors is growth, of course, and that is what the projective idea of the future must focus on...a slice of the pie that today is worth, say $100 thousand could be worth a million 5 years from now. These kind of projections play a key role in 'selling' the investment.


EK: But projections are not tangible results...


JV: We talk about projective in the sense of conveying a desired vision of the future, not actual forecasts (although financial forecasts are expected). Actual financial forecasts are not, per se, what will attract investors. Most investors are quite sceptical and are likely to have lots of doubts about any given investment opportunity. It is unrealistic to think that one can fully convince them. What one needs to strive for, as an entrepreneur, is to create a seed of doubt ("maybe it will work out"). Speaking colloquially, one needs to foster FOMO (Fear Of Missing Out). Investors may not be fully convinced and may still have a lot of doubts about the potential of the venture but what if they are wrong? "What if I am missing out on the next Snap, Twitter or Facebook?" It is the fear of missing out on a great opportunity that may help entrepreneurs overcome the doubts that rigorous risk analysis on the part of investors will inevitably raise.

EK: What other strategies can entrepreneurs use?


JV: Another way for entrepreneurs to attract external resources is by using interpersonal strategies. This type of strategy is based on the relational capital that exists between the entrepreneur and the potential investor, in other words, using one's connections. This does not mean that the quality of the opportunity is irrelevant, or that expectations of the future do not come into it. What it means is that the focus of the strategy is on the relationship of the entrepreneur with the potential resource provider, rather than on the nature of the venture itself. Interpersonal strategies appeal to the investor's sense of obligation and reciprocity toward the entrepreneur based on the nature of their relationship.


EK: Your research shows that entrepreneurs can use the same type of tools for both projective and interpersonal strategies.


JV: Yes. First, it should be said that these two types of strategies are not mutually exclusive. Entrepreneurs can simultaneously engage in both projective and interpersonal strategies. Second, when it comes to the tools that entrepreneurs have at their disposal to implement these strategies, it seems that the list of alternatives is also fairly limited. We have identified four main types of tools by which entrepreneurs implement their resource acquisition strategies, both projective and interpersonal. One of the most common and most effective set of tools is what we call 'Words', which refers to what entrepreneurs say and how they say it, in any given communication form, to influence investors' perceptions regarding the future of the new venture (in the case of projective strategies) or the nature of their relationship with the entrepreneur (in the case of interpersonal strategies). 


Another set of tools for entrepreneurs is what we call 'Actions', which refers to specific activities that entrepreneurs undertake to signal positive qualities about the venture (projective) or to exploit ties with investors (interpersonal). 'Associations' is another set of tools, which consists in creating or demonstrating ties with prestigious or reputable parties to signal positive qualities about the venture and its potential. Signalling is a common strategy in contexts of very high uncertainty, as is the case in investing in start-ups. Although investors may be unsure of whether the start-up will succeed or not, knowing that other reputable parties are tied in lowers their sense of the risks involved. Finally, what we call 'intangibles' are a set of tools by which entrepreneurs exploit are 'soft' assets at their disposal, such as skills, capabilities, intellectual or symbolic capital, to gain access to external resources.

EK: Have entrepreneurs access to all these tools? Is there a set of tools that works better than others?


JV: Most entrepreneurs will not have access to all these tools. Some will be able to engage in relationships with prestigious parties, others will not. Some will be able to carry out activities that could be perceived as high quality by investors, others will not. It is up to each entrepreneur to understand the tools at his/her disposal and the ways in which they can be exploited in the implementation of a successful resource acquisition strategy. 


One thing all entrepreneurs have in common is the ability to communicate with potential investors in some way or another. For this reason, 'Words', or the set of tools underlying any communication strategy, such as rhetoric or storytelling, are probably among the most useful ones for entrepreneurs, or at the very least, among the most widely available. For projective strategies, in particular, evidence suggests that the way entrepreneurs pitch their new projects influences how potential investors see business opportunities. It is no secret that telling a good story will go a long way.


EK: Does storytelling really persuade investors?


JV: There is growing evidence that it does. In fact, I am conducting research in this area myself. For example, I have run an experiment with a sample of angel investors in which the description of a new venture opportunity was altered at the narrative level, while keeping everything else equal. Investors were randomly assigned to one of the conditions and were then asked to evaluate the new venture in several ways. Results show that the narrative version affected investors' assessments in several respects, albeit in an inconsistent manner (some positively, others negatively). Much remains to be understood about the effect of storytelling and other forms of communication on investors' assessments, but it seems clear that they do have an impact. All we know at this point is that, regardless of the kind of communication used, entrepreneurs should pitch to investors the best, most compelling, credible and attractive version of their vision of their venture's future.


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