How Entrepreneurs Can AVOID The “Valley Of Death”

By Chris Tomlinson Houston Chronicle.

Good ideas are easy; raising the money to turn a good idea into a business is hard.

Dr. Casey Cunningham understands the challenge. As a cancer researcher, he's pitched startups to angel investors and venture capitalists to finance his companies from the discovery stage to earning income, something entrepreneurs call the Valley of Death.

The valley claims most startups, a fact well known to researchers and entrepreneurs at the Texas Medical Center. Incubators and accelerators -- like the TMC Innovation Institute, Houston Technology Center and Fannin Innovation Studio -- can carry a company so far, but eventually, a company's founder must ask for a large amount of other people's money.

After one company faltered, Cunningham found success co-founding a bio-pharmaceutical firm called Terapio, which developed a protein for helping cancer patients manage side effects. Cunningham convinced Santé Ventures to fund the company and is now the Houston-based chief scientific officer at Santé. He also has reviewed pitches for the National Institutes of Health, the Texas Emerging Technology Fund and the Cancer Prevention Research Institute of Texas.

He says he made many mistakes as a young entrepreneur and now sees others repeating them.

The biggest miscalculation is believing that every venture capitalist is ready buy into any company at any minute. Nothing could be further from the truth, Cunningham said in an interview.

"Entrepreneurs regard all investors as a sea of checkbooks and don't make an attempt to know their audience, to know their customer," Cunningham said.

Angel investors are usually the first people outside the founder's circle of family and friends to get involved in a company.

They are usually wealthy individuals, often members of an investing club, who believe in the person or their idea and spend up to $2 million to develop the business.

Venture capitalists get involved after a company has proved itself and needs money for the next phase of development. They usually participate in what's called Series A financing, which typically ranges between $2 million and $10 million for 10 percent to 30 percent of the company.

There are also different kinds of venture capitalists. Large corporations such as Shell Oil Co. have venture capital arms that invest in companies that can help their business. Other venture capital firms are family operations. Traditional venture firms raise money from limited partners to invest in specific industries, such as Santé's interest in medical research.

Each type of firm has different needs and performance metrics, Cunningham said.

Corporate firms invest in technologies the parent company may want someday, and a return on investment is secondary. For a family firm, a financial return is important, but the family may have a specific interest, such as a disease that killed a family member or boosting businesses in a geographic area.

"For traditional institutional venture firms, our only performance metric is returns, with only some limits," Cunningham said.

"For instance, we won't invest in something that is going to inject higher costs into the health care system, because we don't think that is sustainable."

A traditional firm raises money from investors who agree to hand it over for 10 years. The key gauge for the firm is how much money it gives back to the investors 10 years later.

"As you look at all of those dynamics, it becomes clear that different deals are going to work or not work for different kinds of investors, but yet entrepreneurs forget that all the time," Cunningham said. "We'll be in year six of a 10-year fund, and we'll routinely get pitched by somebody that has an eight-year development plan. We can't do that deal, even if we like everything about it."

Which reveals another truth about venture capital that many don't appreciate -- an exit strategy is needed. If the business will be a slow grower without some big inflection point where the firm can sell its share of the company for a big profit -- such as federal approval for a drug or device -- then venture capitalists are not interested.

"Entrepreneurs have been told to go knock on 1,000 doors, but behind 900 of them the answer is no before you even enter the room," Cunningham said. "A little homework and a little back-and-forth not only allow you to pick the right audience to make your pitch to, but lets you shape the message."

Cunningham is impressed with the research in Houston, but he says the entrepreneurs tend to prioritize the science over the business.

"We're willing to spot you the science at first. We want to see if it's a venture play," he added. "The science is rarely the problem. It's all of the other stuff."

Houston has invested a lot to become one of the premier life science research centers in the nation, and the Texas Medical Center is making tremendous discoveries. But more work is needed to start seeing a return on that investment in terms of a thriving life sciences sector.

As I have said before, wealthy Houstonians should hedge their high-risk oil investments by becoming angel investors in life science companies. There remains a great need for more chief executives who can take a product through the federal regulatory process. Cunningham would like to see more wet labs for research.

Entrepreneurs, though, must do their part and invest time to become more business-savvy. That good idea may have seemed like the hard part, but it was really only the beginning.

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