Investment Thesis | The Growth Story with Risks as Subtext
By Anne Marie Maduri ● March 05, 2015 09:00
In preparing an investment thesis the focus is on the 'upward' story, on building a case based on growth in the sector, growth of the company, growth in its revenues, margins, net income ... and culminating in the above-average return to investors.
What is not explicitly addressed is the counter-story or the company’s risk context, which nonetheless prominently looms just below the surface of the 'upward' story.
The various forms of risk are numerous. I will focus on those most relevant to the deal flow of the emerging digital media, entertainment, and enabling technology companies that I work with or follow.
The primary ‘top down’ or macro-economic risks include:
Stage in economic cycle. Is the economy expanding or contracting in North America, and what stage are we in that cycle? I’m seeing that investors in “New Economy” companies are taking a cautious expansionary view and proceed to make investments with mitigated confidence. In jargon, we’re still in a long-term bull market, which requires investment prudence and assessment of risk. Evidence of this made headlines on March 2, 2015 as the NASDAQ closed above 5,000 for the first time since 2000 (height of the dot-com bubble). Translation: The timing is good!
Foreign exchange or “FX” risk. With the Canadian dollar currently weak against the U.S. dollar, definitely make a plan to hedge the ‘base’ currency in which your company operates.
Risks that are more relevant or sector-specific, which companies can manage, include:
Technology cycle risk. For tech-innovating companies: Where is your R&D or product strategy positioned relative to the trends of your sector? How are you defining and executing on the several next iterations of growth? Invest at least "3-steps ahead" of today’s market! The investment or “the bet” is on this. (For companies poised to exploit a defined or established trend – it’s a diminishing value proposition.)
Trend risk. For digital media or “tech-taking” companies, ditto my thought process as above. Know your position in your market’s growth dynamic and only invest in the “forward market”. Be sure to clearly articulate your company’s position in the interplay of technical invention and cultural expression. Aggressively push boundaries as you are up against significant "time compression" (or what I refer to as ephemeral markets) with respect to the sustainability of trends.
Risks that a company can directly manage include:
Execution risk. Draw up plans to address each operational function of your company, especially for the 18 to 24 months from taking the investment, delineated against available working capital. (N.B. "Discoverability" risk is captured in this category.)
Use of proceeds risk. Use the funds as agreed – or renegotiate.
Founders’ risk. Each phase of company’s growth requires a different set of skills. Founders, especially for technology-based companies are usually innovators, not professional management. Know when to step aside and allow the company to evolve.
Working capital risk. Cash = Oxygen. Try to maintain access to several (3 to 6) months of cash as a ‘healthy’ contingency.
Due Diligence risk. This is rarely mentioned, but is fundamental to successfully securing financing. (Each year I see a deal fall apart as a company fails to satisfy an investor’s “DD” requirements.)
Finally, fully disclose your company’s situation. A committed investor will allow for resolution of what is ‘fixable’ and adjust the price for what is not. Misrepresentations or ‘selective disclosures’ are exposed with time, and will result in startling consequences.
This concludes our Guest Writer Series on investment and financial advice by CFC Media Lab ideaBOOST mentor Anne Marie Maduri of Marduri & Associates.
Previous articles include: