April 19, 2013

What's wrong with writing a business plan for investors?

I've recently been involved in writing a business plan. Whilst it was a worthwhile experience, it has also prompted me to question whether writing a business plan for investors - rather than for internal use - is in anyone's interest.

We were writing for a biotech business plan competition. The winning team was to get £100,000 ($150,000) and free lab or office space in a biotech incubator. The judges of the competition consisted of venture capitalists (VCs) and other investors, as well as other organizations that are involved in early-stage startups. The selection process was quite similar to that used by VCs when they decide which businesses to invest in.

In principle, there are sound reasons for writing a business plan. It forces the startup to envisage its future and to think through the details of what it will do. Ideally, this process will uncover potential threats and opportunities, strengths and weaknesses.

This is however not what happens in reality. In my experience, people starting a business already tend to be overoptimistic. Unfortunately, I doubt that writing a business plan for potential investors encourages honest and self-critical assessment of how to maximise the startup's chances of success. 


Instead, it becomes an exercise in trying to convince potential investors. When there are several estimates of the market size, the temptation is to pick the biggest one. When there are potential non-obvious threats, the temptation is to either not mention them at all or to explain why they are not going to be a problem, rather than actually thinking them through. Et cetera. Some investors even encourage this by explicitly demanding to be "sold" the idea.


You may think that this is not a big deal. After all, investors are aware that startups will inflate their chances of success and will discount for this: You're hyping, I know that you're hyping, and you know that I know that you're hyping.

The problem with this is that apart from money, time is the most limited resource for startups. Writing a business plan takes time, and the one the startup writes for investors is probably going to be the only one. Writing a second, more realistic one for internal use would be a waste of resources.

A solution would be for investors to stop asking for a business plans and instead relying exclusively on their own due diligence - in close collaboration with the startup of course. The initial communication between the startup and the investor would focus on the science, covering the market and the business model only in general terms. The advantage for startups would be that they could write their business plan without having to keep in mind what the investors want to hear, instead using their resources on planning that actually matters to the business.

If you have any experience of investing in early-stage startups, or if you have ever written a business plan yourself, I'd love to hear what you think about this.

7 comments:

  1. Nicely put Art.
    I have written business plan to get the faculty buying some item. The plan got approved. Although it was designed and meant to be use by more than just us, the usage turn out to be a bit "over hype" shall I say.

    What do you think about grant writing? Do you think that grant are comparable to business plan? From what I read (and wrote) they are very similar.

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    1. Hi Pierre, Thanks for your comment. Grant writing is probably quite similar in this respect. However, my guess is that the way that research gets hyped in a grant ("our research will significantly contribute to novel cancer therapeutics") is less damaging than the way prospects get hyped in a business plan. That's because if a PI doesn't deliver on his promises in a grant proposal, probably his group isn't going to be shut down, whilst the business may well go bust.

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  2. Starting a new business is like playing a chess, or playing a basketball or any kind of competition games. We may predict what will happen, but we may never know what will really happen. For example you are on a brink of success then suddenly, the table was flipped. Even you have this business plans, they are just plans and strategies, not your destiny. But because of this plans, it can be helpful at times. Prediction is better than cure as they say.

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    1. Hi, Thanks for commenting. That's a nice philosophical take on the subject.

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  3. Hi Art,

    I have a question that is not correlated to the post. What company from your prospective offers the most affordable personal genome sequencing for regular folks (not businesses). Will there be any firm leader on the market by the end of the year? Thanks!

    Tim

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    1. Hi Tim,

      If you're interested in only in the parts of your genome that are most informative, you may want to go with genotyping services like 23andMe. The cost there is in the $100 range.

      I don't know of any company that currently routinely offers whole genome sequencing for consumers. Any such service would likely to cost thousands of dollars.

      I hope this helps,

      Art

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  4. Hi Art
    A business plan shows the banks and investors the writer has done thought through the entire process of running a business.The Vision directs where the firm is trying to go, goals and milestones set valuable markers.The marketing is the most difficult for most so the plan outlines the target market and competitive advantages of the firm. Banks and VC always need current and projected financials to accurately assess risk.
    I feel it is worthwhile to write a business plan and chart of course for success beyond the capital from VCs.

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