Management teams, advisors, and bankers often ask me, “what size returns do investors want?”
I always find this to be a strange question because, like most investors, I want the highest return possible with the least risk. Finding that balance is more of an art than a science. To help answer this question, I thought I would share some stats from the Pepperdine University’s 2017 Private Capital Markets Report.
The chart below shows required annual Internal Rate of Return (IRR) by investment type and size (or risk). As you can see below, bank loans usually require the smallest IRR (4-6%) and that is because they are very selective in their underwriting and thus (relatively) low risk. On the other end of the spectrum, seed stage angels require a 60% IRR because their investments are much, much riskier.
Remember, investors have a cost of capital too! Investors can have real costs (a return the investor’s investors are expecting), opportunity costs (the cost of having money locked into a deal that can’t be used for other higher return opportunities), and, usually, both.
So, depending on the risk profile of the deal (and thus the type of investor you are speaking with), the required IRR will vary. My advice to those seeking funding is to put yourself in the shoes of an investor and ask: “How likely is it that an investor will meet their required IRR with an investment in my company (under a conservative success scenario)?”
For 127 pages of amazing information on M&A and private direct investing check out Pepperdine University’s 2017 Private Capital Markets Report.
Ben Kotch is a managing director and investment committee member at Acquis Capital, LLC, a private investment firm that specializes in acquisitions. He has extensive experience with both private and public companies. Ben graduated with an economics degree from Bentley University where he concentrated in entrepreneurship and law.
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