I made partner at one of the largest law firms in the world, Dentons, practicing finance and putting deals together.  I really thought I had ventures figured out and wanted in on some of this excitement myself.  Of course I was too chicken to fully make a run at it alone, so now at a  smaller firm and started doing deals on the side.  For the past four years I have sponsored deals, funded a few deals and failed a ton of times.

When I first started, I had absolutely zero understanding of how hard it was to put a deal together, much less raise the capital to get it up and running.  For me, raising capital was really…really hard.  Actually, it was all much harder than I envisioned from my lofty perch as an attorney.

I learned that receiving an investment is as much about the relationship, trust and other intangible factors as it is about the opportunity presented.

Honestly, I was not use to rejection and it took me a good while to turn around and start viewing myself through the lens of the investor.  Why should this person trust me with their money?  What makes me a better investment than other opportunities?  These two questions are deeper than one simple answer, but one key change I made was changing the emphasis from ROI, IRR, cash-on-cash and exit strategy to a deeper focus on the waterfall of funds in my presentations.

By changing my emphasis from return on investment to flow of money, I adopted the “I am Third” motto.

Quick reset.  A waterfall is a distribution of funds hierarchy which Investopedia defines as:

“The order in which a private equity fund makes distributions. A distribution waterfall is a hierarchy delineating the order in which funds will be distributed, and may ensure that different types of investors have priority of payment compared to others within the same fund.”

A distribution waterfall is typically laid out fairly clearly the operating agreement (or other applicable agreement) of a company.  Using the “I am Third” motto, my waterfalls look something like:

First, for the payment of operational expenses of the Company, as approved by the Members and consistent with the Budget.

Second, for the payment of the Preferred Return.

Third, for the payment of all remaining Funds Available for Distribution to the Members in accordance with their Membership Percentage.

By way of explanation, typically the operating expenses are outlined in a budget approved by the investor prior to investing in the project.  I typically require an annual budget review so that a new budget is established annually.  The “Preferred Return” is the return on investment required by the investor group and, of course, the remaining funds are paid out pro-rata according to ownership percentages.

The idea of course is that as the sponsor, you pay yourself third after you pay expenses and take care of your investor.  This exact cash waterfall is not applicable for all deals naturally.  However, the concept should be and is applicable to all deals.  Take care of your expenses and then your investors before you take care of yourself.

You know the main thing I have learned since adopting the I am Third approach?  People tend to invest in you again if you return their money.