Published on August 10, 2015
Yes, I can hear you thinking “Here we go again, bashing everybody else but the nice Venture Capitalists, because the VC’s always got it right”. That would be an easy assumption, however, there is way more nuance to this. To start with the conclusion of this blog: “when you chose your partners, chose them well”. As always, I am full of cliché’s, but I invite you to read on to follow my thinking.
When you have your first spark of an idea of a new company you are most of the time alone. Soon after, you’ll discuss it with peers, and maybe find co-founders. This in itself is an energizing time: convincing colleagues to join you, convincing customers to buy your product, and slowly you will start to proof your business model. Now it is time to put the pedal to the metal and accelerate faster than the market is growing: you’ll need funding. And then comes the scary part: sharing the ownership of that great idea. Because, with whom can you really share it, why would you. What is the new partner contributing to your dream? And what if you make the wrong decision? Dismissing an employee is painful, awkward and costs money but that is part of the game: the CEO needs to hire and to fire. But how to get rid of a shareholder? That is a costly, defocusing process, with losers on all sides. If it happens in the earliest stages of your company most of time it is a disaster: you’ll lose so much time and defocus so much that the development of your company comes to a standstill. So you’ll better chose your partners well. Every venture starts with a glass of Champagne or two: everybody genuinely wants to create something big, in size, in value, with impact. This goes for founders and investors of all sizes.
In the earliest stages, Angel investors are welcome contributors in the investor community. They can invest decent amounts of money that fit in the needs of the company of that stage, they are entrepreneurial, have a genuine interest of helping you further. Most of the time they see it as a part-time job, something to keep them off the street, something to do, or contribute to the startup community. And they see it as fun. And there is nothing wrong with having fun! In addition, a good angel investor is also educated, and sophisticated, and understands the dynamics – in all forms –of a start-up company. And also understands and acknowledges that at one point of time additional money is required for further acceleration of growth and that dilution is inevitable. And that sometimes additional brainpower and experience is required to bring the company to the next level. There are examples that after an Angel investor joined, the company took off, grew nicely but management wanted to grow faster. They looked for additional resources and Venture Capital. The Angel did not wanted to do so, wanted a dividend policy and focused on profitability rather than on growth. And he used his blocking vote.
Other examples are that an Angel came in at the earliest stages of the company, invested some money at a certain valuation. After the company took off, VC money was required to build the firm and push it further. However, based upon the valuation of the first round, the Angel demanded a valuation many times higher than his. Obviously seen from his prospective he had every right: he took the risk before there was any product of proof point, so he wanted a reward for this bravely. However, in hindsight that seed round was done at a not realistic valuation. Management, shareholders and Angel lost many weeks in discussing, while the VC lost his appetite: why would he invest in a company where there was a fight amongst the shareholders?
Or there are horror stories of Demons trying to take over control after management missing a couple of targets, forgetting that they made their fortunes in another time, in another space or segment.
To be honest and complete, there are also many positive stories of Angels. We are privileged to work with many of them. They are sophisticated, understand the business and dynamics, are cooperative, support the management teams on many topics and provide real value for the company and all of its stakeholders.
The other actors in this play, the VC’s is also a breed that requires some explanation. Throwing money at a company is easy. And if that is all you’ll need, then I would recommend to focus only at the highest valuation, and the best terms and conditions. Because if Money is the only dimension that is important then that are things that matters. However, biased as I am, I can imagine that you would not share the ownership with a party with a one dimensional approach.
In contrast to Angel Investors, VC’s are formal investors. They have shareholders themselves, have to comply with all kind of regulations, have a team of analysts, investment managers, investment directors, partners, cfo’s, board members, advisors etc. And although every VC will tell you that they are passionate on what they are doing, and they love to work with you, it remains work. The fun part is there for sure – who would like to work crazy hours with a lot going on and not liking it? – but in the end of the day, VC’s are formal investors, with procedures, reporting, contracts and steps to take.
And they should be knowledgeable, and experienced in your field or stage. And you should be learning from them, they should be adding value to you. By helping on your value proposition, acquisitions, funding, recruitment of new members, positioning, and in the end the exit. In other words, a party with whom you would like to share the ownership of your dream. And they must contribute to materialize that dream with you.
Yep, that sounds like a great commercial for VC, right? Let’s shoot the movie, record some music with lovely violins and buy a slot at the Super Ball commercials (and hire some better looking actors please).
However, does the VC has the funding for your next round? Where are they in their fund life and do they still have time to support you in the next 6 years, or do they need to exit in 3 years? What about their reputation? Are they well connected? What about them understanding your revenue model and building the funding structure around it (I’ve seen terms sheets with a VC providing equity and loans to a company with a projected loss over the next 36 months and the loan needed to be repaid after 12 months and otherwise being converted into shares with a discount), what about their patience, their capacity of supporting you, building your team. What is their industry knowledge, experience in the stage you are in? Do you see some peers in their current or past portfolio? Are they business driven or financially oriented. Are they former bank guys? Consultants? Or Private Equity moving to Venture? In all honesty, there can be a lot of Vulture in VC.
So there is a lot to say about Angels and Daemons, Vulture and Venture Capital. But it boils down to the simple basic rule: make sure you fully understand the real motivation and background of your partners. Investors – any type – will do Due diligence on your company. And those who doesn’t do it, I would not recommend working with. But you as an entrepreneur should also do Due diligence on your investor. And listen to your gut feel: “if doesn’t feel right, it is wrong”. Choose your partners well. You’ll be sharing the ownership of your dream. Don’t let it become a nightmare.