Have you ever seen a story about a startup firing its investors?
The reality is that investors don’t get fired. They may get squashed in a recapitalization, minimized in a down round, or bought out, but they don’t get removed.
Because the minute they give you money, they aren’t going anywhere. Unlike an employee that quits or a founder that gets replaced, your investors aren’t walking away until they get their money back, regardless of how painful the process is.
Investors are professional at one thing: Investing. Yes, some of them can bring incredible operational experience to help you grow the business, but at the end of the day their job is to return capital. Not only that, but it’s your job to help them do that. Which means the investors you let in the front door are more permanent than the co-founders you originally chose. Especially when their legal rights are almost guaranteed when you took their money, something you probably glossed over at 11pm when you read the term sheet.
Don’t be confused, if you’re raising money you’re not only saying that you want to accelerate the growth of your company, but that ultimately you want to sell the business. And to be successful at that financial transaction, you are choosing investors you believe can help achieve attractive growth and a significant return. Saying you’re trying to do anything different from eventually selling the business, is a lie.
What nobody admits, is that the contributions you provide aren’t specifically measured. While dollars can be modeled on excel spreadsheets, your time can’t. Which means that if you made the wrong investor choice, too bad. Your only options are to buy them out or find an investor that will replace them, both incredibly hard things for a startup to manage.
Taking money isn’t a bad thing, to the contrary it’s incredibly important if you want to create a category winning company. Just recognize the relationship you are choosing to begin: grow or die.
Here are a few things you can do to make sure your investor relationships stay strong.
Don’t Speed Date the Process
Getting to know someone takes time. No different than getting to know your spouse or your co-founders, you want to take time to get to know your investors. Unless your business is Pinterest hot, your new partners will own a significant chunk of what you are building, which means you want to find someone you like.
The right investors will want to take their own time getting to know you. As Mark Suster likes to say, he invests in lines, not dots.
A similar mentality you should have as an entrepreneur, is that you want to spend time with a handful of investors long before you need to raise money. Sharing the strategic decisions you are wrestling with and asking for their input, is a great way to see how they think about your business. Having helped their portfolio companies through similar issues, they could instantly provide you with insight as to the value they can provide.
Trying to close a round as fast as possible is a fantastic way to wake up in the morning hating who you just married.
Control Your Board
If you don’t know how a board works, it’s pretty simple. There are x number of seats with x number of votes. Unless you are a magician, each seat comes with one vote. If the investors have one more seat than you, guess what, you just sold your company.
An important negotiating point with any term sheet, you only want to give up board seats for significant capital raised, anything else is just giving up control too early. It’s not an easy discussion. Investors who are focused strictly on board ownership are giving you signs that control is incredibly important to them.
It is true you want to put as many independents on the board as possible, but don’t be confused about who owns which seat at the end of the day. Hopefully you will never get to this point, but you may need that one extra vote to keep your company alive.
Bringing on professional investors means you are ready to be a CEO. No longer a founder, your time instantly shifts to spending a significant amount with your board members and key investors.
Although they say they want you focused on the business, what they really mean is that they trust you to keep them lightly informed until something goes wrong, at which point they want to know what’s going on minute-by-minute. This is a place that you never want to end up in, and so creating a consistent communication process early in the relationship is super important.
Every entrepreneur has their own format, but providing the same weekly update will keep you in a consistent rhythm. Sharing key metrics with a simple update about what you did, are doing, and need help with, is a sound foundation. Your investors are no different than your leadership team, they need to know the details so they can provide the most value.
Don’t be naive in thinking the partner on your board is responsible for keeping the rest of his partnership up to speed on your business. Yes, he will provide summaries on a weekly basis, but expecting the single partner to defend your performance is a slippery slope, especially when times get tough.
Building trust is a full time commitment.
Keep Dating Other Investors
The only way to keep your investors honest is to have other interested investors around the table. That’s why it’s important for you to spend time building relationships with new investors you don’t yet have. Even after you close a round, you need be thinking about the next capital inflection point and which investors you think would be a good fit.
If it comes time to raise capital, and no one else is around the table, the terms will get incredibly expensive. No matter how much your investors like you, they will do what’s best for them. Capitalism is based on what the market is willing to bear, so if there aren’t any new buyers to set the price, your existing investors will set it for you. This process can quickly take control of your company.
Beat Your Numbers
At the end of the day, you have to beat your numbers. No matter how much pressure your investors place on you to provide aggressive targets, resist. Because if you miss those targets they will punish you.
You may not realize this, but most investors don’t remember the conservative numbers you originally provided. Instead your aggressive plan becomes THE plan, shifting stretch goals into expectations.
The simplest way to understand this is to ask an investor about how one of their portfolio companies is doing. “They’re crushing it,” can be translated into “They are beating their numbers”.
Conclusion Selecting your investors is a monumental choice, that often looks fantastic early in the relationship when the company is moving up and to the right. But none the less a choice that has permanent consequences, because unless you find new investors along the way, you are stuck with the ones you have until the end.
And the end doesn’t even mean the lifetime of the company. The end really means until your time is up.
Image Credit: Gage Skidmore via Creative Commons.