Venturing Startup Nation

In my previous post, I talked about the importance of having a financing strategy, and one of the most important elements of your financing strategy is selecting the right investor.

When you choose an investor you are committing to them much like you’d commit to a spouse. But unlike in marriage—where you can get divorced without burning down the house—it is almost impossible to separate from an investor without severely damaging your company. Therefore, just as you wouldn’t pick a random person off the street to be your husband or wife, you want to be very thoughtful on how you pick the right investor for you. Remember, you are in some shape or form selecting your new boss so make sure this is someone you want to ‘report’ to.

There are many mistakes that entrepreneurs make when deciding who to raise capital from, but many can be mitigated simply by asking the right questions Here are a few to consider:

• What is your investor’s working style? In choosing your investor, consider that you’ll need to be able to maintain a healthy working relationship. Some investors think their role is to micro-manage the CEO while others are impossible to reach. The worst ones are a combination of both: They “check in” periodically to micro-manage the CEO and then disappear again until after their next ski vacation. It’s also important to note that while having investors with relevant experience is great, you should be cautious of ex-CEOs who have only seen one play (their own company) and think they can enforce that playbook on every startup.

• Will your investor add value? Not all money is the same. You want to ensure the investor will add value to your company through their network, experience and support. One of the common mistakes early stage startups make is to take money from wealthy individuals who have nothing to do with the startup world: It is one thing to invest in real estate but a very different thing to invest in startups. These investors will not only give you bad advice but will most likely be the first to run out the door when the tech market sours or when things are not going as planned.

• What are you signaling to the market? When you associate yourself with an investor you are sending a very strong signal to the market about your company. This signal reaches not only other investors, but also potential customers, future hires and even likely acquirers, and when you work with a 2nd or 3rd tier investor (or accelerator) you have unknowingly limited the likely outcome of your startup. Another mistake startups often make (and even more so Israeli ones) is taking money from a strategic investor too early in the life of the company. When you take money from an investor who is also a likely business partner and acquirer you associate yourself as being the “EMC/Cisco/NetApp company” which will reduce other vendors’ appetite to work with you and/or acquire you.

• Is this my long term partner? Some investors have very big pockets and can support you all the way while others will support you only in the early stages, and there are pros and cons to each. If you end up choosing a smaller investor who is unlikely to participate in the following rounds, make sure he doesn’t “take” too much of your company—otherwise you will be left with not enough to give away in the next larger financing rounds.

• How does your investor negotiate terms? Make sure your investor is smart enough to realize it is not a “zero sum game” between investors and founders. When an early stage investor takes too much equity from founders he or she subsequently reduces the company’s ability to raise the next round, thereby limiting his or her upside as well. The same goes for investors who set Draconian terms early on. These investors are shooting themselves in the foot as the next round’s investors—who will likely be bigger and invest more—will demand exactly the same terms he got.

Just like you wouldn’t commit to marry the first girl you date, meet with several investors to understand what works best for you.