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As startups race to get their products and services to market and scale their businesses, investors play an important role. The capital they bring to the table can accelerate a startup’s momentum and take it to the next level. But unfortunately, investors can also interfere with a startup’s best-laid plans, even when they have the purest intentions. In the hunt for cash to hire more staff, market your product and quickly grow sales, it’s easy to miss warning signs that an investor isn’t the right fit.
It might sound trite, but it’s really true: Choosing an investor is much like choosing a mate or spouse. You’re in for the long haul, and you should take your time before reaching a decision. Understand what qualities are important to you and your company. And take the time to get to know the other side before entering into a relationship.
In three-plus years, our company has grown tremendously. My co-founder and I are fortunate to have surrounded ourselves with great people, including key hires and investors. But it wasn’t always easy, and we didn’t always make the right decision. What’s important is that we have learned valuable lessons from both the investor relationships that did not work out and from those that did.
Identifying the different types of investors
When we started our second company in 2018, we worked primarily with small angel investors. We were fortunate to attract some great people who could provide us with funding. But there was one notable exception — a real learning experience. We had several issues and escalations early on, but at the time, we thought it was just new relationship jitters. But several days before we were going to sign an offer, the potential investor attempted to pull terms from their original proposal. They wanted to offer funding with a much lower valuation. This was a significant crisis of faith. In the end, we only took a minimal investment and prevented the investor from taking a major piece of the company.
Most of our other early investors were not particularly savvy about our industry. As a result, they did not provide any additional added value to our product or company in that regard. Looking back, we realize that it’s essential to recognize the three major types of investors. Then make the right decisions for the particular point in your company’s development.
The aggressive investor: This investor is the one you should try to identify early on. This one puts up money but adds constraints to the relationship. This investor can be overly aggressive and push the founders to do things they’re unwilling to do. Or, provide advice that they are not well-positioned to give. Some might think that it’s worth it to put up with this to a degree to strengthen your cap table. But, this kind of investor can be very harmful to the company. Use extreme caution if you have no choice.
The silent investor: This investor has a great personality, excellent references and an open checkbook but remains mostly silent. This person doesn’t interfere, but they also don’t add much value outside of the financial investment. This type can be great for bridge rounds. When there is already a plan and momentum, but you still need cash to get to your next big round of funding.
The proper professional: This is the best kind of investor. It is often a firm with a portfolio and a track record of amplifying companies and helping them scale. You should learn about their previous investments and understand their potential impact and added value. This research will also help you and your team feel more confident about entering into a long-term relationship that will enable you to advance your goals more effectively.
Performing due diligence
To again use the marriage analogy, due diligence is the courtship phase for both the investor and the startup. It’s rare for a couple to have a successful marriage after the first date. Startups and their investors must also take the time to get to know the other side before signing the contract. Divorce is equally tricky and painful, whether it’s from a spouse or an investor at your cap table. Do everything you can to avoid it.
The more you grow, the more you have to lose. So the depth of due diligence should increase as your company’s funding targets grow. Before committing, get to know more than one partner at the firm and talk to other startups working with them. The investment and startup communities are relatively small. It should not be too difficult to gain insights about investors from other startups and scaleups.
Take as much time as really necessary. We were in off-and-on discussions with some investors for up to two years before agreeing on terms. We first met in their New York office, then in our office in Tel Aviv a couple of months later. I read up on the fund’s history and spoke to friends whose companies had been funded by the investor. When the time was finally right for a funding round, we agreed that there would be value in forming a relationship.
The importance of chemistry
Lastly, it’s essential to gauge the chemistry between the founders and the potential investors when you finally get a chance to meet. Good chemistry is a must as it will impact how you work and succeed together throughout your relationship. It will also give you the confidence to be open and honest, even through challenging times. Above all, good chemistry brings out the best in you: as a spouse, a business partner or as a startup.
When you finally click with an investor with a track record of investing in unicorns, you’ll feel it. And you’ll understand why they’ve succeeded. When you learn about the communities they came from and meet the companies they’ve worked with. You’ll then appreciate how their expertise in talent recruitment, marketing and sales can help you fulfill your dream. And you’ll also realize that a good investment is about much more than money.