As a global executive in the mobile tech sector, I have been fortunate to build reliable and trusted relationships with many venture capitalists (VCs) from three continents. For various projects combined I have raised north of $US80 million through more than ten rounds of venture capital financing from China, USA, France, UK, and Germany. I have also advised many colleagues helping them to initiate or secure fund raisings for deals worth many more millions of dollars. From this experience, I have identified challenges and key take aways that may help many start up CEOs
One of the key challenges founders face in raising money is the difference of experience between the founder and the potential venture partner. For instance, startups CEOs have often raised no prior or very few new rounds of funds. A VC partner, on the other hand, has generally raised funds for 100 to 200 companies. Also, few CEOs make the effort to understand the VC ecosystem, constraints, objectives, rules and fears, leading the CEO to have even less understanding than is required to negotiate a successful deal because limited understanding of the VC business creates misunderstandings and generate prejudices.
Here are my top seven takeaways to ease the fundraising process, to build sustainable long-term relationship with venture capitalists, and to close successful deals.
- It starts by NO
It is fascinating to decrypt the different phases of a relationship between a VC and a CEO. The start of the relationship is always a game of seduction. The media coverage of the many successful fund raisings deals can lead to major misevaluations. A typical VC partner receives per year in the range of 1,000 to 2,000 executive summaries, meets with 300 companies, and invests in approximately ten ! The selection process is a hard one, and leaves no mercy for small imperfections. While as the founder, you may be driven by a relentless passion for your company, it is important to understand that for the VC who is meeting with 300+ startups a year, they must be rational, not passionate. Due to the numerous companies with whom they meet, they initiate any single first meeting by searching the every possible reason to say “very interesting, but NO thanks”. It is not personal. Be ready for it; it hurts. But more importantly, find a way to break this dynamic.
- Team is king
The first three criteria: Once a highly successful entrepreneur and partner of a famous VC firm said to me “my three criterion to invest in a company are the team, the team and the team”. It is obvious for early stage investment, and still relevant for more mature companies. Indeed, in the life of the company, change of the environment will occur and might lead to major modifications within the company including a anything from a redesign of the product, a change in the target customers, or to a full repositioning of the company. Teamwork is key to do that type of pivoting. So do not set up the company with your friends. Set it up with proven professionals with a breadth of experience to cover the array of market opportunities for which VCs will invest in your company in the first place. This type of executive management will send two strong messages: a) the greater the team, the more successful will be the company, and b) if you do retain top professionals in their expert areas, this demonstrates they have risked their career to join your company and that lends credibility to their belief in the mission, vision and potential of the company and your products.
- Reputation is queen
Be trustworthy, operate with integrity: You are, as a team leader, the number one reason why a VC will invest in your venture. Your individual reputation is therefore important. It becomes crucial if you consider how small the venture capitalist community is. In France, UK, Germany you have approximately 100 VC partners total. As an example, France has 40 VC partners. They know and respect each other (most of the time). They share board seats, common investments, and former colleagues. VCs understand failure it is part of the core of their business. However, they have zero tolerance for bad behavior and hidden facts, as you would have with your team. As soon as a term sheet is signed, be fully transparent with your new investor. In the long run, choose your values, execute on them, and promote them; your values can be a foundation for the success of your team and therefore your company.
- Think big
Top tier investors look first at the “end-game” in the business plan, straight to the P&L, then to the team, and then the idea. VCs takes major risks when they finance CEO dreams and visions. To hedge this risk, they target high return on investment. It can only be achieved with major game changing companies; opportunities that have the potential to generate a high return on investment. This is particularly true for raising funds in the US. Recently I pitched a US investor, and at the end of the presentation the partner told me candidly: “you have amazing figures, growth, achievements, why you are not claiming you are a worldwide game changer like your competitors do with lower performance indicators compare to yours”. If you are targeting top ter VC, be a worldwide game changer. Pitch as a worldwide game changer. Recruit as a world wide game changer.
- Partner with your VC
Starving for money, or focusing on the value or on grabbing prestigious VC firm, CEOs forget the essential element: the partnership. Even, if you are fortunate to sign an investment agreement with recognized VC, at the end of the day, and for the coming years, you will work with one individual. So choose him or her first, and the firm second. Evaluate the partner with the same level of expectations as if you were recruiting him or her. On the sailing boat, your partner is the one that will be supporting you and advising you in the middle of the storm. Your company will go through major storms. I always run a due diligence and ask to talk to former CEO’s that went to Chapter 11 or were fired by the partner. This discussion gives you important insight about how robust is the partner, his influence on the fund, his commitment in portfolio companies, his contribution during board meeting and outside board meetings, and his expectations and mindset. It also provides many good and bad surprises—things you will want to know before you sign any deal.
- Valuation should be secondary
Due to media hype, VC portfolio valuation optimization, a variety of egos that will be involved (including yours), and because it is an easy element to understand, valuation is often the number one focus of the negotiation for an investment. My experience is that valuation should in fact be secondary. Unless you are part of the 0.01% companies that will have an amazing growth up to IPO, your company will grow with some ups and downs. To mitigate the risk, VCs request specific conditions such as ratchet and liquidation preference. The higher the company valuation, the tougher will be those terms as well as the effects of them. On top of that, the greater the probability will be to use ratchet and liquidation preference. If your company has a temporary down turn, and needs cash, you might easily have your share value divided by a factor of 2 to 10! Even if your company is back to major growth later on, you will not be able to rebalance this situation. So understand, and modelize carefully those terms, and focus hard on them because this will be your future wealth. Valuation will also undermine minimum exit price. If your post-money value is 200M$ at the last round, you have to assume your last investor will want to exit with at least 5X return on investment: 1000M$ target. Being acquired for 1 billion dollars significantly limits your number of potential acquirers and therefore can negatively impact your strategy.
- Terms & Conditions
Shareholders agreement, term sheet and investment agreements are full of specific terms and conditions. In the path of building an agreement with the investor it is always very difficult to define what are the standard clauses. Is a two times participating liquidation preference an exception or a basis? What should be the perimeter and compensation for non compete clause? Is payment based on milestones usual or not? There are no straightforward answers, and at the end focus and bargaining power will provide the right answer. Nevertheless, crowd sourced website http://thefunded.com/ is a very good tool to find the appropriate information. It provides close to 500 term sheets with detailed conditions from all over the world. You can then benchmark your terms vs the other terms. In addition, you can access ratings and comments about partners and firms. It is an amazing tool box for any CEO raising money. I have utilized it when I initiate fundraising (please note that beside being a user and contributor I have no interest direct or indirect with thefunded.com).
In summary, investors provide amazing means to help founder’s realize their dreams. It is therefore relevant and efficient to consider your selected VC firm as a partner, as well as a customer. As a customer, they are not always right, they do not know your business as well as you do, they might have different agendas and have different constraints. That said, at the end of the day, once you’ve secured a VC partnership, as a customer they will want your success as much as you do in the short and long runs ahead because your success will be their success.