Fundraising – what shapes how investors think

No obligation conversation

I’ve met a lot of founders feeling upset about someone not investing in their company. Totally understandable. But look at it this way - investors don’t have to invest in your company. Similar to kids in an ice-cream shop, they don’t have to buy until they find the flavour that's just right and may even walk away. After all they may decide to buy a candy bar, go to a different shop, or wait for another day. How would you feel if an ice-cream shop keeper would get upset with you for not spending your money there? And by the way, there are a lot of shops selling ice-cream, candy and toys to choose from - some investors spend most of their working time going from one to another and comparing. It doesn’t mean that each investor selects the best companies. Many poor investments are made, many great ones are missed (check missed opportunities, aka “anti-portfolios”, first published by Bessemer Venture Partners, https://www.bvp.com/anti-portfolio). But that’s hindsight and in the moment investors try to make their best decisions.

In fact, there are some strong incentives for investors NOT to invest. Fundamentally the same, they differ somewhat for different groups:

• Business angels. The head of one of the European national angels associations told me: “I invest my childrens’ money”. Fabulous framing – by investing angels take money away from their kids. Not an easy competition, is it? Add to that that the angels are under no pressure to invest at all and if they do they can choose any asset – public shares, T-bills, term deposits, etc. Only seeking superior returns and personal self-expression may counter-weight that.
• Institutional investors. This group has to deploy money during the fund’s investment period. If they don’t, it may negatively impact their own fundraising. However, similarly to angels, institutional investors invest someone else’s money – the money that their investors gave them to manage. That comes with fiduciary duty and being able to explain their decisions. Even if they never have to explain anything to anyone, they still need to raise the next fund - and bad investments tend to have very bad impact on fundraising. I’d argue that it’s better to not deploy the entire fund than consistently invest the money badly. The price of poor decisions is very high, often existential. Therefore, although they do have to invest, they are naturally driven to select what they believe to be the better investments.

Looking at it from another angle - investors don’t have a problem with a company until they invest in it. However, after they invested – it´s a totally different predicament, they will almost certainly have at least some problems.

In short, you have to raise investments for your company, while investors don’t have to invest in any one particular company. Hence, assume that a) the default is that they don’t invest, and b) you need to convince them otherwise. You can’t take offense at that. Even those who don’t understand your company and make little effort to do so are totally within their right to put their money where they want to. Turn them into believers or move on to the next bunch.

Greed and fear

I believe this is one of the key dynamics in the psychology of investing.

I asked ChatGPT to write a paragraph on greed vs fear in investing and this is what came out:

“In the wild world of startup investing, it's like there's this epic showdown between two heavyweights: greed and fear. Greed, the risk-taking maverick, whispers sweet promises of big bucks and groundbreaking victories, convincing investors that they're on the brink of the next big thing. On the other side, fear, the cautious protector of wallets, raises a skeptical eyebrow, warning about the wild rollercoaster of markets and the ever-looming threat of financial setbacks. It's a constant tug-of-war, with investors trying not to get too carried away by greed's charisma or paralyzed by fear's ominous warnings. Striking the right balance becomes the ultimate challenge”

Hard to argue. Except I think this is a bit too macro-level when it comes to investors looking at a particular startup. In my view, those two things don’t just fight with each other – at the same time they also work together in the same direction. At first, fear is the fear of making a mistake, making a wrong investment. Which feeds greed – the greed for potential loss of capital. That’s the subconscious starting point of any conversation. If the investment starts looking promising, then the fear turns into FOMO (fear of missing out) and greed turns into craving potential returns. That’s where you want to be.

Come see the lemmings in their natural habitat

I loved this comparison – “investors are like 6-year-old soccer players, all clustered up at the ball.” Everyone wants in on the same hot deals. The flip side is that if nobody is interested, chances are that everyone will be very cautious. We totally can blame the industry for this herd mentality and we would be right. Or we can explain why this is the case - human nature makes us uncomfortable alone in the dark trying to predict the future. We are much more comfortable holding hands in this situation.

But what we think about it is irrelevant. This is the fact of life to be conscious about. That means you need to:

•       get as many investors interested as you can. (Well, within reason, of course, but putting a cap on this number is a quality problem to have – I wholeheartedly wish you to suffer from this problem). This, by the way, is not very different from most negotiations, where having options and a lot of interest gives you a much stronger position. Such is life…
•       Be super clear about what you need next in your investment process. First you need to generate interest and conversations, then you need to move them into due diligence and so forth. Focus on the next result you need
•       And the main point - get someone to move first. Very often this is super hard to do. Everyone says “we like it”, but all seem to be looking at everyone else, so nobody moves to issuing a termsheet. Be brutally single minded about getting that first termsheet. Don’t put anything in a way of it, don’t allow any distractions, clear all obstacles as much as you can. Actions to get to it may differ, so think, think, think (or ask for advice).

Often, once you have a termsheet, you have a tool to turn the greed and fear dynamic in your favour and get others on board. Be shameless about it, use it to the maximum.

By the way, contrary to popular belief, lemmings do not commit mass suicide. They are smarter than that.

Who´s the daddy?

Anyone who has been in sales learns to probe for the decision-making dynamics. Actually, make it broader – anyone who ever interacted with a group of people. Why would you expect investors to behave differently? There is often an official decision-making process, an unofficial “power network”, influencers and the whole shebang. You can’t know all the inside details, but you should at least be aware they exist and try to understand them. A couple of example points:

• Angels vs VCs decisions. Angels most often make their own individual decisions. That doesn’t mean they are not influenced by others, be that co-investors, their successful buddies from the industry or just a friend they go for a pint with. VCs usually have a mechanism for collective decisions, which could be a majority of partners or a unanimous vote. The main consequence is that an angel can say both “yes” and “no”, while in a VC partnership almost anyone can say “no” (including a junior recent hire taking the first look at your presentation) but there is not a single person who can say “yes”. There are, of course, exceptions, e.g. a founding/super-senior partner in a VC shop will probably find a way to do the deal they really want to do. But those are exceptions that bend the world into the same rules.
• Group dynamics. Any group has its own dynamics, with leaders and followers, seniors and juniors, and the rest of it forming an invisible web. That is as true of investor syndicates as it is of VC partnerships. Understanding this could help, not understanding it could damage. You could get fooled by excitement of a junior VC who doesn’t decide much. You could fall for support by a senior partner who is on his way out of the partnership for whatever reason. You may not even suspect that two business angels don’t get along. Or you could be blissfully unaware that the guy who is interested in you is the one calling the shots. I am not even going to go into partnership politics and exchanges of favours, which still exists – you are very unlikely to hear about that unless you have a spy on the inside…
• Career impact. Quality of investments (i.e. company name recognition, financial return, etc) defines VCs’ careers. It is less true of angels, but is still true. Often the best deals are shared by a closed club. To be part of that club often an investor, angel or VC, has to have something interesting to show. Therefore, any investor to a larger or smaller degree shapes his future (career or future opportunities and outcomes) by their investments. You’d forgive them for having that thought in the back of their mind when talking to you, wouldn’t you? A classic example of this is a junior VC who is fighting for the right to lead his first “own investment” while trying to gain weight in his partnership at the same time. Of course, you’d rather be promoted by the founder of a VC shop or a famous senior business angel – if you have a choice, but you don’t always have it. In any case, helping that individual looking good in their own eyes and the eyes of the others (be that colleagues or co-investors) is likely to gain you a friend. 

One man’s meat is another man’s poison

A pretty obvious point. Many investors, angels or funds, specialise in particular areas. Drug development is very different from IT, energy is different from ecommerce, B2B is different from B2C. Moreover, all investors (aka people) have their preferences, likes and dislikes. Ice-cream analogy continues to work. If you know someone hates vanilla, you wouldn’t try to hard-sell it to them, right? So, you are better off figuring out if your proposition fits.  Of course, there are some that invest in a very broad set of topics, but even in funds that invest very broadly you often have people who specialise in or like a particular sector, stage, etc.  There is no harm in asking “what sector/stage do you mostly invest in? what are your typical criteria for an investment?”.

Show me the money!

Small detail - you may want to check if the investor has money to invest. With angels it´s impossible except by asking directly. It’s different for VCs - no institutional investor will tell you they are not actively investing, but you can ask about the vintage of the fund, which tells you where they are in their investment cycle (typical investment period is 5 years). Later in the investment period many funds shift to later stage investing and get more selective since they only have very few “slots” for new investments left. You can also ask how many more new companies they plan to invest in from the current fund. Once the investment period is finished, they can’t invest in new companies until they raise a new fund. So in that situation they will be looking at companies for the future, which can be very soon, in a while or never, depending on their fundraising fortunes.

There is a bunch of other things that you need to know – such as typical ticket size (investment amount), recent investments (when, how big, what kind of companies), etc. Easy to check or ask.

I will do a separate post on innerworkings of venture funds on my blog www.notostartupbs.com

To meet or not to meet?

What if you find out that this particular investor doesn’t have the money now or for some other reason would not invest? Do you still talk to them? Yes. Why? Because they can be an investor later. Of course, if they are a total misfit to you and you can’t see them investing in you ever – then probably not. Or if you have 5 solid termsheets already (but in this case let them know that that is the reason, this would allow you to come back in the next round with a good starting position).

Checklist

• Get a termsheet!
• Get a termsheet! (in case you missed it first time)
• What is your next goal and therefore step?
• Do you know their investment criteria (sector, stage, size, vintage of the fund, etc)?
• Do you understand their decision making structure, official and not, including actual decision makers, influencers, investor internal dynamics, etc?
• Do you understand their personal motivations, what drives them?
• Always – who else seems close to converting into a believer and making a move?
• Can you explain what investor gets from this investment? (Dah! Returns. But can you show how it could be achieved, e.g. who could buy your company?)