If you are a startup founder and you are looking for outside investment, here are five keys to working with angel investors and venture capital funds.
Investigate Your Investors
Potential investors are going to put a lot of money into your company, and they will investigate your company thoroughly. You should do the same with your investors. After all, you will be in a close relationship with these investors over a period of several years, and you will be giving up a great deal of equity and control to them. Consequently, you need to be comfortable with how they operate, and you need to know what they bring to the table. Talk to other startups that these investors have put money in. Are they easy to deal with? Do they respect the founders and employees? Are they accessible? Do they pepper the founders with 3 AM phone calls? What kind of business background do they have? Do they have good contacts?
Create a Competitive Environment
You will have greater leverage in negotiating favorable terms if investors have to compete with each other for a chance to invest in your company. If your startup is hot, if it has good buzz, there will usually be more than one angel or VC eager to invest. Creating a competitive environment, or even the appearance of a competitive environment, can be crucial to getting more favorable terms. You have to be careful with this, however, because if you go too far in playing one investor off against another, you could drive them all away and be left with nothing.
Your startup is your baby, but to the investors, it is just another company they might invest in. They aren’t being emotional when dealing with you, and you need to avoid becoming emotional as well. Be prepared to walk away if the terms aren’t good. This is especially hard when you have already put a lot of time and effort into closing a deal. Establish reasonable deal-breakers in advance, and stick to them.
Understand the Deal
Even if this is your third startup and you have been through a couple of financings before, your investors do this for a living, and you don’t. As a result, they will always have a greater facility with the deal terms than you. I recall sitting in a meeting with a VC a few months back, and the guy was speaking at about 90 mph. He was rattling off numbers, terms, and formulas at far too rapid a clip for his audience to keep up with him. He may have been speaking total nonsense, but it was all going by so quickly who could tell? The point is, he was completely comfortable dealing with these complex terms and ideas, while many in the audience were hearing it for the first time. It is crucial, therefore, that founders put the time into understanding each and every part of the deal. Rely on advisors, rely on lawyers, but make sure you read every word and ask questions. That leads us to our fifth key…
Get Your Own Lawyer
An angel financing or Series A financing is no time to go it alone. You cannot rely on Legalzoom to help you here. And you absolutely should not use your investor’s lawyer, or even a lawyer recommended by your investor. Your investor’s lawyer cannot represent you and the investor at the same time; it is a honking big conflict of interest. If it comes down to you or the investor, guess which one of you will get screwed? The same applies to a lawyer recommended by the investor. He is going to rely on the investor to continue to recommend him to clients, so he isn’t going to push that hard on your behalf. The risk of cutting off those referrals is too great, compared to the small amount he will make from you on this one transaction. You need to get your own lawyer, and you need someone who understands these kinds of transactions. The guy who does your patent applications or your parents’ will generally is not going to have sufficient expertise and experience in this area. Remember, the investors do this every single day. You need an experienced, strong corporate lawyer who can explain the deal to you, and negotiate hard to make the terms more favorable to you.