Dear SaaStr: How can startup founders identify bad investors before signing any term sheets with them?
A few thoughts:
- Talk to as many founders they’ve invested in as you can. Do reference checks. You may hear 1 or 2 rough stories, bear that in mind. In fact, expect that. Don’t expect 100% support, at least not for folks at big funds that write big checks and serve on boards. But talk to as many as you can, at least a few. And listen. And ask how supportive they were vs. the others. You will hear advice from a lot of folks to talk to founders that failed, to see how the VCs supported them. I think that’s fine. But the flaw in that advice is that failures are messy. You get more value IMHO talking to founders that built something that got to some scale at least.
- Ask how many investments they write second and third checks into. VCs that don’t write second checks are less valuable. Their financial contributions will be mostly over after the initial check. At least know the answer here. All things being equal, it’s better to take money from a VC that often writes second and third checks. You probably will need one.
- See how pushy they are around control. If they insist on a board seat for < 10% ownership, that’s a flag. If they want control disproportionate to the cap table, that’s a flag.
- Ask if they’ll still be there in 10 years, at the same fund. Just ask. If you don’t get a clear answer, they may not be. It’s definitely a bummer if a VC doesn’t stay at the firm that invested in you. Ask. And realize that if they don’t run the place, and/or aren’t a “managing general partner” or something similar — there’s a decent chance they aren’t at the firm as long as you’re at the helm as CEO.
- Ask what’s the toughest founder-VC experience they’ve been through, and what they learned from it. They are always frictions. See what they’ve learned from it.
- Ask about some of their stories of bringing in outside CEOs to run their startups. See how it happened, and why, and how they think about it. Bringing in an outside CEO at the growth stage is a complex topic, with complex answers. Good to know how they think about it. Personally, I’ve never done it. I’m Team Founder or bust.
- Ask what their worst investment was, and why. They know. Let them talk about it for a while. Don’t interrupt or stop them :). You’ll learn a lot.
- Ask what CEO they’ve invested in that they respect the most. This is what they’ll be looking for from you. If you don’t like what you hear, it may not be a great fit. If you have options.
Finally, let me be blunt. As both a founder and a VC investor, I’ve taken money and partnered with folks that didn’t pass the above test with flying colors. Sometimes, your options are limited. Other times, you have to be aware that investors are just … investors. But at least ask the above questions to know what you are potentially getting yourself into.
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