I was recently chatting with a good friend who’s raising her first round of capital.
“There are all of these people offering me introductions and advice,” she commented. “But it’s really hard to tell who’s just selling you and who’s going to be genuinely helpful.”
That observation pretty much sums up a typical fundraising experience for a first-time founder. Early-stage start-ups are at a delicate point in their lifecycle: they need money to keep growing, but they also need more than just an injection of capital to win. Cash is certainly a necessary commodity — even more so now — but the real differentiator is what comes with it: experience, perspective, and support. That’s what the right VC will offer you. Hitch yourself to the wrong one, however, and it can be a rough or even disastrous road.
At Costanoa, we strongly encourage all founders to do their due diligence on their potential investors (including us!) just like we do on their companies. Today a thorough diligence is even more important since the entire fundraising process is virtual and you might not meet the investor in person before making a decision. Diligencing will be that extra step to ensure you feel comfortable choosing the person who will be with you during all the highs and lows — when you can’t actually interact face to face.
Here’s how to determine if the VCs you’re talking to might be right for you.
Ask this question first.
Before you get deep in the process in this uncertain time, ask upfront how comfortable their firm is signing a term sheet without an in-person meeting. Your time is valuable; you don’t want to waste it if the answer is no.
Stress test the depth of the support.
We all know the power of a VC’s network is important. Introductions are useful, whether it’s talent you want to hire, advisors to give you product roadmap feedback, or potential customers. But they are just table stakes that require little effort on the part of a VC.
Instead, think about support in a more holistic way. What kind of company-building support can they provide? How have they helped other companies like yours be successful? Will they help you think through your go-to-market strategy, share thoughtful feedback on your management style, or do a deep dive on your financials? Ask them to walk through a time they helped a founder navigate a difficult situation — is it a specific example or broad and vague? What was the measure of success?
Ensure you genuinely like your primary partner.
If you’re a first-time founder, you want a venture capital partner who’s that perfect blend of constructive and empathetic, a mentor who will have your best interests in mind. Ask them how they handled a challenging situation with another first-time founder. You’re going to be in this relationship for at least a seven-year commitment. There will be the inevitable bumps in the road — that’s just reality — so ask yourself if you can envision this person in your corner, ready to listen and offer helpful feedback without nitpicking or blaming. If you can’t say yes, then your answer should be no.
One caveat: don’t get too attached to a particular partner. Things change and that person might leave. So make sure you don’t overindex on one personality; it’s imperative you like the rest of the team just in case.
Float scenarios and see what happens.
During a fundraise, you’ll talk to multiple VCs, which means more than one opportunity to test reactions to things that might come up for you and your business. Maybe you’re scenario planning in response to COVID-19, hiring a head of sales, having difficulty determining the right pricing model for your product, or thinking about how to structure your product team. Bring this up in conversation and see how responsive each fund is. Do they have suggestions? Can they relate it back to real-life examples with other portfolio companies? Are they willing to offer meaningful pre-investment support, like sending candidates your way or making connections? How they approach helping you is important.
Talk to their portfolio companies.
It’s perfectly acceptable — and necessary — to talk to founders within a VC’s portfolio. Ask the fund to specifically connect you with those founders whose companies didn’t have a successful exit or where the outcome wasn’t exactly what was intended. Ask how their VCs are advising and acting during this uncertain time — are they being supportive? How do they act in board meetings? Are they proactive or passive? Are they helping think through burn management? New forecasting plans? Product development? (Note: if the VC won’t make those introductions, it’s a bad sign and you should reach out to a few on your own using LinkedIn and mutual connections).
Ask these founders how engaged the partner was and how they operated in various scenarios. What did they wish they had asked during the process? What surprised them about working with the VC? What was the most useful quality, action, or support they provided? Would they work with the VC again if they started another company?
Some red flags to listen for:
- If the partner was prepared for board meetings. Some partners are on so many boards, they don’t bother reading board decks or come ready to ask informed questions. Not helpful to you.
- Words like intense, passionate, big personality, extremely detail focused. These aren’t deal-breakers but they are signals to dig in more. Someone who’s good with details is a plus — but someone hyper-focused to the exclusion of the big picture will be maddening. Intense or passionate? Sometimes that can simply mean a partner who’s truly invested and excited — and sometimes it’s code for jerk.
- How reactive they are. A great VC doesn’t ride the roller coaster that is start-up life, getting thrown by the ups and downs. Watch for their ability to maintain a healthy perspective when things get challenging. And the current environment certainly qualifies. How are they advising their portfolio companies in the midst of this pandemic?
Raising that first round is overwhelming at times — and COVID-19 has certainly added some complexity to the process. But if you ask good questions and listen carefully to the answers (and your gut), you’ll find your way.
Founders, what advice would you add?