How to maintain delicate relations between investors and founders
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Photo Credit: Flick'r, CC-By-Victor1558

How to manage the respective roles as either a founder of a startup or as an investor in a venture is a major issue that needs to be rightly managed in early seed ventures and startups in general in order to achieve success

Photo Credit: Flick'r, CC-By-Victor1558

Photo Credit: Flick’r, CC-By-Victor1558

This guest post was written by David Rashty and originally published on JumpStartCTO

This article expands a bit the issue of the kinds of relationships there are between investors and founders. How to manage the respective roles as either a founder of a startup or as an investor in a venture is a major issue that needs to be rightly managed in early seed ventures and startups in general in order to achieve success.

What role should investors take?

The kinds of relationships there are between seed-investors and start-up founders is complex. In the beginning most founders try very hard to capture their investors’ attention and willingness to invest their money in such a high stakes venture. But once this initial investment is made, all the power is turned over to the founders to do with the money as they best see fit, leaving most investors out of the loop.

Routinely founders do not seek the advice of their investors to review or help in the important decisions that are needed to be taken for the venture evolve.

In the early stage of seeded ventures, after the pre-seed or seed investment is given, most founders are reluctant to give up any power and keep most of their equity in their hands, giving them complete control over the company and all its decision making processes. These decisions are done often without involving the opinions of the company’s external investors. Sometimes the early seed venture investment package will include contributions by several investors, some of which are not equal in their holdings, which therefore affects their vested interest or ability to help with the venture.

Investors, for their part, are usually not interested in getting too involved in the daily operations of a new start-up anyway. But I have found that there is a thin line between taking care of one’s investment and making sure that the company is taking the proper steps towards building the company. An investor ought to make sure that the venture is making the right decisions, while on the other hand, let the founders of the company run it as they like. Obviously, striking the right balance between both sides of this thin line is a delicate and complex issue.

How can investors help early stage ventures?

Let’s start by considering a given investor’s background and knowledge. Sometimes there are savvy investors involved, ones who have their own unique expertise and track-record with startups to offer. Certainly, consulting with them for their advice can perhaps save you from making some of the mistakes that early seed venture often make. Avoiding needless mistakes will make your company be at a higher valuation for the next round of funding. By showing a better engagement with users might mean better profit margins further down the road.

Nevertheless some founders find it difficult to share their decisions with investors
because it may risk some of the freedoms they have with running the company in general. Although it is important that investors be treated as integral partners in the venture, and while it is also ethically important to include them, some of the important decisions must be left to be taken by the founders themselves. A balance needs to be met where founders can approach and involve their investors, and if they are interested or able to help, to ask for their advice in the critical decisions they make, without losing any control over the company.

This problem traverses way beyond the problem of early seeds. Sometimes this story repeats itself with mature companies where the majority of equity is held by investors and venture capital firms, and where there is a board of directors that make all the most important decisions. VC’s, although more powerful than the a single investor, are sometimes struggling with their inability to change the course of management decisions, and in more severe cases, are also unable to understand what the real facts are on the ground, and unable to go behind the numbers and the board room presentations.

What should Investors remember?

Early stage investment is always a very risky kind of investment to make. From the investor’s point of view, any way that one can lower these risks is valuable. By assuring the founders of some of his experience and expertise, he may be able to help them avoid some common mistakes. On the other hand, investors usually don’t have the time or the desire to be too involved in the daily running of the venture and sometimes more than happy to be less informed of day to day operations.

When it comes to company voting rights, some investors may insist on adding rights to their terms of investment which allow them some power over the decision-making process, in this case they will contribute directly with the specific decisions that are critical to the venture’s evolution.

The key is to strike the right balance with this relationship between investors and founders is by keeping seed investors informed and be able to use their knowledge and advice at critical decision points. I believe that in many cases, such arrangements have more chances for avoiding mistakes, which may be critical to the success of the venture. Founders should see their investors as partners and should give them some ability to participate in making important decisions.

Founder’s fear of investors, of their probing into their daily decisions is in most cases irrelevant. Investors do not want to run the venture, nor do they have the time or resources to spend, nor the interest to be that much involved either, so therefore, keeping the borders of responsibility on both sides of their respective lines is a scenario where investors are involved in the venture but not too much a part of it. This builds better relationships between founders and seed investors.

Summary

The relationship between seed investors and venture founders is complex. What is needed is a situation where investors have some control over their investment, because in most cases examples of this being a high risk investment is clear. Market data shows that the reason why many early seed ventures fail is in some cases due to the company making bad decisions or because they have had an inability to act spontaneously when required. In between, there is a place with more room for experienced and knowledgeable investors that actively help founders in their critical decisions, but also make sure to not get too involved in the day to day operations of the company.

They key is in most cases in the founders hands. To overcome this fear, all they need to do is remember that the reason why they have to give their investors some ability and control is because of the obvious fact that they already are involved in the direction of the venture and became so when they first invested in it.

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