Whether it’s through my incubator, Play Labs @ MIT, or as an angel investor or advisor to VC’s and startups in Silicon Valley, I talk to a lot of entrepreneurs about financing.
Well, not just financing in general, but the next round of financing for their startup in particular. If you are in Silicon Valley or Boston, it’s possible I’ve talked to you already, or will talk to you about your startup at some point in the future. I wrote this to make both of our lives easier!
I found that most startup founders (myself and yourself included) are extremely bad at gauging where their startup is in the process of getting investment from VC’s.
The problem is worst for first-time entrepreneurs, but believe-it-or-not, it also happens to many second time (or third time) entrepreneurs too. It happens in seed stage and series A and sometimes even in later rounds.
Here’s what you’ll probably get wrong.
To put it simply: The VC is not that into you.
More specifically, this is how the conversation will go. You’ll tell me that you’re looking to raise financing. I’ll ask you how it’s going. You’ll say to me that “it’s going well — we met with XYZ [VC] and they’re really interested!” If I’m skeptical, you’ll add “We also met with ZYX [VC #2] and they said we’re great too!”.
You might guess this happens a lot.
Sometimes for kicks I’ll call the VC (XYZ or ZYX in this example) and find that they have a very different impression of how your meeting with them went. While you’ll tell me “the VC is interested” it’s more likely they will say something like this: “Oh they’re nice guys and we’d like to stay in touch, but we won’t be leading this round.”
You can see the disconnect. The entrepreneur thinks they had a good meeting. Because the VC asked for some more information, the entrepreneur thinks that there’s a good chance that the VC is interested, and might lead their current round! The VC has no such impression.
Often, a few months after this initial conversation, I’ll ask the startup founder again how their financing is going “oh yeah, XYZ is still interested, but we just had a good conversation with XXX, who is really interested.” 90 days later, you guessed it, they’re going through the same thing with yet another investor while insisting that this new investor is “interested”.
I know that it’s frustrating for entrepreneurs to not know how to navigate the VC landscape. It’s frustrating for me too as an angel investor and advisor. Not having an accurate picture of how “interested” a lead investor is means that I can’t really give you good advice on your startup; this is patly because you’ve given me in-accurate picture of the startup’s funding needs and prospects.
Often, there is a fundamental change that’s needed in the business or the pitch (or both) before a startup is going to get the next stage of institutional financing. As entrepreneurs, we end up deceiving ourselves of where we “really” are with investors, which means that we avoid making the changes or pivots that our startup needs.
Result: When I hear from an entrepreneur that investors are “interested”, it usually means that the startup will not be getting any financing any time soon.
Some Won’t Say No
VC’s are notorious for not saying “No”, which complicates the picture.
We had a speaker at our accelerator who had sold his company recently. He told the story of how he met with a VC and the VC emailed him afterwards and said clearly, “Thanks for coming in but we’ll be passing on this round.”
“At first,” the entrepreneur recounted, “I was upset that this guy would reject me so quickly.” Later, he realized that this was one of the “good VC’s” because they clearly told him where his startup stood, unlike most investors who just strung him along.
VC’s are also good at giving what I call “false compliments”. I had an entrepreneur recently tell me that a very well known VC firm said they were in the top 5% of startups that they had seen. I’ve heard this myself from VC’s in the past. But notice that when the VC’s say this, they say it in lieu of actually investing in them. If you were really such a great entrepreneur, they’d be bending over backwards to invest in you, not giving you statistical compliments!
While this was frustrating to me at first, eventually I realized that the incentive isn’t really there for a VC to say no — rather they will say “you’re too early for us” or “I’d like to learn more about you,” or “we’d like to keep tabs on your startup as it grows, because we are interested in this market.”
Entrepreneurs by nature are optimistic people. You’d have to be optimistic to go start a company, given the odds of success. Unfortunately these kinds of compliments and fake interest leads to a lot of self-deception in the entrepreneurs minds, which leads to a lot of grief.
Did They Give You a Term Sheet?
The only question that really matters when gauging how interested a VC is in your startup is: “Did they give you a term sheet yet?”.
I’ve had some entrepreneurs bristle at this question and become defensive. “No, but they are doing due diligence and we are sending them information, so they’re clearly interested!”
By contrast, let’s take the case of an entrepreneur I know who was successful at raising a lot of money for his last company. A few years ago, I sat in on a call with him and a VC, and near the end of the call, the VC asked for some more information about the market or the company. The entrepreneur said, “yeah sure, I’ll send that along” and the call ended politely thereafter.
I asked the entrepreneur if he was going to send over the information the VC requested after the call. He said “no”.
I was a little offended because it went against my principles of “always stay true to your word” and “always treat people with respect”, “always follow up”. The founder clearly had no intention of sending of it along.
“Why not?” I asked.
His response was actually very thought-provoking.
“If he’s really interested, the VC will follow up with me and ask me again, and then I’ll send the info. Most of the time they are just asking out of curiosity or politeness, they don’t really need that info. Sometimes they’re just trying to look interested in you when they’re not, or they’re just educating themselves about the market, so it’s a waste of my time to follow up with them unless they are really interested.”
Watch What I Do, Not What I Say
I looked back at my own track record of times when I raised money easily and when it was difficult, and examined the behavior of VC’s in those instances. As I reflected on the VC’s behavior (not what they said verbally during the meeting, but how they acted during and most importantly, afterwards), I reluctantly had to admit that this entrepreneur had a valid point.
Most VC’s waste a lot of entrepreneurs’ time without being seriously interested in investing in their company.
If the VC isn’t following up with you, reaching out to you pro-actively after the meeting, there isn’t a very high chance that they are going to lead your next round. It’s still possible that they might become a follower in a future round after someone else becomes interested, but that’s very theoretical and who knows how far in the future.
So rather than saying “VC XYZ is interested” when I ask you how your financing is going, here is the rule of thumb:
“If a VC hasn’t given you a term sheet, or isn’t constantly following up with you about the next step to get a term sheet, then they’re not that into you.”
This is not about what the investor says in your meeting. It is about watching what they do after the meeting.
Think about your own behavior. How many times have we said “let’s get together again sometime” after a meeting but have never really followed up. Why not? It wasn’t a very high priority.
A partner at a VC firm told me that on average he might invest in two new companies a year. I found that really surprising, as I imagined that they would be investing in more. Over the course of a 10 year fund, with 5 years actively investing, that might be 10 companies.
It turns out that even though partners at VC firms spend more time doing other things (attending board meetings, helping with additional financing, making intros, listening to pitches) — i.e. things other than issuing term sheets —it turns out this is actually the most important part of the job.
Getting into a deal (whether it’s a hot deal that everyone wants in on, or a team of unknown entrepreneurs with cool tech in a hot market) is the most important decision that a VC makes. Getting into a deal determines the success not only of the fund, but also the partner’s reputation. If a VC was an early investor in the next Google or Facebook, it doesn’t matter how good they are at other things (being a board member, giving you advice, helping you recruit team members), or even if they are “nice guys” or “assholes” — they are considered a “success” in their industry simply from getting into the right deal!
VC’s only have so many shots at goal in a given fund. If you are going to be one of them, you’ll know. There won’t be a lot of doubt that they’re interseted. They’ll be on your case constantly to make sure they get in on (or lead) your round, and if you’re not getting them the info they need to convince their partners, they’ll let you know!
If the VC isn’t actively doing this, then they’re just not that into you. Sorry.
Wait, Isn’t a VC Investment a Process?
Now, of course, not every VC firm issues a term sheet right away. There is a process of getting to know you and the market. But if they’re just kicking the tires getting educated in a market, or they’re just mildly interested, you’ll see it in their behavior after the meeting. They won’t be very aggressive with you.
An investment for most VC firms is a major, multi-million dollar decision.
Think about how you make a major decision, such as starting a company. Let’s suppose you decided to start a company in the VR space or Bitcoin/crypto space. Did you decide to jump in and start a company immediately the first time you heard about VR or AR or crypto or mobile gaming? Probably not. There was a process of being intrigued by the market, educating yourself, making plans, meeting people, before you finally jump in.
The same is true of VC’s. They take a lot of meetings in order to learn more about the market. Almost every time I’ve gotten VC financing in the past, they had already decided one of two things (and usually both) —
- that I was an entrepreneur they wanted to invest in, and/or
- they had already educated themselves on the market and had already decided to make a bet in that market.
If they have reached #1 and #2, you can see how it leads to an investment. If they have reached #2, then they are just looking for the right entrepreneur to come along that has a company in that market. Is that you?
So, of course it takes time to get to these two factors to align at the same time. I’m not denying that. Still, most entrepreneur are not very good at gauging whether a VC is at either of those points.
How do you figure it out? Simple. Come back the question:
“Did they give you a Term Sheet yet?”
If the answer is no, a follow up question suffice. “Did they tell you the steps to get to a term sheet, and are they constantly calling/emailing you to hurry up those steps and shepherd you through that process?”
If the answer is still no, then I’m sorry, but they’re probably not going to lead this round.
Now, in some cases, it could in fact be true that they like you but you are too early. For example, you might be trying to raise a $250k seed round and they are used to writing $1 million checks; or they only participate in series A or Series B rounds and so it’s a mismatch for your seed round.
Again, this doesn’t mean they are “interested” — it means that they are saying no!
So, don’t tell me (or other investors/advisors) that an investor is “interested”. Tell us that they have given you (or will be giving you) a term sheet.
Everything else just means … that they’re not that into you!