like the flood of pandemic-era venture capital, startups must avoid the scarcity trap associated with the hunt for dwindling investor dollars. And as the markets turn, founders need to remember the fundamentals they’ve learned in times of plenty.
Investors are retreating as fears of a recession mount. In the first quarter of 2022, global venture capital funding fell 19% to $143.9 billion from the record high of the previous quarter, according to CB Insights.
Whether you’re looking for angel investors to seed your business or later lenders to help you scale, the partners you choose today will impact the future of your business – from how you run your business from day to day. to your exit strategy. That’s why it’s important to pick investors who are a good match and have a track record that shows how they might trade when the chips are low.
It is crucial to understand who your partners are before you leave them in the tent. Below, we discuss the key factors startups need to consider when evaluating investors in a changing landscape.
Kick the tires and get references
Check with a potential investor’s portfolio companies, both current and past, to see what their experience is. You should do this without violating non-disclosure agreements, but an important question is how investors behaved in past recessions. For example, in the second quarter of 2020, when COVID-19 rocked the global economy, did they offer portfolio companies a bridge through uncertain times or tell them to find their own money?
Early in the pandemic, investors at a venture-backed technology company we worked with helped the company control costs, but initially refused to write checks. They also tried to use their blocking rights to prevent other investors from backing the company, then offered it a term sheet significantly lower than the offer they were blocking, in an attempt to take control of the company.
Choosing the right partner for the right stage of your business can make the difference between building a multi-billion dollar business and losing control of the business.
We were able to work with the company to prevent that. But these were people with sharp elbows, and the company was aware of information in the public domain about those same investors that should have been noticed. Look out for such signs if you come across them during your due diligence.
So what can you do? Ask around your network (including your attorneys) and the investor’s existing portfolio to see what kind of reputation an investor or fund generally has and what value they’ve added to the companies they’ve supported. You can also ask funds for a reference to a portfolio company where their investment has failed.
Talking to the CEO of a company where things haven’t gone as planned can shed light on how an investor behaves in challenging circumstances. Like everyone else, investors have reputations and inclinations, and this is information available to founders, if they’re inclined to look at it.