What an investment decision mean to us

investAs venture capitalists, we are in the business of seeing and reviewing hundreds and thousands of business plans of young tech companies looking for their first or second round of external funding for scale-up.  How do we make the decisions with so many options, so much potential, so much uncertainties, and so much (often unreliable – by its nature) data?  As I hope to continuously improve my filtering abilities, I have developed this short list of the most important things we look for in the founding team.

But there is also a strategic point about how we invest which reflects what we understand “investing” to mean.  I was recently reminded of what the word “invest” in its Latin roots mean: to clothe someone with authority and power.

Part of the investment process for us is that the entrepreneurs we invest in have or gain some understanding of how we work and therefore how to work with us.  In fact, we sometimes deliberately slow down the “getting-to-know-you” process because we know the founding team will need to take time to learn about us.

It is also important entrepreneurs understand that VCs aren’t all the same, just as medical doctors aren’t all equally good.  Unfortunately, some entrepreneurs have also had bad experiences with certain investors and that makes it difficult for some of time to build trust with another set of investors.

We had a very interesting team discussion the other day.  There were three of us around the table: one a very experienced finance professional, the other a very experienced scale-up CEO who has founded some businesses both inside corporates and outside, and is currently focusing his time on mentoring entrepreneurs.

The upshot is for me to reiterate how an investment decision is different from just a business decision.  There are at least 3 aspects to this insight:

  1. We see the investment decision to be about entering into a partnership (a “term” partnership for sure but a partnership nonetheless) and not a transaction.  When I buy a wind turbine, I hand over the cash and I get a wind turbine to use.  The wind turbine is a productive asset and I have control over its use after the purchase.  And if something goes wrong, I can go back to the vendor to trigger the warranty or otherwise ask recompense.  When I make an investment in a young technology company, I hand over the cash and I get a share certificate back.  I often have little control over how the cash is used or how the “asset” (the company) is run, especially as I am usually a minority shareholder (unlike the situation of an M&A for a corporate, for example) and cannot easily “return” or “sell” the asset. A related but separate point: we do plan (or wait) for the right time to be involved, as one of my Investment Committee members just reminded me.  What is the right time merits a separate discussion, but we consider a number of things, including waiting til the company has the key ingredients and is “ripe” for scale-up, considering what the “follow-on” funding market and options are like, and so on. Perhaps we can say we are a “purposeful” partner: we invest with a good common understanding shared with the entrepreneurs what the plan forward is.  We most certainly do not see it as a transaction.
  1. My world is full of options.  When I buy a tractor if I were a farmer, not only are there performance warranties, I often have no other choice except to buy the tractor, because I can’t farm my land without a tractor.  For a pure financial investor, there is certainly the option of parking the cash in a bank, and there are also many other options, because investing in a company is not a prerequisite of making another asset productive.
  1. There is also a long-term “trust” relationship with my investors (“limited partners”). I have to present a summary of the investment case to my investors every time I make an investment (or an add-on investment, or a divestment).  Quite often I get questions, and when you have investors who themselves have a lot of investing experience, you often benefit from those questions too.  But ultimately, I invest their money on their behalf and I also manage the asset on their behalf.  It is a ‘trust” relationship which is more than a straight-forward contractual relationship that, for example, is about a one-off transaction.

To summarise, we are in partnership with our investee companies as well as our own investors.  We find it important to spend time understanding the entrepreneurial team, its team dynamics, motivations and shared history, and building and testing the relationship as we progress along the investment decision-making process.  In fact, the time, energies and often money we invest in the “due diligence” process is itself a kind of “investment”.

And because of the 3 points above as well as the fact that we deal with long-term (or at least “term”) relationships where we expect things to go wrong – for those who doubt this, please read Ben Horowitz’s The hard Thing about Hard Things! – it is important to have “protective provisions” or rights in the investment documentation.  It is also important to find good partners!  As we contemplate entering into a partnership, and especially when there are trust relationships involved, we would take time to understand the expectations of the various key parties, to iterate to find terms that align incentives, and, finally, the protective provisions are there to ensure there is a balance between founder, company and investor interests.

The upshot: we are in the business of helping build and fund sustainable businesses; we get there by building and investing in sustainable partnerships, not just within our own team, but also with companies.  Or to put it in even simpler terms, we want to find strong teams that when we add what our own strong team can bring, we know it will be an even more “winning” team, and one that is going to make a strong attempt at co-creating a new industry or disrupt or redefine an old one.

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