Losing funding is one of the biggest fears of entrepreneurs. How do VC managers address founder fears in an optimal fashion so that founders stay ambitious and maintain their mental health?
It takes many years to succeed, but bad news happens at many points. Investors only invest enough funds to reach the next value inflection point, leaving themselves the option to withhold follow-on funds if results are poor.
Skilful founders can turn bad news into a positive. Investors view a change of strategy (pivot) positively if the founders effectively respond after identifying a problem with their technology or choice of target market.
Even start-up companies that perform well will lose funding if founders cannot keep investors’ faith in the vision.
Founders, grant providers and angel investors cannot solve this as all rarely invest more than an initial amount. All have financial limits below what a high tech start-up needs.
It is hard to find new investors when your previous investors do not follow-on. New investors can interpret this choice by the better-informed inside investors as a negative signal of the start-up’s future prospects.
This problem is greater for start-ups in the high technical risk healthcare and cleantech sectors.
They take longer than software start-ups to achieve revenues while they generate evidence their technology works with high efficacy at scale and is safe. Their technology is also more specialised so suitable investors are rare.
Professional venture capital reduces long-term funding uncertainties
Professional venture capital investors realise this is a big issue and set aside at least half of their committed capital for multiple follow-on rounds, acting as a patient and stable financial lifeline for founders in the face of long term uncertainty.
At Stoic Venture Capital we have invested 70% of our funds in second and later rounds of finance.
Our partner Uniseed that we collaborate with has a similar profile to support portfolio companies.
Founders recognise the benefits of venture capital
Founders appreciate the benefits professional venture capital firms bring.
Research shows financing offers from high reputation VCs are three times more likely to be accepted by founders. This translates into rewards for these high reputation VCs as they pay 10–14% less for their equity than other investors.
Professional venture capital investors bring other benefits to founders besides planning for support of follow on finance. They also bring discipline to maximise the chance of a future exit.
Professional venture capital investors ensure lean start-up management, professional human resources and best practice governance principles are followed.
They focus start-up companies’ spending on projects they know create value for the next round investors. This way they resolve key uncertainties and so increase the value of the company so later rounds of finance are attractive.
High reputation venture capital firms’ investment acts as an endorsement for founders allowing them to more easily attract resources.