When entrepreneurs raise money at the seed stage, they have a choice of either going to angel investors or VCs, and each has pros and cons.
The advantage of going to VCs is they have deeper pockets, and because they are professionals, they have a well-structured process. If they fund you, their ability to give you more money as you continue to grow is much better. They can often add more value, because of their networks and domain expertise. This is why VCs are often a port of the first call for lots of entrepreneurs. However, because of the constraints under which VCs have to operate, they will only invest in companies which have reached a certain degree of maturity. Typically, they need to have paying customers and have proven that they have developed a sales process which they can scale up. Most startups are too early for VCs because an investment in them would not move their needle. This is why startups are advised to reach out to angels after they have finished exploring bootstrapping and raising money from friends and family.
The problem with angels is that the ticket size each angel can write is limited. Typically, you need to deal with a group of angels, each of who contributes a small sum, which is why they invest collectively. This is why you need to go to a network or a syndicate so that you need to deal with only one person. However, the downside is that their processes aren’t well defined since the network is often informal. You have to talk to five different people, partly because people within the network keep on changing. Because there are so many people involved, it can get a little bit messy, because you don’t know whom you should be talking to. Also, there could be a difference of opinion within the network itself, and this makes things a little bit sticky.
The major advantage of talking to angels is that they are spending their personal money, which means they’re able to sign cheques far more quickly, once they’ve decided that they want to back you. VCs need to follow a very rigid, structured process because you have to go through due diligence and their investment committee, which means there are lots of boxes you need to check off.
In order to combine the best of both worlds, I invest through my family office, and this allows me to maximise the value we can offer to entrepreneurs.
Because it’s personal money, we can say yes and no fairly quickly. We’ve defined our sweet spot, and have published our investment thesis online. We share this on our website so that entrepreneurs can judge whether we’re the right fit for them. This way they save precious time because they know whether they should be coming to us, or looking for someone else. After all, we can’t be right for every startup – some are too early for us, and others are too advanced!
Because I post actively, we are automatically forced to follow what we say – otherwise, we will be taken to task. This keeps us disciplined and honest as well because an entrepreneur can point out to use when we are not walking our talk!
I enjoy engaging with entrepreneurs, because the guys are smart, and have a lot of domain expertise. We can be flexible and bend our rules when we come across a founder we fall in love with – we are not locked into a particular thesis, unlike a VC, who has to define up-front, to his limited partners what kind of companies he’s going to invest in.
When the company is doing well, and we are happy with the attitude and performance of the entrepreneur, we have the ability to add more money as the company grows. We keep a lot of dry powder, as we want to double-up on our winners. We understand that our hard work only starts after the check has been signed!
Having a family office forces us to be disciplined and systematic, and we teach our founders these skills as well. We track our investments diligently after the funding, and this is part of the value which we can add to an entrepreneur because improving his corporate governance helps him to attract the next round of funding.
Now we will not pretend to be all things to every founder. We don’t have domain expertise in lots of fields, and we’re pretty up-front about that. However, we continue to invest across all domains because we think it’s the entrepreneur’s job to be the domain expert. He will usually have mentors and coaches in that field, who can provide him with the guidance he needs. Our ability is to add financial discipline and make sure that he shares reports with us on a regular basis, which allows us to help him to look at the big picture. We get him to focus on the 2 or 3 key levers of profitability because we want him to get to cash flow positivity as quickly as possible. Once he reaches this stage, he is the master of his own fate and is going to become far more attractive to VCs.
We think of ourselves as holding his hand, until he learns to walk. After he has finished the 18-month runway our funding gives him, he will be able to run with the VCs, who can help him to grow further.
[This post by Dr. Aniruddha Malpani first appeared on LinkedIn and has been reproduced with permission.]