Strategic Partner or Silent Investor: Navigating Startup Funding

出版物 | 15 三月 2023

Most articles on the fundraising process for startups focus on what founders need to do to attract investors. It's often assumed that early-stage startups are desperate for financing and so will accept whatever investment offers come their way. The truth is that, while getting money in the bank (quickly) is important, finding an investor with the right profile may have a far greater impact on the success of the business in the long term.

So today we will talk about some things which founders should consider when seeking the right investor. Identifying the right characteristics to look for in an investor is not only key to avoiding the bad apples, but will also allow you to make your fundraising efforts more efficient through targeting the right demographic of investor.

There are several different profiles of investors in early-stage startups, each with their own characteristics and advantages, and here I’d like to highlight the following three:

Strategic Partner or Silent Investor: Navigating Startup Funding

Angel Investors

“Angel Investors” are typically high net worth individuals (or private entities) that invest exclusively in early-stage startups. Unlike most institutional investors, angels will typically take an interest in projects which they have relevant expertise or interest in, whether because of their own business background, professional experience, interests or other personal reasons.

Angels are often a perfect match for a startup that is looking for someone with a particular individual profile, capability and expertise which will be crucial to filling existing gaps in the capability of the founders and further grow the business. These investors will often have a personal investment in the success of the startup, and will be willing to put in personal time and effort to help the founders meet their goals.

However, individual investors often lack the institutional backing and wider industry clout of other types of investors. Furthermore, they are often acting according to their own personal interests and not beholden to any other stakeholders. This may make life miserable for the founders if the angel's vision and capabilities don’t align with those of the founders.

Venture Capital

Venture Capital (VC) investors are typically investment funds or other investment vehicles which invest in startup ventures. They generally target startups with high growth potential, accepting a relatively high investment risk for the possibility of an exponential return.

This type of investor is typically experienced in investing in startups and will have the necessary institutional knowledge in guiding the startup to the next round of financing. As long as the startup continues to grow and meet its development target, the VC investor will be willing to bring its resources and connections to bear in supporting the startup and ensuring future financing.

Unlike an angel investor, a VC investor will never have a “personal” interest in the business, its only interest is for the startup to increase in value and eventually sell its stake in an exit moment (e.g. a sale or IPO) to generate return on investment for its stakeholders. This may be attractive to certain founders, as good VC investors will often try to keep their interference in the management of a well-run business to a minimum.

VC investors can be a good fit for more mature startups, who are more interested in the institutional clout, reputation, and the ability to raise further capital in the future, rather than a hands-on approach from its investor.

Corporate Investors

The third type of investor worth mentioning here are institutional corporate investors. These are typically investment vehicles operated by large conglomerates. These will target investments in tech startups identified to be of strategic interest to their business. In the context of Macau, this type of fundraising is particularly prevalent in mainland China, where it is common for large tech companies to continually drive innovation through investments in and acquisitions of innovative tech startups.

Bringing in a corporate investor is typically one of the surest paths to success for an inventive product or idea, as a large corporate investor will have the necessary internal incentives and resources to support the successful development of the project.

On the other hand, the main goal of these corporate investors (which are often natural competitors to the startup) is often to gain control over the technology/IP and the eventual integration of the startup into their own business ecosystem. As such, these investors will typically expect a much higher degree of control over the management and future ownership of the startup.

Considering this, tech startups who benefit most from the resources that only an established corporate structure can provide are usually the best match for this type of investor.

Other Sources of Funding

It’s worth mentioning that besides the three main types of investors discussed above, there are quite a few other methods of raising seed capital for early-stage startups, such as government grants and subsidies, crowdfunding, incubators and accelerators, loans etc. Each of these will have their own advantages and disadvantages depending on the profile and growth needs of your business.

Long Term Growth vs Short Term Profits

Regardless of the profile of the investor, one of the most important issues that founders and investors need to be aligned on are the metrics for measuring success in both the short and long term.

A common business model for startups is to operate at a loss for years in order to grow and capture market share rapidly. Most VC and corporate investors understand this and expect to see the value of the company increase through the years. These investors are not concerned with the short-term profitability of the business.

This may not be the case for less sophisticated investors who look at their investments through more traditional metrics like revenue and profitability. Having worked with founders dealing with unhappy investors due to lack of profitability of the business, its fundamental that all parties in an investment round are in agreement with the business model for growth and development.

What does the Investor Offer?

It should be clear by now that not all capital is created equal, and the question that founders should be asking is – aside from the money - what do I most need my investor to bring to the table? Is it their industry background? Unique experience or know-how? Connections? Reputation? Corporate resources or structure?

Like in everything else, choosing an investor involves an opportunity cost - you are choosing a partner who will likely remain involved in the ownership and management of the company throughout its lifecycle, excluding other potential partners and influencing the future direction of the company.

This is also true of the whole fundraising process for the founders. You will have limited time and resources, and so should invest these in tailoring your business model and fundraising pitches to attract the right type of investor.

Finally, to help guide the fundraising process, the following are a few key questions that both founders and investors should discuss early on and be aligned on:

  • What is the development plan for the startup?
  • What are other commitments or intangible assets offered by the investor?
  • Will there be any commitments to revenue or profitability targets?
  • What will be the level of involvement of investors in the decision making and management of the company?
  • How will the invested capital be spent?
  • What does the startup need to achieve in order to carry out its next fundraising round?
  • What does a successful exit look like?