Cash Is King, Smart Money the Queen
Startup funding is increasingly trailing off and layoff news continues to populate our LinkedIn and Twitter feeds at the start of 2023. Venture capital firms are hiding their coffers and keeping their powder dry after reaching exceptional highs. Entrepreneurs, as a consequence, are planning for the macroeconomic environment and adjusting their spending to protect from the headwinds. Thus, revenue growth and headcount are the main projections being revised downward.
Many say early austerity will be key to surviving in a scenario of little runway for early-stage startups or even in a situation of accelerated growth for more developed organizations. But another very relevant player during such times, apart from austerity, is the founders’ support crew: previous investors. One of the most frequent reasons for startups to fail is cash. Money, whether smart or not, does have to flow into companies to keep the operational wheel rolling, but cash is a consequence of a high quality strategy to generate it by selling and fundraising.
During the complicated times in the life of a startup, such as when the runway is shortening, it may seem like the only important thing is to get a check from any investor and survive. When time is vital, management might think that getting to know an investor or a firm is a waste of it. But dealing with an investor who doesn’t make a good fit might cost more time than dealing with the right one. Even during the negotiation of a term sheet, it might be necessary to educate the investor on the industry the startup is playing in, the valuation, the business model and so on. Using all that time for a “risky” investment that might end up in a one-year due diligence and zero funding by the end of it, is definitely not worth it.
Let’s Define Smart Money
The smart money concept essentially depends on the added value that an investment into a company can bring with it, or better said, with them (the investors).
Smart money does not depend on having extra time to go and look for it. The whole idea of fundraising is wrong if the plan is just to make a list of wealthy people. The concept has many intrinsic nuances that will arise when first getting to know an investor and when negotiating to bring her/him into the game.
Opening and Middle Game.
Why is it important to bring in only smart money? Where do I find it? How will I know when I have found it?
The perfect investor might not exist, just as there is no such thing as the perfect partner. So prioritizing one’s non-negotiables to sustain the vision for the business that keeps us up until very late every day will shape what smart money means to each of us. There are three important variables to consider:
1. Trust and commitment
The indicator to focus on at the first touchpoint with potential investors is the chemistry between you and them. Choosing a venture capitalist is about 70 percent like choosing a co-founder. If there is no trust generated from the first interaction, most likely it won’t be built thereafter, and thus, new stakeholders can become an ongoing distraction. It is utterly important to have a clear agreement that lets the management maintain autonomy. This simple approach is what will enable both parties (funders and founders) to get along.
VCs are always advising entrepreneurs, after all they get to hear them pitch, see them fail, exit, get acquired, etc. Unless they were founders themselves in the past, most investors haven't figured out this one yet: soft commitments are potential companies’ success disruptors. This is my piece of advice for the people on the other side and from a founder perspective about building conviction between both parties. When an investor makes a soft commitment: promises on a term sheet, on a follow-on, on connections or networking without having the certainty or capacity to hold onto the liability, the damage to the company can be fatal. A revoked term sheet might result in the company crashing for lack of runway. It may also damage the image of the founder and its reputation to the face of other committed investors, which in turn might also end up revoking their term sheets. A failed promise on a follow-on can also be brutal. if fundraising efforts were not executed on time, the company might soon face a financial crash. Also, failed promises to generate connections, leads, attract capital and so on will eventually deteriorate trust.
But compromise goes both ways. On the top management’s side: transparency on results, grit to achieve goals and openness to receive advice and feedback are also pillars for a good and profitable long-term relationship.
2. Strategic partnership
Partnering strategically not only means negotiating the best financing terms but also paying attention to what an investor has to help you grow as a founder and grow the company. Every founder needs advisers, and those who are willing to bring in their money and even their time and expertise to guide through the entrepreneurial path gives a two-for-one. Advisory and guidance may come in the form of shared knowledge or even in the form of exposure, networking circles, potential leads, industry insights, market intel and much more, especially if it comes from an understanding of the space where the company is operating (geography, industry, market, users, etc.). Investors may not dedicate their time to actively guiding a founder on the journey, but just talking about the company with the connections in
their world; potential partnerships, collaborations, users, providers or additional capital may just stream in on a recurring basis.
3. Alignment on goals and vision
Will the company’s growth be product/marketing/sales/customers-led? Will the business soon expand geographically? Should fundraising efforts be carried out now? Should differentiation be built on the product or on the business model?
All those definitions and a thousand more are already set by the time a new player wants in. The decisions to come will also be the responsibility of the leadership, so alignment is, again, a result of trust. When new shareholders join, she/he won’t have the certainty that the right decisions will be made in the future; an understanding, confidence and excitement about the founder’s vision must be what pull them into the game.
Cash is king and the king’s safety is one of the most critical strategic concepts in chess.The queen, however, is the most powerful piece on the board. In the startups’ playground, the same rules apply. We want to count on smart money so that we are not checkmated. As mentioned at the beginning, a company builder is no one without her/his support crew.
Especially during tough times, allies need to endeavor with the founders. When the market is building higher walls, when cash is running out or things aren’t thriving as planned, but the business is still looking promising, leadership is still proving it has impeccable grit, and the strategy is sure to be right, at those times, all an entrepreneur might need is just one small push, a little boost to keep on going, and if she/he does it right, their queen will be there to strive.