Not all capital is good capital.
That was the advice shared by angel investors last week at a panel hosted by Ascender, an entrepreneurship hub and coworking space near Pittsburgh’s Bakery Square. Every dollar comes with strings attached and a long-term commitment to the investor. Early-stage founders should do their research before signing on — or risk missed deals, wasted time and potentially losing control.
Taking money from a VC is a “10-year marriage,” so it might not always be a good fit for every founder, Wolf Starr, the managing director of the United States Angel Collective, told a room full of founders. “I don’t think anyone should take venture capital unless they need to.”
Starr, along with fellow angel investor Kris Rockwell and local attorney Derrick Maultsby, shared their advice for early-stage startup founders looking to find the right investors and land better deals in the long run.
It’s never easier or more affordable to lay the right foundation than in the early stages, according to Maultsby, since “the mistakes you make today will kill a deal in the future,” he said.
Here are five tips for finding your first investor and landing the right deal.
Understand the investor-founder dynamics
Startups can raise capital from a range of investors, including individual angel investors, angel collectives and VC firms. Each comes with different expectations, processes and power dynamics, according to the panel, and founders should do their own due diligence on each type.
Angel investors are typically individuals who invest their own money in early-stage startups. Rockwell, who invests independently, said that being a solo investor gives him flexibility but also comes with risks, like missing red flags that might be caught with a second set of eyes.
Angel collectives pool resources and share deal flow, meaning members combine their capital to invest together and gain access to a broader range of startup opportunities than they might individually. These collectives can range from a handful of investors to hundreds of members, Starr said, so founders should do their research to know who exactly they’re pitching to.
Less common investors for early-stage startups are VC firms. These firms are professional investors that manage funds from institutions or high-net-worth individuals and invest that capital into startups. In exchange, VCs typically take equity and often seek substantial control over the company’s direction, according to the panel.
“There are definitely VCs that will eat you,” Rockwell said.
VCs are sometimes called “vulture capitalists” for a reason, Starr said, so founders should keep in mind that most VCs’ primary goal is to make a lot of money for their investors.
“When you look at an investor,” Starr said, “you need to know what value they bring [to you].”
Who you are matters more than your idea
A founder’s personality can be a deciding factor for angel investors considering an early-stage startup, according to both Rockwell and Starr.
“We don’t work with assholes,” Starr said.
In fact, the people are bigger than the ideas, Rockwell said. He added that investors often gravitate toward industries they personally understand, citing his own past interest in a local Dungeons & Dragons-related startup because of his love for the game.
That dynamic works both ways, though, according to the panel.
Sometimes investors will pass on an investment not because of the founder or the idea, but because they can’t offer anything beyond capital, Starr said. The relationship is a two-way street.
Play it SAFE
For early-stage startups, a Simple Agreement for Future Equity (SAFE) can be a founder-friendly way to raise capital without the pressure of debt, according to Maultsby.
A SAFE is a simple agreement that allows investors to convert their investment into equity in a future financing round, without charging interest or requiring repayment.
Unlike convertible notes, which are structured as debt and typically include interest and a maturity date, SAFEs don’t create repayment obligations or default risk.
Essentially, SAFEs offer a simpler, more flexible option for startups, while convertible notes provide more structure and investor protections.
SAFEs are becoming increasingly popular at the seed round level, since an investor calling in a convertible note “can be a death blow” to an early-stage company, Maultsby said. SAFEs help founders avoid this risk altogether, and they’re also cheaper to execute, saving founders significant legal costs.
Separate yourself from the business
Early on, founders need to think of their startup as its own legal and operational entity.
“You have to step away and look at the company as a living, breathing thing,” Maultsby said.
Before the due diligence process, the period of time when investors research and evaluate a startup to assess the potential risk in investing, founders should form a proper business structure, like becoming an LLC. Most venture funds, according to Maultsby, won’t invest in anything that isn’t a corporation.
Also during this time, good “data room hygiene,” or keeping all important paperwork organized, is essential, Maultsby said. That can include incorporation documents, contracts and financials. Keeping well-documented records for the due diligence makes it easier for investors to say yes, Maultsby said.
Always tell the full truth
Due diligence can be a long and in-depth process, and there’s no way around it.
At Starr’s angel collective, the process can take up to 45 days, he said, involving interviews and intense review of legal documents.
Lying during this process, or even misrepresenting information by stretching the truth, has killed deals in the past, Starr said. He recalled a time when a startup founder made it seem like they’d secured grant funding before they’d even applied for it. Even though the founder didn’t technically lie, it was still a breach of trust.
If a founder lies and then secures investment, that could be even worse for them than the deal falling through. Lying or cheating with the intent to gain a financial advantage is a federal offense that could result in fraud charges.
