One of the most difficult things for founders raising capital is how to validate the promised value added of a VC before signing a long-term partnership. Faced with Latam’s early stage investment industry too young to report meaningful results , entrepreneurs struggle to discriminate among investors (over) selling similar credentials and support. Of course, talk is cheap. As most experienced founders know, nothing beats talking to the biggest number of backed teams to distinguish truth from bluff. However, there is also another more straightforward way to understand your potential investors: look at how she manages her own firm.
As you begin the conversation with a VC firm, you will start receiving signals and noise from the other side of the table which may be invaluable to confirm or reject a potential partnership.
Signal 1 — Great teams think alike
The Latam ecosystem is growing and consolidating but most of the local VC firms have only been around for 3 years. More often than not they too are building their organization while evaluating, investing and monitoring startups. As with the company you are building, some important early decisions will determine the future of their financing boutique. Moreover, most seed funds work with similar limited resources or around 3% of the size of their funds per year — that’s $120K a year for most of INADEM’s seed funds for example.
First, understand the culture of the group. Firm’s culture are in general marked by the founding partners and their management. Look for signs of work ethic, hierarchy, team work, risk tolerance. transparency, competitive spirit, grit, sense of humor, etc. These signs will often come from office set up, attire, language, email style etc. Second, evaluate the team that will support you. If talent is important for scaling your startup, it’s even more important for VCs. Analyze their background and interactions. Are they passionate, knowledgeable, diverse, honest…? This will not only tell you about how the fund might interact with you but how capable the organization is to attract, retain and manage talent. Third, explain the fund’s thesis. Investment thesis are as critical to funds as the business model of your startups. Check if the thesis is clear, relevant, unique and consistent with the portfolio and the team experience.
Most of the promised value-added relates to helping founders scale organizations. If the VC firm you are facing has a group of focused, talented, and driven team members to help you win; if you find a good fit between the organization and its mission; then the investors will be able to help you build a great company. Otherwise, it’s a bad sign.
Signal 2 — Onboarding
Evaluating early stage investment opportunities is hard. It’s all about investing in upside and strength. However, upstream — institutional investors have the responsibility providing thorough analysis and downside protection for their own investors. VCs need to strike the balance of having friendly and efficient processes and closing sound deals both legally and financially.
The investment process, from scheduling the first meeting to signing and receiving the money, remains the best predictor you have of your future founders-investor relationship. Most investors will describe themselves as founder friendly. Nothing betrays a friend more than a long, uncertain, opaque, time-consuming and complex investment process. Today, VCs may require answers to questions you haven’t even start asking, pristine financial projections, information data rooms and legal documents you have never heard of. You will be asked to go through hoops and loops of special committees, LP presentations, and investment committees for a $250K check. Even if you end up receiving a reasonable term sheet at the end of the process, your new partner may have cost your company in clients, team morale and time. So your smart money partner may have cost your company before she starts adding value.
What’s hard about fundraising in Latam is that even after you successfully navigate the mind field, VCs will condition their investment to you getting two or three other funds on board. In general, it’s great to have several VCs helping out but what does it tell you about your potential investor that she requires validation after such a long process.
Noise 1- Spotlights
Whether your startup is a media darling or you have been ignored since launching, you already know media mentions are not driven by past performance and are rarely good predictors of future success. Casting a possible financial backer and casting sharks are two different capabilities. The same goes for guest appearances in event panels. Memberships, titles and friendship, more than results, earns you a spot on most soundbite platforms in Latam. Moreover, VCs may use media to publicize their plans for the future. So many future mega early stage funds that hit headlines in WSJ or Bloomberg have barely been able to reach a first closing let alone their target.
Investors seem to be hungry for attention. We will always tell LPs and smart observers that attention is important for dealflow generation. If you are going to an industry event you will meet with venture capitalists that are there to meet with you. As for startups, spotlights are only a reflection of how good you are at pursuing them. If the lights don’t show scars in the face of your potential backer, ignore them.
Noise 2- Trash talk
I’m sorry to break the collaborative chants but apparently VCs compete and that’s good for you! First they fight hard for LPs and then they fight to get your company on their portfolio. The lack of information and true performance indicators have exacerbated competition despite most VCs being active co-investors. So yes, VCs in Latam trash talk each other with founders. This investor will not cast the first stone. So much so, it feels investors would rather score a win with a competitor than help a startup thrive. Through rich story telling, you will hear investors critique portfolios, investment processes, partners personalities and of course, value added.
Before Latam’s VC industry starts showing objective results, you can ignore all together whatever negative things investors say about their competitors. The opposite may be a signal.
Starting a disruptive company and raising institutional capital is serious stuff. You need to be diligent and professional or face the consequences. Most of the time, your potential investors are professionals taking their chances to follow her dreams much like you. They deserve to be evaluated by their merits, much like you. Finally, after reading the signals and ignoring the noise ask yourself this final question: if you had capital to deploy in a fund, would you invest in your potential investor’s thesis and team?