Partners/Investors
Think Twice
This week I spoke with three founders about the same subject: strategic partners/investors. One had already raised money from one (and regrets it), one was negotiating, and the third was thinking about it.
My advice: be very careful.
Let’s first explain what a “strategic partners/investors” means (in my mind): A strategic partner-investor is that company, that when you needed money and no investor was willing to give you any, you approached them because they are a possible customer or competitor (not direct). They look at your product and what you can deliver and think: “they are not asking for a lot of money, let’s do it and see what happens.”
You become their experiment, or as a founder told me:
“I’m the lab rat”
You need to be very careful when making deals with strategic partners/investors. Why? There is a common strategy that large corporations use, they help startups by plugging them into their existing flow so they can try and experiment with their service. Sometimes they even invest a small amount of money in them.
This sounds awesome at first. You tell yourself, “we have a partner now. They’re going to work with us and help as grow” or “we raised money! They are supporting us in our vision”. Sometimes that is true and they actually do. Many, many, many times it is not.
If the startup has success and the big corporation decides they want that action all they have to do is cut you out of the flow. That leaves you out on a lonely island. Your’e now in a worse place then when you started. You have a big team with no users. Your only option is selling to the big corporation or to a competitor.
Why?
Why does this happen? Why do founders take “ Strategic money” ?First because big companies have money and you don’t. You need the investment or the cash flow. Or both. Simple.
Second because you are in a grey area. You have proof of a product but haven’t converted users to customers, and maybe you can’t raise money from VC/Angels because you don’t have paying customers (its like the chicken and egg). You need money to get the customers. You are in love with your idea and you would do anything in your power to make your dream come true. Even get married to the devil.
Third, you do it as a strategy to approach an investor but you flip into the wrong side and the leverage works against you (read more here).
Example
Mahalo.com was a search engine that grew quickly and was being used by millions of people. Part of the reason it grow so fast is because Google was a strategic partner/investor. How did this play our? Most of the traffic Mahalo got was through Google.
The problem is one day Google changed their algorithm and affected Mahalos search and their traffic fell by 80%. “From break even, to negative 300k a month”. Jason Calacanis (Mahalos CEO) had to lay off the bulk of the staff.
Mahalo was an awesome effort by a killer team. We hit $10m a year in advertising (all networks), 15m uniques and we were in the top 150 sites in the USA. Matt Cutts killing the business really pissed me off as well. He just smiled and told me “you don’t have a penalty” with a shit-eating grin…. they targeted us for destruction and I had to layoff 80 americans working from home full-time.
You can listen to the story minute 23' here.
The point
My point in all this: Capital is important. But remember capital comes at a cost. In the words of Fred Wilson of USV you don’t want to be Twitters Bitch, dont be Facebooks bitch, you don’t want to be Googles bitch. Be your own bitch(http://techcrunch.com/2011/05/23/fred-wilson-be-your-own-bitch/). So while all capital comes at a cost some capital is just too expensive.
Here is a great post on “11 reasons why you should never take funding from a “strategic” investor” written by founder Hernan Jaramillo.
Disjunctive
So you are in a disjunctive situation. What should you do? Well, here is my advice:
1- Ask for advice (I know — redundant)
2-Try to write down all your alternatives before you take this path
3-Think about the strategy you will take to approach them
4-Have a Plan B (a parachute)
I know it’s not the best advice (its too general) but this is because each situation is very different to from each other. Just try to be careful and remember that strategic partners-investors should share your vision and want you to succeed as much as your mom wants.
PS: Hope you find this post helpful. If you did please share it with other founders. Also tell me on Twitter how it went, I’m @JDcarlu
