Assuming I see a deal but don’t invest, I arrive at this outcome in one of two ways. I either dismiss the deal at first glance or I decide not to invest after doing in-depth research.
The regrets come almost exclusively in the former group.
The reason is that if I decide not to invest after doing in-depth research, it’s usually for a good reason. I know what I don’t like about the opportunity and I feel comfortable with the level of thought I’ve put into stress testing whether what I don’t like will meaningfully impact the outcome or not.
However, if I dismiss the deal at first glance, I haven’t even given it a chance. And the reason for this is usually because of a heuristic I’ve used to judge the opportunity. The heuristics I use reflect my biases and it’s these biases that sometimes lead to big missed opportunities and hence regrets.
Knowing this, it’s important to keep an open mind when evaluating new ideas. If I feel like I’m dismissing something too fast, it likely reflects a personal bias that could be blinding me to a great opportunity.
You regret what you never gave a chance more often than what you knowingly said no to.
I was recently thinking about the investments which I passed on that turned out to be big winners. There were two common threads across these investments:
1. I understood the importance of the company’s market and the company’s high level approach to attempting to win in this market. However, I couldn’t clearly envision the exact path that the company was going to take to achieve this outcome.
2. I was very impressed by the founders’ attitude, intelligence, ambition, competitiveness, and diligence.
Bringing these two observations together, here’s my learning:
Sometimes you will sense a market opportunity but not see the exact path which a company will take to win. This is due to a combination of two reasons. The first is that you don’t know the market in as much depth as the founder and the second is that even the founder acknowledges that he doesn’t know the exact path and will be discovering it as he goes along.
However, you may be fully convinced that the founder is a winner.
When this is the case, you should let the founder take you on the journey. Since he’s a winner, he has a good chance of discovering the path. And as he does, so will you.
In other words, an investor’s role is to know A, have a good idea of what B looks like, and to partner with the people who are most likely to get from A to B. It’s OK to not know the exact path between the two points.
Modanisa is an online modest female fashion retailer where we’re investors.
The company recently aired its first online video ad in English which targets an international audience. With over 65% of Modanisa’s revenue coming from outside of Turkey, this ad firmly establishes Modanisa’s position as an international e-commerce company.
Entrepreneurs who we decide not to back often request that I introduce them to other investors who may be interested in their business. Sometimes this request comes after a single email exchange, and sometimes after a series of face-to-face meetings after which we decide to not invest in the company.
Independent of the extent to which we engaged with the entrepreneur in the past, I don’t think it’s right for me to refer a company that we’ve decided not to invest in to another investor. The first question I have for such inbound opportunities that I receive from other investors is whether the referring investor is investing in the company, and if they aren’t that creates a big question mark in my mind. If you’re not investing, then why should I? So I don’t take an action which I would question if I were on the receiving end of the same action.
It’s important to point out that this analysis is valid for referral requests from investors. An investor’s job is to invest in companies so an investor should be investing in the company themselves for their referral to be taken seriously. If the referral is being made by someone who’s not an investor, the referral can be taken seriously even in the absence of the referrer’s commitment to invest. In this case what matters is the referrer’s credibility based on other signals rather than whether they’re personally investing in the company.
I think that my approach is also beneficial for entrepreneurs. Although it creates a short-term challenge in that you need to find someone else to make the referral, the referral is that much stronger when you do find an investor who is also investing in the same round, or a credible non-investor, to make it.
In school we’re taught to provide the right answers to given questions. We’re instructed to assume that the questions we’re asked are the right ones. As a result, school doesn’t provide us sufficient training in the skill of asking the right questions.
However, much of our happiness and success later in life comes from asking the right questions. Some of these right questions are universal for a given domain and some vary from individual to individual.
For example, in the field of happiness, I used to think that the right question is “what makes you happy?” I then discovered that, at least for me, the right question is “what’s meaningful without taking away too much of your happiness?”
In the field of success, asking yourself “how can I best apply my skills in the context of market realities to produce something that others want?” is a better question than asking “what am I passionate about?”
In the context of venture capital investments, the right question is not “is this a good idea?” but “what will this team do with this idea?”
In the context of building startups, the right question is not “how much money do we need?” but “what do we want to achieve before hitting profitability or raising more money, and how much money will it take to get there?”
You can make substantial progress in asking the right questions by consciously reminding yourself to do so. However, sometimes the only way to get there is to first ask the wrong question, arrive at the right answer but for the wrong question, and then learn from your experiences.
If you’re a fast growing startup, there can be a considerable difference between your KPI’s and financials at the time when you receive an investment offer and when the investment is completed. I’ve seen companies grow their gross profit by as much as 1.5X from the time of receiving an offer until the time the round is completed. The longer this time period, the larger this change in performance is likely to be.
However, the increase (or decrease) in a company’s performance during this time period rarely produces a corresponding change in investment terms. The terms agreed upon at the time of the offer remain the terms at which the investment is completed. For a fast growing startup, this can mean leaving considerable money on the table.
The solution is to, at the outset of your investment talks, set the terms of the investment to be contingent on the company’s performance in the time period immediately prior to the closing. For example, if a company’s valuation at the time of the offer is based on a combination of a gross profit multiple and an annual growth rate, the valuation at the time of the closing would be updated to reflect the company’s most recent gross profit and annual growth rate.
Whether investors accept this approach depends on the specific investor and the specific company. If you’re a fast growing company with interest from multiple investors, you’re likely to be able to negotiate this approach with most of them.
I was recently speaking with the co-founder of a successful regional tech business. We’re not investors in the company, and the co-founder was looking for insights into the Turkish market.
In the middle of the discussion, I was caught by surprise when the co-founder asked whether I’d like to join the company. This is the first time that I’ve been on the receiving end of a startup co-founder offering an investor a job.
I like investing too much to make the shift, so I politely declined.
However, the anecdote is a great reminder that great founders are always recruiting.
In April 2015, after AngelList launched pre-funded syndicates, I published a post about AngelList’s future direction. In the post, I wrote that “I wouldn’t be surprised if syndicate leads first remove an investor’s ability to opt out of investing in specific startups, and then start raising an aggregate amount of capital to invest in a number of startups during a fixed period of time (a fund) rather than on a deal-by-deal basis. In other words, AngelList may become the very system it was looking to displace.”
Fast forward 2 years and AngelList announced that it is indeed beginning to launch new VC funds on its marketplace. The fund sizes are small for now (sometimes as small as $0.5M-$1M), but will likely grow larger as the model begins to show results. This will attract more institutional capital like Bain Capital Ventures which is already backing some of the new funds. The funds are also beginning with a fixed 1 year life, but once again this is also likely to grow longer as the model is proven to work.
What I did not predict was that the general partners of these VC funds would primarily be current operators. This is the natural result of AngelList decoupling a general partner’s ability to add value from their ability to raise money. This favors current operators whose experiences give them an edge in the former area while their limited time makes it challenging for them to do the latter.
However, AngelList’s new program is unlikely to be limited to current operators in the future. Anyone who has the ability and work ethic to add value to startups but could use some help with fundraising is a great candidate for the program.
The program will help shift the skills necessary to be a successful venture capitalist away from the ability to fundraise from limited partners towards the ability to add value to companies. And that will increase the number of successful startups, which is a good thing.
There are several differences between investing in a private market like venture capital and public markets. For exampe, the former is less liquid and features much wider bid ask spreads due to this lower liquidity.
However, I think the biggest difference is the availability of information to investors. Specifically, public markets require that companies make available the same comprehensive information equally to all investors. Private markets, in contrast, don’t.
In private markets, companies choose what information to share with investors and can choose to share different amounts of information with different investors.
In addition, different investors have access to different amounts of information that isn’t shared by the company. This depends primarily on the investor’s network of relationships with parties like the company’s current and former employees, customers, suppliers, and other investors. The wider and the more relevant the network that the investor leverages, the more comprehensive information they’re likely to have.
Because private companies choose what information to share with investors, it’s important for private market investors to be trustworthy, helpful, and kind in order to receive this information.
And because there will still remain information that isn’t shared by the company, it’s important for investors to have and seek the input of a wide and relevant network to fill in the gaps.