When embarking on a fundraising journey, entrepreneurs are often tempted to ask their contacts, or even Google, ‘which are the best investors in my sector’. It’s an understandable starting point as they know the first question other investors will ask is which investors are leading the round.
There is no denying that scoring a top tier VC firm to lead your round can enhance your credibility, making that round and future ones easier to close. But for the vast majority of businesses, chasing this aspiration can be a time-wasting pitfall that is detrimental to their long-term success. Here’s why:
Prestige isn’t everything
Fixating on the big names in the investment world can be just a waste of time if your business isn’t at the right stage. Often, they are larger firms which tend to focus on fewer, bigger deals, particularly during downturns. So, if you’re a small, or earlier stage company, seeking a modest investment, they simply won’t look at you.
Even if the most eminent firms do find your company interesting, they still may not be the right choice. Yes, you could more easily close your current round with them on board, however, that may be detrimental to future rounds. More established firms tend to cull their portfolios more aggressively than other investors, potentially making it harder for you to raise again in future rounds, if they don’t join them.
Furthermore, there is a risk with some of the more prestigious firms that your company will be just another number. If, like many entrepreneurs, you want VCs to add value above and beyond their cash injection, it may be worth considering smaller, more niche investors with the specific skillsets or connections that you need.
Beware of conflicts of interest
Looking for investors in your sector can be a good strategy (more on that below), however, it is often wrongly applied by entrepreneurs. Seeing that an investor has recently funded a business very similar to your own, does not make them more likely to invest in yours – quite the contrary. Investing in your business could lead to conflicts of interest, particularly as, behind the scenes, the other company is likely to have aggressive growth plans that may cross further into your domain.
Avoid being drawn in by an investor having relevant expertise if they’ve garnered that know-how by working with your competitors. Think twice before uploading sensitive information to their websites and, as most investors won’t sign NDAs, beware of ‘fishing’ expeditions, where an investor is interested in receiving more information about your company, but for all the wrong reasons. It’s not their responsibility to disclose a conflict of interest when you first get in touch – the onus is on you to research them first.
Ideally, you should target investors who have a track record in your broader sector, or with companies that are complimentary to your own, but not specifically your type of product of service. So, for instance, if you offer healthcare diagnostic solutions then by all means target VCs that are active in the healthcare sector, but potentially avoid those with portfolio companies in diagnostics specifically. Also, don’t narrow your options by ruling out the vast swathes of sector agnostic investors who could bring a wealth of business knowledge to the table even if they aren’t specialists in your vertical.
It’s all about the best fit
In our view, there is no ‘best’ investor, just the best fit for your company – those that have investment goals aligned with your business objectives and who you can work well with, as let’s face it – the average entrepreneur and investor relationship lasts longer than the average marriage! Introducing investors to your company will bring a loss of some autonomy, so just like in love, there’s no point aspiring for the most popular investor if their aspirations and expectations diverge from yours, or if they won’t have time for you when you most need them.
There are numerous criteria that make up ‘best fit’. The key is to focus on the investors that are actually likely to fund your company, with a deliberate plan that prevents you from neglecting your business while on your fundraising journey. Fortunately, many of these criteria are objective, enabling solutions like Qodeo to save you enormous amounts of time, using smart algorithms to instantly match you with the right investors. Regrettably, some criteria, like the chemistry between you and your main point of contact at the investor firm, can be harder to determine and will require a meeting or two to figure out.
Below are some of the things to consider when evaluating if an investment firm is right for your business:
VC and PE firms typically have investment strategies that clearly define the stage of company they want to invest in (whether it’s seed, early, growth, expansion, etc). They do that for a reason. Earlier stage investments tend to be riskier but come with potentially higher returns, whereas more risk averse investors will ‘play it safe’ and go for later stage investments with more modest returns. They have usually raised the funds they manage by committing to a specific investment strategy, rarely leaving any wiggle room to persuade them to diverge from it.
You need to find investors that match the stage of your company’s development. If you’re an early-stage startup, focus on VCs that specialize in seed funding or Series A rounds. There’s no point reaching out to investors that specialise in expansion capital. By all means form a relationship with them if the opportunity arises but demonstrate your business acumen by not asking for an investment until you reach their preferred stage of development.
Similarly, if an investor specialises in early-stage companies and you need growth funding, consider whether you really want to give up the equity that early-stage investors would expect from a deal. We suspect not!
Most investors have a target investment size, and while this can correlate with company stage, it’s not a linear relationship – even early-stage companies can try to raise larger amounts if they have aggressive growth aspirations.
A firm’s target investment size will underpin the size of the funds they raise and how they structure their teams. So, there’s really little point approaching an investor about a larger amount than they aspire to invest. They may not even have that kind of capital available. They also won’t be interested in speaking to companies that want to raise a significantly smaller amount than their target investment size, as their internal team structure (and potentially expertise) won’t be setup to accommodate and manage smaller investments.
It may be hard to consider the longer term, and next round of funding, when you’re knee deep in the throes of a current round, but that is exactly what you need to do when considering which investors to target.
Your lead Series A investor is unlikely to be the lead on your Series B round, however you do need to consider if and when you’ll need follow on financing. Receiving follow-on financing from existing investors tells new investors that you’re worth a punt. It also can help bridge financing gaps when inevitably things don’t go exactly to plan.
It’s important to know in advance if your target VCs have a track record of participating in follow-on rounds, plus, critically, if they’ll have the financial reserves to do so.
Another critical factor in shortlisting investors is the extent to which their interests are aligned with yours. For instance, some VC firms prioritize quick exits, while others are focused on long-term growth.
Just as in relationships, divergent expectations can cause an endless cycle of grief and aggravation. It’s important to ensure your financial models are aligned in terms of the speed of your growth, the scale you want to achieve and your roadmap. You really don’t want to ‘get in bed’ (pun intended) with investors that will put undue pressure on you to achieve goals you don’t even agree with.
Strategic alignment can also include more tangible elements like resource alignment and business synergies, like having access to networks that could super-charge your growth. These resources and synergies are worth considering early on in your search, as they can make some investors far more attractive than ‘just’ the cash they bring to the table.
Many investors prefer to invest in specific locations so don’t waste your time (or theirs) approaching them if you’re outside their geographic remit. Having local investors can save huge amounts of time and money travelling (both pre and post funding), not to mention the likelihood of them understanding your local market or company culture better. That said, there are many reasons to opt for investors further afield, whether that’s aspirations to gain a footprint in a new market, or simply because they are specialists in your field.
Some venture firms specialize in certain industries or sectors, whereas others are generalists. The specialists will have a remit to only look at companies within their chosen vertical so there’s no point having them on your shortlist if there’s no match.
While you do want to avoid approaching investors who are actively investing in your competitors, finding those that specialise in your broader sector can be advantageous.
VCs with expertise in your market can add value above and beyond the cash they bring to the table. They can connect you to the right networks, offer advice on how to scale, share expertise, help with recruitment, and potentially also identify synergies with other companies in their portfolio.
Finally, with funding comes a loss of freedom, so it’s worth ensuring you’re reaching out to VCs who share your approach and have your back. It’s always tricky to strike the balance between availability and autonomy, but you need to identify firms that will want you to maintain your autonomy, while having the time available to support you when you need them.
This sort of information can be trickier to find on investors’ websites and often the best place to start is by looking at a firm’s reputation and track record. Are they known for treating their founders well, and would entrepreneurs who have worked with them in the past, choose to do so again?
Do your homework
Without wanting to sound like grade school teachers, we hope we have illustrated how critical it is to do your homework before wasting your time and money chasing the wrong investors. Venture firms look at hundreds to thousands of potential investments each year. Typically, less than 1% of these will culminate in an investment so it’s worth taking the time to approach the right ones, with a pitch that will resonate against their criteria.
Luckily, Qodeo can take a lot of the pain out of that initial research period – instantly matching you with ‘best-fit’ investors as soon as you complete your profile, telling us a bit more about your business. And as your business evolves, so too do your matches. Many of the 7,100 + investors on Qodeo use the platform to identify new investment opportunities that meet their criteria, so don’t miss out on being matched with them – start your free trial now (or sign up here if you are an investor).