11 Investor Red Flags

Letting someone onto your cap table is irreversible, so how should you vet investors?

I wrote last year about red flags to avoid in your pitch deck and, somewhat ironically given his ousting of Travis Kalanick at Uber, Bill Gurley wrote a good piece about red flags investors look for as well.

But there aren’t many (if any) good resources for founders to know what red flags to look for when evaluating potential investors.

Remember — equity in your startup may one day be very valuable, and the opportunity to own very valuable things tend to bring out people’s worst tendencies.

So this week I wrote about 11 red flags to watch out for when talking to investors 👇

11 Investor Red Flags

Vision Misalignment

This seems obvious but you’d be surprised how often founders end up feeling trapped and like they need to shape their business or product decisions based on investor sentiment and opinion.

It can derail a startup.

Thankfully you can test for this.

You just need to share your vision for where you honestly believe the company is going. How will the product evolve? Who will your users be? Why will they care about it and stick around? How fast will it grow and through what channels?

Give the investor whitespace to disagree with you. Push back on them where you feel they’re wrong.

If they respond aggressively or dismissively, they’ll likely bring that attitude and opinion into conversations down the line where you actually need to make the choices you’re discussing now.

References Poorly

Get a sense of the investor’s reputation and what it will be like to actually work with them.

The best way is to reach out to founders they’ve previously invested in, especially if those companies went through tough times or failed. You can find an investor’s portfolio on their Crunchbase profile.

It’s harder to identify founders an investor passed on but, if you can, talk to a few of them to learn why it didn’t work out.

Founders are generally pretty candid with each other but make sure to ask for any negative feedback too. I’ll share a future post that details how to run a great reference call and actually get useful information from it.

Pressures You to Accept Quickly

If anyone should be in a rush during a fundraise, it’s you (not the investor). You’d rather be getting back to building and growing your startup.

Investors know this, so if they see you’re dragging your feet they know it means you’re likely shopping around with other investors too.

Good investors will want you to sign (of course) but won’t pressure you to do so or threaten to pull the offer off the table if you don’t sign within a certain period of time.

The truth is that you’re offering them a chance to get a seat on your rocketship — they’re not offering you a chance to get some money. Your startup is one of a kind, and capital is a commodity.

If they see things differently then that will likely carry through to the later stages of your relationship where your startup gets treated as a line on a spreadsheet.

Withholds Help (Until You Sign)

The world is not zero-sum. It’s positive-sum.

Good investors are passionate about helping startups, period, full stop. They won’t gatekeep their network, or refuse to give advice or feedback while you’re fundraising.

If an investor tries to use their ability to help you with something as leverage to improve their negotiating position, run away fast. That’s someone who’s looking to get a good deal for themselves, not help you build a great company.

Would you want them in the weeds with you if things go wrong at your startup? What happens if they withhold help in a tough situation unless you meet their conditions?

That’s the last thing you’d need.

Pressures You to Accept More Money than You Need

I’ll leave this one to Paul Graham:

From an investor’s perspective, putting in more money likely means they’re able to own more of the company (which is good for their fund but not necessarily for the company or you).

But the second-order effects are actually what make this truly bad, as PG notes. Having too much money too soon can lead to spending it indiscriminately and burning cash too fast and can put the entire company at risk.

I fought hard at my last startup to keep our Series A lean for this reason. After a16z came in to lead the round and we set a price with them we could have leveraged that to bring on many more investors. But we kept the round small and only raised an additional ~$3 million to avoid accidental unnecessary spending.

I’ll dive deeper into cash management in a future post.

No Flexibility in Negotiations

Your investors are your partners for the rest of the journey. They’re not (supposed to be) vampires looking to just extract value from you.

If you have valid reasons to adjust terms or even valuation/cap and they’re not willing to consider them, it sets a bad tone for the relationship — they may not respect the needs of the business or you as a founder.

Remember that you are offering them something that’s potentially extremely valuable. You have more leverage than you think.

Tells You Termsheet Terms are “Standard” or “Friendly”

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