Mark Henricks is reporting live from SXSW in Austin.
Many entrepreneurs anxiously await the touch of an angel to springboard their startups into full-blown funded life. But a panel of venture capitalists at SXSW Interactive suggested startup founders look closer to home before reaching out to angel investors, and even longer before approaching venture capitalists.
Family and friends should be the starting place for startups seeking funding, said Paul Lee, partner with Chicago venture firm Lightbank, which includes Groupon among its portfolio companies. If you can convince your intimates to put up $50,000 to $100,000 in seed money, Lee said, that tells potential angels that you can sell the idea to others.
That doesn't mean entrepreneurs should unduly exploit personal and family connections. “Be honest,” Lee said. “Tell them they are likely to lose that money.” He and other panelists at the Investor Spotting 2012 session in Austin warned, however, that founders should not to try get too much money from their personal circle.
“I hate it when companies raise like $18 million from friends and family,” Lee said. One reason is that larger sums usually involve larger groups of seed investors, and that can complicate the negotiation of a term sheet detailing later investments.
Triton Ventures partner Laura Killcrease agreed that having a large number of seed investors was seen as a negative for her Austin-based venture firm. She also advised founders to avoid trying to place a value on a fledgling startup for seed investors. “I suggest you make it simple,” she said. “Make it a convertible instrument with some warrants.”
For one thing, she said, it's difficult to accurately value a startup. For another, it removes one potential stumbling block in later rounds of investment. “No one gets to argue with the later VCs over what the real value is,” she said. “People come to agreement much quicker. And quicker is important. I've seen too many companies lose time arguing over what the value is.”
Ric Fulop, a partner with Boston-based North Bridge Venture Partners, said professional investors like himself usually want to take their shares in the form of preferred stock, so that if the business failed they would be paid off first. He added that North Bridge wants the founding team members to be vested over a period of no less than four years before they are able to sell their shares. North Bridge always likes to take a seat on the board, he added. “And we tend to buy 15 percent of a company all the way up to 30 percent,” Fulop said.
When it came to the best way to contact a venture capitalist once the groundwork was laid in earlier rounds, Fulop warned against the direct approach. Instead, he suggested looking at a venture firm's portfolio, contacting entrepreneurs in those companies and trying to get them to arrange an introduction. “I don't think venture guys look at stuff that comes in over the transom,” Fulop said. “They trust their networks.”
Photo credit: Mark Henricks