Saying "no"

Being an angel investor is a fantastic job. Every day you meet great new people, cool products, exciting technologies and interesting new business models. Nothing (in business life) is more exciting than seeing a company grow from two-guys-in-a-garage stage to become a relevant or maybe even dominant player in a large industry sector, and as an early-stage investor you have a realistic chance to be part of some of these success stories. Maybe it’s the best job next to being the Pope, to quote former German Vice Chancellor Franz Müntefering (he said that when he became Chairman of the Social Democratic Party in Germany, probably one of the scariest jobs in German politics).

There’s one thing that sucks though. You have to say “no” all the time. Whether you’re a private investor who invests his own money or a VC managing a fund, chances are that for every investment you make you’ll have to say “no” at least 20-50 times. If you make a couple of investments per year, that’s a lot of “no”s.

In fact, if you don’t see something like 20-50 startups for every investment that you make I think it’s unlikely that you’re doing a good job and that you’ll make money. It either means that you have poor deal flow (investor lingo for investment opportunities that you have access to), that you don’t have prudent investment criteria, or both. The best VCs see hundreds of deals for every investment because they have the best deal flow and invest extremely selectively. That’s even more “no”s.

Now, I don’t have an issue saying “no” to a founder after having taken the time to evaluate his startup carefully. Whether I’m not convinced of the product, think the market is too small or feel there’s too much competition – there are all kinds of possible reasons why I don’t want to invest in a company, they are legitimate, and I can share them with the founders. That kind of candid and competent feedback is almost always appreciated by the entrepreneur and will often help them focus more strongly on specific weaknesses of their business.

The problem comes in when there’s no specific reason for the rejection and the startup just didn’t excite you enough to make it into those maybe 10% of startups which you decide to give a full evaluation. In most of these cases most investors will say to the entrepreneur something along the lines of “We really like your concept but it’s a bit too early for us. We’d love to take another look when you have a little more traction”. Which is not untrue, but in many cases is just another way of saying “I don’t know the market well enough to form a real opinion. Somehow your product or your team doesn’t get me sufficiently excited relative to all the other deals that I have on the table. Or maybe I just don’t have enough expertise in what you’re doing. Whatever. Please come back when you can prove with real data that there’s a market for your product and that you’re able to sell it (and I hope that by that time you’re still interested in my money)”.

For the founder, answers like these are of course useless and can be quite frustrating, especially if he talks to dozens of investors and keeps getting similar feedback. That’s actually quite sad if you think about it – smart, young, passionate people who leave secure jobs to work 70+ hours a week to turn their vision into a reality get rejections and more or less useless feedback on what they may have to do differently.

So what can be done? Firstly, I think, it’s important for founders to understand that because of the large volume of potential investments which all VCs see, only a small percentage of the startups can get a close look. All VCs I know are very hard-working people but there are just not enough hours in the day to take a close look at every deal. Moreover, although whether or not your startups makes it into that small percentage is largely dependent on your story, there are also outside factors at work which you can’t control at all – for example, it depends on how many other attractive deals the VC has on the table when you start talking to him.

Secondly, many investors (myself included) could do a better job of making their investment criteria transparent – those factors which determine if you take a closer look at a startup or not. On most VC websites you’ll read something like “We look for exceptional teams which have built a great product to disrupt a large market”. Pretty vague. An example of someone who does it right is Bessemer Venture Partners. In their “6Cs of Cloud Finance” article they say, referring to the Customer Acquisition Costs Ratio of SaaS companies: “Anything above one means you should invest more money immediately and step on the gas (and please call Bessemer immediately because we want to fund you!) as your customers are likely profitable within the first year". Of course there's also a lot of gut feeling involved and VCs also have to trust their instincts when deciding which deals to pursue further – but it must be possible to distill some of this into criteria which others can understand.

So – I’ll post some details about my investment criteria here shortly. Promised. Until then I will occasionally point founders to this blog post to show them that I at least take the issue seriously.