Founders who decide to raise venture capital sometimes do things unwittingly that could cause a venture fund to opt out prematurely. The most common is setting the valuation before chatting with VCs. Founders decide the amount of capital they want to raise, pick a valuation, and put all that info in their pitch deck. This can be OK in raising from angels, friends, or family, but it’s not advisable when you’re seeking to raise a round of capital from venture funds.

Founders usually don’t have as good a grasp of valuations in venture markets as venture funds do. Funds usually see a constant flow of deals, which helps them keep a finger on the pulse of market valuation for companies at a particular stage. Founders are usually relying on conversations with other founders or data they find online. While helpful, these sources of information may not reflect current market conditions or may not give founders enough data points to really understand market conditions. A fund could be interested but decline to meet the company because the valuation is unrealistic.

Another variable founders should be aware of is a venture fund’s portfolio construction. I won’t get into the details of it, but when a fund is raised, the general partner(s) communicate to limited partners how many companies the fund will invest in, the average check size of each investment, and how much of each company the fund plans to own. These and other factors help create the hypothetical portfolio of companies the fund will own and the hypothetical portfolio return (i.e., how the fund will return a profit to limited partners). If a venture fund receives a pitch deck with a valuation that’s too far high, they’ll be more inclined to pass on the company. A high valuation can mean a lower share of ownership in a company, which can throw off the portfolio construction. If general partners deviate too much from the portfolio construction they communicated to limited partners, they have to explain why. These kinds of conversations can cause some limited partners to decline to invest in future funds. Of course, founders usually don’t know a fund’s portfolio construction, so they’re at an information disadvantage when they set a valuation.

So, what can founders do when they’re raising a round of venture capital? Simple: leave the valuation out of your deck. Include the amount of capital you’re raising and figure out the valuation as you chat with venture funds. These questions can help you figure out the right valuation and evaluate funds:

• Ask VCs what the current market valuation is for companies at your stage. If you talk to enough funds, you’ll have your finger on the pulse of the market.
• Ask VCs what their average initial check size is and if they have an ownership target. If a fund says they write $1 million initial checks and aim for 10% ownership, you know they’re likely in the $10 million post-valuation range.

Figuring out valuation for an early-stage company is part art, part science, and part negotiation. I hope this will help founders go into their fund raises better prepared.

Outsiders are people who aren’t working in an industry and (usually) don’t have relationships in that industry. They’re on the outside looking in, wondering what it’s like to be on the other side. They don’t understand how the industry works, but they work to fill their knowledge and relationship gaps. Successful outsiders can penetrate the industry through hustle and a bit of luck.

The experience of being an outsider who makes it inside an industry puts these people in a unique position. They’re different from insiders. They’re engaged enough to see and understand the mechanics of how the industry works, but they’re detached enough to question the status quo. They see things from outside and inside the industry simultaneously. This perspective can help them identify a gap that others have ignored and understand the potential in exploiting it. Further, they’re uniquely qualified to come up with the right plan to exploit the gap in a way insiders and those still outside the industry can’t.

I’m a fan of backing outsiders. They’re driven enough to hustle their way in. They’ve likely got a chip on their shoulder from wanting to prove others wrong. And they usually have strong conviction. All these are great founder traits.

While some think outsiders are “out of place,” I view them as scrappy people who can be catalysts for innovation.

I connected with an investor who shared how he evolved from a start-up founder to venture capital investor. He had an idea of what it meant to be a venture investor, but he learned that the reality is quite different. His first year was one of not knowing. He didn’t know what a good company looked like, so everything looked good to him. He didn’t know what his approach to finding great companies was, so he tried a bunch of stuff. The list of what he didn’t know is long. But the big takeaway from his first year was that he could learn by doing. There’s only so much that people can tell you about the craft; you have to get your hands dirty to learn and get better.

Having always been a practical learner, I agree with the learn-by-doing mantra. Action produces information. You learn from the information, improving your decision-making and actions. This was true for me as a founder, and it’s true for me as an investor. Some of my learning has been painful and expensive, but I’m comfortable with that. Instead of being unhappy about the money, time, or energy lost, I consider them the tuition I paid for knowledge.

If I want to learn how to do something, I now think about ways to do it so I can learn (and maybe pay some tuition too).

I caught up with a founder thinking through the next steps for his start-up. It grew rapidly during the pandemic and raised venture capital but hasn’t been able to sustain that growth rate. A decent percentage of its customer base was venture-backed companies, so the recent tech layoffs have caused customers to churn.

The founder could stay the course and raise more venture capital. The challenge with that strategy is that the market likely isn’t growing as quickly and competition has increased because the problem is obvious to other companies and founders. This company’s solution is much better from a technical standpoint than competing offerings, but it will need to invest heavily in sales and marketing to attract more customers. That will be a costly effort given the slowing growth rate of the space and influx of competitors.

The other option is to position the company to be acquired by a larger company looking to enter this market. Big companies are trying to play catch-up in this market. They’re evaluating whether they should spend one to two years building a solution from scratch or buy a proven solution. The larger companies are also likely thinking they’ll be able to grow the solution quickly once their existing sales and marketing muscle is applied to this product.

This founder is at a crossroads. I suspect he’ll go the acquisition path and be ready to start another company in two to four years. He isn’t alone. I think 2023 will be bring more acquisitions of small players by larger players looking for quick growth or trying to fill the gaps in their existing solutions.  

I’m a huge fan of automation. My start-up was able to scale because we cracked the code of creating repeatable processes and automating them to gain massive efficiency. I’ve chatted with a few founders recently who also embrace automation—but too early. These companies are still trying to find product–market fit, but they’re automating some or all interactions with the customer. When I hear this, it’s a huge red flag.

In the early stage of a company’s life cycle, you’ve identified a problem and built a solution to it. You don’t really know how good a job you’re doing solving the problem (unless paying user growth is skyrocketing). You usually need to let users play with the solution and get feedback. The feedback usually leads to product improvements. This cycle repeats until your solution is so great you’ve reached product–market fit.

Getting feedback from the customer is a key part of the cycle. Sometimes a customer will casually write something that, when double-clicked on, leads to a eureka moment and critical product improvement. If you automate feedback collection in the early days, you run the risk of missing the opportunity to double-click on seemingly small pieces of feedback. Said differently, you run the risk of missing your eureka moment that leads to product–market fit.

If you’re early in your founder journey, consider deferring automatic feedback collection until later and making time to talk with customers/users. One conversation with a customer/user could change the trajectory of your company!

One of the traits I look for in founders is grit. Building something from scratch is hard. Lots of doors will be closed in your face, and you’ll hear “no” a lot (or nothing at all). Founders need to be able to power through all that and move the needle forward. When things look bleak, that’s when founders separate themselves from others by pushing through and finding a way.

What matters just as much as grit? The why behind it. Founders may have to run through walls. What’s fueling them so they can do it? Where is their passion coming from? When you understand this, you’ve really begun to understand the founder. You understand how they’re wired and why they’re doing what they’re doing.

When I spend time getting to know founders, I learn the why behind their grit when I hear the childhood memories forever etched in their brains. The insecurities (we all have them), fears, and other factors that drive them.

Grit is required, and understanding what’s fueling a founder’s grit is important too.

Feedback can be tricky for some people. Some people are anti-conflict, so they avoid providing feedback to someone who may not be receptive to it. Some people don’t want to hear or see things that don’t fit the narrative they believe. I think about feedback differently. I try to focus on seeking truth vs. supportive feedback. What’s the truth in a situation? Do customers hate or love this product? Am I doing a great or awful job? I want to know the truth so I can make the best decision about whatever situation I’m in. I try to offer truth (or what I believe to be true) to others so they can make the best decisions they’re able to make.

The unfortunate thing about truth is that it isn’t always appreciated in the moment. It can cause awkwardness or even tension. It can strain relationships and change how people perceive or interact with you. Said differently, being truthful won’t make you Mr. or Ms. Popular. But being truthful doesn’t give you an excuse to be a jerk. Truth can and should be delivered respectfully.

As I’ve studied people who’ve accomplished the impossible or achieved outsize success, I’ve found that they’re often truth seekers. They seek, and offer others, reality. This has led to periods of being perceived negatively or having strained relations with others for some of these folks. But I believe that soliciting and accepting truth from others improved their decision-making. People who were patting them on the back for a genius decision may not have realized that hearing a painful truth may have led to the genius decision.

I try to be truthful with others instead of giving feel-good feedback—especially the founders I support. It doesn’t always make them feel great, but I do it in a respectful way I hope they can appreciate. In the end, I hope the truth helps them make better decisions so they can reach their full potential.

I recently chatted with a friend who had a very strong opinion about something. I respected his perspective, but I knew a material fact that weakened his argument. Unsure whether he knew the fact, I shared it with him. I wasn’t sure how he’d respond, since he’d expressed himself so passionately. To my surprise, he acknowledged that he didn’t know this fact and said he wanted to rethink his position and get back to me. His response reminded me why we’re friends: he’s an open-minded person who seeks the truth.

Some people view changing your position as weakness. I disagree. New information can warrant reevaluation. If you change your mind given new facts, that’s not a sign of lack of conviction. It’s a sign of rational thinking and decision-making.

Some of the most recognizable private companies usually don’t allow individuals to invest. The interesting thing is that individuals are often the most passionate customers or believers in the company. A well-known private company worth tens of billions of dollars has a die-hard fan base of individuals who don’t have access to investing in it. Only venture capital investors or others close to management get the opportunity to invest.

A founder I chatted with decided to do something about this. He created a petition for individuals to sign to express interest in investing. Each person had to indicate a dollar amount they wanted to invest. He figured that if he aggregated $5 million in commits, he’d be lucky and have a strong case to present to the company’s management. Far exceeding that goal, he got close to $40 million in commits from individuals. The strong showing blew his mind and got the attention of company management. They like the idea of letting passionate individuals invest through a single entity on this founder’s platform.

Time will tell if this deal gets done, but it clearly highlights the massive enthusiasm individuals have about investing in private companies. A lot of capital wants the opportunity to invest in high-quality early-stage private companies. And there’s ample demand by such companies for the capital. The traditional matching process is inefficient and can impede the flow of capital. I like the petition experiment this founder is running and hope it leads to something bigger or a blueprint others can follow.

I met with an idea-stage founder who asked me about fundraising—specifically, when’s the best time, very early on, to start fundraising? He still has a full-time job, and he has a nontechnical cofounder (and he’s nontechnical himself).

The answer is, it depends. Every founder’s situation is different. If you have the right relationships with venture investors, you may be able to raise with just an idea and PowerPoint. If not, think in terms of risk. Idea-stage investors are comfortable with risk, but not unnecessary risk. For example, execution risk is a big one. Ideas are great, but execution separates founders from everyone else. Can the team build the solution? Teams that don’t include a technical leader are viewed as having high execution risk and are less likely to get funded. The next thing investors consider is the market. Is this a painful problem? Is the pool of people experiencing this pain big enough to build a large company around? Painful problems in markets that have the potential to be large are desirable (to investors) because the market demand for a solution can catapult a company to success.

The founder who asked me about this has a great idea and a way to mitigate the market risk. He’s got large potential customers lined up who are willing to sign letters of intent because this problem is so painful. He’s working on the execution risk now by trying to find a technical cofounder.

It’s never too early to raise capital for an idea, but the right time depends on your situation.