For many founders in the startup community, a “founder-friendly” investor is one who stays relatively hands off. They cut the check and then watch the executive team run their business without getting involved in the day-to-day.
In 2021, investors overdid a version of “founder-friendly” capital that boiled down to founders continually raising capital and reaching record valuations, enjoying no inputs from their investors. In turn, companies across the board missed out on the balance brought by investors’ complementary breadth of guidance. Today, it’s clear many companies could have used that guidance, seeing as FTX is only our latest and most high-profile example.
Given new economic headwinds, it’s time for the startup community to redefine what “founder-friendly” capital means and balance both the source and cost of that capital. That means choosing between active and passive partners.
Some founders may be confident in their ability to execute on their vision, but most will benefit from investors who can share scaling best practices they’ve seen across companies and who know how to navigate downturns. Successful companies are created when investors and executives blend their expertise to see around corners, not when one side overpowers the other into silence.
Here are some key considerations for founders seeking a better balance of capital and external expertise for their businesses:
The fact that debt capital must be paid back is actually a sign that the company’s underlying financials are strong enough to support repayment.
Factor in founder friendliness
The two most important elements that determine your company’s growth needs are your company’s stage and what you’re willing to pay for active investors.
At the earliest stages, when your company is still doing R&D and not yet generating revenue, it’s near-impossible to secure passive capital in the form of revenue-based financing or debt financing vehicles. Instead, you’ll be raising funds on the strength of your idea, total addressable market (TAM) and team’s experience.
If you turn to a more passive equity investor at this stage, you’ll likely miss out on a true champion for your vision who can validate and evangelize your cause to future investors. This approach can limit your company’s growth potential and valuations, so you should always choose an active capital partner at this stage.
When you’ve grown enough to begin scaling, you can choose between expertise and cost. If you want best practices for growing a company through new products or markets, active investors can offer a wider view of the market. This expertise is immensely valuable and founders who need it should be willing to pay for it with equity.
That said, if you’re confident in your ability to scale the company, you can shop around to mix debt and equity investments to minimize dilution while benefiting from some external expertise, if needed.
Established or pre-IPO stage companies are better candidates for passive capital from lenders or hands-off equity investors. At this stage, companies are already generating significant revenue and have a plan to reach profitability, if they haven’t already. Having a proven record of success makes these businesses more attractive targets for institutional investors with less domain expertise but significant funds to deploy in the form of debt or equity.