Dynamics between Investors and Entrepreneurs
Guide to Relationship Between Entrepreneurs and Venture Capitalists
Dec 12, 2009 Jo Bilson
Business investors such as venture capitalists, private equity investors and other business investors provide equity funding to the budding entrepreneur to expand a private company business. The relationship between the entrepreneur raising startup capital and the private equity investor or venture capitalist revolves around a timeline, starting from the time prior to entrepreneurs signing a deal with a private equity investor or venture capitalist (“VC”) [A], to the time after signing the deal [B] and to the continued process of a VC and an entrepreneur working together [C].
- Ex ante power for a private equity investor or venture capitalist
- Ex ante power for the entrepreneur
- Continued process of a VC and an entrepreneur working together
Business consultants tasked with weighing in on the dynamics between the entrepreneur and private business investor typically will look at the relationship around this timeline. Business consultants also help to mediate in negotiations between entrepreneurs and business investors. As such it will be vital to study the entrepreneur - venture capitalist conflict or the private investor - entrepreneur relationship.
Ex Ante Power for a Private Equity Investor or Venture Capitalist
Venture capital operates largely in a free market. A private equity investor or venture capitalist makes the selection for investment opportunities based on the estimation of a company’s eventual worth. The valuation of a private company business will depend on the value of the goods or services it provides. That simple formula skews new venture investment selection towards the upstarts most likely to make a contribution by producing coveted products, as highlighted in “The VC Way” by Jeffrey Zygmont. As such, business investors are likely to have the upper hand and entrepreneurs have to clamor to get their attention when raising startup capital and seeking business financing, particularly in a shrinking VC environment. In fact, BusinessWeek reported that equity funding for investment opportunities in the United States was down significantly in 2009 in the venture capital database.
Ex Ante Power for Entrepreneurs
Once entrepreneurs have secured their equity funding, their bargaining position rises. The best entrepreneurs expect their business investors to bring the value-added experience, insight, contacts and connections. The power has shifted to the entrepreneurs. They can take equity funding from a hundred different players. They will work with people they respect, and people that can add value. In the case of rogue companies, business investors have little redress too. A good private equity investor or venture capitalist uses good judgment. For all its value, good judgment doesn’t guarantee that a careful VC won’t sometimes get pinched, as highlighted in “The VC Way” by Jeffrey Zygmont.
Read on
Continued Process of a VC and a Entrepreneur Working Together
Business investors buy into investment opportunities under the proviso that their lead investor becomes a coach and counselor to the entrepreneurs who remain in charge of day-to-day operations. Business investors categorize this involvement under value-added services. It signifies that a VC brings more than just equity funding to a bargain.
Indeed, conflicts may arise in the relationship from time to time. As shown in Ronit Yitshaki’s study on venture capitalist-entrepreneur conflicts and problems between investors and entrepreneurs, conflict is inherent in venture capitalists and entrepreneurs’ relations as both parties have different conceptions of the venture investment and the contractual arrangements. Actual conflicts were found to be associated with business investors’ level of involvement and perceived performance. Business investors’ cooperation thus depends on both parties’ ability to resolve inherent and actual conflicts.
The key to establishing a win-win relationship with a private equity investor or venture capitalist is thus to minimize gaps in understanding between the two. Walk in each others’ shoes. Sit in each others’ chairs. Metaphorically of course. Entrepreneurs should learn to be business investors first and business investors should learn to be entrepreneurs first.
Copyright Jo Bilson. Contact the author to obtain permission for republication.
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