Summary: Founder vs Investor: The Honest Truth About Venture Capital from Startup to IPO by Elizabeth Zalman and Jerry Neumann - Paminy (2024)

• If you are a founder or an investor in the high-growth venture-backed startup ecosystem, you know how challenging and rewarding it can be to work together. But do you really know what the other side is thinking and feeling? In this article, we will review a new book that reveals the honest truth about venture capital from startup to IPO, written by a founder and an investor who have been there and done that.
• Whether you are looking for insights, advice, or inspiration, this book has something for you. It will help you navigate the complex and often chaotic world of startups, and learn how to build, break, and fight over them. Read on to find out more about this book and why you should read it.

Recommendation

This ingeniously structured guide to venture capital offers a fresh approach to a familiar topic. From his perch as a veteran venture capitalist, Jerry Neumann provides his perspective on the system. Then successful founder Elizabeth Zalman weighs in with her own tales from the trenches. By interspersing often conflicting views, this insightful book acknowledges that reality can feel very different, depending on which side of the VC equation you occupy. The result is an unusually thorough look at the VC experience that practitioners, entrepreneurs and financial professionals will appreciate.

Take-Aways

• A venture capital investment requires a leap of faith for both the investor and the founder.
• Fundraising is stressful for both sides.
• Getting the attention of an investor is difficult, particularly for novice founders.
• A winning business plan targets a market that’s both well-defined and large.
• For founders, successful fundraising requires breaking the rules VCs want them to follow.
• Contracts are a necessary but imperfect tool.
• Founders hate being saddled with boards of directors.

Summary

A venture capital investment requires a leap of faith for both the investor and the founder.

Venture capitalists (VCs) spend their days fielding queries from strangers asking for money. Backing a start-up is not for the faint of heart. After just a few weeks of work, the VC investor commits a significant sum to someone they barely know, with the stated goal of pursuing an unproven business model and with full knowledge that the founder could be running a fraud. Outright fraud is rare in the Silicon Valley VC world, and investors make money frequently enough that the system keeps operating. The VC ecosystem is successful in part because of informal rules that compel both sides to behave in ways that build trust.

“I am unemployable for a variety of reasons and this unemployability is the reason I became a founder. My bet is on myself.”

Founders of VC-backed firms dream big; if they just wanted to make a living, they’d open a dry-cleaning shop. That’s how previous generations viewed entrepreneurship – as something safe, stable and sure to pay the bills. But entrepreneurs who start ambitious companies are risk takers. They have grand visions and want to change the world. For founders who achieve the goal of raising venture capital, dealing with investors is a frustrating exercise. The moment something goes wrong in the business plan, investors forget that they bet on the founder to do a job. Instead, they suddenly decide that they must micromanage the company in their portfolio. From the founder’s point of view, this pattern conveys an absurd assumption: The person who has been building the company suddenly knows less about it than the investors who parachuted in and haven’t been part of the day-to-day operations. While a start-up is just a business to the investor, it’s the founder’s life work.

Fundraising is stressful for both sides.

The fundraising process is both invigorating and exhausting. VCs get to hear interesting pitches from smart, driven people. However, investors say no to the vast majority of deals they consider. That’s because there’s no easy way for VCs to reach founders. Good ideas can come from anywhere, so VCs essentially make it known through social media and other marketing avenues that they’re funding start-ups. But this means VCs receive far more pitches than they’ll ever approve. Some are rejected because they’re bad ideas, others because they don’t fit the VC’s area of expertise. In addition to all the rejection, during the fundraising process, a reality begins to dawn on founders: Their definition of success isn’t quite the same as the VC’s.

“At every fundraise, I marvel at the absurdity of it. Someone decided to buy a piece of the company for millions of dollars!”

From an entrepreneur’s standpoint, the fundraising process is intoxicating and ridiculous. The founder is pitching a pre-revenue company, and yet sophisticated investors are willing to throw money at the entrepreneur just for an idea that probably won’t work. While first-time founders often are terrified at the prospect of being rejected or losing control, repeat founders learn that the process is just a high-stakes game. What’s more, the VC boom means seemingly everyone in Silicon Valley is looking for start-ups to back. But when you delve into the details, it becomes clear that many of these alleged investors aren’t actually writing checks to start-ups. Veteran founders understand this, and they’ve built contacts with legitimate venture capitalists. But for first-time founders, securing funding means dodging an obstacle course of promising leads that go nowhere.

Getting the attention of an investor is difficult, particularly for novice founders.

Raising money is a frustrating and unpredictable process, at least for first-time entrepreneurs. The VC is the equivalent of a supermarket shopper picking a bag of potato chips – he just grabs a bag or two and moves on. But the start-up run by the rookie founder is a bag of chips sitting on the shelf. The bag of chips hopes that it’s placed prominently enough on the shelf, that its package is eye-catching and that shoppers haven’t decided to go on a diet. Zalman has experienced how quickly things shift for repeat founders: As a first-time founder, she struggled to raise money from VCs and had to turn to angel investors for early-stage capital. But as a second-time founder, Zalman raised funds quickly. And when she launches her third company, she’ll have money based on her reputation alone.

“A successful fundraise requires relationships, hustling and audacity. Fear and anxiety have no place here.”

VCs immediately reject most deals that hit their inboxes. For the minority that pique their interest, investors embark on a research project. They look into the idea, examine what could go wrong, and poke and prod the founder for flaws. At this point, the power very much lies with the VC. But founders attempt to control the narrative. Instead of emailing a pitch deck right away, they’ll respond by insisting on making the pitch in person. Neumann stiff-arms requests for an in-person meeting until he first examines the pitch deck and then has a follow-up call to speak with the founder. If the concept still seems promising, Neumann agrees to an in-person meeting. Only after that confab goes well does he begin thorough due diligence. This process is always an awkward dance. The VC needs to know enough about the founder’s business to confidently predict the start-up’s success. At the same time, the VC can’t know everything, and therefore a leap of faith is required.

A winning business plan targets a market that’s both well-defined and large.

A start-up’s market, at its most fundamental level, is a description of who will buy the start-up’s product. Many founders, when quizzed about their target buyers, can offer only vague answers. They believe that they simply can create an innovative product and buyers will materialize. This rarely happens. VCs are looking for pitches that involve specific, detailed markets. The market could be consumers between the ages of 30 and 50 in large metro areas, for instance, or technology executives facing a specific challenge. To attract VC funding, the start-up needs more than a well-defined market. The potential marketplace must be large enough to excite investors.

“Calculating market size for an innovative company almost always involves guesswork.”

A standard question VCs pose to founders is, how big is your market? Investors understand that the answer will involve some level of fiction. It’s practically inevitable. With some start-ups, it’s impossible to predict how the start-up itself will change the market. For instance, Uber now is making far more revenue in a few months than the whole cab sector earned in 2013. Back then, Uber and its rivals were comparing themselves to taxi operators. But the reality is that the rideshare companies so transformed transportation that any comparison to the industry that existed didn’t matter. Even if the market-size question is posed with a grain of salt, the founder’s answers are illuminating. They show how the start-up views itself, its market and its pricing capacity.

For founders, successful fundraising requires breaking the rules VCs want them to follow.

Zalman has come up with her own fundraising rules – and some of them directly contradict Neumann’s advice:

• Always have your co-founders on pitch calls – Don’t do these calls alone; bring your co-founders along. That makes it easier for you to ascertain which parts of the pitch worked and which fell flat.
• “Fundraising is your new full-time job” – During the pitch process, you’ll make as many as eight calls a day. You’ll go to dinner with investors. During this period, your personal life and your other tasks don’t matter. If you’re not exhausted, you’re not pushing hard enough.
• Don’t waste your time talking to associates – Every significant VC firm has partners, who can say yes to deals, and associates, whose job is to do the partners’ dirty work. Associates can’t approve your deal; they only can find reasons to reject you. So don’t bother talking to them; you’re wasting your time.
• “Never send a deck out over email” – This runs against Neumann’s advice, but sending your pitch deck by email is similar to spinning your wheels with associates. The pitch deck is usually used as a reason to reject you. You’re the most passionate advocate for your start-up, and you need to get in front of investors to convey the narrative.

“Why would you talk to someone who is empowered only to reject you? You wouldn’t.”

• Insist on video calls – VCs love to do pitch calls from their cellphones while they’re driving. Insist on doing the calls by Zoom. That’s the only way you can read investors’ reactions while also getting something like their full attention.
• Don’t let your physical appearance become an issue – When meeting with investors, dress the part. Don’t overdress: You want your physical appearance to blend in. That means software developer garb, such as T-shirts and jeans. For women, and especially for attractive women, dressing down is particularly important. You don’t want to raise unwanted attention from male investors or jealousy from female investors.
• “Answer the question you want to answer” – Investors will pepper you with queries about your business model. To control the narrative, reframe every question so that you can answer it on your terms. Founders often aren’t good at this, so make sure you practice interviewing before live interviews with investors.

Contracts are a necessary but imperfect tool.

During the fundraising process, investors and founders sign detailed contracts. But legal documents can go only so far. Neumann learned this lesson early in his career when a partner saw him studying a contract involving a portfolio firm. The partner’s assessment: “If you’re relying on the contract, you’ve already lost.” So Neumann got on a plane to have dinner with the founder and hammer out their differences.The advice addressed the reality of litigating the language in contracts. Investors and founders easily could waste months of time and mounds of money dealing with attorneys and sitting in courtrooms.

“If someone decides to simply ignore the contract, it’s very hard to remedy.”

Even though contracts are legally enforceable, investors hesitate to litigate contracts for another reason: They don’t want to get a reputation as overly aggressive. In the VC world, word travels quickly, and an investor who gets a reputation for being quick to sue will find that founders of the most coveted companies are reluctant to work with them. That’s not to say that contracts are unnecessary. In one instance, a founder of a successful firm complained that Neumann should give back some of the equity he took as part of the investment. Neumann politely told the founder to look at the contract. It spelled out that the founder had agreed to sell his stake in the start-up to Neumann’s firm.

Founders hate being saddled with boards of directors.

As part of the fundraising process, a founder agrees to oversight by a board of directors, a body that has some representation from the investor. From the VC’s vantage point, the rationale is obvious: The VC is putting significant money into an untested concept, and the firm wants some insight into how the company is being managed. A board exists solely to provide oversight and to guide the start-up to success. Yet many founders misinterpret the board’s role. They think the directors are there to help them run the company or to complicate their lives. It’s no secret that the start-up world has its share of toxic founders – these CEOs need a board to scrutinize their moves and fire them when necessary. This relationship sets up potential conflict between the CEO and the board. In a start-up, the investors handpick the directors, and the board exists as a check on the CEO’s power. Founders who want to run their own show chafe at the arrangement.

“Good board members approach their board seat constructively and are an asset to the company.”

From the founder’s point of view, boards of directors can often turn into cauldrons of needless conflict. Board members can be intentionally vicious. Sometimes they’re so disengaged that they check email during meetings or even nod off. Board members can be so passive-aggressive that they say nothing during meetings but then gripe afterward. The problem with boards is that, for competent CEOs, they provide almost no value. The CEO needs advisers to engage in meaningful strategic conversations about the challenges facing the company.

“I’ll pull the conclusion up front: Boards suck and nothing you do matters.”

Instead, the board invariably views its role as belaboring the obvious, such as, “You’re not meeting your revenue goals.” The founder knows the company isn’t meeting its revenue goals – the founder needs someone to help solve the problem. For the founder, board meetings are little more than window dressing. The CEO is forced to devote scarce time to assuaging directors’ egos and presenting prettied-up decks about the company. Board meetings are little more than beauty pageants that have little to do with operating a successful company.

About the Authors

Elizabeth Zalman is an infrastructure and information security expert. She is a two-time founder of venture-backed companies. Venture capitalist Jerry Neumann has invested in some of the most successful venture-funded companies of the past three decades and has worked alongside dozens of entrepreneurs as investor, board member and adviser.

Genres

Business, Entrepreneurship, Finance, Nonfiction, Technology, Innovation, Leadership, Management, Education, Biography

Review

Founder vs Investor provides an insightful look into the venture capital world from the perspectives of both startup founders and VC investors. Drawing on their own experiences as a startup CEO and managing partner at a VC firm, Zalman and Neumann explore the different priorities, incentives, and relationships that shape interactions between founders and VCs.

A key theme throughout the book is the inherent tension between founders who are laser-focused on building their companies and investors who aim to generate strong returns. The authors argue that misalignments often arise because founders tend to think long-term about changing the world while VCs operate on much shorter time horizons dictated by their fund cycles. However, they make the case that both good founders and good VCs ultimately want the same thing – to build great companies. The challenge is finding alignment.

Zalman and Neumann offer practical advice for navigating key aspects of the founder-investor dynamic around fundraising, governance, talent recruitment, and exits. Helpful examples illuminate negotiation strategies, term sheet terms to watch out for, board dynamics, when to push back on investors, and how to align incentives. They also include perspectives from other players in the startup ecosystem like lawyers and talent.

While recognizing inherent tensions, Founder vs Investor makes a balanced case for building strong founder-investor partnerships rooted in trust and transparency. Zalman and Neumann argue that great companies are not built through adversarial founder-investor relationships but through understanding each other’s contexts and crafting deals that work for both sides. Any entrepreneur who takes venture capital or may do so one day would be wise to absorb the lessons in this book.