Negotiate Your Startup’s Success, Part One: Talking to Investors

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Last week, a friend of mine was meeting with a potential investor for a new venture he was kicking off. He called me to discuss and seek advice; he had all those questions on how to split equity, how much to ask for… basically how to handle the “negotiation.”

This is a general phenomenon, a common challenge to all entrepreneurs, and perhaps especially tough for product-focused techies. “Negotiate your startup’s success” is a series of four articles providing tips and guidelines for entrepreneurs in their negotiations at different stages of their startups. This article provides 10 tips for negotiating with investors. The next three articles will tackle negotiations with employees, and suppliers and finally the exit negotiation.

While much of the negotiation’s success depends on intuition, adaption and experience, there is a framework, a series of guidelines and tips that have proved beneficial for entrepreneurs during their negotiations. Below is a compiled list of the top 10 do's and don’ts for negotiating with investors:

  1. Look beyond the win-win and aim at creating value. The concept of creating value at a negotiation table was first documented by negotiation guru prof. Robert Fisher (check out this video). The best attribute of a successful negotiator is asking questions and the ability to understand the other party’s desired outcome and requirements beyond the obvious. Beyond being interested in investment and equity, many investors are looking to create a source of deal flow; building an ongoing partnership with them will add value to the deal and increase the satisfaction of both parties. Essentially, asking and investigating is always worth your time. Whatever happens, don’t try to create a win-lose situation with your investor. Always keep in mind that your relationship with the investors is for the long term. If they don’t invest in this venture, they will on the next one.

  2. Work on your relationship with investors – build trust. The key to any successful win-win negotiation is to build mutual trust between the parties involved. This applies to negotiations with investors, especially early stage investors. Don’t be afraid to go into “offroad” territories, discussing issues beyond the deal at hand: ask about the family, or discuss his sports car parked outside. Take some time in the beginning to find points in common; this will create a comfortable environment and make a win-win negotiation easier to achieve.

  3. Be prepared, list your interests and understand the desired term sheet. To illustrate the importance of knowing your interests, my negotiation professor back at INSEAD prepared a list of 76 points of interest beyond a typical salary and bonus when negotiating his salary, when he first joined the school. Those included insurance, housing, car, and his office. I know that those kinds of requests might not be very reflective of the entrepreneurial world we are discussing here, but the approach is the same. Know your investment terms, list the key investment requirements (don’t go up to 76! 5-15 should be enough) that you would want in the term sheet. Those will be your interest points, your negotiation arguments beyond the money and the equity. Yet in doing this, remember not to get lost in the details and lose sight of your goal – keep the big picture in mind.

  4. Maintain your discipline; watch out for the good cop/bad cop routine. Almost all venture capital firms play good cop/bad cop. Typically, the investment partner who invites you to pitch plays the good cop role, whereas another industry specialist plays the bad cop who is firmer with deal terms. The important thing is to remember is to maintain your discipline. Don’t get emotionally carried away, neither positively (when the good cop takes your side) nor negatively under pressure. You will be able to pinpoint the role play from the beginning; the difficult part is to stay aware of it throughout the pitch and negotiation.

  5. Be aware of being anchored. During preliminary discussions and throughout the negotiation, investors might throw out numbers on possible valuation of the venture. While some of them might be in synch with your estimates, others might be just for anchoring purposes. What do I mean by anchoring? If I tell you now that a can of coke is typically sold for $5, assuming you don’t really know the real price, and you go to a store and see it being sold for $3, you will immediately believe it’s a good deal. But maybe its normal price is less than $1 and you just overpaid by $2. This trick of anchoring values has often been used by salesmen to create the appearance of a good deal. The same happens with startup investors. Some of them (not the ones that you would want to conclude business with) would anchor you at a valuation that’s not even close to normal conditions, and the best you can hope for is to move +/-10% from that number. The best way to avoid anchoring having a negative effect is to be aware of it, and take note if the numbers seem a bit abnormal.If so and you still want to deal with the same investors, I suggest you forget the valuation they are proposing and suggest your own.

  6. Be flexible; don’t take a position too soon. The key concept here is to keep the big picture in mind. Remember that you are going to secure funds for your venture. This is not about choosing your battles; we are still talking about a win-win negotiation. It’s about making sure you keep your eyes on the end goal and don’t dwell on small details might kill the deal. This is not only about striking the deal with the investors, but also showing your investors that you are a leader and you know what’s important and what is not.

  7. Know your options- Don’t put all of your eggs in one basket. Entering into a negotiation with an investor with no other potential leads or bootstrapping options is like going to war without a gun. Make sure you have other options, whether it is friends and family funding, bootstrapping, other investors or even just delaying the investment round. Know your options, study them carefully, and if they are good, make sure the investor knows about them (but don’t rub it in his or her face). Whether we like it or not, investors are influenced by competition. Know your options; if you don’t have one, find one!

  8. Be prepared to walk away. If you go in to a deal without even considering walking away, then you are almost guaranteed a less than optimal outcome. You might even decide to bluff and pretend that you are ready to walk away. Remember that if you are still sitting on the table, then you are still negotiating. The only way to make sure you are credible is to actually stand up and walk towards the door and don’t stop unless you are interrupted by the investor. Bluffing by threatening to walk away is very dangerous; don’t do it unless you are genuinely ready to leave the room. Also investors like to see that you are confident about your venture, and that you are ready to do whatever to see it work. Using your BATNA (best alternative to a negotiated agreement) will help your investors understand the minimum of what you will accept before you walk away, as walking away too quickly might be to your disadvantage on all fronts.

  9. Not all negotiations are closed on the spot. It goes without saying that you will not get a response on the spot. Negotiations will typically be carried on after a face to face meeting through emails, phone calls… and so on. Don’t be afraid to ask for clarifications or send clarifications as a follow up to the meeting. But be careful of overdoing it, as it might indicate impatience or a lack of other options. The best practice would be to send an email after the meeting, and another one after 4-5 days if you haven’t heard anything from them.

  10. Last but least, don’t forget to hire a lawyer or have a lawyer friend go over the agreement. Some of the terms are usually beyond our lay understanding, but are standards to a lawyer. Never sign a term sheet before a lawyer goes over it. 

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