Dealing with investors post-funding: the 10 commandments

The road to investment never runs smoothly, but breathes a sigh of relief, you’ve done it! You’ve secured the investment you needed to get on with the job at hand – building your business. But it’s important you don’t forget to keep investors on-side as you focus on day-to-day of delivering against their investments.

It goes without saying that good investor relations is an important part of keeping your business moving in the right direction. You not only need to keep hold of their investment, but they might also be the key to further funding in the future. But good communication not the only thing you need to consider.

Here, FounderCatalyst COO Sam Simpson outlines the 10 commandments of keeping investors happy once the deal is struck.

Let’s get the obvious fundamental out of the way. Communication.

Communication is key to any relationship. And investors are no different, especially in the early-stage arena. It is important for them to be able to easily track down the last communication related to your company and that you flag up any outstanding actions on either side. Here are a few quick principles for communicating with your investors.

• Be consistent - You should be consistent when it comes to contacting with your investor but also avoid providing your investors with irrelevant updates.
• Be reactive to their needs - If they tell you to reach out to them once a month with updates, then reach out to them once a month with updates.
• Be concise - The start-up world is fast paced, so focus on saying a lot in a few words (and avoid the ten-page reports!)
• Be honest - Don’t try to pull the wool over the eyes of an investor. When reporting, if they ask for your burn rate, just give them the burn rate and not something else because those numbers are looking better.
• Be transparent - Being open and honest goes a long way in building trust with your investors and it’s important to let your investors know something bad happened sooner rather than later. Any update, however complicated the technicalities may be, should boil down to a clear message: good, bad or no news.

We’ve got much more advice on what good investor communication looks like.

Now that’s out of the way, let’s get to the real must-nots of dealing with investors post-funding, and the 10 commandments you need to live by.

1. Thou must not… drop pre-emption rights to exclude existing investors from a funding round

Returns in early-stage investing are driven by the outlier big outcomes. The right of pre-emption is therefore very important for investors to be able to continue to invest in their strongest performing companies. So don’t be surprised when investors are fighting for this key term – it’s a positive signal!

A pre-emption right gives an existing shareholder the right to participate in a future financing round to the extent necessary to maintain its percentage stake in the company. If you are excluding existing investors from a funding round, potential new investors will start a chain of thought on whether those with more knowledge of the company have lost confidence.

2. Thou must not… destroy SEIS / EIS relief

SEIS and EIS are known as one of the most generous investment schemes when it comes to tax reliefs and incentives. Since the launch of the tax relief schemes in 1994, companies have been able to raise billions as investors are able to offset losses obtained against either their Income Tax or Capital Gains Tax amount. On the flip side, both schemes also offer generous levels of tax relief against tax bills when investment value increases.

As these schemes are subject to complex rules, we explore ways to destroy the tax relief in this guide. Ultimately, if SEIS/EIS relief become unavailable, investors are less likely to put more money in your business and you would have gained a reputation which will divert potential investors away from you.

3. Thou must not… Forget to deliver (S)EIS certificate

One particularly painful story I’m aware of involves a normal funding process. The founder then went AWOL, was delinquent with filing the (S)EIS form and ‘ghosted’ investors. The business then collapsed and, due to the fact that the (S)EIS1 form not being filed, the investor was unable to claim any of the expected income tax or loss reliefs.

4. Thou must not… Agree to onerous terms from a future investor

The need for funding to progress your venture will find yourself presented with a ‘take it or leave it’ proposition. The worst thing you can do in such a situation – is simply accept the terms on offer, particularly if you are not to consider them in any detail with the aim of seeking to know what you are agreeing to.

As a founder, you need to be aware that an investor has a range of legitimate protections that they will reasonably require in documentation. You should consider impacts to existing investors when a potential investor begins to draft some terms for a future round down the line. You don’t want to be in a situation where existing shareholders are cashing purely on the basis of you accepting onerous terms from a future investor. Certain provisions might seem unfair to you at first glance, but with appropriate revisions and careful drafting, you may well be able to accept them.

5. Thou must not… Complete down rounds

The consequences of down rounds will be more painful than just triggering anti-dilution protection. Down rounds are a negative signal to the market and investors, a loss of trust and confidence in the company.

You should consider postponing a fundraise if your post-money valuation is going to be lower than your pre-money valuation and drive operations in a way that will cut costs and increase runway. This may not be feasible for a very lean organisation, so the next option to look at will be some bridge financing. A bridge, such as a convertible note, can be an appropriate solution to get the company back on track (hopefully you have just a temporary cash flow problem!). Alternatively, it’s time to renegotiate with your investors and adjust terms to mitigate anti-dilution protection, or by exchanging these rights for investor perks, such as upside protection.

6. Thou must not… Close a funding round then instantly ask to create an employee option scheme

Employee option schemes provide the right incentives for employees to create long-term value for your business, however, rolling out employee option pools is not that simple. It often requires a certain percentage of dilution in the company to allocate the pool. The timing of this instrument must be right!

7. Thou must not… Execute a huge pivot without advising investors or seeking their view

Before you and your employees dive into the new strategy, make sure you run it by your investors. Although your legal documents may not require you to do so, investors will begin to lose confidence in you if you drift away from the original investment they made.

8. Thou must not… Mothball the business without communication and go and get a day job

Avoid giving investors the impression that the business is something you are only doing on the side. Investors will be tempted to ticket elsewhere if they lose vision of the founders they invest in not going full time in returning their money. This happens more than you think – as a founder goes through the strenuous process of raising money for one, they become more inclined to launching new ventures and slipping into part-time.

9. Thou must not… Play around with liquidation preference clauses

New institutional investors will likely seek similar liquidation rights to previous investors and in most cases expect their liquidation rights to rank higher than previous investor’s. This is a situation that must be handled very carefully as the original investor will see itself being pushed down the distribution waterfall. Founders should remember that the price for receiving a high valuation from an investor may look good on paper, but they should ask themselves: what does it translate into in terms of proceeds for them once the liquidation preference has been paid? See the FanDuel case study for what can go wrong.

10. Thou must not… Forget to keep an eye on expenditures

Investors do not want to see cash depletion driven by frivolous expenses in a business. This includes big decisions such as trips abroad, purchasing expensive office furniture and renting out excessive space. With the rise of remote working, this can also be extended to ask the question whether an office space is necessary in the first few months (maybe years) of setting up and if that money can be spent elsewhere for the company. Overspending can also often result in a series of small purchases rather than one big one and this is where a tracker can be handy.