Founders v Investor Series: Picking in startup rubble

Unfortunately, in life and in entrepreneurship, sometimes things don’t work out. It’s painful for a number of reasons. There is a lot of hope and optimism when anything new gets started. The journey may have been long spanning several years. It may have seemed at times that this will really succeed. I have seen my fair share as an investor. These situations don’t get the fancy media coverage so they get lost.?

When this happens, this is obviously the hardest on the founders. Investors usually have a portfolio, but for the founders it might have been several years of work. As things go from bad to worse, founders often stop taking salaries, even put their own savings into the company, The emotional cost of dealing with investors, delayed employee salaries, potential liabilities, is immense. It affects both physical and mental health.

My experience in India has been that founders are generally conscientious. Founders try hard, sometimes beyond they should to make things work and return investors capital. I have known cases where they start new companies, but carry forward their original investors in some form to try and make them back some money. Maybe it’s changing and the “professional mercenary” founder is getting born, but at least I have not experienced them in over 65 investments.

When the chips are down, investor behavior tells you a lot about them. I feel an understanding of the asset class is critical here for an investor. Early stage investments is a specialized asset class. Just like medicine, where there are specialists for every part of the body, investing is extremely specialized. In a bull market flush with capital, lots of new investors start participating. Late stage PE players get into early stage, public market investors start doing early stage, growth funds start doing early stage, family offices start doing early stage, of course first time angels start doing it. From the outside, they feel they understand - since they may have been successful investing elsewhere or in building businesses. This is similar to an orthopedic doctor treating you for a retinal surgery.?

A fundamental part of early stage investing is gracefully taking a full write-off on a company. It happens all the time. Several businesses don’t work out. Statistically, it happens in approximately a third of the cases in early stage funded companies. I have taken several full write-offs, individually as well as a fund. We hope that our wins compensate for our losses. However I see a number of investors shocked, surprised and just un-accepting of this possibility. The bottom line is - “at least give me my principal back”. I just don’t understand how an equity investment in startup, where startup has not worked out, can be returned. No founder has the resources themselves to return it, else they would not have raised this capital. This behavior just shows complete lack of understanding in what they did, why they did it and finally just lack of any empathy for anybody. They create all sorts of trouble in an already troubled scenario.

As a founder, this is a great question to ask investors when you raise capital - have you taken write-offs? Can you give us references of companies where this happened and how you handled it? I would strongly caution you to not take their money if they haven’t.