While venture capital is often praised as the ultimate means of raising capital for startups, founders and entrepreneurs should not be blinded by the widespread glamor it receives and what fellow founders and investors might have to say. It is certainly true that, for some entrepreneurs, venture capital is an ideal method of raising capital in early funding stages of a startup. However, for others, venture capital and venture funding are not desirable ways to raise funds, as they could create conflicts and complex issues that are difficult to resolve. Therefore, as a startup founder and entrepreneur, you should independently and objectively assess whether venture capital is the right solution for your business and whether it helps you in achieving the goals you have established for your business.
Below, you will find six reasons to avoid venture capital as, despite its perceived benefits, it might not be a panacea to the specific issues your particular startup is facing in regards to funding. These reasons should at least be granted consideration in the process of venture funding when determining whether or not to pursue raising venture capital.
- Losing Control
While securing a capital investment from a venture capital fund (a “VC”) is viewed as a major success for any entrepreneur and an important milestone in cultivating a startup business, it inherently comes at a significant cost. Specifically, most VCs will ask for additional rights in addition to their sole ownership interest – i.e., the shares they receive. Such demands often include a board seat, which gives them a say in key decisions in your company’s future. In addition, they are also then granted the right to exercise control over the management of the company, its employees, and set reporting deadlines, which must be adhered to. In short, VCs are geared towards maximizing their investment in your company and might therefore have a distinctly different vision of the direction your company should take in the future. Consequently, a VC will typically attempt to exercise considerable oversight in regards to the day-to-day activities of your business, which represents the first potential reason to avoid venture capital for funding your startup business.
- Shifting Focus
Prior to taking on venture capital, your primary focus will have likely been on your customers – or the acquisition thereof. However, accepting venture capital inherently entails taking on another responsibility and another party – i.e., the VC from which you received the venture capital and that drives your venture funding – that you must now report to Oftentimes, VCs are highly demanding in terms of the reports they require, the degree of oversight to which they think they are entitled, and the kinds of protections they should receive with regards to their shares, including anti-dilution, preferred dividend payments, and more. Hence, although venture capital may be desirable to many entrepreneurs as a tool to aid in the expansion of their startup business, the considerable additional responsibilities imposed upon you and your team represent another potential reason to avoid venture capital.
While your efforts will hopefully be awarded in the end with the desired venture capital you have been seeking for your venture funding, for many entrepreneurs the journey of achieving this end goal can be long and arduous. Preparing pitch decks, reaching out to VCs, submitting further documents and statistics, waiting for responses, and negotiating agreements are all highly time consuming processes that take away from the time you could be pursuing customers and marketing your product or services. There are, of course, only so many hours in a day. So, you may want to consider whether a long and laborious pursuit of a VC is the best use of your time, or if this is simply another reason to avoid VC and seek alternative methods by which to fund your startup.
- Endowment Theory
The endowment theory, in simple terms, means that you will be more careful with what is yours than with what is not. To apply this example to the world of VCs and venture funding, you will most likely not be as careful and thoughtful in spending a VC’s money as you would be in spending your own. Oftentimes, this can lead to entrepreneurs and startup founders making hasty decisions resulting in overspending, and ultimately losing sight of a lean business model. In turn, the business develops a financial dependency on the VC itself, which delays your company’s profitability as you will often become preoccupied with raising additional funds to cover the rapidly increasing expenses of the business. Hence, you should consider whether a quick cash injection is what you truly need, or whether you are better off building a lean business model at a slower pace, which will likely represent a more sustainable option for the purposes of venture funding.
- Diverging Interest
VCs are inherently geared towards raising the valuation of a startup as much as possible, as quickly as it can. Therefore, a primary goal of a VC will be to continuously raise more money to inflate your company’s value to guarantee the required return the VC is seeking. As such, a VC may prioritize short-term decisions that aim to quickly raise the company’s value, which may not always be in your best interest as a founder, especially if you plan to build your company for the long term. If you are truly in it for the long haul, as a founder you should consider that VCs do not give out capital as a form of charitable donation. Rather, there are typically mandatory rates of return that VCs require on their investments. The pressure to meet these rates can be considered as another reason to avoid venture capital.
- Do you really need it?
Of course, more money always sounds ideal for purposes of venture funding. However, if you are satisfied with how your business is evolving and you have figured out alternative methods to progress your venture funding, then making the decision to avoid venture capital may be in the best interest of your startup. As outlined above, VCs do not give out money as charity and then let you operate however you like as a founder. In contrast, an investment by a VC comes with numerous strings attached. Hence, do not follow the trend to raise venture capital simply for the sake of raising it. Instead, think twice and assess the current state of your venture funding. In turn, this will allow you to determine whether giving up control, time, and energy is worth the additional capital, or whether the reasons to avoid VC as a founder and entrepreneur outweigh the potential benefits.
Our Startup Lawyer Services
To schedule a consultation with Adrian, our principal startup lawyer, please click here and click on “Schedule a Consultation.” You can also email us at [email protected], or call us at (646) 354-3780.
If you wish to learn more about our startup lawyer services, please visit our startup lawyer services page.
During your consultation, our startup attorney will provide an honest assessment of your case, and a recommendation about your next steps.
Disclaimer: This blog article is provided by Pandev Law, LLC for general educational and informational purposes only. Although this article discusses general legal issues, it does not constitute legal advice nor does it establish an attorney-client relationship. No reader should act or refrain from acting on the basis of any information presented in this article, or elsewhere on this website, without seeking the advice of appropriate legal counsel, or other professional counsel, licensed in the relevant jurisdiction. Pandev Law, LLC expressly disclaims any and all liability with respect to any actions taken, or not taken, based on any content of this article or website. This blog article may constitute attorney advertising. Prior results do not guarantee a similar outcome.