Good Money vs. Cheap Money
Here is a scenario: An investor offers you $1M as an investment in your company. Is it good news or bad news?
Read ahead to know more on this.
I was listening to two different podcast episodes on my commute today. One is an interview with a product-person-turned-VC, Amit Somani. The other one is with a Silicon Valley VC, Chamath.
Both Amit and Chamath are great executives who have worked in Google and Facebook at key roles. They have had experiences in running a business and growing them. They have a good network in Silicon Valley and among investors. In short, what they talk really make sense.
Amit gives his tips to entrepreneurs on how to raise money. More importantly, he says: more than the money, the investor from whom you raise is extremely important. An investor-entrepreneur relationship is like marriage. If you simply get the money from a random investor (friend of a friend who knew another person), you need to be really wary of it. You don't know the motivation and incentives of that investor. If you are going to give a share of your company to an investor, you need to know more about them. What value do they bring on to the table? Do they share your vision? Are you morally and ethically compatible? If any of this missed out, the entrepreneur is in deep trouble in the future.
Chamath goes one step further and says to be more wary about the valuation of a company. An investor could be credible and bring value to you. But if their incentives and expectations are misaligned you are in for trouble. This is what he says on the state of the business:
... the costs to AWS, Microsoft, Google, and then for hosting and web services, and then the tax to Facebook and Google specifically for acquiring customers, it’s roughly about 40 cents of every dollar. Then, if you layer in the headcount costs, which is really about 50 to 60 cents of every dollar, you are already in a place where your real net margins are zero or negative.
But why do VCs invest in the company and insist on high growth? Here is his answer:
Because, we don’t put a lot of own money in the game.
VCs don't invest their own money. They manage the money of their bosses, Limited Partners (or LPs). They need to show growth to them, so they try to push you to grow hard and raise the next round or seek an exit. It is the entrepreneur and the startup employees, who may bear the brunt because of this. This entire situation is shown in the parody TV series, Silicon Valley. Why raising more money than your actual valuation can screw you up permanently?
So back to our question.
The $1M is good or bad, depends on the investor, your values/vision compatibility with the investor and finally your rough estimation on the expectation of the investor. Like the favourite answer in a product manager interview, the answer is: it depends. 😇