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The Founder / Investor Communication Paradigm

"I think there’s a 70 percent chance you’re going to lose all your money, so don’t invest unless you can afford to lose it."

Jeff BEZOS’s pitch

This is how Jeff Bezos, founder of Amazon, convinced his early investors to put in their hard-earned money into what was then a mere online book retailer. In 2018, Amazon’s market capitalization sat at roughly $873 billion (as of July 31st, 2018), ahead of Alphabet Inc. with its $849 million market cap, and Microsoft Corp., at $818 billion (data from Nasdaq). The huge online retailer just broke into the fortune 500’s top ten in 2018. Against all odds, the early investors are reaping huge benefits from their initial investment.

Considering that to be the message Amazon’s founder communicated at such early stages of his business take off, one might ask how things evolved as the first hurdles after the seed stage took shape.

It doesn’t take a lot of effort to understand that the relationship between early investors and founders is complicated, with ramification tying emotions to cost-benefit, with egos in between.

Just type early investor / founder on Google (Jeff Bezos being an early investor in the startup then), and the search engine shall fill in “sue” for you.

The Ownership Bias

From a behavioral psychology standpoint, I have found a way to explain the pain points in this atypical relationship while reading my favorite behavioral economist Dan Ariely’s “Predictably Irrational”.

The same way a mug becomes valuable once we claim ownership over it, the founder sees his startup as his biggest life achievement and takes pride in it. People create a connection with what they own and familiarity leads us to overvalue our own possessions. This is why the market in possessions is prone to distortions and outright market failures. People selling their possessions will charge a price no potential buyer would see as reasonable.

On the other hand, venture capitalists and early investors are as rational as spending makes us. They function according to market values, its cold, sharp edges and probability assessment. Knowing that, the “70%“ tale told by Bezos to his investors makes a lot of sense.

Experiments On Money & Greed

Another way to comprehend the different aspects of a founder/investor relationship lies in the very steam that runs their mutual interest. It’s money. Investors have it, founders need it. Let’s dig a little deeper while contemplating the results of a brilliant international study (including researchers from SWPS University in Wrocław, University of Illinois in Chicago, and the University of Minnesota) on the effects of money on the behavior of children aged 3 to 6. The choice of this young age implies that the experiment subjects are not aware of the value of money.

During the experiment, the children were given various tasks to complete. The first group (or “study group”) had to sort coins and banknotes, while the second group (or “control group”) was sorting buttons or candy. Next, the children were asked to help others, to share their prize or to complete a difficult task, such as completing a puzzle or finding their way through a labyrinth.

Interestingly, the experiment shows that children who had contact with money have shown a spike in egoistical “selfish” behavioral patterns coupled with a decrease in pro-social behaviors (including team work, empathy, sympathy, helping others). To push it a level further, they were less cooperative with the researchers, saved more awards for themselves, and were less likely to share it. And we are here talking about candy. Not so hard to superpose the picture on venture capitalists and founders who were once candy enthusiasts too. This instantly brings back that Money song of the great Pink Floyd going “Money, it's a crime! Share it fairly, but don't take a slice of my pie”. I have a feeling, I’m going to mumble it for a long time!

What’s even more puzzling is the motivational power of money on humans in a simple carrots-and-sticks dynamic: the children in the study group were more persistent in completing individual tasks. As many as 81% of the children who had contact with money, were focused on finding their way through a labyrinth for at least two minutes. Only 50% of the children from the second group displayed equal perseverance.

The bottom line here: money appears to have both positive and negative effects on our behavior. On the one hand, it encourages self-sufficiency and hard work; but on the other, it destabilizes relationships dynamics and discourages some positive social interaction. For a startup to get off the ground, the people in charge (i.e., founders and investors) need to be aware of the effect of money on the relationship dynamics.

Navigating the Frenzy

In this frenzy of emotions, eagerness, greed and incentives, we tried to sum up some important principles that should “lubricate” the investor / founder relationship. Something we all need for the sake of our economy, knowing that start-ups are the most reliable job creators in the USA. The stakes are indeed high: here are some numbers to back this claim.

Net Job Creation in the U.S., 2011-2014

Net Job Growth 10,173,430

Contribution to Net Job Growth by Age of Firms

Startups 9,271,799

1 to 5 Years -1,058,923

6 to 10 Years -519,623

11 or More Years 2,480,177

Source: Business Dynamics Statistics

Objectivity: telling the good news as well as the challenges

Based on my own experience with startups, I know for a fact that founders tend to share the good news and exaggerate them while still feeling objective. Although good news is great, overcompensation often backfires, spirals beyond control, and breaks the transparency (and honesty) agreement.

Founders should report their challenges on time, balance out the good news with the hurdles ahead because those interest investors the most. As a matter of fact, founders should redefine the role of investors from simply cash providers to advisors, with valuable hindsight and experiences to share.

This is actually engaging to the investors. It makes them actively involved in the startup and willing to run the extra mile for their effort and investment.

Numbers Tell It Better

Numbers are perfect for rational-minded people when market values apply. Numbers can’t be biased by emotions: they tell a unique story. Fair and square.

Things like expenses, revenue, forecasts, cash in, cash out etc. gives a better understanding of how the business is “flowing”. From The product/market fit phase all the way to scaling, KPI are more telling than any press release, hence, founders should put together a plan, and monitor it regularly with the investors. This sheds light on potential difference, tallies up cash burn rates and rings the alarm right on time if need be.

It’s a Team Job

If asked to come up with a “guns” metaphor that transcribes the roles of founders and investors, I’d say:

Investors load the gun; founders pull the trigger.

Sounds like a great Tattoo idea to me! The point is, it’s a team job, where investors business, know-how and background brings about funds and network while founders implication, sweat and genius crystalizes the effort onto a viable business.

Good investors have extensive knowledge on how to scale companies the right way. They have seen successes and failures and fully understand the odds.

Beyond business: Chemistry!

An elegant quote by Om Malik, Partner at True Ventures and founder of Gigaom goes:

“Seed investors who are in for the long haul need to love the entrepreneur enough to have a fair and honest and constant communication while building the company.”

I think the word “love” here captures what this is all about. It’s fuzzier than just cold business. And if emotions are involved, chemistry should be the catalyst. Both founders and investors will be spending a considerable amount of time and energy with little pauses for this to work. So, as much as skills are needed, there is a nearly religious faith that smooths over any tension and compacts the team around the sprouting project.

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