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Do Your Homework and Avoid a Venture Capital Nightmare Three tips to make your venture deals safer.

By Harry Red

entrepreneur daily

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Venture capital can kill.

Yes, it can get you the fuel you need to launch your rocket ship. And, yes, you get to join forces with an investor of great power. But if you give minimal thought to the dangers ahead, you are toast. You can find yourself fired from your board, fired from your company or even blocked from selling it.

Ouch. Better steer away from this iceberg, right? You can make your venture deals significantly safer in three ways:

1. Learn the terminology and mechanics of venture capital

If you don't know the basics, you remain entrenched at square one. But, you might wonder why you should spend time on it now when you have other priorities.

As Bob Dorf, founder of seven startups and co-author of The Startup Owner's Manual with Silicon Valley thought leader Steve Blank, told me in a previous interview, "Life in a startup is much better if you spend all that early energy building something that will attract the interest of investors -- rather than going and knocking on a hundred doors."

Wise words. But when raising capital makes sense, you owe it to yourself -- and everyone who helped you -- to get it right.

To get solid wisdom on this, I jumped on a call with Brad Feld, cofounder and managing director of venture capital firm Foundry Group and cofounder of Techstars. He and Foundry Group cofounder Jason Mendelson literally wrote the book on venture capital, called Venture Deals, now in its third edition.

Feld shares a scary fact about negotiating a round of financing:

"After the deal is done, you don't necessarily have any ability to change it. Then you're living with the terms. So, your time to do something about it was before you struck the deal initially."

Translation: You get one shot. If you miss it, tough luck.

Thus, you must study the language and details of investment. What is common stock versus preferred stock? How does vesting work? Get comfortable with such concepts so you won't take your shot in the dark.

2. Surround yourself with people who raised money before

You will only ever know a fraction of the answers you need. The rest lives inside the heads of others.

"You should find peer entrepreneurs who have raised money, so you can understand their story and start to get your own expectations around it," says Feld. He mentions other groups you should talk to: Mentors and people in accelerators, incubators or startup communities. In short, folks who have traveled the venture capital path before who can help you spot the landmines.

It's always a good idea to surround yourself with smart people. When entrepreneur Rodolfo Saccoman founded his second company AdMobilize, he went out of his way to recruit a board of advisors, enlisting people like Mok Oh, former Chief Scientist at PayPal. Thus, he ensured Oh's priceless experience was only ever one email away.

You need to do the same.

3. Understand the interests of investors

Your ability to change things in a negotiation depends on who has leverage.

"If you're struggling, and you've got only one investor trying to invest in your company, you don't have much negotiating leverage," says Feld. "You have a little bit, because you can always walk away and not take the money, but you don't have the choice of going to somebody else."

Negotiating leverage rests on your ability to take alternatives, as Roger Fisher and William Ury of the Harvard Negotiation Project point out in their book Getting to Yes:

"The relative negotiating power of two parties depends primarily upon how attractive to each is the option of not reaching agreement."

Put simply: the stronger your plan B, the greater your power. Hence, to raise your chances of attracting multiple investors, you must understand their interests: What drives them and causes them to act the way they do. Just like with customers, you can't get them excited if you don't know what motivates them.

Fortunately, venture capitalists tend to write a lot. Follow their work obsessively and you will start to think more like them.

Rise and shine, entrepreneur. A successful financing awaits you. But, to claim it, you need to buckle up and do your homework.

Harry Red

Founder and CEO of Infyrno

Harry Red is an entrepreneur, writer and tech guy. He is also founder and CEO of Infyrno, and driven to help his fellow entrepreneurs build great companies.

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