Engaging with angel investors can be a pivotal step for startups, but it’s crucial to be aware of underhanded tactics some may employ. Here are common strategies to watch out for:
1. Overreaching Control
- Excessive Equity Demands: Some investors may request a disproportionately large share of your company, diluting your ownership and control.
- Board Dominance: Insisting on multiple board seats or decision-making authority can undermine your leadership.
Example: An investor demands 50% equity and two board seats in exchange for funding, leaving you with limited control over your own company.
Defense: Negotiate terms that preserve your decision-making power and consult legal counsel before agreeing to any deal.
2. Hidden Agendas
- Competitive Interests: An investor might have stakes in competing businesses, leading to conflicts of interest.
- Intellectual Property (IP) Theft: Engaging under the guise of investment to access proprietary information without genuine intent to fund.
Example: An investor shows keen interest in your technology but later launches a similar product through another company they control.
Defense: Conduct thorough due diligence on potential investors and use non-disclosure agreements (NDAs) to protect sensitive information.
3. Unfair Deal Structures
- Complex Terms: Introducing convoluted clauses that benefit the investor at your expense, such as participating preferred shares that can lead to double-dipping on returns.
- High-Interest Convertible Notes: Offering loans with steep interest rates that convert to equity under unfavorable conditions.
Example: An investor proposes a convertible note with a low valuation cap and high interest, potentially leading to significant dilution upon conversion.
Defense: Seek advice from experienced advisors or legal professionals to understand and negotiate fair terms.
4. Lack of Transparency
- Ambiguous Commitments: Vague promises of support without clear timelines or amounts, leaving you uncertain about the actual investment.
- Avoidance of Written Agreements: Reluctance to document terms formally, increasing the risk of misunderstandings or disputes.
Example: An investor verbally agrees to fund your startup but delays signing any documents, causing operational uncertainty.
Defense: Insist on clear, written agreements outlining all terms and conditions before proceeding.
5. Unethical Behavior
- Pressure Tactics: Pushing for rapid decisions without allowing you adequate time for consideration.
- Misrepresentation: Exaggerating their network, influence, or the value they can bring to your startup.
Example: An investor claims to have connections with top-tier clients but fails to provide any verifiable references.
Defense: Verify all claims independently and take the necessary time to make informed decisions.
Protecting Yourself
- Due Diligence: Research potential investors thoroughly, including their investment history and reputation in the industry.
- Legal Counsel: Engage with legal professionals experienced in startup investments to review all agreements.
- Clear Communication: Maintain open and honest communication, setting expectations from the outset to build a transparent relationship.
It’s always important to speak to people in your networks and ask for their thoughts, don’t feel pressurised and yes legal fees can be scary, but it’s well worth getting independent advice on anything that involves giving up a % of the shares of your business.
