Don’t invest in warring founders

When founders share the same vision, ambition and dedication for a great business idea, the sky is the limit. The flip side is that when founders are at war, their business will be lucky to survive no matter how great the idea.

Investors in early stage businesses have few certainties to go on – they use their judgment to evaluate the product, business model, potential market, scalability and the capabilities of the founders. The personal relationship between those founders is also crucially important.

I’ve been involved in two companies – as an angel investor and with Episode 1 – where the founders didn’t get along to the point that it poisoned their businesses. One survived, the other didn’t, but both their stories are cautionary.

The one that didn’t make it

This was a company with a very promising security product for PCs and I invested as an angel. The two co-founders already had some customers who were trialling the software and they had the potential to sell into large organisations and scale the business. I met the firm through a small London-based VC and there were some other angels interested.

The company had a technical founder and a CEO who had recently finished an MBA and had been installed at the recommendation of some of these early investors to bring some professional sales capability.

There was a sense that these two didn’t get along from before I invested, but the business looked good and I think everyone got swept along in the momentum of getting a deal done.

By the time I’d been to a couple of board meetings it was clear that, in fact, the founders actively hated each other. The technical founder would undermine the CEO. The CEO would find it hard sell anything but when he wanted the technical team to make changes and develop the product, he met obstruction.

It came to a head with a ‘him or me’ stand-off and the investors didn’t have a united view of what to do. A year went by without the situation being resolved and, unsurprisingly, nobody wanted to invest more money and so the business collapsed and went into liquidation with both founders losing out.

The trauma survivor

The second example – an Episode 1 Fund 1 portfolio company – has a happier ending, but still saw unnecessary damage inflicted on the business.

We had an inkling that the founders didn’t get along even before we invested and so after investing we spent time trying to resolve their issues. Eventually one of the founders was pushed out and the one that remained continued to run the company. They made a senior hire that proved to be successful and now, in terms of revenue and customers, the company is doing well.

The point is that resolving the dispute between the original founders probably consumed about six months. That was time during which the company wasn’t being anywhere near as effective as it should have been.

When you waste six months of an 18-month runway it causes huge difficulties when it comes to raising the next round of finance because you most likely haven’t proved enough. In this case, the company survived and is now doing well but it could have turned out very differently and the discord between the founders caused a lot of unnecessary difficulty and no small amount of bad feeling. In retrospect we believe we should have dealt with the issue before investing.

Fights with no winners

Early stage companies have a lot to achieve on the journey from seed to Series A, but perhaps the most crucial objective is to iterate until you get product market fit. You’ve got to go out to market and try to sell your product and listen to the feedback of customers. You may have to change the product and sometimes the sales proposition or the customer segment you go after.

If it’s not working you have to work out what to change to make it work. You need to be able to listen to your market and respond to it.

If founders are just consumed by their interpersonal arguments you end up with a dysfunctional organisation that can’t iterate. An organisation that can’t iterate doesn’t prove that the product will sell and therefore nobody wants to invest and then it’s often game over.

Of course at the investment stage, founders don’t generally show they are at war in the initial pitch meetings. As an investor you have to look for subtle clues and investigate if you see any tell-tale signs.

None of this is to say that there should never be friction in a company. Sometimes it is inevitable, and even constructive, to have people disagree. There is a judgment call to make – sometimes you want healthy debate and usually the CEO can resolve issues with the backstop that the board can be asked to mediate. Generally, it’s best to sort things out before it gets to board.

When there are deep-rooted problems between founders, though, it should set alarm bells ringing. Resolving such problems can be difficult and will involve some hard decisions, often meaning one of the warring founders has to leave the company. A startup has too much to prove with limited resources to burn time on such a problem. 

Founders should be pulling in the same direction when they seek funding. Nowadays if we get any suspicion at the pitch stage that the founders don’t respect each other and may end up at war, then we no longer ignore those instincts. We investigate and more often than not conclude that we have to sadly just walk away, declining to invest.

 

Simon

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