How to handle existing investors when negotiating a new round of investment

In the last year we have had new investors lead rounds at about ten of companies  (including two that are about to complete). In every case we are happy our new partners have come on board,  but there were some processes that went better than others.Here’s what I think makes a process a good one from the perspective of the existing shareholders in a startup. I’m focusing on the factors that are only important for existing investors, not the factors that make a process good for everyone (quick, transparent, competitive tension, etc).

  1. Over communicate. If you have a small number of shareholders keep them abreast of the process and share key terms early, including before there is a formal termsheet. You don’t need to go overboard and report every investor meeting, but do keep the updates regular. If you have lots of shareholders try to find one or two who will represent the rest and treat them as above. Explain to the others how the process is working and send them updates at key moments, including when you decide how much you will raise, when you accept a termsheet and when you will need them to review documents.
  2. Understand the appetite to follow on and make sure there is sufficient space in the round to accommodate everyone who wants to take up their pre-emption rights. This isn’t always easy. Existing investors may have a hard time deciding how much they will follow on until the round has taken shape and your new investor may want to take most of the round for themselves. Persevere. Remember it was your existing investors who supported you first.
  3. Make sure that at least your key shareholders are aware of anything that is likely to be controversial and don’t take silence as assent.
In practice it’s often difficult to find the time to keep existing investors in the loop. Events move fast, deals are a complex balance of multiple factors that are difficult to explain, due diligence is very time consuming, AND there is a business to run.On top of that it’s not always easy to know how much detail to share and how to communicate bad news. My advice is just to get on with it. Don’t wait until you want some help or advice before you get in touch. A good advisor or board member can be an enormous help, both in shaping the communication and in taking on some of the work.

Finally, it’s not all on the founder. Existing shareholders have a responsibility too. CEOs run companies and interfering, being too needy for information, or offering unwanted advice is definitely not best practice and makes management less likely to give regular updates.

UPDATE: I just updated point 2 to say that existing investors should be accommodated up their pre-emption rights – i.e. to take a percentage of the round equivalent to their current stake in the business. That’s a fair principle recognised in company law. I don’t think there is any general obligation on founders to make space in the round for existing investors to invest more than this and increase their stake in the company – no matter how helpful they’ve been.