Tech Investing: Starting Smart

Of rigour and rules

It usually takes a private investor several years to put together a complete portfolio. It all depends on your preferences, financial means, and investment plan. For example, you could invest half a million every six months or sink $50,000 into a project every month.

A private investor should be prudent and never impulsive. We recommend that you draw up your own list of rules. You might decide to invest the same amount in every project. Or you might opt to rank them according to the development stage and risk involved, investing less—say, $25,000—in risky, early-stage projects and more—say, $50,000-$100,00—in projects that are already growing. Stick unbendingly to whatever rules you have chosen and you will soon begin to observe certain patterns—and avoid costly blunders.

When assembling your portfolio, also consider the possibility of making additional investments in projects that demonstrate rapid growth. For example, in one rapidly-growing project, we have made several follow-on investments totalling $10 million. And this is not an isolated event. If a business is going strong, we will invest in it. But you need to plan for this eventuality and have the necessary reserves in place.

Balancing and management

Venture capital investment is like a game of strategy that offers great returns. If you invest in just one or two projects, though, the chances are low, you will hit the jackpot with either one. But if you have a portfolio of 10 projects, your chances improve considerably. Some can be early-stage, others late-stage. Also, an investor’s available capital and personal characteristics determine how much risk he or she is willing to assume. Remember: invest smaller amounts in the early stages when the risk is higher, and larger sums in the later stages when the risk is lower. Achieving the proper balance is the key to success.

It is one thing to assemble a strong portfolio and quite another to manage it properly. That task is more like a game of chess. You need to constantly review your projects, know what is happening with each and be able to recognize the pitfalls that often arise in subsequent rounds. An investor with 10, 15, or 20 projects is like a chess master playing simultaneously on the same number of chessboards. Assembling and managing such a portfolio singlehandedly is very difficult, especially without industry experience. For this reason, you need to first graduate from “the school of hard knocks” and build up your team to minimize risk, or else look over the shoulder of an experienced player— such as an investment fund that does most of the heavy lifting for you. Sometimes venture funds also manage small angel club around them.

Keeping a hand in multiple startups

There are two, fundamentally different methods: the entrepreneurial and the venture capital approach. Unlike entrepreneurial investing—where the investor holds a majority stake and maintains tight control with the help of dutiful managers—a venture capital investor joins some else’s growing project. He can ask plenty of questions to know exactly what’s happening, but he should not interfere.

Some investors believe that even a share of 2% or less gives them the right to control a company’s processes and make adjustments to its strategy. However, no startup team is obligated to even respond to communications from such investors, much less take their advice.

However, holding a share of 10% or more can pose a serious burden for an investor. After all, he or she will get a seat on the board of directors, have to attend regular meetings, consult on decisions, and reach a consensus on various memorandums. Also, when the project is complex and requires money, major investors must step forward to fill the monetary gaps. Now imagine a portfolio of 20 such projects and you’ll see why not everyone would want such a lifestyle. The only option, in this case, is to rely on the work of a professional team.

An investor’s best strategy is to give the founder the freedom to develop his business. Every hour that he works on his project means much more growth. But if he’s forced instead to devote his time to endless meetings with investors and business angels eager to give him advice, his business will stagnate and their investments won’t grow. If you want to help a team that needs expertise, you can hire on as an advisor, but not as an investor. Or else you can join the board of directors. If the startup team doesn’t want you as an advisor, then step aside and let them do their job. The role of a venture investor is not to maintain a constant dialogue with the team, but to provide or withhold funding as needed—and to know when it’s time to sell your share.