Stoic VC

Geoff Waring

Board Conflict Advisor

Bow do founders prevent destructive conflict between investors on their start-up board? You hear stories of co-founders with unresolved conflict between them that damages their business. But investors can get into unresolved conflicts with each other too.

The standard legal solutions are a constitution and a shareholders’ agreement that formalises expectations. These do help. But they are not enough when interests diverge as large investments are at stake. A natural alignment of interests is more important than enforcing them. But how do founders achieve this between their investors?

Founders should prefer VC firms which have coinvested together previously without destructive results for the company.

Investors who successfully co-invest regularly are less likely to end up in conflict than VC firms that have never co-invested. Expected repeat interactions create incentive for cooperative, non-destructive resolutions. At Stoic VC for example we emphasise collaboration and have co-invested in 20 companies with Uniseed with no destructive conflict between us so far. This means founders we invest in don’t have to worry about investor conflict between us damaging their company at a later stage.

Founders should prefer investors that are similar to each other so their interests are aligned

Investors that are similar on key parameters such as fund size, type of limited partners and years left till the end of their fund life will less likely conflict as their incentives are similar.

Investors with different sized funds under management will more likely disagree about when to accept an acquisition offer. For example I have seen inter-investor conflict arise between angel investors and VC funds.

The angels have fewer funds, so invest less in each company and earlier so are more likely in the money if the company sells at a lower valuation. A large VC fund with a larger and later stage investment in the company will more likely reject the offer and hope for a larger exit later.

Funds with different limited partners may put more emphasis on their limited partner mandates and thus create conflict e.g. a government funded venture fund may prefer to keep the investee company’s headquarters in the home country whereas an overseas investor may prefer to move the headquarters to their larger home market.

VC investors that have significant differences in the time left in their fund will have different investment horizons. A typical venture capital fund life is 10 years. Those with fewer years left in their fund life (say 6 years in with 4 years to go) will push for a faster exit option by their portfolio companies than would a fund with more years to go, even though the later exit may have higher present value. Our fund made investments where individual angel investors with short horizons pressured the founders to pay dividends rather than invest more and grow faster. In 2021 Sequoia Capital in the US moved to an evergreen fund to avoid this conflict with founders. But this means they conflict more with other investors with a 10 year fund.

Founders can use “Pay to Play” terms in later funding rounds

Investors get into disagreements when some provide followon finance while others do not. To align these investors, founders should include terms in later funding rounds that punish investors that do not follow-on. A typical punishment is converting preference shares to ordinary shares for investors who do not follow on. The first time I saw these provisions in a round I was shocked at how draconian they were. But I appreciate those investors that do not follow on hurt the company, so the pay to play terms that transfer wealth of investors that do not follow on to shareholders that follow on better align interests.