By Clint Peterson

Choosing a capital partner is one of the most consequential decisions for any young company. Yet most make the decision primarily based on price. Price is clearly important, but it is not the most important. Think about it: who cares what the price is today if you end up being miserable and your equity is worth less in the end? In addition to price, I would recommend considering the four principles below in choosing the right capital partner for you.

The first principle to remember is accretive dilution. When you bring in an equity capital partner, your ownership will indeed be diluted, but you want your smaller percentage to be worth more at the end. The right capital partner will accelerate positive inflection points, help you to see around corners, and generally make your business more valuable, sooner and with less risk. You should do the research to feel confident that your capital partner will be accretive, which is different for each business and can be different at different chapters for the same business. It can be hard to remember in the heat of the process, but you would rather own a small percentage of a very valuable business than any percentage of a worthless business. Get the “who” right first in order to maximize the odds that your dilution will be accretive. This principle is the first for a reason, coming even before price. In other words, if you have to choose between a high price and the right investor, generally speaking, I would lean towards the latter, within reason of course.

The second principle to remember is that of values alignment. By values, I don’t mean fancy, abstract words, or whatever it says on your company poster, or whether or not you have a ping pong table. Values are where you spend your time, money and mindshare. And to spend it in one area comes at the expense of other areas, so your list of real values is probably shorter than you think. If you don’t have strong overlap with your capital partner on your real values, you are setting yourself up for significant pain. This sort of outcome is so common as to be a trope: we were happy until we brought in our investor. And yet, there are many notable exceptions. The difference is values alignment, and it is an important principle to get right if you want to avoid pain and misery.

A third principle to remember is the price trade-off. Just about everything is a trade-off, including price. While a higher price sounds better, there is a trade-off. For example, if you pay a high price for a car, your expectations for that car are much higher – performance, safety, service, reliability, prestige, resale value, etc. So it is for companies. If you secure a very high price for your company, the trade-off is that you have just signed up for higher expectations, shorter timelines and less understanding or forgiveness for any misses. It can be a recipe for unhappiness, at the trade-off of a small difference in dilution. Trust is built by delivering on expectations. If trust and credibility are important to you, make sure that the price you accept is one that you can deliver on the explicit and implicit expectations embedded therein.

The fourth principle is reverse due diligence. A capital partner is a lot like a marriage, and you want to do the work of a long and thoughtful dating process before saying “I do” (most Vegas marriages don’t end up working out too well). If you own a company, it is imperative to take the time to do your own due diligence on prospective investors, what I call “reverse due diligence.” However, between the work of running your business and the extra work of investor diligence and negotiation, the reverse due diligence is typically what gets short-changed. Who has the time? While understandable, you might as well book your ticket to that Las Vegas chapel now. Alternatively, make the time to see your capital partner in different situations, do deep provided and non-provided references and set mutual and clear expectations for the first 1-3 years, as a start.

At Peterson Partners, our mission is to help great people build great businesses. As a result, we will not invest in a company unless we have evidence of the above four principles. It is critical for us to understand 1) how we can add value and make sure our dilution will be accretive; 2) how the values align between ourselves and the people we are backing; 3) how we can have confidence in the future performance expectations of the business; and 4) if the person we are backing wants to do the due diligence on us. We have helped many management teams find a different capital partner when one of the above principles was not in strong evidence.

No matter who you choose as a capital partner, it takes a lot of work to enter into the relationship, a lot of work to build and maintain the relationship and potentially a lot of damage to get out of the wrong relationship. Do your homework to get it right, and you can have more fun and have a more valuable business, which we think should be the rule, not the exception.

About Clint Peterson
Clint is the Managing Partner at Peterson Partners, a Salk Lake City-based independent investment management firm with assets under management across a variety of alternative asset classes.