First, let’s define a strategic investment. A strategic investment is one that’s made most often by a company in your industry, and in some cases a competitor. I don’t think most startups look at strategic investment opportunities – they pursue angel and VC investors first – but in a downturn economy, do strategic investors become more relevant?
A lot of venture capital money is being held onto by VCs, or being invested into their existing portfolios. Angel investors will be a bit more wary as well; they’re seeing their stock market portfolios taking a beating and will have less investment money to deploy. But strategic investors, assuming their businesses aren’t totally collapsing, may have small war chests and see opportunities to jump in and support startups.
Jason Mendelson and Mark MacLeod both provide excellent insight into the pros and cons of strategic investors. Generally Jason and Mark aren’t overly positive, and it’s easy to see why:
- What’s the motivation? A strategic investor may not be looking for the same outcome as a VC (i.e. a 10x return in 3-5+ years). And that could lead to significant conflict down the road.
- Beware of funky terms. A strategic investor may want to block its competition from playing ball with you, and that’s very risky. For example, if they have first right of refusal to acquire your company, who is going to make you an offer knowing that the strategic investor can just jump in and see everyone’s cards?
- Are they experienced? I suppose this could be a pro and a con. You might get less due diligence issues, maybe you can get a higher valuation, but you might also run into other issues because they’re not sophisticated investors.
There are definitely issues with strategic investment. But if other sources of capital have dried up, you may want to revisit strategic investment opportunities.
As is the case with any funding – whether from angels, venture capitalists or anyone else – you need to go in with your eyes open. The more you know, the more you understand about the process, and the more you’re prepared, the easier things will be. The less shocked you’ll be when certain issues come up. The quicker you’ll be able to respond to questions, and anticipate problems and issues that investors will want answers for. Keep your eyes open.
I don’t know if we’ll see more strategic investment deals over the next 12-18 months, but I think it’s an interesting point of discussion. I do think it’s the responsibility of every startup CEO (and startup founders) to look at every opportunity and assess it carefully. Whereas 6 months ago you might have ignored strategic investment because of the issues it brings, now is probably a good time to re-open those opportunities and at least pursue them a bit further. You can’t be exclusively focused on raising the perfect Series A, for example, from a top-tier venture capital firm — now is the time to review angel investment opportunities, other venture firms, strategic investment and even going back to your existing investors to discuss bridge rounds and other options.
Keep your eyes open. And keep your options open.
What’s your take? Do you foresee more strategic investments taking place? Will they become more important in a downturn economy?