When it comes to seed-stage investments, we strive to make the process fair here at the Dorm Room Fund. In my short time here at the Dorm Room Fund, I have had the opportunity to step inside the shoes of a VC first-hand. The perspective has given me insight into how founders might increase their success in raising capital.
Unfortunately, there is no cut-and-dry way to fairly assess a company without enormous amounts of research and time. But with time and resources being limited, it might feel as though VC’s are taking shortcuts and relying on heuristics to guide decisions. This leaves us vulnerable to bias.
So when dealing with investor capital, at the Dorm Room Fund we are particularly conscious of cognitive bias because we believe the stakes are far higher. To learn more about cognitive bias, I consulted expert Daniel Kahneman, the father of decision theory and Nobel Prize recipient in Economics.
In his book Thinking Fast and Slow, Kahnmen states that there are two major systems that motivate our actions. The first system, which Kahneman simply refers to as System I, relies on heuristics and intuition, while the second system, System II, is more methodical and systematic. For example, System I helps us decide what outfits to wear whereas System II will be used to answer questions like 45×25. Most of the time, System I will prove extremely useful in answering questions which System II might take eons longer to resolve. Nonetheless, System I is flawed since it is prone to bias.
So, how can a founder use this understanding of cognitive bias in decision-making to better communicate with VCs and optimize their chances for success in raising capital? The answer is simple – be proactive. Through simple best practices, founders can help investors understand their startup’s value in a world of time and resource constraints.
Here are some effective behaviors I have observed:
1. Regular updates leading up to the pitch and after
2. Occasionally forwarding interesting industry articles with a note on how it relates to what they’re doing
3. Frame the pitch itself on the points they want the VC to consider and make sure to take on the challenging points
I, myself, have struggled with conveying value to prospective investors. Having spent months and months building out my start-up, www.stakd.com, I was eager to bring Stakd to market. So there I was, a 20-year-old kid with no previous entrepreneurship experience whatsoever, ready to take on the world. But, it seemed as though VC’s did not share my vision. After all, who would trust a college-student with 50k? Even though companies like Google and Facebook were started in Dorm Rooms, I felt like no VC truly empathized with my plight and was willing to hear my vision. If only Dorm Room Fund were around at the time…
Now that I find myself at the other end of the table, I better understand the concerns VCs more readily consider, but also understand that I had not provided enough insight for them to feel as though they could allocate more time to give me feedback or actually understand my vision.
Knowing the hurdles both sides face leads to a more effective resolution on both ends. Founders can play their part by contributing as much as possible so that VCs can more easily come to understand their business and evaluate it fairly. Essential to the service of venture capital to entrepreneurs is empathy. We at the Dorm Room Fund know we owe entrepreneurs thorough diligence and as much avoidance of cognitive bias as possible. My partners and I aim to do our best to honor the industriousness of the founder(s) by reciprocating in kind.
- Where have all the good VC’s gone? (catalyzingillinois.com)
- Nobel Prize-Winning Psychologist Daniel Kahneman on Fast Thinking in Investing (dailyfinance.com)