This is a guest post by Penny Schiffer a Zürich-based energetic woman, passionate by the startup and investment world. She’s currently managing the startup initiatives of Swisscom and in charge of the « Swisscom Startup Challenge » and also part of Swisscom Ventures and a member of the business angel club Go Beyond.

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Are all investors made equal? There are two types of investors: Lead investors and co-investors. Understanding this difference is fundamental when structuring an investment round to avoid unnecessary circles or risk the completion of the successful round altogether. So, what is a lead investor? In most investment rounds with more than one investor, there will be one institution or business angel who plays a special role during the due diligence and in the structuring of the round. This so-called lead investor will typically be the investor that puts in the most money and/or the one that is most aggressive or well-known. This lead investor will often do the following:

1. Negotiate the terms of the investment (term sheet) including the valuation and liquidation preference
2. Check all available documents including the most basic legal documents, like registration of company
3. Help the company structure the round by finding or co-managing the relation with other investors
4. After the investment, the lead investor is often the one that will have a board seat and thus be the most relevant investor for the further development of the company. So, chose the lead investor wisely as this will be the most influential role outside of the founders’ team.

The other investors, so-called co-investors, often rely on the lead investor for the legal check and leave it to them to negotiate the terms. They often will agree on the term sheet that was agreed with the lead investor. Do you really need a lead investor? I know from experience what can go wrong when there is no lead investor: About two years ago, I was part of an investment negotiation between four parties who wanted to invest jointly. We set up calls to discuss the term with the startup and seemed to progress nicely. However, when it came to the details, we discussed a lot and did not reach a conclusion in the end. The process paused for about two months, until the startup started the discussion again with one of the four investors, made them the lead investor and included the others as co-investors once the deal terms were fixed. What’s the advantage of having a lead investor in the round?

• It saves time to negotiate the terms with just one party
• The detailed Due Diligence only has to be conducted by one party
• The fact that there is a lead investor helps attracting other investors

How do you find an appropriate lead investor? There is a bit of a chicken-and-egg problem: before you have secured a lead investor, it will be difficult to attract investors that typically do co-investments. They all want the signal of a (well respected!) lead investor before they even go into formal due diligence. For once, they don’t have the resources to check what a lead investor does. Additionally, they want to evaluate the chances for success that will come with a high-powered investor. However, once you have found a strong lead investor, it may even happen that a round is oversubscribed in no time: Everybody wants to jump on the bandwagon! So here is my advice for you:

1. Find out if the potential investors on your list are willing (and able) to act as lead investors.
2. Try to engage a lead investor early on – don’t spend too much energy on other investors.
3. Use the lead investor’s credibility to convince other investors to join this round and prepare for the next round.
4. Engage your lead investor as advisor into your startup leveraging his/her expertise and connection.
5. If the lead investors ask for a compensation, evaluate carefully and pay an equity compensation rather than a cash finders fee – if any.

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