How to Spot the Ethically-Challenged Entrepreneur

June 14, 2015

4:00 pm

Despite its reputation for fast-talking entrepreneurs, fast-moving investors, and horror stories of angels left choking on the dust of others’ glory, the startup world is built, fundamentally, on an unwritten code of ethics. In a world where little is verifiable, real numbers are hard to come by, and financial projections are a creative writing project, everything is underpinned by the assumption that we can vet entrepreneurs’ reputations and experiences and determine if they are ethical and forthright. This is not always the case, as I have learned the hard way. So, how do you spot the ethically-challenged entrepreneur and stay away?

I certainly don’t claim to have all the answers. I have made a bunch of mistakes and misreads, several of which were hard to mentally shake. But, after soul searching over deals and relationships gone bad over the years and combing through records and conversations, I have given myself a basis of rules I now live by to sort the entrepreneurs I want to work with from the scumbags I try to steer clear of.

Pay Attention to the Cap Table

How does the entrepreneur treat his co-founding members? Is he hoarding equity, or is he distributing equitable share to the colleagues who are sharing his burden? If the co-founder/COO/CSO/CMO of a seed-stage startup owns 0.5 percent of the company on a long-vesting schedule with a cliff, or something similar, proceed with caution. If the entrepreneur is willing to lead on and maltreat those he works with every day, they won’t think twice about screwing you over.

Do You Feel Sold?

CEOs are salesmen, so investors should expect to be persuaded of a startup’s strength. After all, why else would we invest? But there are a lot of subtle cues that tell us if the founder is being straight up, prone to exaggeration, or simply dishonest. Do they inflate their past achievements and relationships? That can be easily fact checked and verified. Do they inflate the size of their contracts? It’s best to speak with several reference customers and dig in. Do you come away from your meetings with the feeling that you got a story of authentic achievement, or of relentless, easy, and contrived triumph? Trust your gut.

Are They Open With Information?

The best entrepreneurs are very clear and forthright about their traction. Entrepreneurs who are hiding something, or in grey areas, tend to be cagey with their information and cite “confidentiality.” If it’s the first meeting, don’t stress. But if you are in serious diligence and these claims persist, its’ almost always a red flag.

Are They a Giver, as Well as a Taker?

Before I invest, I like to help companies informally as a way to get to know them better; including making introductions to potential investors and customers. I do this both to be genuinely helpful and to see how the founder handles relationships I can diligence in the real-world. On a more subtle level, I also pay attention to the founder’s attitude and reciprocation. When they speak to my contact, if that contact in turn provides help, do they also offer to help my contact and actually match their words with actions? Do they help me, if it is within their power? Every single one of the best CEOs in my portfolio has always been willing to build relationships and help others. Being a giver, and wanting to help and make impact for others, is part of what makes a great entrepreneur.

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I am an entrepreneur, angel investor, and early-stage VC living and working in New York City.

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