📰 Today's topic: The myths of follow-on investing debunked

I hear the same broken advice everywhere.

"Always follow on into your winners" and "It's bad signaling if your investors don't follow on."

Both statements are complete nonsense, and cost both investors and founders real money.

Let me show you why with actual numbers instead of startup Twitter wisdom.

The math that matters

Multiples are everything. Your return is determined by two numbers: entry valuation and exit valuation.

If you invest $100k at a $1M post-money valuation and the company exits at $50M, that's a 50x multiple. Simple.

If another investor comes in later at $10M post-money for the same $50M exit? That's only a 5x multiple.

So, the earlier check wins every time. Keep this in mind…

The portfolio construction reality

Here's where it gets interesting: let's say you're running a $1M fund.

You put $100k into five companies at $2M post-money each. That's 5% ownership across the board and $500k deployed.

You have $500k left. Now what?

Door #1: Continue your strategy. Invest in five more companies at the same stage for 5% each.

Door #2: One of your portfolio companies is raising at $10M post-money (a 5x higher valuation), and the founder offers you $500k for 5% in this ‘hot’ round.

Which door do you pick?

Why door #1 usually wins

Most investors would instinctively pick Door #2. "I know this company better, they're breaking out, I have an information edge."

And that, is the flawed thinking.

To get a 100x return on your follow-on check at the $10M valuation, that company needs to exit at $1 billion.

How many companies actually exit at $1B? Not many.

Meanwhile, your five new early-stage bets need much smaller exits to generate the same multiples.

The probability math favors diversification at the early stage.

When follow-on makes sense

I'm not saying never follow on. Sometimes, Door #2 is the correct path.

It can be smart when:

• The valuation step-up is minimal

• You have absolute conviction the company will exit at an outlier valuation

• Your fund strategy specifically allocates capital for follow-ons

Most accelerator and pre-seed funds don’t follow on beyond the seed stage for a reason. The math simply doesn't work.

The complicated ‘signaling’ myth

"If my investors don't follow on, it looks bad to new investors."

Wrong. It depends entirely on what that investor is known for.

YC rarely follows on into Series A rounds. Is that bad signaling? Of course not - that's not their model.

Your pre-seed fund writing $50k checks? They're not expected to lead your Series A either.

But here's when it IS bad signaling:

If a later stage fund invests in your seed round and then passes on your Series A, that fund is literally saying "You're not good enough for our core business."

Now that's a problem.

How to think about this correctly

For investors: Look at your fund economics. If you're writing small early checks, stick to your strategy. Don't chase valuations just because you "know the company."

For founders: Know what your investor is actually known for. (Don't expect your accelerator to lead your Series B.)

Founders, if you want to avoid signaling risk, either:

• Don't take money from investors whose focus is on the next stage, or

• Take money from multiple investors that are focused on the next stage. (Then, if only a minority of those investors pass, it won’t dominate the signal.)

Bottom line

Follow-on decisions should be based on fund math and strategy, not myths about signaling or relationships.

What's your experience been with follow-on pressure? Hit reply and tell me. (I read every note!)

– Brian from Angel Squad

When Eric’s career was just a wee little thing, he was working for a tech company in product management.

He wanted to become an angel investor, but he didn’t have cash to spare.

One day Eric was browsing Hacker News and he read about a founder that seemed super impressive.

Eric offered the founder a deal. He would swap his product management expertise for advisory shares.

The founder agreed. They signed a FAST agreement (Founder/Advisor Standard Template) and they were off to the races.

And then what happened?? →