Be an entrepreneur who leads with transparency

As a founder, you’ll encounter many hills and valleys growing your company. As much as you want to present positive information to stakeholders, it’s equally important to be forthright when product and financial performance fall short of expectations.

As an angel investor who funds promising startups, on occasion — and thankfully it’s rare — I’ve run into less-than-honest behavior. The point where “faking it” translates into stating untruths to investors, customers and oneself is the point at which ego and reality collide — and ego in some cases ends up as the winner.

A well-publicized case is that of Theranos founder Elizabeth Holmes, who was convicted of defrauding investors about the diagnostic device company she founded. Less well-known is Adam Rogas, CEO of cyber fraud prevention company NS8, who allegedly raised $123 million from investors using financial statements that showed millions of dollars of revenues and assets that didn’t exist.

These and other equally egregious cases present a cautionary tale for entrepreneurs and investors: Transparency isn’t an option; it’s a necessity.

The founder of a company I invested in secretly kept two sets of books: one with correct historical financials, and another with numbers inflated more than 10 times actuals. Sales and product performance had fallen short. His solution was to present the inflated financials to investors.

But investors are always on the lookout and sensed something was amiss. We quickly discovered the second set of books after digging into the data. This founder couldn’t secure additional investment in his company and found himself in legal trouble.

It’s natural to want to showcase positive news, but presenting challenges is just as critical. Challenges can snowball into bigger issues if you don’t communicate them. Never allow the pressure from investors looking for good news to tempt you to exaggerate or sugarcoat the truth.

Optimism and reality

As a philosophy, “fake it till you make it” was never about playing with the truth. It suggests adopting a mindset that you’ll succeed, even when you’re not confident about achieving success.

It’s OK to project an optimistic view on where product development and financials will be in the future. But it’s crucial to present reality, not the reality you wish were true when reporting on the current state of product development, actual customers and financial performance.

The ego-driven high

One trait that enables founders to take huge risks to create and run with their vision, namely outsized confidence and ego, is the very trait that can cause a few of them to lose the sense of what’s right and wrong. With their moral compass adrift, they deceive to get ahead.

In extreme cases, founders on an ego-driven high are addicted to the deception. They imagine themselves as the CEO of the next unicorn. They unleash a stream of untruths that support their made-up reality. These people are trapped in a fantasy space, immersed in hubris. As we saw with the rise and implosion of Theranos, the deception snowballed out of control until, inevitably, the founder was caught in the lie.

The blue chip temptation

Before they write checks, investors look for proof of concept, proof of sales or outside interest in your product. I’ve seen early-stage founders declare blue chip companies as customers, even though these large companies are still evaluating the technology. Evaluation does not mean — nor does it guarantee — that a company will become a customer.

One founder told investors that 30 blue chip companies were paying customers, when in reality there were only 10. We found the inflated number during due diligence of the company’s books, and immediately cut off all additional investment in this business.

The ethical strategy is to simply state the facts: A blue chip company is evaluating the product. This in itself is an achievement, as it shows interest.

Portraying outsized performance

It can be tempting to state that product development is further along than it really is.

Here’s an example from the machine learning and AI space: A founder told us that their product was entirely enabled through their machine learning and AI app. The truth, uncovered through investor diligence, was that the product was much less than 100% AI/ML enabled. Because of the deception, this founder received no additional funding.

This kind of deceit is short-sighted. Investors will be extremely put off by any type of deception they come across.

Take a grounded approach

One good rule is to view all stakeholders, including investors, as part of your team. If investors, board members and advisers know about the challenges you’ve encountered, they can step in to help. They want to help. Many of them have been in your shoes as entrepreneurs, and it’s essential to leverage their ideas for solving problems.

One company I invested in sold only through brick-and-mortar retail. They had no e-commerce when the pandemic hit. This company reached out to investors, who gave the founder critical advice on best practices for transitioning to e-commerce.

We were all part of the solution. Our interests were aligned, and we gladly offered our help. Today, the company’s sales are up 300% from before the transition to e-commerce.

Keep yourself out of legal hot water

The Theranos fiasco proved that lying about product, partner commitments and finances has dire legal consequences. Holmes’ case also proves that staying out of legal hot water is easy.

Instead of bending the truth, adjust your plan to raise a lower amount rather than misrepresenting financial or product performance. As a former founder, I know pressures from stakeholders to achieve aggressive financial and product development milestones, show product efficacy and accuracy, and deliver numbers are enormous.

You need the fortitude and integrity to stand up to the pressure when product performance and numbers fall short and be completely transparent about the results. The long-term consequences of getting caught will wipe out any short-term gain from inflating numbers.

It’s never worth risking your company’s reputation, or yours.

Earn trust and communicate with integrity

From my point of view, the most important attributes your investors, board members, employees and advisers expect are trust and integrity. As you build your business, everyone knows not everything will be rosy all the time. By consistently sharing both good numbers and uncomfortable details, you establish and maintain credibility and trust.

In your updates to investors, note what’s working, explain the challenges and ask for help. Whether it’s a thorny problem needing a solution, staffing issues or acquiring new business — make these asks integral to your company updates.

Your investors have a wealth of experience and connections that can make valuable contributions to your business. Tap into their wisdom. Involving your stakeholders reinforces that everyone is aligned toward the same goal.

I suggest sending updates once a quarter, or at least twice a year. If you come up against a particular difficulty, let investors know in a separate update.

Underpromise and overdeliver

Showcase complete transparency by forecasting realistic revenue targets and product development milestones. Investors will remember what you tell them.

Overpromising creates all sorts of unrealistic pressure not only for you, but your entire organization. Delivering results as close as possible to your forecasts is critical for your credibility, so be realistic as you prepare your projections.

It’s great if you can exceed a sales target or product milestone. Meeting investor expectations should be your bullseye. If, despite your best efforts, you fall short of certain goals, let your investors and advisory team know as soon as you realize you won’t meet stated forecasts.

My message to all founders is as unequivocal as it is moral: keep your ego in check, always be transparent and never sidestep the truth. That said, be optimistic and embrace a positive mindset about your venture.

There’s no harm in envisioning future success — transparency and optimism aren’t oxymorons. They can and should coexist. Just make sure your dream doesn’t obscure reality, and always present accurate information about the current state of your company.

Presenting anything but the truth is a risky game because truth has a way of revealing itself. Be transparent and you’ll sleep better at night, likely secure more investment and live with a clear conscience. I promise!