To VC or Not to VC? That is the Question…

I have been fortunate enough…or perhaps crazy enough, to have started three companies. The first was funded by angels, the second by Venture Capitalists (VCs) and the third with no funding at all, just a few friends and duct tape.

Having tried each funding route, thought I would dig a little deeper into VC funding.

1)  How We Found VCs:
a)  Friends in other startups recommended specific people who worked as VCs
b)  Two of us had been to business school, so we emailed VC alumni
c)  We looked at young companies in our space determining which VCs backed them, and more specifically, which VCs sat on their boards.
d)  Researched specific VCs using the National Association of Venture Capitalists (http://www.nvca-e-series.org/scriptcontent/membersites.cfm) and Google.

With a list of potential VCs, we talked to other entrepreneurs to understand the differences.  We ultimately divided them into three categories: 

i)  High Profile VCs or ‘VC Brand Names’ e.g.:
Kleiner Perkins Caufield and Byers: http://www.kpcb.com/
Sequoia Capital: http://www.sequoiacap.com/?
Draper Fisher: http://www.dfj.com/

ii) Smaller, Younger, Boutiques with Strong Individuals (e.g.)
Red Rock Ventures (Laura Brege): http://www.redrockventures.com/
Shasta Ventures (Ravi Mohan): http://www.shastaventures.com/
WoodSide Fund (Dan Ahn / Tom Shields): http://www.woodsidefund.com

iii) More Obscure: No examples to protect the innocent…
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Having determined which VCs we wanted to contact, we ranked them and put our least favorite at the top of the list.  Those would be the ones we contacted first.  This was absolutely the way to approach it as raising VC funds is a skill like any other…and in the beginning, we couldn’t have been much worse. 

2)  How We got Them Interested:
We created:
a)  A short summary of the business concept
b)  An overview of the founder’s experiences
c)  The problem we wanted to solve
d)  A one pager on what differentiated our company from the competition

Having pulled these together, we ran them by an Advisor that had previously raised VC capital and had them ‘sanity’ check it.  Then, we gave emailed, faxed and posted until our fingers were raw.

Did we send a few out and saw what happened? No, we sent out as many as we could figuring it was a bit of a numbers game…That was the beginning of a twelve month process to raise $6M.

3) What Were the VC’s Looking For?
The obvious answer is ‘well that depends on the VC’…this is true, to a degree.  We probably met 25 different VC firms and they all seemed, at least initially, to want very different things.  But after a time, a pattern seemed to emerge…they all seemed to be interested in nearly the same things but the weightings they placed on each differed.

What were they? 

i) The Team
The strength of the team was almost everything!  Even the best business model with customers clambering for the product can still fail if the wrong team is at the helm. Likewise, the right team can take a mediocre business and make it shine. 
ii)  The Opportunity
How big could this business be?  Will it be a $10M or a $100M business in five years?  How defensible is it?  Who are the Competitors?  Who are the potential customers?
VCs are trying to determine – Risk VS. Reward.  VCs need to deliver a return on their investor’s money…as a certain number of companies fail, they need a 3 or 5 or 6 X of their original investment.  The actual number obviously depends on a number of factors.
iii)  The Differentiator/Uniqueness:
Why is this business different? What does it have that other companies do not?  What will make customer buy from this company? 
iv)  Exit Strategy:
How can we (as VCs) realize our investment? Read – How can we get our multiple back? Will this company be acquired? Can it be a candidate for an IPO? Or will it bumble along for many years make a steady but unexciting profit?  Guess which ones the VCs will invest in…

4)  Doing the Deal:
VCs can have their own internal preferences as far as ‘the deal’ is concern.  Examples:
i) Some prefer to be sole investors – they are taking all the risk
ii) Some like to share the deal with certain other VC firms i.e. they will make investments alongside other VCs firms they have worked alongside in the past.  Note: If you have your minds set on one VC firm, look at their previous investments and see who they have invested alongside. You may need to get onboard two or three firms to get the deal done.
iii)  Some like to lead a deal (i.e. set the terms) but want other VCs to share the risk with them.
…and what do they want for their Investment? E.g.:

a)  Equity:
A certain percentage of the company often with the knowledge that if the company goes through additional rounds of funding, their investment will decline…therefore they may want a percentage within a given range…say 30-40%.
b)  A Board Seat:
If the VC has invested a large sum, they will likely want at least one board seat so they can help move the company in the ‘right’ direction.
c)  The Right to Re-Invest or Purchase More Equity at a Given Price
d) Etc

5) The Question of Management:
What are founders of startups good at?  The reality is that most founders are good at exactly that…starting and growing a young company. 

Unfortunately, the skills necessary to successfully start a company, get the first few customers and take it to 30 employees are not necessarily the same skills to manage a company when it has multiple customers and has 200 people onboard.

Even the best startup stars can make lousy corporate executives.  Attention Deficit Disorder just being one entrepreneurial strength that soon becomes an executive liability. Sorry folks, but its true! 

So as a startup founder, what can you do?

1)  Recognize that you have started something great, something that has a real chance of success but it may be better served by someone else as the big enchilada.  The reality may be that your ‘baby’ will reach it full potential best if you hand it over to someone with a skill set that you may not have.  Also, those people you see around you, they bought into your dream and it’s now paying for their homes, the kid’s schools and braces, they trusted you to do the best thing for the company. That may mean handing the CEO role on…
2)  Learn How to Be a Great Exec – This means focus, discipline and developing a skill set that you may not naturally have.  Work on these skills fast…otherwise, if the board feels you are jeopardizing their investment, they may make this decision for you.
3)  Start Company No.2 and enjoy the buzz all over again…

So, having raised $21M through the venture capital community with company No.2 (Series A & B), what route did we take with No.3 i.e. http://www.AdvisorGarage.com ?

We decided to bootstrap it, so no angels and no VCs.  Why? 

http://www.AdvisorGarage.com began not as a means of taking over the world but because a few friends came together to do what they could to fix a problem…i.e. we wanted to help other entrepreneurs get their business started fast and with less pain.  That meant helping them ‘connect the dots’ in days and weeks, not months or perhaps years. 

For us, the time consuming part of starting a business was pulling the various resources together… http://www.AdvisorGarage.com was our answer to speeding up that process for other startup geeks like us.

Advisor Garage was started by three people, almost two years ago, while we all did other things too…family (me), tried living in a new country (MM) and made music (H). 

Are we trying to be the next YouTube…No…are we hoping to make a difference…maybe a little.

Any questions or thoughts?  Love to hear from you ‘cos otherwise I’m just talking (or writing) to myself…and if that the case, it won’t be long until the white coats arrive.

PS.  Please tell your friends about Advisor Garage…the more people on the site, the more value for all!

Andrew
http://www.AdvisorGarage.com
https://advisorgarage.wordpress.com

NOTE: I grant permission for every reader to reproduce on your website or blog the article you are now reading. But copy this article ONLY, without any alteration and please Include the copyright statement. (NOTE: I am giving permission to host on your website this article AND NO OTHERS. Reprinting or hosting my articles without express written permission is illegal, immoral, and a violation of my copyright.)“Copyright © 2007, Advisor Garage LLC. Advisor Garage Blog. All rights reserved. Permission granted to reprint this article on your website without alteration if you include this copyright statement and leave the hyperlinks live and in place.”

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2 comments

  1. Shai

    I think your analysis here is really good and definitely covers the basics of dealing with us evil VCs. 🙂

    The management team is indeed the key to convincing funds to invest in your company. I should add that the ideal entrepreneur is someone who is passionate about the companies, who can nail down the details quickly, and who is flexible enough to change strategy if the situation changes (and the situation always changes).

    Good luck with the new endeavour!

  2. Pingback: De Gardener

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