Venture capitalists get a bad rep, some of it deservedly so, some of it not so. I do not think VCs deserve the worst of reputation, but I think VCs role in building businesses is vastly overestimated. They’re a necessary evil, no pun intended, but more often than not, companies are successful despite VCs, and not because of VCs.
You have to ask yourself one thing, when a VC pulls the plug on a company, is it acting responsibly or not? When an entrepreneur raises money from a VC, they tend to sell their souls in the sense that:
- VCs invest in preferred shares of the company (versus common shares the entrepreneur/founder, management team, employees own)
- Adding insult to injury, despite the fact that entrepreneurs have probably bootstrapped the company for months if not years, the VC who invests takes the founder’s shares away and uses these as a carrot: stay on for another few years, get some of it back; stay for a few years more, get all of it.
- Meanwhile, throughout this journey, the VC can technically at any point fire the CEO founder and replace him or her with their own crony. This happens via control of the Board of Directors, which ultimately chooses the CEO (if not the entire management).
- Rubbing salt to the wounds, the VCs also get their legal fees paid by the company, which is just criminal in my opinion, because it forces the founders of the company to avoid actually debating many points of the term sheet, because a prolonged negotiation only adds to the legal bill, which is footed by, you guessed it, the entrepreneur.
- Worst of all, rarely can the founder take any money off the table, which is what I consider the biggest mistake entrepreneurs and VCs make, because it does not align the risk profile and time horizon of the two parties, basically. This is one thing that former Paypal President, Facebook angel Peter Thiel’s Founders Fund “gets” and I suspect will help it stand out from the clutter in 2008 and beyond.
So given all of this, I understand it’s one thing when a VC like Highland throws in the towel and refuses to continue to finance a money losing Titanic like Amp’d Mobile, but what about circumstances like:
- Edgeio’s - where $5M was supposed to make a dent in Craigslist’s business - but didn’t, and the company subsequently shut down, and auctioned off the pieces for $280,000.
Or what to make of the bizarre case of
- 3 Guppies, where - despite a supposedly hot mobile space and growth potential - Vantage Point Venture Partners pushed the company in the deadpool.
The horror stories just get worst. The trophy, really, hands down, goes to:
- ComVentures, who allegedly basically stole from a dying company founder in the Zantaz debacle. The ComVentures fund recently merged with Velocity Interactive Group, the fund set up by Jon Miller and Ross Levinsohn.
Not all cases are similar, mind you. I’m not sure Edgeio really stood a chance, but then why invest $5M in the first place? I’m not that familiar with 3 Guppies, frankly, to make a case for or against. Amp’d Mobile was just folly in action, so ultimately, it did not make sense to go past $375M in funding… but why invest up to $375M in the first place?
These three cases might be outlier examples of companies that should not go on, but if you check out a site like TheFunded.com you will come across many cases where VCs simply acted in violation of their end of the bargain.
After all, when an entrepreneur sells a stake of his dream to a VC, he should be bound to fight until victory is attained, should VCs not be held to the same standard? More importantly, maybe if entrepreneurs did not accept VCs draconian rules of engagement in the first place, then maybe they won’t find themselves in a position where they have little leverage to prevent such things from happening.
I like to think that I am building a world-class, grand slam type of company, invariably, that might require outside financing from someone like a VC.
But if you think of some of the most successful companies around, the common thread is the relative lack of power and control that VCs have… maybe now we’re onto something. Ultimately entrepreneurs need to heed advice from someone like Herb Kelleher - founder of SouthWest Airlines - who put clients above investors, arguing that if and when clients are satisfied, then investors will too. But how about something more radical? Why not put founders, management, employees ahead of investors too. Won’t investors get a better long term return if the needs of short-term minded investors did not supercede those of the people actually building the company?
That might be something worth asking.
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August 27th, 2008 at 3:11 pm
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