Post Category → Funding

Bad Advisors: The Problem with Localism

TL;DR Nutshell: One hour with an advisor who has exactly the domain expertise your company needs could be infinitely more valuable than 100 hours with someone who doesn’t. Yet, unless you live in a large ecosystem, that all-star may not be in your city. So go find her. Time is precious and mistakes are costly. Never put localism before competence and results.

Related Reading:

My wife loves farmers markets.  I love healthy, delicious fresh food, as well as supporting decentralized agriculture over conventional mega farms.  But I also personally have a ‘thing’ against rewarding inefficiency and mediocrity. I dislike the way in which a lot of the pro-local ethos appears to almost celebrate how badly businesses can be run – hand-made, hand-picked, artisanal, small batch, etc. etc. If it doesn’t actually produce a tangible benefit to the consumer (better taste, as an example), why should I wake up early on a Saturday morning just to reward your bad business skills?

Funny thing is that there’s one local farm here in Austin that has begun to just dominate farmers markets. More variety, more staff, consistent quality, better pricing, even better branding. They’re everywhere. I love it, and whenever I have to go to a farmers market, I usually just end up shopping at that one booth. And when I’m not at a farmers market, I’m probably shopping at Whole Foods, which is the farmers market fully self-actualized. Say what you want about its prices, but John Mackey and WF took the pro-local, pro-environment, humane food value structure and scaled it (out of Austin) like no one else has since. And it is spectacular.

Touchdowns; Not Pep Rallies. 

Now back to tech. Celebrating your local business / startup ecosystem is a great thing. There’s deep value in the close, repeat relationships and networks that develop through working with people within your city. But with that being said, there is still a completely unavoidable fact: nothing comes even close to supporting a local startup ecosystem as much as the building of scaled, successful tech companies. All the meet-ups, startup crawls, networking events, hackathons, pitch contests, publications, parties, etc. are great and important in their own way, but, to repeat, nothing matters more than the building of great companies. Touchdowns. Wins.  Pep rallies do not attract the kind of deep talent that ignites a local economy; awesome companies do.

Once you accept that building successful companies trumps all else, there’s another unavoidable fact: working with highly competent, experienced advisors with truly valuable insight for your specific company, whether they’re in Silicon Valley, Seattle, Los Angeles, New York, Austin, Houston, Boston, London, Dallas, or wherever, comes first, second, and third before working with someone who may be more accessible to you locally, but can’t deliver nearly as much value. 

If it’s my company, my capital, and my employees on the line, I ain’t got time for the guy selling his tiny backyard tomatoes across the street, even if he knows everyone in town. I need that big, juicy peak game stuff, and if I have to go to the coasts to get it, so be it. Hit your goals with quality, imported help (if necessary), and you’ll sow a dozen A+ farmers in your city for the next entrepreneur to reap. THAT’s how to support your ecosystem.

Bad Advisors <> Influencers. 

Bad advisors are usually influential, well-known people in a local economy. They aren’t bad people. They just don’t have very useful advice, and often give bad advice, to early-stage founders. 

If you want to start a startup-oriented business – let’s use an incubator as an example – and generate a lot of buzz around town, you are going to want to work with the influencers in your community. They know whom to call, what strings to pull, and can even usually put in some cash, to help establish your incubator’s brand around town. What do all of those influencers expect in return? Profit? Perhaps. But more often than not, they want access. They want to be involved. How can they get involved? As mentors /advisors.

So it should not surprise you that when a new incubator, accelerator, co-working space, or other startup-oriented org launches in your town, a significant portion of the people involved will be there not because of the value they can bring to startups, but because of the value they brought to the person starting the incubator, accelerator, or what not. They may be C-suite executives at a prominent local company who have never worked anywhere with fewer than 200 employees. They may be wealthy businessmen in industries totally unrelated to your own. Sometimes it’s just a guy who is really F’ing good at networking.

It’s an unfortunate fact of reality that many business referrals, even in tech ecosystems, are made more with an eye toward perpetuating the influence of the person making the referral (reward people who refer back, are part of your ‘circle’) than the value that the recipient of the referral will receive. Finding people who care more about merit than about rewarding their BFFs is extremely important for a founder CEO. Those people will be honest with you when there simply isn’t anyone in town worth working with. I find myself saying that often about lawyers in specific niche specialties needed by tech companies, although increasingly less so each year.

Widen your network. 

The take home here should be to (i) understand why those influential (but sometimes clueless) local people are being pitched to you as advisors, even when they don’t really have very good advice (but they may have money, and it’s green), and (ii) go find the advisors you really need, wherever they are. But please save your equity for the people actually delivering the goods. Vesting schedules with cliffs. Use them.

Videoconferencing is pretty damn good and cheap these days.  I use it with clients all the time. LinkedIn and Twitter make it 100x easier today to expand your network than even 10 years ago. Hustle. Every founder team does not need to fit the super extroverted, Type A entrepreneur stereotype, but I’ll be damned if any company can succeed without someone who can get out there and shake the right hands.

Interestingly, some people are working on building curated (important, get rid of LinkedIn’s noise) marketplaces to help founders find well-matched advisors, hopefully at some point across geographic boundaries. Bad Ass Advisors appears to be the best example I’ve seen thus far. If BAA doesn’t become a hit, something like it will. The value prop is obvious.

 Most startup ecosystems have some awesome people to work with. Find them. Local can be valuable.  But as your company grows and evolves, don’t let the geographic boundaries of your city force you to settle for influential, but not very useful advisors. Customers > Community. All day. Every day. Never forget: you’ll help your local economy and ecosystem far more by going big and going far than by going local.

VCs and Founder CEOs: Coaching v. Undermining

TL;DR Nutshell: For a first-time founder CEO, the process of acquiring the skills to run a successful, scaled company will inevitably involve mistakes, learning, refining, iterating, etc. The best VCs engage founder CEOs as coaches, constructively pointing out weaknesses and pushing them to become great leaders. The worst VCs go into an investment having already decided that the company needs a “real CEO” and will use every mistake, no matter how common, as a reason to reinforce their viewpoint.  Know how to distinguish between the two, or you’ll be sorry.

Background Reading:

One of the great things about being a VC lawyer is that you get to observe a volume and breadth of companies and founder teams that really isn’t accessible to most ecosystem players. Executives see only their own companies. Investors see only the ones they’ve invested in. But VC lawyers interact with teams that cross geographical, investor, industry, and all kinds of other boundaries.  More data points means more opportunities for pattern recognition, and I’ve noticed that the relationship dynamics between a first-time founder CEO and her lead investors – one of the most important relationships in the trajectory of a startup – often fall broadly into one of two categories:

  • Coaching – The functional category – The founder CEO understands, from Day 1, her role as the leader of the Company and that, cap tables and corporate governance issues notwithstanding, the Board and VCs are there to provide input, guidance, constructive criticism, and whatever else is needed to help the CEO exercise her judgment in leading the Company.  If the CEO makes a mistake – the budget was missed, some projections were off, a new hire turned out to be a dud, all mistakes that happen very often, especially in the very early days of a startup – everyone acknowledges the error, provides guidance on how to improve, and keeps moving. Investors offer suggestions, connections, and other resources all built around developing the CEOs personal skillset.
  • Undermining – The dysfunctional category – Because of the differences in experience, influence, and often age, an almost parent and child-like relationship develops between VCs and the founder CEO.  Very common mistakes like those described above don’t result in constructive advice for improvement, but in “this should NEVER happen” scoldings and early discussions about what kind of ‘talent’ is missing on the team. Communications become far more about what the founder CEO is doing wrong than about how she could start doing them right.

No one is born with the skillset needed to run a successful, scaling company. Founders know that, and experienced investors absolutely know it. Even more so, the early days of a startup are often so fast-moving and full of uncertainty that problems arise through no fault of the management team, but just because sh** happens. A lot.

A group of VCs who are committed to giving the founder CEO the necessary runway and resources to become a great leader is an invaluable asset to a founder team. But, unfortunately, in every ecosystem there are also investors whose routine playbook is to pretend that every hiccup, every miss, is just another reason why they need to pull out their rolodex and bring in some ‘adult supervision.’

Coaching ≠ Entrenchment

To be crystal clear, founder CEOs sometimes do need to be replaced, particularly when the Company has reached a size/scale where it really isn’t a ‘startup’ anymore; think Series B/C+. A Board of Directors has a fiduciary duty to do what maximizes the value of the entire Company, and if it has become clear that, after repeated attempts at building the necessary skillset, a CEO simply doesn’t have what it takes, she should step aside or be removed.  If the ship is sinking, it’s unfair to let everyone drown when you could’ve replaced the captain. 

My experience is that great founders are often (but not always) quite good at acknowledging when they’ve reached their limit– they obviously want their ownership stake to produce a great exit just like everyone else’s, and if they feel like bringing in new management will get that done, they will move aside. But not until they’ve been given a real chance. Even if we all universally accept that no one who raises outside capital is entitled to run a company forever, the best investors and advisors should all agree that, given the massive personal sacrifices that founders make to build their companies, every founder CEO deserves an opportunity to make mistakes, learn from them, and mature into her leadership role without being constantly undermined.

If it’s been 2 years post-investment, you’ve cycled through ideas suggested by your Board, done the reps, studied the books, met with the mentors, things still just aren’t clicking and your Board is throwing out some names, think hard about it. That is just the Board doing its job.

But if you haven’t even closed a decent A round, your VC has you on a “tight leash” because you missed last quarter’s projections, and names (from the VCs own network) are already being suggested for new management, that is bullsh**. What you have there is an investor who planned to replace you before the ink even dried on the check.

The Importance of Transparency and Competition in Ecosystems

When I work with founder CEOs who’ve found themselves in the unfortunate situation of having an “underminer” on their cap table, my first piece of advice is simple: whining will get you nowhere. If a VC has managed to build a decent personal brand all while maintaining a consistent playbook of undermining a CEO’s leadership role from the very beginning, then he’ll respond only to consequences, not complaints.

Scarcity and opacity are the mothers of bad behavior in almost any market. If a market participant has thrived while being an a**hole, it’s because the market mechanisms needed for punishing that behavior, transparency and competition, have been absent. If you want to change the behavior, you have to change the environment. That means:

A. Never stop meeting with outside investors, and avoid contractual provisions that lock you in, early on, to a particular group of investors. Founders do themselves, their companies, and (frankly) their ecosystems a massive disservice by deciding that, once they’ve found ‘their VC,’ it’s time to stop investor discussions and ‘focus on the business.’

This does not mean that you should spend all of your time in full pitch mode – of course not – but you better believe that an investor’s knowing that you may be taking meetings with deep-pocketed California or East Coast VCs (who are increasingly looking outside of their core markets) will make them think twice about their behavior on the Board. It should not surprise anyone that the country’s VCs with the best reputations for how they treat founders (in addition to financial returns) are predominantly located in ecosystems with much more capital (and hence competition among capital) than the rest of the country.

B. Find Truly Independent Perspectives for both the Board and the management team. See: How Founders Lost Control of Their Startups, Apart from Ownership. Your independent director(s) should be actually independent – not people whom your ‘underminer’ has picked for 4 other boards before yours.  And you should know that pushing executives from their personal network onto the management team is a common way that ‘underminer’ VCs slowly unhinge the existing leadership. People remember who really got them their job.

C. Talk to other founders. Every founder approaching a VC round should be talking to the companies who’ve already taken money from their prospective VCs.  And I don’t mean just the rocket ships your VC suggested you talk to.  Recruiters know that the real data on a recruit comes from the people she didn’t list as references. You want to know how a VC treated the companies that hit road bumps, and that means doing your own diligence.

And when future founders come to you for feedback on a particular VC, play your proper role in the ecosystem and be honest. I certainly will be.  The best VCs deserve your praise – every ecosystem needs more of them, and the underminers deserve to be called out.

In any ecosystem, the best way to increase the number of coaches and marginalize the underminers is to (i) bring in new, competitive outside capital, and (ii) be transparent and honest about the capital that is currently available. Don’t whine about the players. Change the game. 

Why I (Still) Don’t Make Investor Intros

TL;DR Nutshell: If in today’s connected startup ecosystems, with today’s tools and resources, founder CEOs still need their (paid) lawyers to introduce them to investors, there’s a very good chance they can’t build a company. And most investors know that.

Background Reading:

Certain law firms I come across love to use the following biz dev pitch: “our firm has close relationships with many investors, and we love helping make intros to them for our clients.” Some have even attempted to institutionalize this into an entire department within their firms.

Sounds great, doesn’t it? Lawyers are constantly interacting with investors, so they must be a great shortcut to getting intros, right? Not so fast.

A paid intro is generally worse than no intro, particularly in today’s ecosystems. 

I wrote Don’t Ask Your Startup Lawyer for Investor Intros about a year and a half ago, in which I made the following argument:

  • Early-stage investing is at least as much about betting on founders, particularly CEOs, as it is about betting on a particular business.
  • Because investors see 100-1000x more companies than they can fund, or even assess, they heavily rely on filters/signals to judge the quality of founding teams.
  • The way in which a CEO obtains an investor intro (and from whom) speaks volumes about that CEOs ability to network, persuade, and generally hustle; all of which are extremely important skills for a successful founder CEO.
  • There are far more ways, today, to get connected with investors and find true, authentic warm referrals – AngelList, LinkedIn, Twitter, Accelerators, etc. – than there were even 5-10 years ago.
  • Therefore, in a world in which there are 100s of possible paths to get introduced to an investor, the fact that your lawyer (someone you are paying) ends up making the intro can send an extremely negative message about the founding team – including that they can’t hustle, can’t convince anyone else in their ecosystem (that they aren’t paying) to introduce them, or both. Samir Kaji emphasizes this last point, about a weak intro making investors think negatively about the founders, in his post.

At the time I published that post, most people providing feedback on it agreed, but I had a few dissenters – generally lawyers arguing that they’ve made successful intros themselves. I don’t doubt that they’re telling the truth, but what was telling is that few could give examples of successful intros in recent years – and my point is very time-contextual. Even five years ago, relationships within startup communities were far more opaque than they are today, and an intro from a lawyer didn’t have nearly the level of negative signaling then that it does now.

But one pattern become obvious that relates to another point I’ve made before:

For a lawyer’s investor intro to not have a negative signal for a particular investor, the lawyer and investor must have a very close relationship, and that means you shouldn’t want that lawyer representing your company in a deal with that investor.

See: Why Founders Don’t Trust Startup Lawyers

There absolutely are particular lawyers who have very close relationships with particular investors, much more than other lawyers who simply run into those investors on deals and on boards (professional acquaintances). The issue is that those close relationships develop, nine times out of ten, from those lawyers working for those investors. And for reasons that should be obvious (but if they aren’t, read the above post), the last lawyer you want representing your company in a VC deal is the lawyer who is BFFs with the VCs you are negotiating with.

So maybe some lawyers can make a decent intro… but you shouldn’t work with them… which makes it significantly less likely that they’ll make the intro. Life is complicated.

Other founders, particularly well-respected ones and especially those who’ve been funded by an investor, are the best source of referrals. Other well-respected, non-service providers (advisors, accelerators, angels, etc.) are the second best. Anyone you are paying comes dead last.

Jeff Bussgang has a great post on how to ‘rank’ different potential paths to investors – Getting Introductions to Investors – The Ranking Algorithm. His hierarchy makes a lot of sense. And aside from other founders being the best source of referrals, they are absolutely the best source of intel on investors, when you’re diligencing them. If a group of VCs have provided you a term sheet and you aren’t actively (but discreetly) talking with their portfolio founders to understand what working with those VCs is actually like, you’re doing it wrong.

As ecosystems become more transparent, and prospecting tools become more sophisticated, investors may be relying less on referrals anyway.

I found the data reported by First Round Capital in their 10 year Project to be pretty interesting, including the data suggesting that First Round’s referred investments significantly underperformed relative to investments that First Round hunted on their own. Honestly, this isn’t that surprising.

A lot of studies on investor performance emphasize that, while many people get lucky with one or two home-runs, the people who consistently outperform the market are those who actively take a process, data-oriented approach, and try their best to counteract their biases. That doesn’t mean success in VC is about number crunching, but it does mean that if your personal relationships are the main way that you find companies, you’re going to have a lot more sources of bias in your decision-making than someone who takes a broader, but more calculated approach.

In short, we live in a very different world from the one in which VCs sat in their offices relying on proprietary, somewhat opaque deal flow sources. In that world, lawyers were a better source of investor intros. That world no longer exists. Investors fund hustlers, and (today) hustlers don’t need their lawyers to introduce them to investors.