Tag: Venture Capital

Apr 23 2015

The Paradox of VC Value-Add

Scott Maxwell of OpenView Partners had an awesome post up this morning titled The Truth About VC Value-Add. Go read it – I’ll still be here when you get back.

You may recognize Scott’s name – I wrote about him in my post When VCs Don’t Bullshit You.

The next person on the list of supporters is Scott Maxwell at OpenView Venture Partners. Scott and I were both on the Microsoft VC Advisory Board that Dan’l Lewin organized and ran. While we had never invested together, I felt like Scott was a kindred spirit. We both spoke truth to Microsoft execs, even though they mostly ignored us. I remember a meeting with the Microsoft Mobile 6.0 team as they were pitching us their vision for Microsoft Mobile 6.5. Both Scott and I, on iPhone 1’s or 2’s at the time, told them they were completely and totally fucked. They ignored us. A year or two later they had less than 3% market share on mobile. We had a blast together and as we went out to raise our Foundry 2007 fund, Scott made several introductions which resulted in two wonderful, long term LP relationships.

That’s how a friendship develops, at least in my world. You do stuff together, learn from each other, and then do things for each other. Simple.

Scott’s post is a great history lesson about the evolution of “value-added VC” behavior, especially around organization building by VC firms to “add more value” to their portfolio companies.

Before I dig in, I need to express two biases. First, whenever someone says “I’m a (adjective) (noun)” I immediately think they are full of shit. When someone says “I’m a great tennis player”, I immediately wonder why they needed to tell me they are great and it makes me suspicious. “I’m a deep thinker” makes me wonder the last time the person opened a book. “I’m a value-added VC” makes me think “Isn’t that price of admission?”

Second, I went through the scale up of the organizational VC firm in the late 1990s at Mobius Venture Capital. When we started Mobius, we were four founders and two EAs. At one point we were a 70 person organization, with 10 partners, 20 associates, two business development people, three recruiters, a marketing person, two incubators (anyone remember Hotbank?), a staff to run the Hotbanks, a big back office for accounting, EIRs, and some others folks.

It was a disaster. Now, you can argue that we were terrible at it. Or that we completely fucked it up. Or that our basic premises about what we were doing was wrong. Or that how we managed it was ineffective. Or that it would have worked great if only the Internet bubble hadn’t collapsed. Or probably 83 other arguments.

Regardless, it created a very deeply held belief that I share with my partners at Foundry Group that we wanted to run a VC firm that had none of this. We didn’t want associates. We didn’t want to grow. We didn’t want to build an organization. Instead, we wanted to be extremely close to the entrepreneurs and do all the work ourselves. It just occurred to me that we are bare metal VCs. That kind of fits with the word Foundry in our name.

So, my fundamental biases are (a) I don’t like the phrase “value-added investor” and (b) I have no interest in building a VC firm that looks like one that is configured the way many of the current larger VC firms are organizing themselves.

However, while it’s a bias, I have no opinion on whether it’s a better or worse approach. It’s a different approach. And that’s totally cool – there are lots of different ways to do things successfully. And there are lots of different ways to fuck things up.

In my opinion, Scott is one of the guys that is doing this effectively. I’m an investor in Scott’s funds and a very happy one. Scott’s also been thinking about this and working on it for over 15 years, now at two different firms, so he has a lot of run time with what works and what doesn’t. Many folks that are trying to incorporate “value-add infrastructure” into their firms would be wise to read his post carefully.

Now, if you are paying attention to my biases, you’d logically ask “So why did you co-found Techstars and why are you and your Foundry Group partners so involved?” Remember that it’s a different approach. We deeply believe that the way companies are created and funded, especially at the seed stage, is radically changing on a permanent basis. Techstars, at the very beginning, was based on this premise. It’s scaling magnificently around this premise and the iteration loop on learning is incredibly tight. And, while we are very close to it, Techstars is not “our firm” so we can help with our opinions, lessons we’ve learned, and belief system without having to run it.

Remember, there are lots of different ways to do something. However, there’s a huge difference between “doing something” and “doing something successfully.” The distinction is always worth paying attention to.

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Oct 28 2014

What’s Old Is New Again

I know I’m getting old. I remember in 2007 when the idea of a super angel appeared, where successful entrepreneurs were suddenly angel investors making 10 or more seed investments a year. This was a “new” innovation that was celebrated with much fanfare.

Between 1994 and 1996 I made 40 angel investments with the money I made from the sale of my first company. I was referred to as an “angel investor” – I didn’t get the super angel moniker back in the 1990s, but I was often referred to as promiscuous.

Every day I’m reading about a new thing in the startup world. Big corporations are splitting in two or spinning off divisions that are being funded by VC firms. The amount of VC investment each quarter is growing, with us now in the $10 billion / quarter zone, rather than the $10 billion a year zone. Strategic investment is in vogue again, with virtually every large public company trying to figure out how to fund startups. Hedge funds are once again allocating big money to private companies and lots of cross-over public company investors are trying to get large dollars into private companies pre-IPO.

What’s old is new again. As we know from BSG, “All this has happened before, and all this will happen again.”

There are definitely new and interesting things happening this time around. If you haven’t noticed AngelList, you are missing what I think is one of the most interesting phenomenons around. And I’m deep in another one, Techstars, which has helped spread the mentor-driven accelerator model around the world.

Every cycle has a different tempo. We are in a very positive part of the current cycle. But it’s a cycle, and we know that by definition we are likely to have too much, and then a correction, and then too little. Welcome to life.

This part of the cycle always makes me uncomfortable. I love innovation, but when things that have been done before get talked about as though they are new, and no one bothers to try to remember what happened, why it happened, and what went off the rails, that’s uncomfortable to me.

Don’t live history, but study it. Remember it. And make better decisions and choices the next time around.

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Jul 31 2014

When VCs Don’t Bullshit You

I know many entrepreneurs who feel that VCs have played them, gamed them, deceived them, or bullshitted them. But this doesn’t only happen to entrepreneurs. VCs play this game with VCs all the time.

One of our deeply held beliefs at Foundry Group is that there is no value in bullshitting anyone. We screw up a lot of things, make plenty of mistakes, and often look back and say some version of “oops.” But we never bullshit each other or bullshit anyone we work with.

Seth, Jason, and I had an awesome dinner with one of our LPs last night. In addition to being an incredibly supportive investor in us from the beginning, this LP has become an extremely close friend. He’s someone we trust with anything and listen to carefully whenever he has feedback. And we always enjoy being together – a lot.

As I was walking home after dinner, I thought about the person who had introduced us to this LP. His name will be familiar to plenty of you – it’s Fred Wilson. This LP is also a long time investor in Union Square Ventures and was one of the first people Fred introduced us to when we started raising the first Foundry Group fund in 2007.

In 2014, it’s easy to reflect on what has happened over the last seven years and feel good about it. I’m fortunate to have three amazing partners, an awesome team that I get to work with every day, a hugely supportive set of about 20 LPs, and hundreds of entrepreneurs who we love to work with, and whom I think respect us and appreciate us a great deal.

But is wasn’t always this way. In 2007, when we set out to raise our first Foundry Group fund, early stage tech VC was in the shitter. No one believed that you could make any money as an early stage VC and when we went out to raise our first fund, we heard over and over again that we were on a fools errand. The prior fund that I had co-founded – Mobius Venture Capital – had blown up after having a very successful first fund in 1997. The collapse of the Internet bubble was not kind to us and by 2005 it was clear that our second fund – raised in 1999 – was a disaster, and our third fund – raised in 2000 – was off to a very rocky start.

In early 2006, my partners at Mobius and I decided not to raise another fund. In 2007, several of us (Jason, Ryan, Seth, and I) set out to create a new firm.

I thought I had a lot of VC friends and supporters from the last decade of my life as a VC. I quickly learned that it was easy for these so-called friends to say “I’ll help” and very hard for them to actually follow through.

When we started raising our first Foundry Group fund in 2007, I called many of the VCs I knew and asked them for introductions to their LPs. While some of them said they would help, I only recall three who actually made any serious introductions.

Fred Wilson at Union Square Ventures was by far the most helpful. Fred introduced me to all of his significant institutional LPs. We had been friends for a long time and had worked together on several companies. I had deep respect for Fred and I think he felt the same way about me. There was no hesitation on Fred’s part – he made real introductions, advocated strongly for us, and was unbelievably supportive. Over 33% of our capital ended up being from the same LPs who invested in USV. I will never, ever, ever, forget this. Fred can ask me for help on anything he wants for the rest of his life and I will always be there for him.

The next person on the list of supporters is Scott Maxwell at OpenView Venture Partners. Scott and I were both on the Microsoft VC Advisory Board that Dan’l Lewin organized and ran. While we had never invested together, I felt like Scott was a kindred spirit. We both spoke truth to Microsoft execs, even though they mostly ignored us. I remember a meeting with the Microsoft Mobile 6.0 team as they were pitching us their vision for Microsoft Mobile 6.5. Both Scott and I, on iPhone 1’s or 2’s at the time, told them they were completely and totally fucked. They ignored us. A year or two later they had less than 3% market share on mobile. We had a blast together and as we went out to raise our Foundry 2007 fund, Scott made several introductions which resulted in two wonderful, long term LP relationships.

The last person who was helpful was Jack Tankersley at Meritage. When I moved to Boulder, Jack was one of my early mentors. He was a partner and co-founder of Centennial Funds and he and Steve Halsted basically created the VC industry in Colorado in the early 1980s. Jack was extremely helpful in coaching me on how to create a new firm and made a number of introductions, one of which became an LP. I appreciated the energy he put into this immensely.

There were at least a dozen other VCs who said “I’d be happy to make some introductions for you.” Very few of them did, and the ones that did made introductions to junior people at LPs who quickly blew us off.

My partners and I are forever appreciative of Fred, Scott, and Jack’s help. And, after 90 meetings in the first three months of fundraising, which resulted in 20 immediate rejections and no obvious path to a fund at the end of the first quarter, our appreciation for these three people grew. As we started to have momentum in the second quarter, Fred and Scott really stepped up and advocated for us. By September we were oversubscribed and did our first close with our final close in November. We’ve never looked back.

The wonderful dinner last night with the LP Fred introduced me to reminded me of this. But more importantly, it reminded me of how often VCs bullshit each other and entrepreneurs. And, in the situations where they don’t, how incredibly powerful it is.

Fred, Scott, and Jack – thank you.

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Jul 28 2014

Why The SBIC Doesn’t Work For Venture Capital Anymore

I woke up to an article in Daily Camera today titled Small Business Administration trying to bring SBIC funds to Colorado.

There are so many things wrong in the article I felt compelled to write about it. This isn’t a knock on the writer (Alicia Wallace) – I like Alicia and think she does a good job. Rather, it’s an example of the difference between signal and noise in any kind of reporting around the VC industry.

I’m an investor in over 40 VC funds around the world (mostly in the US) and three of them are SBIC funds. Each of the SBIC funds were raised in the 2000 – 2002 time period. On paper, only one is in positive return territory as a fund, but the SBIC leverage is a substantial negative factor for the LP investors in that particular fund. And, in the other two, I don’t expect to ever see any of my capital back because of the SBIC leverage. Furthermore, I don’t believe any of the GPs in any SBIC-backed fund would ever take money from the SBIC again.

So I’m speaking from at least a little experience – albeit indirectly – with the SBIC, as I’ve never been a GP in a fund that had SBIC leverage.

The article starts off saying that “Matthew Varilek has traveled across the state, proselytizing the potential benefits of the Small Business Investment Company Program.” As a partner in one of the most visible VC firms in Colorado and an LP in many of the Colorado VC firms, I’ve never heard from Matthew or anyone from the SBIC. Matthew, if you really want to have a deep discussion about why the SBIC program isn’t effective for VC funds anymore, feel free to give me a shout. I’d be happy to meet with you.

Next, there is the wonderful PR quote about the SBIC that says “Since the program’s inception, SBIC “success stories” include the funding of companies such as Apple, Costco and FedEx when they were burgeoning small businesses.” The SBIC was instrumental in the creation of the venture capital business. The Small Business Investment Act of 1958 helped catalyze many of the VC firms created in the early 1960s. When I first heard about VC firms in the late 1980s, and my first company (Feld Technologies) started writing portfolio management software for some Boston-based VC firms, many of them had funds with SBIC leverage, although even by the late 1980s this was changing and many of them had shifted away from the SBIC. If you want to see a fun quote on it, read A History of Silicon Valley which quotes:

“ …many venture capital pioneers think the SBIC program did little to advance the art and practice of venture investing. The booming IPO market proved the model of investing in new companies, as some SBICs cash out at attractive levels. SBICs did give a boost to early venture firms, and some like Franklin “Pitch” Johnson, profiled below, thought the new law made the US “see that there was a problem and that [venture investing] was a way to do something… it formed the seed of the idea and a cadre of people like us.” Bill Draper, the first West Coast venture capitalist, has been more blunt: “[Without it] I never would have gotten into venture capital. . . it made the difference between not being able to do it, not having the money.” Many believe SBICs filled a void from 1958 to the early 1970s, by which point the partnership-based venture firms took off. The US government, however, lost most of the $2 billion it put into SBIC firms.”

So, while Apple, Costco, and FedEx benefited, the PR would be more credible if the SBIC was trumpeting iconic companies created after 1990 or even 2000, especially where the lead investors (rather than follow on investors) had SBIC capital.

Peter Adams, head of Rockies Venture Club, is quoted a few times. I like and respect Peter, so this isn’t aimed at him, but rather at the clear lack of understanding of the capital dynamics around VC funds.

“It looks really great on the surface,” said Peter Adams, executive director of the Rockies Venture Club, a nonprofit aimed at connecting investors and entrepreneurs. “Then when you dig into it, there were some problems.” Adams, who has been involved in many of the meetings with the SBA and members of the investment community, said the greatest concerns voiced by investors and venture capitalists involved management team qualifications, investment track records and the addition of debt to the equation. No. 1 for us is they want a management team with multiple people that have track records in venture capital and have worked together as a team before,” he said. “I can see where they’re going with it, but the VC industry in Colorado has been fairly decimated through the economic downturn.”

Peter is right about the context, but has two fundamental things wrong here. First, the VC industry in Colorado wasn’t decimated through the economic downtown. It was decimated because of lack of performance between 2001 and 2009, just like much of the rest of the VC industry around the US. There’s nothing special about Colorado in this mix, and it has nothing to do with the economic downtown. This dynamic has been reported thousands of times so I don’t need to go through it again, but we don’t have to look back very far to hear the drum beat from the media, LPs, and everyone else about how “VC is dead.” And if you’re curious, it wasn’t too long ago that Silicon Valley was also dying.

The other problem here is the need of the SBIC to invest in “a management team with multiple people that have track records in venture capital and have worked together as a team before.” Any VC firm that fits this qualification is unlikely to have difficulty raising money in today’s environment, and subsequently has no need for the SBIC leverage. And, more importantly, the only firms that will look for SBIC leverage are one’s that don’t have this, which is a classic adverse selection problem.

Then there’s this:

The recession also then plays into requirements that the management team members have been involved in a meaningful number of successful exits during a four- to six-year period. “From 2008 to 2013, that was not a good time for exits,” Adams said.

Huh, what? At Foundry Group, our significant exits (at least 10x capital returned) since we raised our first fund in 2007 include AdMeld, Zynga, MakerBot, and Gnip. We’ve had plenty of other exits, but these are the big ones. One of those companies, Gnip, is Boulder-based and another from our older funds (Rally Software) also generated a greater than 10x return for us. Techstars (which we helped start) have also had a steady stream of significant exits, including local Boulder companies like Filtrbox, GoodApril, and SocialThing. And then you’ve got plenty of Boulder / Denver monsters on paper – some in our portfolio (like SendGrid and Sympoz) and others like Zayo, Ping, Logrhythm, and Datalogix. Finally, if you look across the country, the exits have been awesome the past three years.

It keeps going. There’s talk about the “angel cliff” (e.g. we need funds to invest between angels and VCs – nope, been there – remember “gap capital” – not so effective) and the SBA rules and regulations (which I believe are toxic and inhibiting to a successful VC fund.)

One of the other problem is SBA and SBIC’s behavior in governance of the fund. The paperwork is silly and the overhead is non-trivial. The control over distributions and negative incentives to hold or distribute capital often generates bad decisions when companies go public. And at least one close friend who is a partner in an SBIC fund has now found a new LP to buy out the SBIC so they could actually invest capital in their winners, rather than be limited by the SBIC’s constraints on the amount of capital you can invest in any particular company.

The SBIC could be a powerful force for good in the venture capital industry. But it has to approach things very different and based on my experience with the SBA over the past decade, I don’t see it happening unless there is real leadership somewhere in coordination with leaders in the VC industry. I’m certainly willing to help, if only someone bothered to reach out to me.

UPDATE: It turns out my partner Seth Levine had met with Matthew a while ago. Seth said “Your blog was right on and much of the type of thing I related to Matt and some senior guys he brought in. The gist of my conversation with them was pushing them to consider a different model – that the current one basically led to lowest common denominator GPs and sub-optimal returns. Plus the SBIC leverage could be crushing. I don’t think they have a ton of flexibility around this but they at least listened to the feedback. I’m going to see a bunch of them in a few weeks – I agreed to help judge a business plan competition they were hosting. Like you I’m not a huge fan of the program as it has existed but I give the new guys some credit for both reaching out and trying to be proactive about thinking through this.”

UPDATE 2: Matthew Varilek reached out to me and we are setting up a time to talk.

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Jun 29 2014

When VCs Invest Together, Does Ability or Affinity Matter?

I woke up to a bunch of VC related things in my twitter stream this morning. I had a nice digital sabbath yesterday so I was a little surprised by how much there was. I tried cranking out a #tweetstorm of them using Little Pork Chop but I found the tweetstream experience to be very unsatisfying and very inauthentic feeling. The links are good, so here they are if you want to get in the headspace for what I really want to talk about.

1/11 Things I Read About VC This Morning I Think You Should Care About In A Compact Little Tweetstorm
2/11 Start with @fredwilson thinking about tweetstorms – https://avc.com/2014/06/tweetstorming/
3/11 Then @msuster on why VC is so much more compelling now – https://bit.ly/1mvIE5C
4/11 and @pmarca on why the IPO is not what it used to be – https://bit.ly/1ljhzlV
5/11 and congrats to @jeff on raising his new fund – https://bit.ly/1m0h6cD
6/11 thx @joshelman to the pointer to the @yoapp hackathon – https://bit.ly/1x0MhbQ
7/11 the #premoney conference recordings will be online soon – https://www.livestream.com/500startups/folder
8/11 the 2nd seed round trend @Mattermark by @DanielleMorrill – https://bit.ly/1iQTCI2
9/11 I end with Haiku
10/11 Tweetstorms perplex me a lot
11/11 Do you enjoy them

The response to 11/11 was generally “no” although a few people suggested that tweetstorming while a soccer game was going wasn’t a particularly useful test.

After I thought I was done I ran across a really interesting set of articles which didn’t make it into the tweetstorm. The first article, In Venture Capital, Birds of a Feather Lose Money Together, was a summary that let to the second article, The Cost of Friendship, which led to the actual article behind the annoying SSRN paywall. After reading the abstract, I decided to buy and read the article, especially since Paul Gompers, one of the great academic researchers on the VC industry, was the lead author.

I was once a Ph.D. student at MIT Sloan School studying innovation. Specifically, my doctoral advisor was Eric von Hippel. Eric was very kind to me, but I was a horrible Ph.D. student because I was also running a company at the time and had no interest in being an academic. Eventually I got kicked out well before I got my Ph.D.

Nonetheless, I learned how to more or less read an academic paper and some social science rubbed off on me. Actually, a lot rubbed off on me – enough for me to know that the headlines written about academic papers and studies rarely capture the essence of what is going on in the paper. Instead, reading the abstract and the carefully reading the non-analysis part of the paper, with a goal of putting yourself in the researchers’ shoes to understand what they are trying to figure out, will help you understand the punch line.

So when I read the first article, it was easy to conclude “VCs who are like each other do less well investing together.” Or, “VCs who like each other perform more poorly when investing together than those who don’t like each other.” This is consistent with the callout from the first article which says “The more affinity there is between two VCs investing in a firm, the less likely the firm will succeed, according to research by Paul Gompers, Yuhai Xuan and Vladimir Mukharlyamov.”

I read the summary, which is kind of the “PR piece” for the article, but I didn’t find it satisfying. It generalized too quickly and I kept wondering how affinity was defined. The hint was that it had to do with ethnicity, educational background, and employment history, which wasn’t how I was defining affinity when reacting to the title “In Venture Capital, Birds of a Feather Lose Money Together.”

Next, I read the executive summary of the paper. This was clear and felt fine to me. It separated affinity and ability. The punch line of the paper is:

“Collaborating for ability-based characteristics enhances investment performance. But collaborating due to shared affinities dramatically reduces the probability of investment success.”

Much different than the marketing piece about the paper that I read first. Basically, if you choose your co-investor because you think she is a great investor, that’s good, but if you choose your co-investor because you like him, that’s bad. But that felt too simple to me – no way that’s the basis for a HBS academic study. So I bought and read the paper, which was pretty easy until I got stuck in analysis stew on p.22. I hung in there and got through it, but once again was reminded of another reason I was a shitty Ph.D. student – I dislike reading academic papers.

I learned that affinity was narrowly and precisely defined, but not in the way I thought it was. Affinity to me meant that the two VCs liked each other, or had an “affinity” for one another, but instead affinity was based on biographic data, specifically gender, ethnicity, educational background, and employment history.

“The education dummy variables Top College, Top Business School, Top Graduate School, and Top School equal one if a venture capitalist holds, respectively, an undergraduate, business, graduate, or any degree from a top university and zero otherwise. Ethnic Minority takes the value of one if a venture capitalist is East Asian, Indian, Jewish or Middle Eastern. Dummy variables East Asian, Indian, Jewish and Middle Eastern pin down a venture capitalist’s ethnicity; the dummy variable Female identifies an individual’s gender.”

Also, success was defined as a company having an IPO (the data range for the study was 1975 – 2003). Now, I’m not going to argue the performance variable, but as someone who has had a lot of financial success with exits that were not IPOs, I’d be curious what happens when the analysis is done where success is defined by “at least 10x return on capital for the VC.”

The big reveal is buried in the middle of p.18.

“On one hand, people display greater inclination to work with similar others.  Similarities may be in terms of ability (e.g., whether individuals hold degrees from top academic institutions) or affinity (e.g., whether individuals share the same ethnic background). On the other hand, these two sets of pairwise characteristics affect performance in opposite ways. Teams with more able participants are more likely to result in a successful investment outcome. On the contrary, investments are more likely to fail when groups are formed based upon similarities between members along characteristics having nothing to do with ability.”

Go read that again. If you pair up two people based on ability, they have better results than if you pair them up on affinity, where affinity is defined by “each went to the same school, each are the same ethnic minority (including Jewish), or each worked together in a previous company.”

Unless I missed something (and it’s entirely possible that I did), the message is “choose to work with people who have ability.”

I kind of feel like this applies to life in general!

It’ll be interesting to see how this paper gets interpreted, or misinterpreted over the next few weeks, assuming anyone else goes beyond the summary and reads the paper, no thanks to SSRN.

Just another reminder to look beyond the headlines. And don’t co-invest with someone who has no ability just because you went to the same school, are the same ethnicity, or once worked together.

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May 28 2014

Why VCs Should Recycle Their Management Fees

I’m an investor in a bunch of VC funds. Some of them recycle their management fees; others don’t. I’ve never really understood why funds don’t recycle their management fees.

Understanding what “recycling management fees” means is a fundamental part of understanding the economics of a venture firm. Here’s how it works.

Let’s assume a $100 million VC fund that charges a 2% management fee and a 20% carry. In the typical case, a fund will get an annual management fee of 2% of “committed capital” (the $100 million) for the “investment period” (usually the first five years, or until a new fund is raised) and then an annual management fee of 2% of “invested capital” (whatever the fund has invested in companies that are still active) over the remaining life of the fund, which is usually 10 years.

Now, there are lots of minor variations on this, but the average “fee load” on a fund over its life is 15%, or $15m paid out over 10 years on the $100m fund.

So – if $15m gets paid out in fees, that only leaves $85m to invest in companies.

That’s where recycling comes in. When a fund has an exit, it can either distribute the money to its investors (the LPs) or it can “recycle it” and invest it in new and existing companies in the fund.

Now, assume that by year three the $100m fund has invested $50m. During this year, it sells a company and gets a realization of $20m. At this point, it would have taken $6m of management fees (2% * 3 years) so it could recycle the $6m (hence, reinvesting it) while distributing $14m to the LPs.

By managing recycling this way, the fund could end up investing the full $100m, instead of just the $85m. The advantage, for all the investors (the VCs and their LPs), is that $100m gets put to work as invested capital, rather than just $85m.

Our view as a firm is that a successful VC fund has a net return of at least 3x to the LPs. That means that if an LP invests $1 in the fund, they get back $3 over time.

Now we get to do the fun math, including the impact of carry on return.

If I’ve only put $85m to work, I have to generate $100m to get to a point where I’ve returned capital, which puts me in a position to get carry. Then for every $100m of additional returns, $20m goes to the VCs and $80m goes to the LPs. To generate an incremental $200m to the LPs, I have to return a total of $250m. So – my $85m needs to generate $350m to get a net 3x return. On a gross basis, my $85m has to generate a 4.1x return to accomplish my “net 3x return to LPs.”

On the other hand, if I recycle my management fee, then I put $100m to work. I’ve reinvested $15m over the life of the fund, so I’ve had to generate this $15m plus the $100m to get to carry and the $250m to get to a net 3x return. In this case, I have to generate a total of $365m (instead of $350m), but I now have $100m at work to do that. In this case, my $100m has to generate a 3.65x return to accomplish my “net 3x return to LPs.”

That’s an 11% difference just by recycling my $15m fee. It’s better for the LPs and better for the VCs.

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May 27 2014

Spending The Day With Another VC Firm

A few weeks ago Hunter Walk and Satya Patel of Homebrew, a one year old seed-stage VC firm that my partners and I are investors in, came and spent the day in Boulder. This wasn’t the typical “hey – I want to come see you for a meal when I’m in town” kind of meeting that happens with a lot of VCs. In this case, the firm (Homebrew) came by, committed a full 24 hours to being in Boulder, and went deep with me and my partners.

I’ve known Hunter for a while although our relationship is mostly from a distance – email, blogs, and twitter. He went to GSB with my partner Ryan’s wife Katherine so they’ve known each other for a while and have a handful of entertaining stories from their time together at The Lobby Conference. This was the first time I recall meeting Satya Patel although I’ve also known him from a distance.

Hunter’s blog, 99% Humble, 1% Brag, is outstanding. If it’s not part of your daily reading, it should be.

Hunter, Satya, Ryan, Seth, Jason and I spent two hours in a conference room with a white board. Hunter and Satya tossed a bunch of things they wanted to discuss up on the board and we went through the topics one by one. We shared our view about how we address them, they added some of their thoughts, asked some questions, and we cycled more on the topics. We got through most of them and then went to dinner at Oak for a few more hours of discussion, this time more casual, but just as deep and wide ranging.

The next morning Hunter and Satya hung out at Techstars and did office hours with a few of the seed stage companies in Boulder.

I had a great time and learned a lot. Hunter and Satya both sent thoughtful debriefs around which caused some additional discussion on our end about a couple of topics we felt we could learn more from. And we developed a deeper relationship, outside of a specific deal context, which will help us in anything we do together going forward.

This was so much more enjoyable, satisfying, and useful than a flyby. Hunter / Satya – thanks for making the effort to come see us.

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Jan 2 2014

My First Experience As A Venture Capitalist

I often get asked how I ended up becoming a venture capitalist. When people ask me how they can become a VC, I point them to my partner Seth Levine’s excellent blog posts How to become a venture capitalist and How to get a job in venture capital (revisited)But it occurred to me today – after getting another email asking me how I’d become a VC, that I wasn’t really answering the question.

Amy likes to remind me that when I was an entrepreneur, I used to regularly give talks at MIT about entrepreneurship. I’d say – very bluntly – “stay away from VCs.” I bootstrapped my first company and, while we did a lot of work for VCs, I liked taking money from them as “revenue” (where they paid Feld Technologies for our services) rather than as investment.

Feld Technologies was acquired in November 1993. Over the next two years, I made 40 angel investments with the money I made from the sale of the company. At one point in the process, I was down to under $100,000 in the bank – with the vast majority of our net worth tied up in these angel investments and a house that we bought in Boulder. Fortunately, Amy was mellow about this – we had enough current income to live the way we wanted, we were young (30), and generally weren’t anxious about how much liquid cash we had.

Along the way, a number of the companies I had invested in as an angel investor raised money from VCs. Some were tough experiences for me, like NetGenesis, which was the first angel investment I made. I was chairman from inception until shortly after the $4m VC round the company raised two years into its life. Shortly after that VC investment, the VCs hired a new “professional” CEO who lasted less than a year before being replaced by a CEO who then did a great job building the company. During this period, the founding CEO left and I decided to resign from the board because I didn’t support the process of replacing this CEO, felt like I no longer had any influence on the company, and wasn’t having any fun.

But I still wasn’t a VC at this point. I was making angel investments with my own money and working my ass off helping get a few companies that I’d co-founded, like Interliant and Email Publishing, off the ground. I was living in Boulder at this point, but traveling continuously to Boston, New York, San Francisco, and Seattle where I was making most of my investments. During this time, I started to get pulled into more conversations with VCs, helping a few do some diligence on new investments, encouraging some to look at my angel investments, and investing small amounts in some VC funds whenever I was invited to invest in their “side funds for entrepreneurs.”

One of the VCs I overlapped with while in Boston was Charley Lax. Charley was a partner at a firm called VIMAC and was looking at some Internet stuff. I was one of the most prolific Internet angel investors in Boston at this point (1994 – 1995) so our paths crossed periodically. We never invested in anything together, but after I moved to Boulder, I got a call from Charley one day in early 1996. It went something like:

“Hey – I just joined this Japanese company called SOFTBANK and we are going to invest $500 million in Internet companies in the next year. Do you want to help out?”

Um – ok – sure. I didn’t really know what help out meant, but on my next trip to San Francisco I had a breakfast meeting with Gary Rieschel and Jerry Yang. SOFTBANK had recently invested in Yahoo! and presumably the breakfast was to vet me. I remember it being pleasant and ending with Gary saying something like “welcome to the team.”

I still didn’t really have any idea what was going on, but I was making angel investments and having fun. Charley proposed being a “SOFTBANK Affiliate” which had a small monthly retainer, a deal fee for anything I brought in, and a carry on the performance of any investments I sourced. Informal enough for me to play around with it for a while.

I was in Boston the following week so Charley emailed me and said “can you go check out this company Yoyodyne and tell me what you think?” So I went to a generic office park near Boston and met with two people who would become close friends to this day. The first was Fred Wilson, who had just started Flatiron Partners (SOFTBANK was an investor in Fred’s fund) and the other was Seth Godin, the CEO of Yoyodyne. I vaguely remember a fun, energetic chat as we met a few people at Yoyodyne, ran through the products, and talked about how amazing the Internet and email was going to be as a marketing tool.

My formal report back to Charley was short – something like “Seth’s cool, the business is neat, I like it.” SOFTBANK and Flatiron closed an investment in Yoyodyne a few weeks late.

Suddenly I was a VC. An accidental one. And it’s been very interesting since that point back in 1996.

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Oct 15 2013

A Quality Benchmark for Accelerators: The Global Accelerator Network

Global Accelerator NetworkWhen David Cohen and I came up with the idea for the Global Accelerator Network (GAN) in 2010, we counted roughly 100 accelerator programs around the US that were founded following the Techstars model. We labeled Techstars a “mentor driven accelerator” and reached out to others who were using the same approach to create what became GAN. From that initial outreach, 16 high quality accelerator programs joined us to launch the network.

Since then, accelerators have appeared all over the world. Some accelerators are incredibly high quality. Others are not. Some are major contributors to their startup communities. Others are detrimental to it. As with everything new that grows quickly, it’s a chaotic system with lots of innovation, creative destruction, and rapid change and learning that – if done well – is a great example of the power of the Lean Startup approach to entrepreneurship.

Today, the Global Accelerator Network is a worldwide organization of 52 accelerators located in over 60 cities around the world. We’ve maintained a high quality across the membership while expanding the network by being selective. Not every accelerator is/could be/would be a member in GAN, nor is it designed that way. To become a member, each accelerator must meet the following strict criteria:

  • Operate a 3-6 month long program.
  • Provide some sort of seed capital to their founders.
  • Take a small amount of equity (usually ~6%) and overall have terms that are favorable to entrepreneurs.
  • Take no less than 5 and no more than 12 companies at a time.
  • Surround those companies with 40-80 mentors.
  • Have funding for a two-year runway of the program.
  • Have physical space available for their program.
  • Have a strong management team who are typically proven entrepreneurs

In addition to these eight criteria, all members follow the established ethos (give before you get; put entrepreneurs first) of accelerators in  GAN, including a thorough review of an accelerator’s term sheets and numerous conversations to vet accelerator founders’ intentions and operational practices. We also review their leadership and mentor pool to ensure value.

Becoming a member in the GAN is not easy, but neither is operating a quality accelerator program. Feel free to drop me an email if you want to learn more about joining GAN.

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Oct 10 2013

Business Love

“Passion is temporary. It doesn’t last long. Love is enduring. And that’s the important thing. If we all had love in our lives to the degree that we should, it would be much happier.”
— UCLA Anderson | John Wooden Global Leadership Award ceremony (May 21, 2009)

Last night I had dinner with my partners and our significant others. It was a wonderful evening with the three people I work most closely with, the people they love, and the most important person on the planet to me.

Earlier this year I had dinner with Jamey Sperans, one of our investors. Late into the night we talked about a variety of things at an outdoor restaurant in Philly under the heat lamps as a chilly spring night unfolded. Much of the conversation was personal, as in addition to being one of our largest investors, Jamey has become an incredibly close friend. I was struggling with my depression so we talked some about that, but that merely served as a launch point for a deeper conversation.

In that discussion, we talked about the concept of “Business Love.” For a long time, I’ve talked about “business intimacy” – it’s the relationship I try to develop with the entrepreneurs I fund and the people who I work with. It’s a level of emotional engagement that is much deeper than “friendship” or “respect”, is not easily developed, and can be quickly lost if one party isn’t interested in investing the energy or violates a fundamental principle such as trust or honesty.

Jamey and I agreed that “business love” was more profound and significant than “business intimacy.” We discussed the concept of business love in the context of Foundry Group with the unambiguous agreement that the four of us (Ryan, Seth, Jason, and I) have a “business love” relationship.

Once a month we have a full-day offsite. We try to keep our process to an absolute minimum, so we have lunch together on Monday’s and a once a month offsite. The rest of our interactions are continuous and real-time, including almost all of our investment decisions.

Yesterday’s offsite was a perfect example of business love. We spent the day sitting around Jason’s dining room table (the general location of our offsite), got calibrated on a few things that are new initiatives of ours including FG Angels, a new treat coming out next week from us, and a new project we are launching in January. We talked about a few deeper, long range things we want to get right, especially in the context of several of our very successful investments. And we argued about some stuff that we disagreed on in an effort to both understand the data and get aligned.

It was awesome and one of my favorite days of the month. When we split up around 3pm (we end when we are finished) I had a permagrin on my face. I walked home and spent a few hours grinding through email. I went to a meeting and then picked up Amy to head back to Jason’s for dinner. We had an amazing dinner as a group to end the day.

I woke up this morning thinking about business love. I remembered my conversation with Jamey. I recalled that Jo Tango had written a post on business love a while ago and went back and looked it up. I’m guessing that Jamey was the LP in the post that Jo is referring to, since the principles of business love, that Jo refers to, are exactly what we talked about.

  • Members of those firms really respect and like each other. They’re very tight. In fact, they love each other
  • They have a sense of mission. They want to make money, but that’s not the most important driving force
  • How they treat each other spills over to how they treat their entrepreneurs and investors

The process of creating and building new companies from nothing is hard. It’s incredibly rewarding when it’s successful, but the process can be an excruciating, chaotic, and messy. There are moments of extreme stress. Failure is always lurking in the background. Working alongside people you truly love makes a huge difference, at least for me.

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