There has been multiple studies suggesting that more and more businesses are relying on bootstrapping / angel money to start their business and are not too keen on the venture capital, at least in the initial days. A part of this is because of the decreased cost of starting a company and lower development costs because of the open source tools AND the other part is because of the keenness of entrepreneurs to have more control of the company – for as long as possible.
The question to be asked here is: Why are entrepreneurs worried about VC investments, when the VCs truly bring in much more value than just the money?
Guy Kawasaki has a great post on The Venture Capital Aptitude Test (VCAT) that created quite a buzz in the blogosphere. He writes his thoughts on the right time for a person to become a venture capitalist and points to a test that can help you figure out your VCAT. He stresses on the fact that one should become a venture capitalist after they have had the shiitake kicked out of them.
I agree. It is very hard for an entrepreneur to trust a VC who doesn’t have the necessary background in the activities that the entrepreneur is carrying out and the experience in having run (or be a part of) a startup. Somebody who has never answered the board from a management team’s position almost always never understand how is it to run a company. So, while it is important to have people in your board who are independent Directors and aren’t involved in the day-to-day running of company, it is also important for the management team to be able to respect them. The respect comes automatically when the entrepreneur knows that the board member can (and does) empathize with the issues / challenges faced in a company and yet can give open and critical feedback.
Generally speaking – I am quite neutral about my impressions about Venture Capitalists. In fact, it’s been much more on the positive side than the negative side, based on my interaction. But it’s baffling to know that most companies (funded and not-funded) I have talked to have not-so-good things to say about the VCs. On the other hand – everybody have good things to say about angel investors.
Am I just plain lucky (and I have interacted with VCs who would clearly fail the VCAT)? Or is it that Guy Kawasaki has over-generalized his test? India has its own unique problems. On one hand – we need serial entrepreneurs who have been ‘successful’ in the past and not just the 1st generation entrepreneurs AND on the other hand, we need Venture Capitalists who have been entrepreneurs before.
Unfortunately, I can not think of more than just a few names when it comes to people who have successfully build even a USD 50 million plus business in the last many years. There are people who have successfully exited on a valuation of less than USD 10 million dollar business but I am not sure if I can term them as being ‘really successful’ or not. But this is a never-ending process where more entrepreneurs will exit out of their venture in case of acquisition – what will be interesting is how many of them chooses to start again and how many becomes VCs? Of course – there are other options as well, based upon the interest and the exit valuation.
Originally posted at my personal blog.
- Why are entrepreneurs worried about VC involvements? - December 6, 2006
i mean.. how do i find out where Alok’s (canaan) strengths lie and so on..
Thanks a lot for all the comments.
Another question I have is
How does one get information about the VCs’ strengths ?
I mean time and again I have heard ppl saying “please choose your VC properly”. I guess choosing one over other would require some kind of information to make a decision. Where would one get this kind of information (about VCs) from ?
Do you think this where the role of an angel investor becomes all the more important ?
viper: A mock startup to angel to VC phase is demonstrated at http://www.paulgraham.com/startupfunding.html.
curious_mind: This is typical deal flow. Happens hajaar in the US, but is practically unknown in India. While in the US they are even starting to talk about investors compensating (hold your breath) founders by buying some founder stock when they invest, in India most VCs will balk at even partial exits by prior investors.
Angel funding is only possible if there is a reasonable expectation of exits. In today’s market a five year hold is probably the least you can expect to some exit event: M&A or IPO. Angels may have to hold even longer, since they fund the company from seed levels. VCs usually start buying in during year 2 – so they’re ok with a three-four year hold. But angels shouldn’t be expected to stay in forever – or at least, not with their entire money. VCs must understand the concept of deal flow and how it compensates earlier investors; actually, it’s not that they don’t understand, but it’s a typical financial mentality to say “oh my god, this money won’t go to the company, but to make someone else a profit, I won’t pay.”. That, in my opinion, is being very niggardly.
And if an angel eventually has like 5% of a company, it’s practically too small for any level of control, and with more VCs in, there won’t be board presence or even advisory roles for her (the angel). Letting them exit is just a better way to handle things.
But we have smart VCs here now, and I’m sure the negotiation table will start getting more and more open towards deal flows and partial exits.
Now for the “entrepreneur” end. Why don’t entrepreneurs run to VCs more often?
1) Stupidity: That “small pie big share” is less exciting than “big pie small share” is just not prevalent enough, mainly because everyone wants “big pie big share”. If you can pull it off, BigPieBigShare is a great place to be. But to pull it off, you need NonDebtMoney and BigTimeContacts which VCs can get for you, and that means BigPie in less time than TheSpanishInquisition. But yes, SmallerShare. Even I have been guilty of this. Yes, I have been stupid.
2) They’re Timid: So many people I know just don’t have the balls to stand up and say they’re good enough and they deserve it and they’ve done this. And when you combine “timid” with “to big an ego” it’s complicated – first you have someone who’s too scared to say “I am good”, and when he does, and someone tells him “that’s crap”, he gets all flustered and unhappy. What you have to be is thick-skinned and frikking confident. And for heaven’s sake, don’t say “we” when you mean “I”.
3) Urban legends and true stories: I’ve only heard bad things about VCs. Why? Because only the bad stories come out. If founders say they love their VCs and how “strategic” and “compatible” and other such words the VCs are to the business, you only think: “Saala, suck up kar raha hai because he wants more money”. The bad stories somehow seem more spicy; there’s a book called “BooHoo” which is a cry-baby book about Boo.com’s phenomenal failure after $100 million of funding. Guess who gets blamed.
4) Lack of respect: If VCs don’t know your business you are bound to think about why you even bother to talk to them. It’s easier to ditch them upfront, because then they will start the fishmarket haggling over silly things and piss you off. But what do you do when 90% of your VC universe is filled with prople who don’t know XML from a bar of SOAP. Okay, that’s changing. But it’s still pretty lousy out there.
I believe the situation have changed over the past few years. In the early 03-04, VCs started entering the Indian scene in droves and young entrepreneurs were very excited about the whole concept. however, with time, the confusion and limitations related with VC involvements starting coming into the pictures as the interactions between the VCs and entrepreneurs increased. And knowing young and first generation entrepreneurs, for them control of their startup was more important than the concept of overall wealth creation. Obviously in addition to that, issues such as small investments required in Indian startups and also a majority of service based startups pushed the brakes on the movement of VCs. however, its still too early and I believe a more organised education and interaction between the two communities can help make things better which I believe is clearly missing. Organisations such as TiE and BoA are doing their bit but the conferences are more a networking session than educating sessions. Yeah I know they do have something called an ENP and that sure is a good start but we need many more informal sessions where there can be direct interactions between. successful entrepreneurs and first timers.
Also, the american VCs expect the entrepreneurs too be completely prepared on negotiations and market knowledge which generally new entrepreneurs lack. Loops such as these and many more needs to be filled up,the sooner the better, for things to improve.
Enough for now.
One of the main reasons for fear among a lot of engineers like me to start something is this whole economics of funding etc. I mean is there a complete IDEA —- > COMPLETION process documented somewhere.. (in simple terminology)
[Sorry about this, but this offtopic discussion is turning out to be quite an informative one. ]