As I wrote my last post, I just found this very amusing post, which has some element of truth to it:
The Venture Capital Aptitude Test (VCAT)
Take the test and see how well you do. I got 28 points, which means I should probably just stay away from being a VC and keep doing what I love doing, which is what I’m doing now…
Sometimes I get asked what it takes to be an angel investor. It also leads to insight into whether or not being a venture capitalist is the right career. While I am not an expert at either, I do have some observations from the many months I spent trying to raise a venture fund and now ending up as an angel investor. These observations are by no means complete or exhaustive, but for now I think they serve as one man’s look into the world of investing in startups. These are the results of conversations, feedback, and personal thinking and experiences:
What Does it Take to be a Venture Capitalist?
Beyond that magical ability to pick companies/businesses/the next Youtube, there are a number of things to be aware of.
Investors need to trust you. They are handing you their millions of dollars and want to have maximal assurance that you’ll not run away with it, make stupid or poor investment decisions, keep to discipline (which is what you sold them on investing in your fund), and want you to do better than the next guy.
If you’ve created companies and built them to success, that’s a plus. But it’s only one piece of the puzzle. Building a great company doesn’t mean you can go and pick other companies that will win. Investors like to see that you have engaged in activities that show you can pick successful companies AND make lots of money from it. The ‘AND’ is important; just saying “I knew Youtube was going to be big” isn’t the same as saying “I bet on Youtube when they are two guys in a garage, put my money in it, helped them with XYZ when they needed it, and saw the potential and put my own money where my mouth was, and made 10X on my investment.”
How to develop a track record? Angel investing helps, as does working in investment banking or some other similar investment outfit. If you’ve worked with other prominent investors like in an angel network, that’s great too. People who have invested alongside you and made money off your introduction of a company to them is a great trust builder. Experience as an entrepreneur also helps but not as much as (successful) investing experience. (Working in a previous venture fund helps a lot, but hey this paragraph is about whether or not you should be a VC in the first place.)
If you are thinking of joining a venture fund, they need to also trust you, see your commitment, and they have to like you and be able to work with you.
Joining a venture fund is not like taking a job at any other company. With a regular company, you can quit at any time and go to a new company. The commitment is typically 5 years, with potential to extend to 10 years if you still have companies in your portfolio that you have not exitted out of. This is spelled out in the Private Placement Memorandum (PPM) and is a condition for investors to commit. If you decide to leave the fund before the 5-10 years are up, this can, at a minimum, cause uncomfortable questions in investors minds as to the viability of the team they put their money in. It can, at a maximum, cause all the investors to bolt and your fund is left with nothing.
Therefore, venture fund partners want to know that you’re in it for the long haul no matter what. It’s pretty tough; 5 years is a really long time to commit. You’d really have to want to do it that long and the moment a partner smells wavering commitment, they’ll back off you.
Since you’re in it for a long time, you want to know that you can all work together and also must like each other. Again, 5 years is a long time to be hanging out with someone. You’d better all be drinking buddies as well as love working with each other to stand each other’s company. That is why a lot of venture funds are made up of partners who have known each other for a long time and have worked with each other in the past. Investors like this also; they want to have assurance that the team can function together well and prevent an unrecoverable implosion of the team at some point in the future. They want to know that the team will exist long enough to make them money for the period of time they commit.
Lastly, almost all venture funds require the partners to put up their own capital. I’ve heard 1% is the norm, but I’ve also heard it can be higher as well. Doing some quick math – if your fund is $100 MM, you would need to put up 1% of $100MM which is $1 MM of your own cash. It doesn’t have to come all at once; venture funds do capital calls when an investment is imminent. So the cash would come in portions as you went out and found companies to invest in. But over 5 years, you’d have to find $1MM to invest. All is not lost; a venture fund has many partners, so the 1% is spread out amongst all the partners. Still, it could mean many 100s of thousands of personal money to commit to the fund, in order to gain trust of the investors. How many people have that kind of cash lying around?
So after reading this, does the above apply to you in the positive sense, if you aspire to be a venture capitalist?
What Does it Take to Be an Angel Investor?
Simply put, being angel investor requires nothing more than cash. I don’t think there is any other requirement than that. Of course, if you want to be GOOD at it, you’ll need more than that. Read on..!
Things That Apply Both to Angel Investing and Venture Capitalists
Beyond those mentioned above, you will need to be able to pick companies well. The topic of picking companies is beyond the scope of this post, but no matter whether you’re an angel or a VC, you have to do this well. You’ll probably want to have some expertise in the area that you are picking companies in, like for me I work on Internet companies because that’s what I know most about.
Having an extensive business network really helps. Connecting your entrepreneurs with the right folks will help from a company building standpoint, and even potentially on generating an exit at some point in the future. When you are calling on your friends or previous business associates, it works much better than going in cold. They already know you and there is a level of trust built already.
You also can’t be risk averse. You need to be more of a risk taker and be able to get behind an entrepreneur, even when there seems to be no intellectual proof that it will be successful. Startup investing is not for the conservative soul; you’ll drive yourself crazy if you are conservative by nature.
The Money Aspect
Here is where it differs slightly between venture capitalists and angel investors. When you are a VC, you are playing with other peoples’ money; when you’re an angel, you’re playing with your own money. I say ‘slightly’ because in the case where you have to put up your money into the fund, then you’ll also be playing with your own money as you invest the fund’s money.
But with a fund, the bulk of the money you’re investing is not yours. So if this is true, you need to feel some kind of fiscal responsibility to that money, and not feel that you can just take unnecessary risks with it. After all, these people entrusted you with their money on the assumption that you wouldn’t just piss it away on stupid investments.
When it’s your own money, other things come into play. I’ll throw some out there which I think are important.
Most financial planners say that you shouldn’t put more than 2-3% of your assets into any one investment. This ensures diversification minimizes the impact of any one investment in case of a downturn in that investment. In either case of whether you’re committing money into a fund or designating it for angel investing, is that amount larger than 2-3% of your total assets? If it is, you are potentially taking too high a risk with your assets. Investing into these types of companies is not a sure thing. The potential is greater than zero that you could lose it all.
Still, it has been shown that statistically speaking, if you put money in 10 investments, about 6 will tank, 3 will break even or make back a little, and the last one makes back everything you lost on the previous 9 and then some.
Let’s do some math: say you put $50K into 10 companies because you want to employ this diversification concept to maximize your chances of making money. That means you need $500K to do this. If we say that we don’t want to commit more than 2% of our total assets, then our assets must be $25MM total.
Certainly this can be modified by many factors like are you a risk taker or not. Maybe then 2% isn’t the right number but maybe 4 or 5% or maybe more. It definitely bears some thought into what kind of person you really are, and the comfort level you need with respect to your assets.
I think also that you need to be able to let go of that money. You need to be able to say that you will be OK if you never see that money again and just move on. If you cannot let go of the cash emotionally and intellectually, you’ll be in a really poor mental state when your investments aren’t doing well. Remember, that even if you employ the diversified/statistical method of investing, something like 6 of those companies will fail completely. I would not recommend you get into venture or angel investing if you’re going to collapse mentally every time one of your portfolio companies dies. You’ll go nuts and probably drive everyone else nuts around you. Because it WILL HAPPEN and you need to be able to deal with it.
You also need to have a healthy attitude towards money. Some people just can’t. They assign way too much importance to cash in their lives. They can’t let go of it, and they may do a Dr. Jekyll/Mr. Hyde thing on you. I’ve already experienced this once already in my life, and I have heard stories about many more. Friends, family all turning from loving people to the nightmares of your life. They will do things like hate you for losing their money, and never let you forget it. They will lie, cheat, steal – literally money does bring out the worst in people. Are you a closet Dr. Jekyll/Mr. Hyde with respect to money? If you are or even think you are, stay away from startup investing!
What’s Your Real Motivation?
I am big on getting real insight into why I do anything. I want to really understand my motivations and feelings on it. So I think it is worthwhile asking yourself why you REALLY want to do this. If after all your inward analysis you still want to do this, then by all means go for it assuming the other stuff we talked about applies positively to you.
One big thing is to not delude oneself about the glamorous life of a startup investor. It ain’t glamorous all the time and it takes a lot of work to do it well. And as much as you may say you want to build great companies, you won’t be able to ignore the monetary aspect of it and how you’re going to get your money out of the deal. Sometimes the two don’t sync up exactly and you need to be ready to make a decision contrary to what you really want. You need to prepare yourself on the realities of what is going on here. Can you take your blinders off and really see what it takes realistically?
The Last Word
The last thing I’ll say about whether you can be successful at this is: Are you a lucky person? By fate, or by creating your own luck (which I am big into – creating opportunities rather than just sitting back and hoping it will happen), I think luck plays a bigger role than people think. It is that slight edge you get by the will of the gods that will enable your video company to succeed, whereas the other 99 will not…
Really the Last Word
Don’t create the 100th video company when there are 99 out there. But if your video company makes it big; then I would say you are lucky. Go invest more and call me to bring me into your next deal (haha).
I’ve learned a huge amount about angel investing over the last few months. It started with me sitting down with my lawyer and getting a brain dump of terms, term sheets, provisions of all sorts, talking about notes and preferred series: the list goes on and on. But it’s all theory until you get out there and try to invest in something yourself.
I told myself I would try to be a sophisticated investor, meaning that I would spend the time (and money) to get every deal reviewed by my lawyer and I would make best efforts to read everything. It was the only way I could understand everything, which was to experience it in real time.
When I started looking at deals, many things emerged. Here are some of them:
It’s the Wild West
There is no such thing as standard. All term sheets have similarities, but everything is different, sometimes subtly different. Every law firm has its own style and favored terms to present, and modify that by the entrepreneur or the venture fund and you get every kind of combination of terms you can think of. All I can say is that I’m glad to have my lawyer around to look at terms with an experienced eye, and I can only hope that over months (years?) I too can gain enough experience at looking at terms and their ramifications.
Law Firms Protect Their Clients
And that’s a good thing. The law firms that startups hire will produce documentation that is always company friendly. Which usually means that it’s not very friendly for the investor. The terms will inevitably have provisions that don’t protect the investor at all. This confounds the process because sophisticated investors will always push back and alter the terms. If there is pushback, then legal fees will mount, as the process of negotiation goes back and forth on the terms.
The downside is that entrepreneurs are typically new to the financing aspect. They don’t know enough to ask for more balanced terms when developing term sheets. They just take whatever the lawyer gives them.
I always push for balanced terms that favor neither investor nor company. In my limited experience, it has resulted in the fastest way docments get approved and signed with minimal fuss and cost.
Money Gives You the Lead Position
One thing I found out was that at the amounts I’m angel investing ($25K – $100K per investment), I am typically not the lead investor. That unfortunately means that I have little leverage to modify the terms; if I had put in more money, the entrepreneur is incentivized to negotiate with me and keep me happy in order to get my cash. If I am only putting in a small amount relative to others, or as a percentage of the total raise, then it is up to me to do my best in gracefully pushing for better terms.
Sophistication or Attention to Detail is Severely Lacking in Angel Rounds
During angel rounds, it is often the case that the entrepreneur went to their friends and family to get much of the money. These folks have cash, but almost always have no experience with terms and what is good and what is not. They rely solely on trust of their family/friend to not screw them when it comes to protecting their investment. When I arrive on the scene, it is often the case that a lot of the money has already been raised, and now we have a whole crew of people who have accepted the terms, albeit not fully understanding them, and now I have little leverage to ask for different terms because the entrepreneur would now have to go back to each investor and approve and sign off on changes. This will incur extra costs and perhaps even uncomfortable dialog between the entpreneur and family and friends (ie. you asking for my approval for better terms now…? why weren’t they in there when I signed the documents in the first place…?).
Big Experienced Angels Mess Up the Process for us Little Guys
Another issue I have encountered is the prevalence of angels in Silicon Valley with large sums of money. Throwing $50K, $100K, even $1MM into a startup during an angel round is done without attention to terms. How do I know they aren’t reading the terms? Because they invested in a company with investor un-friendly terms! And with the amount they put in, they could have easily negotiated changes in the terms.
Now that the entrepreneur has a big investor signed up, I show up with my investment and again I don’t have leverage to change terms, even if they favor the big investor, because the entrepreneur doesn’t want to go back and re-approve terms.
I asked around as to what these guys were doing. I found out that many have 40+ investments. With that many investments, it is impossible to keep their attention on any of them. And some of them are not experienced enough to know if a given company is good or not. Remember, this does not mean that they aren’t smart; it just means that sometimes you’re putting money in an industry that you may not have deep experience in. So they spread out their investments as much as possible in order to employ what I call the “Random Method of Investing”. Basically, this means you employ the theory that has been proven time and time again by venture funds, which is that for every 10 companies you invest in, about 6 will tank, 3 will do about even, and the last 1 will make back all that you lost and then some. Now you can see the reason for 40+ investments. It’s very much a passive investing operation.
My bet with David Shen Ventures, LLC is that I will improve that success ratio by being smart about the busineses I involve myself with, and I get involved with them to give them the benefit of my knowledge and experience. I am betting on an active investing operation and I hope to prove that this will be more lucrative than the passive route, as well as more fun.
Timing is Everything, But Not the Last Word
So far, in every investment I’ve done where I came in middle or towards the end of the round period, I generally have found that I lose leverage to change the terms. But I ask anyways. And it looks like dependent on the entrepreneur; often they will make best efforts to make changes or even make the change.
When I am at the beginning, I find that I can negotiate much better, even with my small amount going in. Over time, I hope to generate proof that going for funding with balanced terms results in lesser negotiation, less cost, and faster fund raising.
What’s the Future?
I think the route that others have taken may be the best. And that is to employ enough capital to be the lead investor in the round, angel or otherwise, and to be able to effect change in the terms because you are bringing so much cash to the table. Definitely, I am not there yet; my hope that is David Shen Ventures, LLC will be successful over time to be able to make succeedingly larger investments to the point where I can manipulate terms to the benefit of both investor and company.
The concept of an incubator keeps coming up in my travels. Everybody knows about the big Internet incubators like IdeaLab during the Internet boom years. Lots of investors pouring money into these operations, big plans and huge infrastructure was built to support the development of business ideas, on the assumption that certain resources could be pooled together and shared to increase efficiency and cost. These were building space, internet access, servers, expertise – you name it and you could find it at an incubator in the late 1990s.
The spectacular demise of these incubators put a damper on the creation of new huge incubators. Even now, the lawsuits still go on where angry investors, having lost hundreds of millions of dollars in these investments, are litigating to get some of that back. When I started into this investing business, my ex-venture fund partner and I tried to form an incubator called Ignited Brains where we would employ inexpensive outsourcing to Internet ventures and try to let the marketplace decide on their viability. When we went out to get advice on our operation, we were met unanimously with negativity; incubators, we discovered, was a dirty word in the venture/investing community. Nobody wanted to have anything to do with us at all, which caused us to switch gears to try to raise a traditional venture fund.
As we worked on our traditional venture fund, we also discovered that incubators did exist in other forms. Some venture funds developed the concept of Entrepreneurs in Residence (EIRs), where entrepreneurs with a track record got office space and sometimes were paid staff and they were free to work on whatever projects they wanted. If they were on to something good, the venture fund would then finance it and off they would go. In fact, we had an “lab” in our venture fund which we would activate, with permission of the investors, to operate essentially as an incubator for our own ideas. Another interesting model came up with YCombinator where the two principals would get college students to work with them for 3 months and they would fund them for that time and help them get an Internet business prototype out the door. This is interesting to employ college students who have lots of energy, are super smart, and have skills to throw at a given problem. Another incubator model was tried by those who came through the Internet years with at least one large exit, and thus could fund their own ideas. Basically, they would get some of their smart buddies together, form an LLC or corporation, and work on an idea with minimal cash to see if they could get traction with it.
For me, I think I would have tried the last model, which was to take my own ideas, form a team, and run with it to see if it would work in the marketplace. Upon further thinking and research into this, I think there are limitations on this model. In short, my belief is that you can’t work on many ideas, if they are your own AND expect them to be successful in the way you envision them.
The problem has to do with resonance with an idea, and transferring that resonance to other people.
First, an idea has to resonate with me. I must love the idea, understand it, and know how it could be successful. So naturally, I get how to make it work, what a target user might want from it, how to market it, etc. You might say I would be a natural to lead the business.
Herein lies the problem. You can only work on so many things so that they get enough of your time and benefit of your ideas and leadership. It’s pretty hard to be CEO of one company, let alone 2 or 3.
And you can’t rely on others to take your idea and run with it. That’s where the transferrence of resonance comes into play. Since everybody is different, it is a very rare event, in my experience, to be able to transfer your own resonance with an idea to another person so that they feel it as deeply as you do. Without that shared resonance in others, they’ll never be able to take an idea to the place you can take it to.
Over the years, in various jobs, I’ve tried to sell concepts time and time again. And I can’t recall a single time that an idea survived longer than me driving it. As soon as I stopped working on an idea, it was impossible for the people there to continue work on it. I believe the same applies to incubators. In fact, I talked to an entrepreneur who actually launched a personal incubator with all his own ideas in it and he also had the same experience I had, which caused him to kill all the other projects and focus on the last two. Once he did that, the two are now flourishing, whereas previously they were actually languishing without his focus on them.
If someone can figure out how to transfer resonance to others, please let me know. Otherwise, are we ADD entrepreneur types doomed to only work on one or two things at a time?
I’ve been doing David Shen Ventures, LLC for about 4 months now and it’s been a truly positive and educational experience.
Coming off the difficulties of raising my own venture fund, Chroma Ventures, which showed me that the current market was just too unfriendly to new fund managers, I leaped into the world of early stage internet startups on my own. With only pocket change, when compared to the mega venture funds out there, I tiptoed into the world of angel investing.
Big Education
Early on, I knew I had to learn everything as fast as possible. All this investor stuff was very new to me. I had learned some of it while trying to raise Chroma Ventures, but I hadn’t gotten everything yet. So I enlisted my lawyer to sit down with me for about an hour and a half and just go through a whole bunch of financing docs and talk briefly about all the different ways people could screw you.
Lawyers can definitely be worst case scenario guys. They will scare the crap out of you on how you can be taken by everyone. It sure scared me, hearing all the stories of how people were cheated out of millions of dollars, and what happens if you invest on the wrong terms. I listened to all this and it could have made me run for the hills….but it didn’t.
Investing in early stage companies, internet or no, is an inherently risky business. I like to think of it as better than gambling as you can personally affect the odds in early stage investing by making the right bets among other things. So you have to take some risks and be ready to lose that money. And sometimes, the investment terms aren’t exactly the way you like them. I’ve walked away from terms that were just too risky. I’ve also invested in terms that were still risky to a point, but I thought there was a good chance of my risk being mitigated by other things. Basically, to invest in early stage companies, you have to be willing to lose a lot but hopefully win it all back on one or two big wins. (My advice here: if you’re not a risk tolerant person, don’t invest in early stage companies; you’ll drive yourself and the entrepreneurs crazy.)
Learning about terms was one big education. I think I’m getting better at solo-ing on reading a term sheet, but still like my lawyer to go through it and get his take on it. Finding out what terms were company friendly and what terms were investor friendly was really enlightening. I had wished that it was all standardized, but it’s actually the wild west of terms out there. Everything is done to personal taste so you have to read every term sheet carefully.
Huge Positive Response
As I went out there, I had no idea whether people would want my involvement this way or not. I already had met some folks who were doing the same thing I was doing: advising for an equity stake in the company. Many were actually paid as consultants to help their ventures. They also touted their contacts in the venture world so they could help an entrepreneur through the funding process. They seemed to be doing OK and had an active roster of entrepreneurs they were working with. But I had no idea on how to find these entrepreneurs.
I started by going to a Silicon Valley Meetup. I met some folks there but also realized that it was not such a good thing to advertise my status as an angel investor – too many people are out there working on stuff that won’t ever make it – or they themselves are not true entrepreneur material. I didn’t have time to field every business plan that came across my email, nor did I have time to check up on every person to see if they were on the level.
I also met with some ex-Yahoos who had started their own startups and they were plugged into the entrepreneur “underground” in San Francisco and Silicon Valley. This seemed to be a better route than going to the more public forums. Getting to know these guys personally and by referral was much better.
But then, once word got around to the ex-Yahoos around the valley that I was doing this, the response picked up. They all knew me and I knew all of them and thus I focused on a (thankfully) constant stream of referrals to entrepreneurs working on all sorts of stuff. Filtering by referral is much better; your own personal reputation is at stake when you refer someone to someone else!
I also noticed one other thing about the positive responses – they really needed my expertise in their fledgling businesses. Mostly this was in the areas of:
1. Internet user experience and design
2. Product strategy
3. Online advertising and the media world
I thought back to the people I met who were doing the startup advising thing professionally, and there were no people who were operating these particular areas – only in business strategy and engineering. And in talking to entrepreneurs, they lacked someone with experience to lead them in these areas. This was hard won Yahoo knowledge from the 9 years I spent there working on just about every type of product out there. Over the last few years, it has only been in recent years where Yahoos have started leaving, and the knowledge is starting to get out there. But even then, how would an entrepreneur find an ex-Yahoo if you’re not connected?
Developing Criteria
It’s nice to be wanted. Now how do I work with the companies? I had to develop a strategy for picking the right entrepreneur, company, and business to work on. I did not want to work on everything that came by and I wanted to see if I could do better than that.
First, I said to myself that my knowledge and experience could increase a company’s probability for success than without. So if I was going to invest money, then they would have to involve me. I figured an advisorship was the best way to formalize that (rather than being a bothersome investor). No involvement, no cash. (NOTE: I don’t invest in everything I work on. A lot of things have to fall into place correctly for me to put money in, and not all of those are in my control.)
Second, I had to develop a set of criteria to base my decision on whether or not to get involved. These are:
1. The team must consist of quality people. They must be trustworthy and I must like to hang out with them. I want to have a good connection with them, and I want them to want me to be around. If I don’t like hanging out with these people, then I would be less inclined to keep bugging them on their product and company. The moment something doesn’t feel right, I don’t do it. (NOTE: Honing one’s intuition is paramount.)
2. I wanted to work with people who geniunely wanted my knowledge and participation, and not just my money. I am trying to be super sensitive of any sign that someone is looking only to get my money and don’t really care about my participation. That participation needs to work from both sides; a team needs to pursue my knowledge just as much as I want to help them with it. It’s too easy for a startup team to get caught up in the day to day and not leverage their advisors. I am trying to avoid it as much as possible but know I will not be 100% perfect in reading entrepreneurs on this matter.
3. I need to resonate with the product. See my Resonance post.
4. I need to believe in it and see a future for it. If I can’t see the future for it or don’t believe in it, I don’t think I should work on it. That doesn’t mean that someone else couldn’t take it to success; it just means I’m not the right guy.
5. I like certain types of projects more than others. See my What Do I Think is the Next Wave of Business for the Web? post.
6. The team number must be between 1 and 10. I have found that it works best when there are not people in place with skills similar to mine. See my The Sweet Spot Number post. If there is a number on the team greater than 10, a red flag automatically goes up in my head.
7. Generally, I like teams with track records than without. And I also like teams with very strong people in them. If you don’t have smart, experienced, motivated people from the beginning, you’ll be severely hampered very soon. Let’s not start the project with sub-standard people, shall we?
8. I am starting to be a bigger believer in the distance rule for investing. I have increased that to encompass San Francisco from Silicon Valley, so instead of the 20 minute rule is more like a 50 minute rule. (Hey, I’ve got a Prius with carpool lane stickers so driving ain’t so bad – heh). Right now, I am concentrating on companies in Silicon Valley/SF, Los Angeles, and NYC. While that may seem like the distance rule is a bit stretched with this list, I count the distance rule from my place of dwelling in each of those places, which I am in a lot for a variety of reasons.
My message to entrepreneurs is this:
1. You shouldn’t put me on critical path. We’ll both be frustrated as I don’t have the time to take projects to completion on my own.
2. By the end of my advisor term, my goal is to find replacements for all the skills and knowledge I bring to your table. This can be either by the hiring of individuals or by the actual teaching of knowledge to you.
3. Use me to the fullest. I am available to bring along to meetings, evaluate vendors, evaluate products and services, etc. Just schedule me ahead of time and if I have time, I ‘ll make best efforts to come along and help you.
4. I only take equity as payment. I do not want to charge hourly and drain an early stage firm’s bank account. Save that money for operations and product. Let’s build the damn thing together and win big later.
That last message expresses my philosophy in working with entrepreneurs. I am not in it to make money in the primary sense. If I were, I would have continued trying to raise money for Chroma Ventures or tried to join up with another venture fund. I get the most kick out of seeing a company grow from nothing to something big, and hanging out with a bunch of really cool, determined, smart individuals to do it. It was what it was like back in the old days of Yahoo; just a bunch of buddies hanging out doing great stuff. I truly believe it is the formula for great success.
This morning, I had a meeting with someone at University Cafe on University Ave in Palo Alto. Being a little hungry for breakfast, I arrived an hour early to eat before my meeting arrived.
Sitting here in one of the more popular cafes in downtown Palo Alto, I scanned around the room just to check out who was there. It was pretty amusing.
There were the “blues” and the “not-blues”.
The “not-blues” were people who looked to be Palo Alto residents, or those who worked in various businesses based in Palo Alto. They were dressed in a variety of ways, generally in jeans and very casual.
Then there were the “blues”. It was pretty funny. Everybody else here had dark dress pants and a blue collared shirt. It was very obvious that a large population of the venture capitalists also came to University Cafe to have breakfast meetings. Talk about attack of the clones!
You know what – blue does look good. It is a cool color and has a calming effect, more to woo potential entrepreneurs and partners by having that trustworthy effect on people around you (little do they know…ha!). It must be a critical component of the venture capitalist how-to manual, under the chapter entitled “Venture Capitalist Dress Code.”
Among VCs, blue is the new black!
…you must use the right language in your presentations. Find useful and essential Web 2.0 doublespeak here at:
The Web 2.0 Bullshit Generator
After you finish your presentation, you must have an official Web 2.0 logo. Forget that retro crap. Go 2006 with a true Web 2.0 design! Type your company name here:
Web 2.0 Logo Creator
Since I want David Shen Ventures, LLC to be truly a next generation Web 2.0 company, I am thinking of switching my logo to this:
But if I truly want to be Web 2.0, I must drop some vowels. So…
I am also thinking of switching my page design. So I tried this automatic page layout creator for Web 2.0 design:
Web 2.0 Generator
Check out my proposed new webpage design.
After doing this for about 4 months now and only really seeing maybe 5 investment term sheets, I am already seeing a huge variance in investor experience and/or attention to detail.
My lawyers are great. They are super-conservative and I joke to them about being worst-case-scenario guys. It is truly scary to hear all the crazy things that either have happened in the past or all the possible bad things that COULD happen. In their defense, that’s their job which is to protect their client and keep me out of trouble, and in the course of that scare the daylights out of me by talking about possible disaster scenarios.
It is obvious to me that not everyone is employing their lawyers in the same way. Or maybe their lawyers aren’t that good, or even stylistic differences in approaching financing changes the equation. Or maybe the company doesn’t want to spend the money to do things right. Or the investor either doesn’t want to spend legal fees or has no legal help at all.
In reviewing these term sheets, they range from being, “These investor terms are super-dangerous; I can’t believe anyone would sign this!” to “WOW these are great balanced terms that serve both the company and the investor”. I don’t see the ones which are (most likely) initially given to companies which are totally investor friendly and screws the company.
For some of the more experienced investors, I see definitely a jockeying of position for control happening in subtle and not-so-subtle ways. It is the interesting interplay between company and investor, and if you have large assets coming to the table, the company definitely wants to bring that cash in. But either side exhibits differing levels of experience. Generally, I find the big venture firms having more leverage and experience, but sometimes they seem to sign early stage docs a lot quicker and with less attention to detail since less money is involved. When bigger sums of money are involved, then the real jockeying begins as negotiation for rights and control are passed back and forth.
Still, as I ask around, I find that there are many of the big VC firms that also operate haphazardly. I do not know all the reasons behind this yet, but it seems that time is a big limiter, as is cost for applying legal fees, and also experience, especially among junior partners trying to get a deal done.
In some instances, given that it’s friends and family who are the angels, I think they operate on trust. They are relatives/friends of the entrepreneurs and give their support by putting up some of their own cash. They typically have little or no angel investing experience and probably not much legal help at all. So terms are not read or read and then not understood, and paperwork is signed on the assumption that the entrepreneur will not screw over their friends/family.
What can I say? I hate reading legal docs too. It’s why I asked my lawyer to really simplify my advisor agreement. You can actually read the damn thing if you’re not used to legalese, and understand what you’re getting if you sign me up. Before that, it was really tough to read; lots of legalese and weird words like “hereunder”. What the hell does “hereunder” mean? I see it everywhere in legal docs. Sheesh.
But I have forced myself to really read and understand term sheets and also the final expanded investing paperwork. As investors, I believe that we need to do this so that we can be prepared to defend why we’re asking for term changes, and to not be afraid to push for changes even though we’re not the lead investor. It is essential that we become experts in this and be good at reading docs, and not be shy about spending a bit on legal fees to keep us angel investors out of trouble.
When I tell people what I’m doing now, they always ask me about what I think is hot and upcoming. They always wonder what I think makes something worth looking into and potentially the next big hit in Web business. I guess they want to know the secret formula or something.
Sometimes I hate answering this question. It is almost like the question I always get asked in seminars when I present: What are your favorite websites and why? It seems that I always should have a ready answer in my pocket to give them. And sometimes it’s hard. Hard to remember all the websites I surf to each day, or those that I encounter through referrals or friends, or hard to articulate why I like something or why I don’t. So now I get into the practice of thinking more deeply about each website I go to and try to have some kind of answer to this question.
As I now must have for “What does Dshen think is hot on the Web and why?”
So I thought I’d write some of them down here so at least you can see what I’m thinking about these days:
1. I find the viralness and the spontaneous emergence of communities intriguing. Sometimes you can’t predict when something will take off. The non-prediction aspect is both frustrating and invigorating; as business minded folks, you want to be able to say that this community will work and I can make money of it or not. The reality is that a lot of these communities take off on their own. It has been shown to me that the “put it up and see what happens” strategy works so well here. If I don’t connect with a community or what brings it together, it doesn’t mean that it won’t be huge or work for others. Which brings me to my next thought…
2. It’s all about the niches. The Yahoos and the Googles of the world have already taken care of the broad swaths of internet turf. But they are so huge that it’s hard and not justifiable to attack niches. This is where I think smaller companies can do a great job at tackling niche markets and flourishing. With the internet lowering barriers of reaching people, small niches that were hampered by geography and other factors can all of sudden congregate and be powerful through the internet, which has no physical limitations. So communities of interest can form and be really huge.
3. In the future, the power will really be spread out to the people. I really like startups working on concepts which empower people. One big example is how MySpace is showing that the record labels aren’t as necessary as they were years ago when there was no internet. Musicians can now effectively get their music out to the masses and make money without the marketing power of record labels. If the labels (and music studios, and other similar huge old world entities) don’t change their thinking, they will all die a slow death. Throwing lawsuits at it will slow it down but my belief is that such movement of democratizing the old world is unstoppable and inevitable.
4. Equally important and relevant to me are the people working on it. I find there are two types of people. Those who are very open minded and those who are not. My belief is that the open minded people are more creative, more adaptable, and be able to accept new ideas and directions than those who are not. I try to avoid working with those who think their way is the only way and don’t really listen to what I have to say, or what others have to say for that matter. In my 10+ years of working on Web products, I have been surprised so many times at what works and what doesn’t that I’ve lost count. You have to have the ability to go with the flow and shift and adapt. Being too rigid brings a lot of risk, which brings me to the next point…
5. I see building applications on the Web has a huge probability game. Nobody is guaranteed for success but yet that shouldn’t stop you from putting something up and seeing what happens. And whatever you do, you keep stacking the odds in your favor. You keep testing and adjusting. You find smart people to bring onto your team. You network continuously to make sure you get the best ideas possible. Keep stacking the odds in your favor and you may just find that someone who isn’t doing this is all of sudden left in the dust.
6. A buzzword favorite. I like companies who work in the long tail (see book of same name The Long Tail by Chris Anderson) which is akin to giving the power to the people.
7. Another buzzword favorite. I like companies who disrupt old traditional ways of doing things. Those who take on big, huge, slow companies in big and huge industries by doing something in a different way that cuts costs and delivers better to their customers. Love it. Think iTunes to the music and TV industries.
Other stuff: Gotta be innovative, gotta be engaged with the Web. Being tenacious and never giving up. Unwavering belief in success.
That’s it. Now to work on my favorite websites list haha.
In our talks with investors, it seems that angels are less interested in investing in venture funds. Mostly the reason seems to be that these angels are typically experienced professionals in certain areas and have enough knowledge to go direct into companies. They work with those companies, lending their expertise and contacts and help them grow, and later reap the rewards.
For them, there isn’t a good reason to give up the carry that is paid to venture fund managers, or the fees paid yearly. They can get involved with the company and invest directly to gain the full reward of an exit.
Makes total sense for angels, but tough for us. This could mean many angels and angel networks will not be interested in us. Already I have contacted Band of Angels in Silicon Valley and they never look at venture funds….