Investors & Entrepreneurs: Breakdowns in Communication

This post was originally published at The Kernel, an excellent deep-dive blog on the start-up scene. Think The Economist for technology.

Not being able to make it to a meeting for lack of cash in your pocket – not enough even for the bus – is a level of financial and emotional trauma that most people in business never experience. Well, good for them.

In the two decades since my first forays into entrepreneurship, aged 14 with an Atari ST fanzine, followed by an ill-fated satirical magazine called TIT (think Viz meets Private Eye), I’ve found myself entirely brassic more than once.

A desire for financial security is not a good character trait in those wanting to be entrepreneurs. Consequently, perhaps, most people have not chosen to create and run a start-up. By “create a start-up” I mean having an idea and starting from scratch, on your own, with no capital.

Most institutional technology investors have never run a start-up. That lack of experience at the coal-face of business is the root cause of many a problem between company founders and their investors. This is my subject this month.

GHOST FUNDS

Financial acumen should surely be a given for venture capitalists, although writing this sentence feels peculiar when tech venture is today one of the worst performing asset classes in Europe. Europe’s venture capital firms are being spurned by their limited partners, and most are unable to raise new funds. Many European firms have disappeared from the market, or are running as ghosts of their former selves.

Looking at the numbers, European IPOs from venture investments yield returns similar to the US, but European trade exits for tech start-ups underperform compared to our transatlantic cousins. The reasons are complex. A 2008 reportattributed the overall performance gap between Europe and North America to a segment of “poorly performing companies”, but this generalisation gives few tangible clues.

The first thing is to recognise that even in the birthplace of venture capital, the United States, all is not perfect if you pull back the curtain. CNN Money summed up the US venture industry last year by saying: “It’s no longer a market of four tiers; it is the rarefied best and then the rest”.

But while early stage investment in Europe for tech start-ups is more plentiful than it ever has been, by most metrics the Old World lags behind the US, in both scale and success. In short, European tech venture performance continues to be a source of embarrassment.

Sadly, I can’t offer you a silver bullet. I’m no expert on the intricacies of the finance and investment industry. But let’s focus on the things that a VC can control. How can we help tip the European tech investment needle in the right direction? Ignoring a founder’s usual bark of wanting fairer deal terms, greater capital deployment and higher valuations, the most obvious target is a greater focus and understanding of what Sequoia calls “human capital”.

Many European tech investors lag behind the best of the US venture community in recognising how valuable a dedicated start-up founder can be, even if that individual might not be the perfect chief executive when a company scales.

This disdain for the entrepreneur can extend to an under-incentivisation of the start-up team as well (though that too can be the fault of the founder). Not many European start-ups have option pools of 20 per cent or over, but that is pretty normal in California.

One UK VC I worked with persuaded all non-execs and employees to sign away the rights to their options at investment, promising to re-instate them from a new pool. Unsurprisingly, none of the options ever re-appeared. Such behaviour is not only unethical, but naive in terms of motivating staff and creating good karma between investors and the senior management team. It does little for your reputation and deal-flow either.

It is true, of course, that the fabled West Coast has plenty of horror stories about “evil” or incompetent investors too, which leaves one counselling first time start-up entrepreneurs to view their new-found VC friends with suspicion from day one. Hardly ideal.

Maybe I’m now the one being naive, but this is not the most expedient way to create the next billion dollar start-up. Let’s face it: it is the few which feed the many in the venture capital model.

One big reason a chasm can form between founders and their investment overlords is practical: like the tragically blinkered army commanders of World War One, VCs often seem to carry arrogance and a sense of entitlement into the board room, consequently making poor strategic decisions, or, equally inappropriately, insisting on bad operational ones. Thankfully it just costs thousands of pounds, instead of thousands of lives.

Too many VCs I meet lack experience and wisdom forged in the trenches of the business battlefield. It is not surprising, then, that the experience of not having enough money for the bus would be an anathema to most venture firm associates, principals or partners.

It is also unrealistic to expect them to understand the pressures entailed in running a tech start-up or being a small business owner. Many VCs have not even run a team or a led a department in their (often all-too-brief) previous careers, let alone convinced a flock of disciples to follow them into the abyss and create something from nothing by starting their own business.

OUTSIDE THE COMFORT ZONE

Worse still, a career in banking, trading, consulting, distress capital or another process-driven corporate environment, with their clear hierarchical ladders and ample support infrastructure, often seems to give the VC misplaced sense of superiority.

“Success” in the financial sector is not to be derided, but the nitty-gritty of having to do everything yourself, on a shoe string, in a team of just two or three, with no money, while trying to persuade often intransigent investors to give you money, is a unique stress which is life-swallowing and not something you can understand from reading about.

And most people from a corporate environment simply don’t get it.

There are exceptions. Some of those exceptions are people I am happy to count as friends and respected acquaintances. These are people who understand, from real-world experience, what it takes to nurture a product or service from birth through difficult puberty to proud maturity – or premature death.

These people are the future of the European venture industry and if you are looking for money, I’d recommend seeking out this rare breed.

But the problems inherent to the European VC-entrepreneur relationship remain threefold. First, VCs often don’t even realise that their understanding of a technology or market is lacking.

Second, the entrepreneur-VC conversation is often at odds when it comes to aspects of managing the business or comprehending operational challenges.

Third, the worth of a founder in a start-up is often underestimated, causing at best ill-feeling and declining motivation, or, at worst, if the founder is removed, a large opportunity cost for the business and ultimately the fund itself.

Most entrepreneurs are pragmatic enough to recognise their failings, and will take on board sensible business suggestions, which are backed up with tangible facts or defensible experience. It is, after all, part of the start-up mantra to iterate, to discover what works. That, by definition, requires an acceptance of failure and the need for improvement.

As we’ve established, the problem is many VCs neither have this experience nor this working philosophy. Yet often they lecture start-ups on what their product should look like, or meddle too deeply in the operations of the business.

EMOTIONAL ATTACHMENTS

A shiny new VC associate once said to me “You entrepreneurs are all so emotional.” It was not meant as a compliment.

You have little choice but to operate somewhat emotionally when you are a start-up entrepreneur. Where would the endless energy to persevere come from otherwise? If you made decisions entirely logically, you would pack up immediately and do something with a greater statistical chance of success.

And this statement suggests not just thinly-disguised contempt, but demonstrates perfectly a lack of empathy and understanding about what it takes to run a start-up company. For this VC, as for many, his is simply a job. A secure, well-paid step upward on the career ladder.

This ignorance is the same reason TV shows like “Back To The Floor” and “Boss Undercover” make such good television: the chief executive often has no comprehension of the day-to-day challenges facing his or her workers, the people who actually make things happen.

Morgan Stanley and McKinsey have the resources and departmental staff to support whatever you need to do to perform your role. In contrast, as a founder, you are the organisation: you are the department for everything.

On the bright side, having left a venture firm to create their own start-up, more than one VC has told me: “I had no idea how incredibly hard this is … it is 100 times harder than I imagined.”

If they ever return to the venture world, those students of experience will, I’m sure, be infinitely more successful than other investors who have no practical grasp of start-up challenges.

An experienced European VC said to me: “I think it is impossible for a venture guy who invests early not to have real operating experience. Even if it’s two years working for someone else’s start-up (most great VCs weren’t phenomenal company builders) you need to know the struggle it is to build something.

“I also think people need to know what it takes to grow something large, it’s a whole set of new lessons in scaling that again you just have to live through. This you can partially pick up from the board perspective but you need real experience to give you good perspective. I think guys in the US get this. Guys in Europe don’t. If you just count up the number of [VC] partners in the US who have operating experience you’ll see it.”

A lack of hands on, real-world experience is the biggest problem facing VCs and tech entrepreneurs, especially in Europe.

VETTING YOUR BACKERS

As an entrepreneur, what can you do? Well choose those VCs who have the hands-on business experience. And get drunk with them before you sign the deal. No, seriously. You’re getting married. You’d never marry a girl or guy you’d not got wasted with, would you?

Find out what makes them tick, what they’ve done in their lives. What have they learned in business? How have they failed? Discuss other start-ups, especially ones which have gone through difficult times. Discuss how they would handle a divorce.

My unnamed European VC says “Venture people are financiers, so we have to think and act like investors, meaning financial capital. But we’re also company builders, which makes a good 50-75% of our job about people … it’s a tough thing to understand if you’re not used to dealing with it.”

Do the following exercise: take the top 20 firms in the US. Look at the partners’ bios. Look at how many:

  • started a company
  • worked at a start-up
  • were execs of a start-up (VP or higher)
  • sold or took a start-up public
  • worked at a tech co
  • were execs of a tech co (VP or higher)
  • hold engineering degrees
  • have MBAs
  • worked in banking
  • worked in consulting

Then repeat that process with the top seven firms in Europe. The whole exercise should take you less than an hour. The resulting disparity is shocking.

If you are limited partner, you can help the European tech ecosystem (and your own return), you should only give your money to a fund if the team is entrepreneur-heavy.

Because, unlike regular businesses, start-ups are defined by a set of unknowns. They are not straightforward enterprises. It is usually a messy, pivoting, imperfect machine, run by one or more impassioned individuals who have sacrificed a regular life for the promised land of thenextbigthing.com.

But there could be a significant improvement for the success rate of European tech funds, and the start-ups they invest in, if venture firms simply hired more people with real, tangible hands-on experience, rather than the the cookie-cutter, MBA-toting ex-finance guys they favour.

Just look at career politicians for another example of what happens when people make decisions about things they have no real-world experience of.

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Tech Start-up Incubators and Seed Programs

UPDATE 3: Aug 2013: Visit www.f6s.com for a global list of accelerator programs

UPDATE 2: List of 7 niche accelerators in the US for specific verticals

UPDATE 1: Bumped in to this list which is a bit more thorough

For a list simply of co-working spaces, here is a good one, or there is also a list of other resources at the bottom of this post.

Some start-ups I take to or advise are not well versed with the start-up or incubator programs which are open to them.

Often, if they’ve heard of them, they are sometimes worried about losing control or being dicatated to by outsiders if they join the program. This is the wrong way to look at incubators. In fact – especially the US incubators – usually offer pretty good terms and a host of other benefits, such as introductions to follow on funding and free access to experienced mentors.

In the case of the famous incubators such as Paul Graham’s Y Combinator (whose model which has been copied by many) merely having been chosen by it means you are signficantly increasing your likelihood of funding.

*** This is an imperfect list, cribbed shamelessly from different places including you the readers, Quora and elsewhere – please add missing ones at the end of this post thanx! ***

Industry Specific Accelerators

Health http://rockhealth.com/

USA

US West Coast Silicon Valley, Incubators

Y Combinator, www.ycombinator.com Mountain View, CA

The Founder Institute, www.founderinstitute.com  SV and San Francisco

I/O Ventures, www.ventures.io  Mission Area in San Francisco

Plug and Play, PATC, www.plugandplaytechcenter.com  Sunnyvale, Redwood City and Palo Alto among others

AngelPad, www.angelpad.org  SOMA area in San Francisco

Summer@Highland, www.hcp.com/summer  Menlo Park and Lexingon, MA

New one: 500 startups Accelerator Program, www.500startups.com  Mountain View, CA

Dog Patch Lab, www.dogpatchlabs.com  San Francisco, CA

Xconomy http://www.xconomy.com

SF-based RockHealth which has partnered with the Mayo Clinic and Accel http://rockhealth.com

West Coast collab / co-working spaces

TechShop Scientists, steampunkers, inventors, technology manufacturers, and hobbyists with over 700 members in Menlo Park, 600 members in San Francisco, and 300 members in Raleigh

The Hub San Francisco and Berkley, with international network of sister spaces around the world – with 31 spots and each one interlinked

Incubators in other US Cities

TechStars, www.techstars.org  Boulder, CO and Boston, MA

Launch Box, www.launchboxdigital.com  Washington, DC

DreamIT Ventures, www.dreamitventures.com  Philadelphia, PA and New York, NY

Alphalab, www.alphalab.org  Pittsburgh, PA

Shotput Ventures, www.shoputventures.com  Atlanta, GA

Capital Factory, www.capitalfactory.com  Austin, TX

Gangplank http://gangplankhq.com/ Free to members in return for supporting the place, 260 South Arizona Avenue Chandler, AZ 85225

MidVentures, www.midventures.com  Chicago, IL

Excelerate, www.exceleratelabs.com  Chicago, IL

Momentum www.omentum-mi.com West side of Michigan

Start@Spark Boston, MA, and New York, NY,

MidVentures http://www.midventures.com

Betaspring, Providence, RI

Better Labs, San Jose, CA

Bizdom U, Detroit, MI

Excelerate http://www.exceleratelabs.com

http://masschallenge.org  Boston, MA

http://www.launchpad.la  Los Angeles, CA

Collab / Co-Working Spaces

IndyHall http://indyhall.org/ 20 North 3rd St, Unit 201, Philadelphia, PA 19106

New York, USA Collab / Co-Working Spaces

New Work City the “grandaddy” of NYC coworking spaces as it has been operable for the past 4 years. Located at 412 Broadway in Little Italy; drop in day rates available, max 80 people.

Most NYC collab spaces below have long waiting lists apparently.

General Assembly at 902 Broadway in the Flatiron. The 20,000-sq ft “campus,” opened in January 2011

WeWork Labs at 154 Grand Street, is a co-working hybrid founded in April 2011 by Adam Neumann

Projective Space (formally known as SohoHaven) was created by three brothers, James Wahba, Johnny Wahba, and Tim Wahba, located at 447 Broadway in Soho (5500 sq ft)

Dogpatch at Union Square at 36 E 12th St, also have places in SF and Cambridge, MA. Dogpatch NYC is full aparrently.

Hive at 55

Tech Space

Greendesk

Greenspaces

Coworking Brooklyn

WeCreateNYC

Israel

The Time – http://thetime.co.il

Incentive – http://www.incentive-il.com

Granot Ventures – http://www.granot-ventures.com

JVP Studio – http://www.jvpvc.com

Xenia – http://www.xenia.co.il

Lool http://lool.vc

United Kingdom

London, Silicon Roundabout

White Bear Yard  –  http://whitebearyard.com  and http://passioncapital.com

HackFwd  –  http://hackfwd.com

The Hub  –  http://westminster.the-hub.net/

Collab Start-up / Co-Workspaces

www.techhub.com  – Shoreditch, Old Street Roundabout

http://www.theiw.org — Clerkenwell, Smithfield

http://club.workspacegroup.co.uk  — Clerkenwell & Leathermarket, Bermondsey

http://kingscross.the-hub.net/ The Hub at Kings Cross

Rest of UK

The Difference Engine http://thedifferenceengine.eu

Springboard http://springboard.com  Cambridge, Cambs

Entrepreneurs for the Future Incubator Birmingham, UK. Birmingham Science Park Aston, Holt Street, Birmingham, B7 4BB @entrepreneurs4f

Oxygen Accelerator Accelerator Birmingham, UK. Birmingham Science Park Aston, Holt Street, Birmingham, B7 4BB @oxygenaccel

Ignite100 Accelerator Newcastle, UK. Suite 20, Adamson House, 65 Westgate Rd, Newcastle upon Tyne, NE1 1SG, UK @particular_matt

Startupbootcamp Accelerator London, UK.  @SBootCamp

Collab Start-up workspaces

FlyTheCoop http://flythe.coop  Manchester

Old Broadcasting House http://www.oldbroadcastinghouse.co.uk Leeds

www.theskiff.org  Brighton

My Catalyst Co-working Leeds, UK. Shine, Harehills Road  @jasondainter

Germany

Berlin, Silicon Alee

Startupbootcamp Accelerator London, Berlin.  @SBootCamp

Ireland

Incubators

http://nbtstartups.com/ – Cork, Ireland

Co-Working Spaces

TBA

Europe

Norway

Ignitas Accelerator, Oslo, Nedre Vollgate 4 @ignitas

Global

or Countrywide Directories of Co-Working spaces

Loosecubes Evangelical about co-working

European Co-Working Spaces A list on an external website

**************************** Add an entry ****************************

Beginners Guide: How To Approach An Angel Investor

Over the last year fives years for two startups I’ve raised a little under $1 million dollars from 30 angel investors. I’ve probably spoken or pitched ten times that many. It’s a dark art and here is my two penneth which may help you along your way to do the same or better…

This is intentionally quick fire and inexhaustible, so if there are any questions I’m happy to field them in the comments.

Deck or Presentation

This is an excellent outline of a deck, from one of the kings of Silicon Valley VC, Sequoia.

Most angels will want to see an exec summary if not a deck as above; make sure this exec summary is STRICTLY one page. Work at it until it is. There is lots of content out there on this. Here was mine from 2009 for Rummble; Imperfect, but not too bad either.

You could also use a strip down deck if its hard (as Rummble was) to explain the product because it’s completely new or a different concept. So, maybe 5-7 slides as accompaniment. I’d advise sending as a PDF — and you’ll need a presentation deck (few words for when you pitch with it) and one WITH words to explain, for when you send it.

So you need two decks – one to pitch with in person and one to email for reading with out your explanation, which includes notes for each slide explaining.

Great book on writing powerpoints / presentations is Lifes a Pitch; you can read it in 1-2 hrs, but well worth the money.  .. in fact  I was so impressed by the book I wrote a blog post about Lifes a Pitch here.

Amount of Money

Angel investors are less sensitive (on the whole) to being flexible on amount of money invested. By this I mean that if you go to a VC and say “1.5m” then it suddenly drops to 1.1m, many will have pause in their confidence of your projections. An angel may be more understanding – often because it is an earlier stage of the company’s development – that the burn rate (the amount you spend each month) is a movable target. This said, be sure about your numbers and don’t get bullied in to saying the investment is too much or too little. Be confident.

Ask an Angel up front some basic questions. Don’t be shy. You need to know:

  • Do they have the money?
  • What is the typical size of the investment they do
  • What was the size of the last 3 investments and in to which companies

You are investing in them as they in you – this is a two-way street and not a one-way interview process.


How To Find Angel Investors

There are lots of brokers out there. People who will help you find money. Avoid most if not all of them. Definitely avoid anyone asking for an up-front fee or retainer, except in the most exceptional of circumstances if there is a small fee to pitch or something at a really excellent event – however I’d argue if it IS a really excellent event then it won’t be charging.

Rates for commission on investments vary of course depending on size and whatever the person thinks they can get away with(!) but something from 2.5 to 12.5% isn’t unreasonable, 12.5% being on the smaller amounts of money. I’ve taken one or two investments from personal introductions via  a business contact which included a 5% commission paid in stock, which was for around £60,000 ($100,000) if I remember correctly.

There are many people who can do an intro, just plug yourself into your local entrepreneur community. Don’t know where it is or who they are? That is what Google is for my dear reader!

You will need to press the flesh and attend all manner of events to find Angel Investors and to meet those who can introduce you. Using a filtering process when talking to someone at an event will help you work out if they are worthwhile investing time in. Questions like:

  • What sort of space do you invest in? (angel investors tend to invest in things which excite them or which they understand)
  • Are you actively investing at the moment? (then you can move on to the questions above – politely of course!)
  • Do you know any other angel investors who might be interested?

There are angel networks out there. Some are better than others. The Cambridge Angels in my experience are not hugely active – but I do know people who have had money from them. Equally, the re-energised London www.keiretsuforum.com has some great people associated with it and is also now being run from the West Coast I believe, rather than as a completely independent satellite here in the UK as it was before.

Super Angels

The Super Angels are those higher-profile more prolific angels who either:

  • invest a small amount in many companies
  • invest larger amounts (in total investment size – e.g. $100 to $1m+ )
  • or have just created a very good PR vehicle for themselves!

Genuine Super Angels who are both prolific, have great PR and genuinely know what they’re talking about include Dave McClure and Ron Conway are two big names; but these are just two of very many, most West Coast hailing.

Venture Capital as an Angel Round

This can be good provided you get huge added value – i.e. a real top-tier investor such as Fred Wilson & co OR the person leading the round can add vast industry experience. Otherwise, you may be simply dancing with the devils sooner than you’d need.

To talk about the way VC’s operate is another post entirely and not to be covered here. Have a browse of www.TheFunded.com if you’re not aware of the ups and downs of taking Venture Capital;  it’s a mine field and more often than not ends in tears for one if not both parties.

Due Diligence

Get your paperwork in order. I have been far more succesful in this with Angel Investors than I was with VC’s, largely because at the earlier stage of businesses I was the one doing the accounts & paperwork and so I wasn’t relying on anyone else who might get things wrong. On that basis, it is worth paying for a qualified good accountant, or book-keeper, if you can’t do it yourself and ensure it is right, to make sure your DD is in order. At one point I had a shareholder doing it but he turned out not to be competent in this field.

There is nothing more worrying for an investor, large or small if your accounts are a mess or share paperwork is not in good order. It’s a pain, it’s annoying but make sure it is done. Otherwise at worse you may lose the investment, at best they will haggle for a better pricing of the round (in their favour) on account of there being a higher risk because your admin is in a mess.

  • Accounts
  • Shares paperwork (and Companies House or your country equivalent)
  • IP / ownership
  • Contracts (employment and suppliers)
  • Tech documentation
  • NDAs & legals

…all need doing. I put copies as PDFs in a DropBox and share them that way.

Keep In Contact

I used to send out quarterly emails to shareholders. That meant that when then I had a problem, or wanted help, they knew what was going on and could respond. Yes it is tiresome to take 3 hours out to write a long-winded update of what is going on and plans, problems, failings, successes and wins; but it really keeps them in the loop and those who take an interest (if you don’t have a monthly board meeting with all your angels on one board) will then be well versed when you run out of cash or have a problem.

I used www.streamsend.com so I could monitor not only how many and who read the emails (I had over 30 shareholders!) but also ensure that the emails go to them and didn’t end in spam.

Pricing

Make sure you understand pre-money, post-money and the terms around what your company is worth and what you want to give away. Plenty on Google about this too 😉

I am sure there are many more things, but as a beginners guide, that should suffice!