Dilution and Investors and Tension

I am going to try to address a complex problem in a concise way.

Here is the big problem with investors – they dilute the founders’ ownership in the company.  Is this actually a big problem?  Well, that answer depends on your point of view.

Let’s cover some basics:

  1.  It is impossible to issue stock to investors without existing shareholders (founders, employees and prior investors) being diluted.
  2.  It is impossible to do a stock for stock business combination without existing shareholders being diluted.  But now the diluted shareholders own a smaller piece of a larger pie hopefully.
  3.  If you have issues with dilution then raising outside investment will give you heartburn every time.  That is not a good situation to endure.

Given the basics, here is one key subjective data point that I always like to keep in mind:  what exit value is going to make the founders happy?.  The answer to this question is a function of (i) how much of the company do the founders own at time of exit and (ii) the exit value.   For example, a company may sell for a relatively small amount, say $18 million.   Are the founders happy?  Well, if they own 50% of it they well might be.  Typically, 50% ownership would mean that the company only has raised 1 or, at best, 2 rounds of equity funding.  Alternatively, if the founders own only 15% then they might not be too happy with an $18 million exit.   But they might be really happy with a $100 million exit.

Here is another basic truth:  the more a company raises, particularly in tough times when projections are not being met, for example, the greater the likelihood of real tension between the investors and the founders.  As investment dollars increase, founders ownership decreases.  And if dollars are raised in challenging times then valuation and other terms will favor the investors compounding the tension.  VCs deal with this situation most of the time.  The “up and to the right” valuation scenario is not at all common (unfortunately!) or only comes after millions and millions of investment.

It is up to the investors and founders to acknowledge the tension, discuss it and come up with solutions that dissipate it.  Often times, investors face situations where they must support a company that is going through growing pains.  These are tough times for the investors and founders.  It is up to the founders and investors to make sure that the founders stay motivated.  But it is up to the founders to acknowledge the situation the company might be in, particularly if sub-optimal.  There are ways to keep management teams motivated – additional stock option grants and management carve out plans are probably the 2 most common.  But the investors and founders need to have direct face to face open and trustworthy discussion.

The motivations of founders and investors are highly predictable and usually aligned (maximize company value!), which should make the discussion easier.   Luckily, the motivations are not political – I have been watching House of Cards recently…….


VC Backed Alumni Ranking

Each year Pitchbook runs an analysis of which universities/colleges have the most VC backed alumni.  In theory, this should be a measure of the entrepreneurship heft of the given school.  Here is their just published report.  Highlights:

  1. Methodology:  Pitchbook tracked founders of companies that received a first round of venture funding between January 1, 2006 and August 18, 2017.  Large data base.
  2. Page 4:  Cornell ranks 6th for undergraduate programs for the number of VC backed entrepreneurs.
  3. Page 7:  Cornell ranks 6th for dollar volume of VC dollars raised.
  4. Page 9:  Cornell ranks 5th for female founders.
  5. Page 10:  Cornell ranks 14th for MBA programs.
  6. Page 11:  Cornell ranks 3rd for undergraduate founder unicorns (companies with over $1 billion in valuation)

Good reading.  Enjoy!

Questions to Ask

Sometimes it is GREAT to have a playbook.  A coach loves a playbook.  A teacher loves a playbook.  A general contractor loves a playbook.

Well, for investors, a playbook is tricky because every investment is different.  No exceptions.  Never will all the key factors be the same:  founders, market, product, scalability, regulatory environment, IP protection, global market forces, etc.

Yet having some “standard” questions to ask when starting to learn about a team and a company is comforting.  So, yes, I am talking about “first meeting” questions.

Likewise, as a founder it is comforting to anticipate what those first meeting questions will be and good to have a general plan on how to answer them.

I read this morning a GREAT playbook on first meeting questions.  It is written from the angel investor perspective, but it is a wonderful resource for founders as well.

Here is it (thanks to Tim Ferriss and Jason Calacanis).

I do have one piece of advice for founders as they answer questions in an investor meeting:  be very open and honest and do not sound like a politician.  Answer the questions directly and thoughtfully.  If you have not quite figured something out, then say that.  No beating around the bush and no BS – that will only have the opposite reaction you are hoping to get.  My number one subjective factor when making an investment decision is trust.

Upstate NY’s Strongest Economy

A Buffalo-based business publication just published an article called “Which parts of Upstate New York have the strongest economies? (And which are trailing the pack?)”.  Here is a PDF of the article:  Upstate NY Strongest Economies.

I am obviously delighted with Ithaca’s ranking and proud to be part of this great and growing ecosystem.  Things are hustling and bustling here and startups are leading the way!


Accelerate or Not Accelerate….That is the Question

Personally, I am a fan of accelerator programs.  There is a healthy debate on this topic, but I think that being intensely pushed by good mentors for 3 months or so can only improve the chances of success!

This morning I came across an interesting accelerator ranking.  A group of professors (from strong programs) created something called the Seed Accelerator Rankings Project. The lead is Yael Hochberg, who used to be at Cornell and is now at Rice.  Definitely research and stats oriented and produced.  You might enjoy taking a look, particularly as the presentation is very nonacademic!

I read about the project in Term Sheet, which is a great daily on VC.  You can subscribe here.