Archive for the ‘General QandA’ Category

Why Doesn’t My Question Get Answered on Your Website?

One question we’ve started getting lately is “why haven’t you answered my question yet?  How do you decide which questions get answered?” 

First of all, we apologize for any tardiness we have in answering your questions.  We’ve been very pleasantly surprised by all of the interest and great questions asked from the blogosphere.  The downside is that we’ve had a hard time keeping up, but pledge to get to all that we can.

In general, we try to answer questions in the order that we receive them, but also have two “filters” we apply:

1.  We try to answer questions on a priority basis that appear to need an immediate answer and that we think the dialogue will benefit a wide demographic of our readership; and

2. We don’t answer questions that are overly specific in nature and are essentially just asking for legal advice.  We aren’t your attorneys and wouldn’t want to steer your the wrong way with only a limited fact pattern to opine on.

Again, we appreciate your readership and patience. 

- Jason and Brad

Check Out Our Lijit Search!

We get quite a few repeat questions – ones that we’ve answered before.  Just to remind everyone, we have a search box on the right hand side of our blog.

It’s simply the coolest search tool out there.  Brad has several posts on his blog, but here is one post in particular that explains what the Lijit folks are up to.

Do All VCs Have Degrees From Top Schools?

Question: Do all VCs have degrees from the very top schools? Is it a job requirement? I will graduate soon from an honors program at a state school. The conversation usually goes well when I pitch my background, internship, and areas of expertise then takes a turn for the worse when I say where I went to school.

If you are trying to get a VC job straight out of school, the answer is probably “yes.” It’s a really tough position to get and there is a bias toward the top schools. If you also consider that the coasts tend to dominate the venture world, you get a lot more visibility if you are from one of the east or west’s top schools. Most VCs become VCs after doing “something else” whether that is being an entrepreneur, investment banker, lawyer, etc. At that point, it’s really irrelevant where you went to school; it’s all about what you have done to get to that point.

I didn’t even know where half of my partners went to school until I wrote this post and did a bit of research. It looks like I’m the only state school guy of the bunch. In our group, we have varying degrees from M.I.T, Stanford, Harvard, Macalester College (in St. Paul Minnesota for those of you keeping score at home) and my personal favorite, the University of Michigan.

How Do Venture Capitalists Spend Their Day?

Question: I’m curious. I understand that VCs have primarily four functions they perform: raising funds, screening and investing in new businesses, managing current portfolio companies and some level of investor relations and internal operations. How do you divide your work day? What percentage of time do you think you dedicate to each area? Maybe I’m misguided in the ways you spend your time, and you could clarify how you divide up your many tasks?

Our Take: One of the great things about this job is that there is no “standard day.” Every day is different and the division of time reflects that. It’s really hard to say what a typical day is like. Even typical weeks are hard to describe. It all depends on a particular partner’s portfolio is doing and what their role is in the firm.

There are weeks where 100% of a VC’s time is in managing their current companies. If a company or two of theirs is going down a liquidation path, these are very time consuming activities. Alternatively, if your board meeting schedule shakes out to all fall on one week, this can also allocate most of your time to current projects, but perhaps the next week one could spend 50% of his / her time looking at new deals.

Fundraising is done episodically, not on a regular basis (although some would say that investor relations activities are fundraising), so when VCs are raising funds, a material amount of time goes into that effort, but this is most likely only every 4 years or so. Also note that not all the partners in a firm will have to spend a material amount of their time fundraising.

Some partners have operational responsibilities internal to the firm itself, some don’t. In short, you could ask 100 VCs this answer and have 100 different answers. If you forced me to put some percentages on the table, I’d say a normal yearly time allocation (assuming that fundraising is not happening) might look something like this:

Screening, Analysis and Execution: 45%

Current Company monitoring: 45%

Investor Relations / Operations / Other: 10%

Do Venture Capitalist Care About Immigration Laws?

Question: What’s the position of the VC community in general (and yours in particular) with regards to startups with non-resident alien founders having no work permits in the US, but having valid business visas to enter US at any time?

Our Take: We can’t speak for the entire VC community on this topic (but would guess it would be the same as ours), but investing in startup companies is risky enough without the specter of the INS or Homeland Security involved due to questionable immigration situations.

What Do Venture Capitalists Think About Offshore Development Offices?

Question: We are considering opening up an offshore development office (location not yet selected). I would like to know if this is a negative factor in the eyes of the VC community. What should we consider before we make the jump?

Our Take: If executed properly, VCs are usually strong supporters of offshore development centers. Not only are development costs reduced, but if customer support is an important part of your company’s success, you’ll more easily be able to provide generous support hours with an offshore office. Furthermore, our experience is that acquirers of companies are also happy to find well-run offshore entities that they can leverage.

The key here is “well run.” This is not as easy as one might think. For a while, it seemed like all startup software companies were setting up shops in India or China. In fact, there were rumors that some VC firms would not invest in software companies unless they had an offshore partner. At the same time, most major U.S. technology companies set up foreign operations in major tech centers such cities such as Bangalore, Mumbai and Shanghai (among others).

Given this, wages in these cities began to escalate greatly and turnover at companies grew as workers moved from company to company – whoever was the current high bidder on wages. What started as exponential cost savings, quickly evaporated into single and double digit benefits. Furthermore, some companies were not successful in cultural integration between their locations.

So, what does this mean today? It still means that you can save money on development and provide superior customer support, but it’s not a guarantee. The arbitrage is not large enough to survive massive turnover, cultural misunderstandings, poor integration and communication issues and still save meaningful resources. Good management and integration is a must. We would advise you to certainly analyze your options, but make sure your eyes are open before making the jump.

What Is The Difference Between "Venture Capital" and "Private Equity?"

Question: You guys talk about Private Equity (PE) and Venture Capital Funds (VC). What’s the difference?

Our Take: Well, you “caught us.” Technically, VC is a subset of PE. Private Equity deals are simply deals that aren’t available for public participation. This includes VC, angel investing, hedge funds, buy out funds, etc.

The definition of all of these terms is getting more blurry, as each of them has morphed a bit to play in each other’s sandbox. For instance, angel investors now compete with VCs on small, very early stage deals, while some of the buyout and hedge funds are doing larger VC-type deals.

Traditionally, the term “venture capital” was used to designate investments in early “start up” companies. These deals were generally regarded as too high-risk and too early in their life cycles to interest other PE players.

All of this being said, the term Private Equity has the connotation of meaning “everything but angel or VC.” When we’ve used PE in our posts, we have referred to bigger funds that do later stage deals, hedge and buyouts – the types of deals that traditional VCs do not do. I would expect, given our comfort with this nomenclature, we’ll continue this in the future.

How Do VC’s Think About Open Source?

Question: How does the VC community deal with open source? I am working on an embedded device that can be built either way, open or closed. This decision is complicated since our group (due to past successes) is capable of funding the first few rounds internally. We won’t need external VC until the last round in order to enable full production. Which product would the VC rather see, SlimDevices (completely open) or the Zune (completely closed)?  Actual product is neither of those devices. Is the creation of a user/hacker community worth the exposure of having the source code open? What does a VC perceive as the downsides of open source?

Before I take a crack at this, I want to point you to an excellent post that Will Price at Hummer Winblad posted yesterday – The Three Most Important Letters in Open Source: CYA.

Like most things in software – some VCs get it and some VCs don’t.  Now that open source has become mainstream – initially through the commercialization of Linux but also the success of VC-backed companies like RedHat, JBoss, and MySQL – there is real history and precedent around how to create a successful open source company.  In addition, there are a set of VCs (think “individual partners, not firms”) that have a positive track record helping fund and build open source companies.

There are several different layers to the issue.  The first is the most basic – many companies use open source components as part of their proprietary products.  Several years ago VCs and entrepreneurs got tuned into the risks associated with this due to several absurd lawsuits – such as the SCO / IBM one – that created an uncertain potential future liability for these companies, their customers, and any larger company that acquired them.  As a result, there was an immediate irrational buyer backlash against open source – we sold several companies to large public company acquirers that had very tortured negotiations around their open source IP – usually resulting in unnecessarily complex IP representations in the purchase agreement, actually code modification as a condition to closing, or fundamental challenges in getting a deal done.  As people began to understand the liability dynamics better and products for evaluating source code for open source emerged (including several that are VC backed), this started to settle down and today is in a much more rational zone.

Next is the actual creation of commercial company around an open source product.  Many successful open source products have a small number of key architects (and often one “king of the project.”)  A relatively small set of people have figured out how to effectively commercialize the companies and – as a result – you’ve seen some impressive businesses built around open source projects.  The key phrase here is “a relatively small set of people” – the vast majority of software VCs don’t really understand open source in any great depth – especially when you get into the intersection of community, legal, and commercialization issues.  As an entrepreneur – this is yet another case where you should make sure you are filtering your potential universe of funders carefully and trying to evaluate early whether or not someone will get it.

The question asks very directly “what’s the downside” and “is the creation of a user / hacker community worth the exposure of having the source code open.”  These are tough questions to answer because they are circumstantial in nature – most commercialized open source projects either emerge from (a) an existing open source project that becomes popular and reaches some critical mass or (b) a specific product that has a software component that can be enhanced by active user involvement in the build / development of it.  Companies in category (b) are particularly interesting, as they have open source software as a strategy component of their business, usually driving commercialization theme that is attached to the software (e.g. a hardware device that is user configurable / programmable.)

Open source is undeniably here to stay and a critical part of the software ecosystem.  However, as the question forshadows, even though open source (and its father – “free software”) has been around for a while, the mainstream software industry is still wrestling with many issues surrounding it and we expect they will continue to for a while.  Herein lies great opportunities for entrepreneurs and investors.

I Was “De-VC’d” What Do I Do Now?

Question: I was deVCeed. My VC just one day said that he does not want to do it anymore and wants me to pay back investment that they made. That’s it?

Our Take: Ouch. Something here isn’t right; start up investments are not like banks. We can’t invest in you one day, get tired and “withdrawal” our money the next. Standard financing documents don’t have this mechanism in them, unless you count redemption rights which are triggered by a certain date in time and rarely used. So bottom line, my guess is that your VC doesn’t have the rights to simply say “I’m done, give me my money back.” Either way, we wish you good luck.

What Is the Impact of Private Equity and Hedge Funds on VCs?

Question: With the private equity and hedge funds raising record funds where does that leave venture capital? What are your thoughts on the future of the industry?

Our Take: Right now, we’d say that PE and Hedge Funds raising money is not having a material effect on the VC industry. There certainly has been a ton of talk about how these mega funds will move downstream investing in less mature companies and squeezing out VCs, but to this date, we haven’t seen this type of behavior.

So far, there seem to be a couple of trends. One, many of these mega funds have allocated capital to venture deals, but needing investment managers, they are willing to invest their capital directly into VCs raising money. From that aspect, there is an additional pool of capital from which VCs can raise money.

Secondly, we have seen PE / Hedge funds become more active in funding later round company financings. This, too, is a nice “problem” to have, as some of the later rounds in VC backed startups are so large that it’s nice to have an investor with a larger check book.

As previously mentioned in earlier posts, VC funds have gotten smaller over time to deal with a more efficient market and smaller investments per company. It is unclear whether or not a PE or Hedge funds with multiple billions under management want to spend time investing such a small portion of their capital to directly fund VC fundable deals.