Venture Capital Question

Discussion in 'Starting a Business' started by klib0002, Mar 2, 2012.

  1. klib0002

    klib0002
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    Hey Everybody, Thanks for having me.

    I have recently been researching the requirements for getting venture capitalists to invest in a company. For the most part, I understand that it is a long shot that companies get picked up by VC's, but that doesn't mean its not possible. I have been doing a lot of reading and from what I understand, the board of directors (investors) have the capabilities to fire you (the entrepreneur) at any given time. So you pour your heart, soul, and passion into this company, and they can just fire you on a dime? The real question here, is if the VC board decides to fire you, do you still get a percentage of the company, or are you back to square one out on the street? I understand that most of this is in the papers that are signed at the beginning of the courtship of VC's.

    Thanks,
    Brad
     
  2. Business Attorney

    Business Attorney
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    Brad, every deal is different. In most cases, a founder does not lose any of his stock if he is fired, but I have certainly seen cases where the VCs have demanded that at least a portion of the stock go back to the company. The reason why VCs want the stock back is not to penalize the founder who was terminated but to have stock to use to entice new top management into the company. Otherwise, they would have to either dig into the pool of equity set aside for other key employees or they would have to issue new shares which dilute the VC's (and everyone else's) percentages.
     
  3. klib0002

    klib0002
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    Ok, So I get it now. If the board of directors feels that the original founder is not going to contribute to the company, they can choose to get rid of them for the sake of the business. The business world is ruthless for sure, but that makes sense. At least the founder gets to keep stock.
     
  4. ArcSine

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    "for the sake of the business" is the key idea. The professional investor's sole objective is the maximization of the economic success and value of the company. And the VC is keenly aware that it usually takes a multitude of different talents working together to pull it off. An entrepreneur might be a terrific software engineer, or a top-shelf restaurateur or biologist, but it's unlikely he/she's also strong in sales, biz management, finance, etc. (To be sure, neither you nor I would write a check to bankroll a guy who bills himself as being a jack-of-all-trades, because you and I know that just means 'mediocre at many things, expert at nothing'.)

    And so in the pursuit of the success-maximization goal, the VC will likely insist that the company has quality talent at each critical position, such as sales, marketing, finance, and so on. It may indeed be true that the single most valuable asset behind the company's prospects is the entrepreneur's programming expertise or micro-biology brilliance, but that then means the entrepreneur needs to stay focused on that particular aspect of the business.

    Hence, a VC retaining the right to replace the entrepreneur as CEO is rarely just a ruthless power-grab, but rather a mechanism by which the entrepreneur might be re-directed back to what should be his or her sole focus, and simultaneously installing the proper talent into other key roles.

    And of course, as long as the entrepreneur retains a significant equity stake (as you and Business Attorney have already discussed), he'll come out ahead economically if the VC is right. It's better than the alternative, which is a company with great potential crashing and burning because the entrepreneur insisted on calling all the shots himself rather than delegating those tasks that were outside of his particular expertise. I've seen that one happen too many times.
     
  5. Business Attorney

    Business Attorney
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    ArcSine is right. It is not at all uncommon for a company to outgrow the founder as CEO. Entrepreneurs have certain skills and talents that don't always work well as the company grows and its needs change. Often the entrepreneur stays on in a technical, marketing or business development role that is more suited to his talents.
     
  6. klib0002

    klib0002
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    Thanks for the replies. By the information that you guys have told me, it seems like as long as the entrepreneur goes into this with an open mind, it may be very profitable for them. The VC's have done this before, so judging by their past experiences, they probably know what is best for the company financially. I honestly would not mind putting my idea in the hands of several professionals better than me at business.

    Brad
     
  7. ArcSine

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    VCs and other pro investors have usually seen and dealt with a large number of companies; they've seen the spectacular successes and the train wrecks. As a result they frequently have a pretty good take on what works and what doesn't, and it's a wise entrepreneur who'll tap into that experience and leverage it for his own benefit.

    One thing jumps out at you when you read lots of interviews with successful entrepreneurs. Nearly unanimously they sing the same song: "A big part of my success came from being smart enough to surround myself with smart people to handle those aspects of the biz in which I have no expertise."

    What a VC really wants in his deal terms is the right to install those smart people into those key slots, IF the entrepreneur-investee is unwilling to do so voluntarily and the company's P&L is suffering as a result.

    Note that none of this is to say that you should just hand the VCs the keys to the business and say, "Okay, the shots are all yours to call, just tell me what to do and who to report to." Not at all; it's ultimately your concept and your biz, and the VCs need your concept and vision and know-how as much as you need their cash. Just recognize that they probably bring some valuable experience to the table in addition to their checkbook, and you'll probably enhance your own personal wealth long-run if you consider their counsel.
     

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