very interesting. But they’ll still need cash to hire, pay rent, purchase equipment, buy advertising, pay for bandwidth, create hardware prototypes, etc etc. Is the idea you find the cash elsewhere? What happens if the partners don’t get along with the founders or the current roadmap? How much influence do they have? Can it be retracted if it goes poorly?
I'm not here to defend the model (just posted my own comment supporting it), but just one note on the "getting along with founders". This is true for board members, early employees, etc. and I don't think their model makes this part any different.
Opex for the VC fund, on the other hand, I'm not sure about.
I really respect the attempt at trying something new here, but framing it against a traditional VC model might be a bit of a mistake (on the journalist's behalf?).
I'd suggest thinking about this as an innovation on the venture studio model, or later-stage accelerator model (e.g., YC's Series A cohorts). I've spent the last few months toying with the idea of a venture studio and the economics are hard to swallow for some founders and for later-stage VCs... A model like this, where you get an operating, experienced serial entrepreneur to help you and kick your ass... I like that a lot. It's different and worth following, if nothing more.
> framing it against a traditional VC model might be a bit of a mistake
Google Ventures for example has a similar capital services model. Once you took money, you had access to a pool of GV folks who could help you with design, finance, engineering, etc. Having this talent to tap in to helps you avoid spending early money on things that aren't worth a full FTE but need to be solved.
The only thing new here is that they took out the writing of the check first.
Sure, happy to. The concern I've had others raise + I agree with is that really great founders don't want to give up a portion of their founding equity to a venture studio, and "hired guns" won't be as good at this stage. I think if the venture studio founder has a really great track record (e.g., Max Levchin) or access to a lot of capital, then this might be different.
If I were a Series A investor, I might take issue with the initial cap table being so diluted by a venture studio, but I' not a Series A investor.
I'm being very pithy here-- happy to discuss at any point if you'd like.
I think this model is a dream for a solo founder. I'd trade equity for a team instead of cash without hesitation. If you don't have co-founders, you're going to spend most of the money you raise on talent anyway, and you're gonna have to give your talent equity to boot. You might well spend most of your money on talent even if you do have co-founders.
I would totally jump at the opportunity to take something through the early stages with a venture studio before raising money. It makes a lot of sense for a lot of reasons-- just probably not to certain kinds of founders or investors.
Also, kind of depends on the goals of the start up. Not all want a big exit after several series of funding. Others are looking for some scaling, consistent cashflows, etc.
> If I were a Series A investor, I might take issue with the initial cap table being so diluted by a venture studio
How diluted do you think it would have to be to make the economics work for the venture studio? Where do you think a Series A investor might start taking issue with the dilution?
The sorts of technical decisions modern startups tend to make primarily make sense if you're looking at the company from an "eat the world" point of view. So if you squint hard enough at their decisions they look good from the POV of that you have barrels full of cash and the only way you're going to succeed is when you have thousands of people working for you so you may as well build for that case from the start.
But if you take away those barrels full of cash those decisions no longer look good. Maybe they can offer technical advice on how not to do this and plan and build their product in waves to optimize each step in growing the company. But in my experience there is a huge lack of people that can accomplish this in the startup ecosystem nowadays.
I'm not suggesting this is why Hoffman et al are going this direction, but this is almost exactly what I would do if I felt that there was an epidemic of portfolio companies not being completely transparent about the state of their companies.
This gives the an amazing amount of "insider information" that, ostensibly a VC would have but I have found in practice VCs don't have the ability to really get from the regular CEO/operator updates and growth boards.
>>This gives the an amazing amount of "insider information"
Couple this with a proof point that specialized teams like Latacora[1] are proving themselves out so they figure why not also get the inside scoop while turbo-charging their portfolio companies.
I was referring to the idea of even more highly specialized VC/PE operating partners managing functions which were traditionally seen as irreplaceable.
Latacora manages a startup's entire infosec function for a period of time allowing founders to focus on more important parts of their business. I don't believe anybody would have thought your model would be possible during a startup's early stages without being managed directy by a tech founder, but Latacora's sucsess invalidates this assumption.
If infosec can be managed externally, why not other sacred cows like engineering, marketing or other key gaps where founders need help during their initial year(s)? I think Sweat Equity Ventures is going to explore this question more deeply with this model.
I understand that Latacora doesn't invest in client companies -- that's where my analogy ended.
1) Adding a "partner" only helps if he is actually competent. My experience suggests that this is untrue more than the majority of the time.
2) It also means that you are privileging information from your "mole" who may have a different agenda from both the company and the VC.
Every time I have seen a VC put an "insider" into a company my advice has been to consign him to metaphorical Siberia. The companies who didn't follow this advice regretted it terribly.
Ok, I don't have any startup experience, but this sounds an awful lot like either injecting a spy, or a commissar, depending on how much influence the person has on operations and strategy.
If I were going to try to ramp up an idea, I'd be extremely wary of accepting someone that way, especially if they were expecting to assume any amount of control.
Seems like it’d only make sense if you had a hard time hiring senior people because of lack of brand and/or funding, but a startup would still need to raise money so how does that fit in with this? Wouldn’t you still raise a traditional round? And what would those investors think if you diluted your stock with something like this?
I can't imagine any founder with a few years of experience with VC would want a VC mole in their day to day business. This might work with early startups who don't know any better.
Also will other VCs invested in the same business benefit or lose out from a situation like this.
Finding good experienced, talent/knowledge is difficult, so I'm on board with the idea here.
In place of cash seems backwards to me. Maybe if the companies that you invest into are great cash cows but need talent to accelerate? But if that was the case, you can usually afford talent.
A medium injection of cash + talent can go incredibly far in setting up your investment for success.
Maybe I'm missing something here, but it sounds like they aren't putting any skin in the game. The VC will benefit from all of the upside while literally taking none of the risk.
How could this possibly be good for entrepreneurs?
If someone approached me with this idea to help my startup, I would promptly move that email to my junk folder and stay focused on building a great product. If someone wants to invest money, sure I'd be happy to take it, but the last thing I need is more "advice" from armchair experts.
> If someone approached me with this idea to help my startup, I would promptly move that email to my junk folder and stay focused on building a great product
I'd advise you to let them give you a quick pitch by email and see if it sounds reasonable.
As a founder, you have so much to learn. Be wise with your time, but don't shut out potential ideas from someone who says they want to help you. It's not every day (or any day, in my experience) that something like that happens.
Why should a founder take a claim like that at face value? VCs are not charities, and their "potential ideas" are constructed with their own interests in mind.
brenden2 has decided that this type of offer (giving away equity in exchange for services implemented by the VC's affiliates) is categorically unsuitable for his company. It's patronizing to assume that brenden2 is inexperienced for reaching this conclusion.
> The companies pay SEV in common stock shares, the same held by the startups' rank-and-file employees, and SEV's team, in turn, get paid salaries by the firm and also receive part of the firm's carry like a traditional venture model.
The VC pays for employees. The company pays the VC in the form of stock. The risk to the VC is the stock they've received is worthless or worth less than the cash they have paid employees.
How much stock are they expecting though? The problem with a lot of ‘sweat equity’ models is that they’re often just a cost effective way to grab an outsize portion of a company on the back of a few hours a month of ‘Office Hours’ time.
I don’t see how you can both give enough stock to make it meaningful to the VC without vastly overestimating the contribution of the VC team.
First, most of the money raised by early-stage software startups goes to salary anyway, so that's not as restrictive as it sounds.
Second, you didn't have to do any recruiting. This is huge. Recruiting soaks up the time of existing employees who could be working on the product. It takes money for ads, sourcing, sponsorships etc. It takes calendar weeks or months before you actually get somebody to start, which is a big opportunity cost to a start up. And it's hard. If you have first-time founders, not knowing how to recruit effectively is probably one of the biggest risks the company faces.
> First, most of the money raised by early-stage software startups goes to salary anyway, so that's not as restrictive as it sounds.
> Second, you didn't have to do any recruiting. This is huge. Recruiting soaks up the time of existing employees who could be working on the product. It takes money for ads, sourcing, sponsorships etc. It takes calendar weeks or months before you actually get somebody to start, which is a big opportunity cost to a start up. And it's hard. If you have first-time founders, not knowing how to recruit effectively is probably one of the biggest risks the company faces.
That does actually sound really good, at least in the beginning. I think it could lead to some awkwardness if the start up sees success and needs to expand (which company are the VC funded employees loyal to?), but those are good problems to have.
There is no reason a rational company would prefer VC scrip (described here as "value-adding services") over a comparable amount of actual cash, since the former is restricted and not certain to benefit the company. This arrangement also creates a conflict of interest, since the VC is planting decision makers into the company that primarily serve the VC's interests, and not necessarily the founder's or the company's interests.
Any founder who receives such an offer should consider whether it's worth giving up equity for the B2B equivalent of a gift card redeemable only for services that may benefit, but may also harm the founder's interests in the company.
> Maybe I'm missing something here, but it sounds like they aren't putting any skin in the game. The VC will benefit from all of the upside while literally taking none of the risk.
They funded the company and they could lose their money if the company fails. That's their risk. Now they are trying to help the company build a team and somehow that's a bad thing?
Because the entire point of this exercise is not funding the company? It's not "fund the company AND build a team", it's offer this instead of funding the company, as a separate thing.
> The companies pay SEV in common stock shares, the same held by the startups' rank-and-file employees, and SEV's team, in turn, get paid salaries by the firm and also receive part of the firm's carry like a traditional venture model.
This is an exchange of money (to pay salaries, which is what a lot of VC money eventually gets used for) for equity. In other words, it's VC funding. It might look a little different than normal but that doesn't mean it's not funding.
> The VC will benefit from all of the upside while literally taking none of the risk.
VCs provide 100% of the funding, so they're taking the risk, at least for that individual company. I understand VC return is amortized off all their investments. But to say that VCs have no skin in the game isn't entirely accurate.
If you accept stock and a paycheck from a startup, that's VC money.
I don't usually cling to the status quo, but I do believe that the CEO must have the ability to set the vision and get the "right people in the right seats." Every management book in the last decade pays homage to this idea put forward in Jim Collins' book Good to Great.
I guess this model presumes that the right people will be supplied by the investor to fill predetermined seats. Does the CEO have a say in that? Is it possible to fill seats without the CEO in the decision making process? If they do have a say prior to investment, then why not raise capital and hire people of that caliber regardless?
If the issue is that some founders with good ideas are simply clueless and a team that knows better must be built around them, it seems conflict between the CEO and the new team will be inevitable.
This assumes that the CEO is effectively incompetent. Startup CEO is an exhausting task, but it's not never ending that's why you recruit and hire.
Top level (C suite, VP etc..) recruiting is one of the primary jobs of a CEO and being able to do that effectively is a core task.
I think this really underscores the fact that VC's don't fundamentally care about the leadership abilities of their companies. They are investing in a growth curve around a product or series of products primarily, not strong leaders.
How do you build trust in your own team when an investor installs or pushes people they have a long relationship with into your company? Where will loyalties lie?
True, the question is, how do we ensure that they are in fact A_Players, and what is the recourse if they are found not to be A_Players or not loyal to the project/company or are in fact starting to play games, or even just inadvertently stray from the goals without mal-intent?
The tangle of thorns surrounding trying to get any kind of satisfaction guarantee, or complete alignment of interests seems rather broad, tall, and deep...
Sure, but there's a question of who you need when.
For example, f you're a non-technical founder doing a startup that's more a business model innovation than a tech innovation, you need a solid early team, but you don't really need the full-time services of a strong CTO to do the hiring and set the initial technical direction. If you end up with product-market fit and need to grow beyond one developer team, only then do you really need somebody with more tech experience to be around full time.
Honestly, a lot of pre-fit startups would be better off filling some roles like this. At one point I talked with some friends about setting up a venture labor firm. Startups are risky as hell, and from the labor side it would be great to get some of the de-risking that comes with a portfolio approach. It would also let you share great don't-need-them-all-the-time people without a lot of shenanigans. E.g., visual designers, ops consulting, user research, security expertise, and other technical specialties.
So yeah, the CEO should still be able to get the right permanent people in right seats once there's a real seat for them. But this way you don't have to do without the skills until you have a seat.
> it would be great to get some of the de-risking that comes with a portfolio approach.
Right, but at some point "de-risking" seems like it can easily become "we're installing our own leadership team/ops staffers to make sure this company moves in the right direction."
I think it'll wind up divorcing the company from the vision/passion of the founder — and that might be a fatal and overlooked risk in itself.
> Steven D. Levitt noted that some of the companies selected as "great" have since gotten into serious trouble, such as Circuit City and Fannie Mae, while only Nucor had "dramatically outperformed the stock market" and "Abbott Labs and Wells Fargo have done okay". He further states that investing in the portfolio of the 11 companies covered by the book, in the year of 2001, would actually result in underperforming the S&P 500.[6] Levitt concludes that books like this are "mostly backward-looking" and can't offer a guide for the future.
That's not a very helpful criticism. If the companies go on to fail or make mistakes it doesn't mean that their previous good work or strategy is invalid.
But it does prove that it's armchair research, which is of little value in providing facts about which strategy you should go about. It does provide some food for thought, but probably in a prescriptive manner which can be dangerous if taken seriously.
Had a VC send me this a while ago. My feedback: these guys are all finance, operations, and management. No actual builders. It would be great to outsource these roles to keep control and save equity, but this seems like the opposite. It’s still a great deal for founders because of the connections that VC brings, but it’s likely a bad deal for the company, which is now run by people abstracted from the vision.
For more info, see: “conjoined triangles of success”.
This is a fascinating concept, but I wonder how it can impact the overall culture of a startup. More and more, I’m inclined to believe that the initial group (say, first 10-15 employees, including the founder) are the most important.
This, in turn, almost looks like a more specialized version of contractors. For those startups in the early incubation stage, I’m concerned this may actually hurt their chances of possibly—prolific development.
If carried out properly, however, I think this has really great potential; cash can often be a double-edged sword that also limits creativity and innovation. An effective “mentor” in this sense, will be way more beneficial than straight, cold, cash
This sounds like a very bad idea. I hardly believe any VC has any great builders just sitting around to jump on and off to the next thing. I'd also not feel trusted but more like watched all the time. I'm lucky that all the investors I had in the past always trusted my and the team's ability to build, grow and push things forward without suggesting putting their people in. I might be wrong, but it feels the only people that could think this is a great idea are coming from the venture side :) It just sounds very wrong to me tbh.
My experience with investor-provided talent has been very poor.
Historically, the problem is that VCs tend to send "subject matter expert" type consultants who give advice. Startups need someone to do the work more than they need someone to give the advice. The VC-provided talent usually generated more work than they solved with questionable returns for the company.
Unless Reid Hoffman has cracked the code of sending the right people to get work done, I'm suspicious.
I could see VC-provided specialists, like a lawyer, CPA, perhaps also specific skills like a data scientist before a startup has enough cash to employ one full-time but I don’t see why this would be any better than the startup employing the contractor themselves with cash.
Also, I think VCs pick operational talent on "political" reasons, mainly people they have gotten to know somehow from previous companies they invested in or as founders. These people while might be good, do not necessarily have a good skillset or fit for your company.
FWIW, I had the exact same experience, and I lost faith in the "operational VC" model. Hiring the right people is hard for everybody, and the chance that a VC can spin up an "agency" style department that somehow has the best people is really small.
The entire model attracts the kind of "consultants who give advice" you describe. After all, people who want to get their hands dirty, i.e. people who are a good fit with startups, are overwhelmingly going to want to work directly for said startups.
We also had this super weird mismatch with perceived value. The operational VC "billed" agency-style, so by the hour, at (to us) outrageous hourly rates. It was like 6x what we'd pay a salaried employee doing the same work. We didn't "feel" it as bad because it cost us equity, not money. But we'd have never hired that agency for that money, if it was cash. The moment we realized that this was the case, we stopped the collaboration. It was a costly distraction and nothing more.
I'm curious if Hoffman found a way around this, but I don't see it in this article.
Hoffman has no incentive to find a way around costly billing practices, since it benefits his VC firm (Sweat Equity Ventures).
This kind of pricing, when implemented, is a clear case where the interests of the startup and the VC are misaligned. It's up to the founders to recognize that the "operational VC" model is a bad deal for themselves, and reject it accordingly.
That's only assuming he doesn't understand the VC model, which I doubt. The extremely power-law nature of VC investments means he can get better returns if he maximizes the growth trajectory of his portfolio companies, than if he maximizes the size of his share (by billing at high rates, i.e. at the cost of potentially less steep growth). Unless he's a moron, he'll genuinely want his sweat investment to cause tremendous growth more than anything else.
I think that the incentives are aligned as much as they are with cash VC investments (i.e. closely, but not entirely, because the founder has all their eggs in a single basket and the VC doesn't). I just think he can't pull it off. :-)
I don't think the incentives (for VCs and founders) associated with cash and "services" investments are equally aligned. The main reason is not the potential for overbilling, which you mentioned, but because the VC gains a significant amount of influence over the company when the company hires the VC's close associates, which generates a conflict of interest.
But back to the billing: it is in the VC's best interest to acquire the largest possible percentage of the company at the lowest possible cost. When the VC is investing "services" instead of cash, and has control over the pricing of the services, it would be in the VC's interest to provide a smaller quantity of services in exchange for the same amount of equity, since this decreases the VC's cost of investment.
You're right that it would not make sense for the VC to make a deal that is egregious enough to choke the company's growth, since that would diminish the value of the equity, but rational VCs would not intentionally make such a deal. Also, since the services in this arrangement cost the company equity, not cash, I think overbilling would only hurt the company through opportunity costs (as the equity could have been used to obtain a better offer).
Whether it makes sense for the VC to overbill for services also depends on how much equity the VC owns. Most of my above comments operate under the assumption that the VC owns a small percentage of the company.
> Also, since the services in this arrangement cost the company equity, not cash, I think overbilling would only hurt the company through opportunity costs (as the equity could have been used to obtain a better offer).
This is a good point that I had not considered yet. Thanks, I agree.
I suspect this is because these are wolves in operator's clothing. If you deploy true operators that are doing labor in their area of expertise, and if they can pre-empt obvious mistakes + generate reproducible playbooks, you could net out ahead.
> ...consultants who give advice. Startups need someone to do the work more than they need someone to give the advice.
I've been on the other side of this with a few startups, and the right answer is almost never to come in and drop a bunch of code as much as founders would like an extra set of hands.
A good SME can come in and have a solid whiteboard session with a team to shave off the first two iterations of development. I've done this before from a security perspective where just making the developers aware of the sharp edges and being available to answer questions was a massive force multiplier.
Elsewhere in this discussion someone said they are finance and operations people.
I think that's moderately useful - doing the work on building financial models or finding operational hacks to solve specific problems can be helpful, and isn't really a thing where it is annoying bringing a person up to speed only for them to leave.
The area where I can see a VC's network adding a lot of value is 'person who built sales operation for growth company in related market'. That's not necessarily someone that's easy for a startup to hire, especially pre-Series A. On the other hand anyone if someone's output is aspirational pitch decks and market-scoping, at least one of the founders is already good at that to have got the VC interested, and by the time a startup's challenge is scaling operations the startup has cash to pay for the expertise.
Really even if VCs were utterly rational their model already incentivizes "go big or go home" on a grand scale. You as a founder would be perfectly fine with a "mere" 10% chance of a "just" 10M$ company to early retire, work with independence to be able to walk away at will, or bootstrap depending on ambitions. VCs would win more amortized over all of their funding a 0.01% chance for a $100B company. That fits with the current big money model of trying to pump up a given service with no business model to get user base and then have it collapse after they alienate their users trying to monetize it. It looks utterly stupid and may be a form of economic resource misallocation (both as a matter of opinion and derth of comparable data) but it benefits the VC.
This may be the case for some but not for all. There are some business models that do require funding. Many of the services and software that you use on a daily basis wouldn't be around if it weren't for VCs. Not everything is bootstrap or die (disclaimer: I'm a bootstrapped founder).
I was about to say the same thing, then I realized the point is that a 10% chance of $2.5M/year == $250k/year expected return, which IS lower than your expected return working for a BigCo (there’s a distribution of income depending on how you perform, there, too, but it’s much lower risk).
This is a little bit disingenuous, because I’m pretty confident outside the 10% best case, there’s a pretty broad distribution where you work long hours and come away with SOME return, so I suspect the expected return may be close to even for passionate founders, albeit probably with more stress in the overall effort.
Of course, the people starting companies usually aren’t guessing they have a 10% chance of success; you need to believe you’re an outlier to be successful in the startup game, it seems to me.
I can see that. In my experience, it works to have a subject matter expect at as a consultant/mentor to a few young and hungry employees. Essentially, the expert can help lead a team through big technical decisions or when there is a roadblock. However, the expert likely doesn’t want to put in the hours or do the necessary grunt work.
This shifts allegiances in interesting ways. Key employees are no longer employees but contractors hired by the VC.
As stated, the contractors are not startup employees but gain any research knowledge are on patents. Do these partners still have non-compete contracts with the start up or can they freely leave with IP?
It seems like this system allows the VC to pull support easily. You can't force someone to continue to work for you. If the partners are time splitting how would you approach that situation? Can you fire them?
Most founders will have no interest in this. (1) 90% of VCs add negative or zero value. Okay maybe you have a part time employee but how much equity are you really going to give up for that? (2) Top founders don’t need you. They can attract their own talent at market rates and they don’t want someone running their business. (3) Startups need to pay their people.
It's like a very hands on incubator where the VCs are basically providing human resources and are invested in getting the start-up off the ground and moving by providing exactly what the start-ups need.
Instead of giving start-ups cash to hire, they provide the expertise as needed. Marketing gurus, tech gurus, generalists, etc... It can save money and time, especially if the VCs have good technical leaders that have lots of experience building products efficiently.
This works really well, if it's partnered with cash. Like a competitive advantage of why you'd want to work with his VC company, but without money it's worthless.
That doesn't sound too different to what some VCs already do. E.g. from what I heard about Rocket Internet from some of their portfolio company, they act in a very similar way.
Yes, they also provide cash as part of the funding deal, but they will most likely place one C-level executive in your startup. They'll also happily provide you with more headcount than you probably need and if your numbers aren't where they are supposed to be, you are expected to buy consulting services from them, so in the end a good chunk of the funding amount flows back to them. That's why a lot of their companies are as soulless as they are.
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[ 3.0 ms ] story [ 199 ms ] threadOpex for the VC fund, on the other hand, I'm not sure about.
I'd suggest thinking about this as an innovation on the venture studio model, or later-stage accelerator model (e.g., YC's Series A cohorts). I've spent the last few months toying with the idea of a venture studio and the economics are hard to swallow for some founders and for later-stage VCs... A model like this, where you get an operating, experienced serial entrepreneur to help you and kick your ass... I like that a lot. It's different and worth following, if nothing more.
Google Ventures for example has a similar capital services model. Once you took money, you had access to a pool of GV folks who could help you with design, finance, engineering, etc. Having this talent to tap in to helps you avoid spending early money on things that aren't worth a full FTE but need to be solved.
The only thing new here is that they took out the writing of the check first.
Me too. :)
> and the economics are hard to swallow for some founders and for later-stage VCs...
Can you elaborate on that a bit? What model are you considering and what constraints do you see?
If I were a Series A investor, I might take issue with the initial cap table being so diluted by a venture studio, but I' not a Series A investor.
I'm being very pithy here-- happy to discuss at any point if you'd like.
I would totally jump at the opportunity to take something through the early stages with a venture studio before raising money. It makes a lot of sense for a lot of reasons-- just probably not to certain kinds of founders or investors.
How diluted do you think it would have to be to make the economics work for the venture studio? Where do you think a Series A investor might start taking issue with the dilution?
The sorts of technical decisions modern startups tend to make primarily make sense if you're looking at the company from an "eat the world" point of view. So if you squint hard enough at their decisions they look good from the POV of that you have barrels full of cash and the only way you're going to succeed is when you have thousands of people working for you so you may as well build for that case from the start.
But if you take away those barrels full of cash those decisions no longer look good. Maybe they can offer technical advice on how not to do this and plan and build their product in waves to optimize each step in growing the company. But in my experience there is a huge lack of people that can accomplish this in the startup ecosystem nowadays.
This gives the an amazing amount of "insider information" that, ostensibly a VC would have but I have found in practice VCs don't have the ability to really get from the regular CEO/operator updates and growth boards.
Couple this with a proof point that specialized teams like Latacora[1] are proving themselves out so they figure why not also get the inside scoop while turbo-charging their portfolio companies.
[1] https://latacora.com/
Latacora manages a startup's entire infosec function for a period of time allowing founders to focus on more important parts of their business. I don't believe anybody would have thought your model would be possible during a startup's early stages without being managed directy by a tech founder, but Latacora's sucsess invalidates this assumption.
If infosec can be managed externally, why not other sacred cows like engineering, marketing or other key gaps where founders need help during their initial year(s)? I think Sweat Equity Ventures is going to explore this question more deeply with this model.
I understand that Latacora doesn't invest in client companies -- that's where my analogy ended.
2) It also means that you are privileging information from your "mole" who may have a different agenda from both the company and the VC.
Every time I have seen a VC put an "insider" into a company my advice has been to consign him to metaphorical Siberia. The companies who didn't follow this advice regretted it terribly.
If I were going to try to ramp up an idea, I'd be extremely wary of accepting someone that way, especially if they were expecting to assume any amount of control.
Also will other VCs invested in the same business benefit or lose out from a situation like this.
In place of cash seems backwards to me. Maybe if the companies that you invest into are great cash cows but need talent to accelerate? But if that was the case, you can usually afford talent.
A medium injection of cash + talent can go incredibly far in setting up your investment for success.
How could this possibly be good for entrepreneurs?
If someone approached me with this idea to help my startup, I would promptly move that email to my junk folder and stay focused on building a great product. If someone wants to invest money, sure I'd be happy to take it, but the last thing I need is more "advice" from armchair experts.
I'd advise you to let them give you a quick pitch by email and see if it sounds reasonable.
As a founder, you have so much to learn. Be wise with your time, but don't shut out potential ideas from someone who says they want to help you. It's not every day (or any day, in my experience) that something like that happens.
Why should a founder take a claim like that at face value? VCs are not charities, and their "potential ideas" are constructed with their own interests in mind.
brenden2 has decided that this type of offer (giving away equity in exchange for services implemented by the VC's affiliates) is categorically unsuitable for his company. It's patronizing to assume that brenden2 is inexperienced for reaching this conclusion.
The VC pays for employees. The company pays the VC in the form of stock. The risk to the VC is the stock they've received is worthless or worth less than the cash they have paid employees.
I don’t see how you can both give enough stock to make it meaningful to the VC without vastly overestimating the contribution of the VC team.
Finding the right person could take time and money you don't have.
Second, you didn't have to do any recruiting. This is huge. Recruiting soaks up the time of existing employees who could be working on the product. It takes money for ads, sourcing, sponsorships etc. It takes calendar weeks or months before you actually get somebody to start, which is a big opportunity cost to a start up. And it's hard. If you have first-time founders, not knowing how to recruit effectively is probably one of the biggest risks the company faces.
> Second, you didn't have to do any recruiting. This is huge. Recruiting soaks up the time of existing employees who could be working on the product. It takes money for ads, sourcing, sponsorships etc. It takes calendar weeks or months before you actually get somebody to start, which is a big opportunity cost to a start up. And it's hard. If you have first-time founders, not knowing how to recruit effectively is probably one of the biggest risks the company faces.
That does actually sound really good, at least in the beginning. I think it could lead to some awkwardness if the start up sees success and needs to expand (which company are the VC funded employees loyal to?), but those are good problems to have.
Any founder who receives such an offer should consider whether it's worth giving up equity for the B2B equivalent of a gift card redeemable only for services that may benefit, but may also harm the founder's interests in the company.
They funded the company and they could lose their money if the company fails. That's their risk. Now they are trying to help the company build a team and somehow that's a bad thing?
> The companies pay SEV in common stock shares, the same held by the startups' rank-and-file employees, and SEV's team, in turn, get paid salaries by the firm and also receive part of the firm's carry like a traditional venture model.
This is an exchange of money (to pay salaries, which is what a lot of VC money eventually gets used for) for equity. In other words, it's VC funding. It might look a little different than normal but that doesn't mean it's not funding.
VCs provide 100% of the funding, so they're taking the risk, at least for that individual company. I understand VC return is amortized off all their investments. But to say that VCs have no skin in the game isn't entirely accurate.
If you accept stock and a paycheck from a startup, that's VC money.
I guess this model presumes that the right people will be supplied by the investor to fill predetermined seats. Does the CEO have a say in that? Is it possible to fill seats without the CEO in the decision making process? If they do have a say prior to investment, then why not raise capital and hire people of that caliber regardless?
If the issue is that some founders with good ideas are simply clueless and a team that knows better must be built around them, it seems conflict between the CEO and the new team will be inevitable.
How do you perform a proper search while wearing lots of other hats? I suppose it's a never-ending exhausting task?
Top level (C suite, VP etc..) recruiting is one of the primary jobs of a CEO and being able to do that effectively is a core task.
I think this really underscores the fact that VC's don't fundamentally care about the leadership abilities of their companies. They are investing in a growth curve around a product or series of products primarily, not strong leaders.
The tangle of thorns surrounding trying to get any kind of satisfaction guarantee, or complete alignment of interests seems rather broad, tall, and deep...
For example, f you're a non-technical founder doing a startup that's more a business model innovation than a tech innovation, you need a solid early team, but you don't really need the full-time services of a strong CTO to do the hiring and set the initial technical direction. If you end up with product-market fit and need to grow beyond one developer team, only then do you really need somebody with more tech experience to be around full time.
Honestly, a lot of pre-fit startups would be better off filling some roles like this. At one point I talked with some friends about setting up a venture labor firm. Startups are risky as hell, and from the labor side it would be great to get some of the de-risking that comes with a portfolio approach. It would also let you share great don't-need-them-all-the-time people without a lot of shenanigans. E.g., visual designers, ops consulting, user research, security expertise, and other technical specialties.
So yeah, the CEO should still be able to get the right permanent people in right seats once there's a real seat for them. But this way you don't have to do without the skills until you have a seat.
Right, but at some point "de-risking" seems like it can easily become "we're installing our own leadership team/ops staffers to make sure this company moves in the right direction."
I think it'll wind up divorcing the company from the vision/passion of the founder — and that might be a fatal and overlooked risk in itself.
> Steven D. Levitt noted that some of the companies selected as "great" have since gotten into serious trouble, such as Circuit City and Fannie Mae, while only Nucor had "dramatically outperformed the stock market" and "Abbott Labs and Wells Fargo have done okay". He further states that investing in the portfolio of the 11 companies covered by the book, in the year of 2001, would actually result in underperforming the S&P 500.[6] Levitt concludes that books like this are "mostly backward-looking" and can't offer a guide for the future.
For more info, see: “conjoined triangles of success”.
They pioneered this model.
This, in turn, almost looks like a more specialized version of contractors. For those startups in the early incubation stage, I’m concerned this may actually hurt their chances of possibly—prolific development.
If carried out properly, however, I think this has really great potential; cash can often be a double-edged sword that also limits creativity and innovation. An effective “mentor” in this sense, will be way more beneficial than straight, cold, cash
Historically, the problem is that VCs tend to send "subject matter expert" type consultants who give advice. Startups need someone to do the work more than they need someone to give the advice. The VC-provided talent usually generated more work than they solved with questionable returns for the company.
Unless Reid Hoffman has cracked the code of sending the right people to get work done, I'm suspicious.
We had a VC pull this garbage once. Although it wasn't for equity. They just offered it as a service "at cost".
We dropped their $90/hr Manhatten based book keeper and $800/hr attorney just as quick as we could without ruffling too many feathers.
The entire model attracts the kind of "consultants who give advice" you describe. After all, people who want to get their hands dirty, i.e. people who are a good fit with startups, are overwhelmingly going to want to work directly for said startups.
We also had this super weird mismatch with perceived value. The operational VC "billed" agency-style, so by the hour, at (to us) outrageous hourly rates. It was like 6x what we'd pay a salaried employee doing the same work. We didn't "feel" it as bad because it cost us equity, not money. But we'd have never hired that agency for that money, if it was cash. The moment we realized that this was the case, we stopped the collaboration. It was a costly distraction and nothing more.
I'm curious if Hoffman found a way around this, but I don't see it in this article.
This kind of pricing, when implemented, is a clear case where the interests of the startup and the VC are misaligned. It's up to the founders to recognize that the "operational VC" model is a bad deal for themselves, and reject it accordingly.
That's only assuming he doesn't understand the VC model, which I doubt. The extremely power-law nature of VC investments means he can get better returns if he maximizes the growth trajectory of his portfolio companies, than if he maximizes the size of his share (by billing at high rates, i.e. at the cost of potentially less steep growth). Unless he's a moron, he'll genuinely want his sweat investment to cause tremendous growth more than anything else.
I think that the incentives are aligned as much as they are with cash VC investments (i.e. closely, but not entirely, because the founder has all their eggs in a single basket and the VC doesn't). I just think he can't pull it off. :-)
But back to the billing: it is in the VC's best interest to acquire the largest possible percentage of the company at the lowest possible cost. When the VC is investing "services" instead of cash, and has control over the pricing of the services, it would be in the VC's interest to provide a smaller quantity of services in exchange for the same amount of equity, since this decreases the VC's cost of investment.
You're right that it would not make sense for the VC to make a deal that is egregious enough to choke the company's growth, since that would diminish the value of the equity, but rational VCs would not intentionally make such a deal. Also, since the services in this arrangement cost the company equity, not cash, I think overbilling would only hurt the company through opportunity costs (as the equity could have been used to obtain a better offer).
Whether it makes sense for the VC to overbill for services also depends on how much equity the VC owns. Most of my above comments operate under the assumption that the VC owns a small percentage of the company.
This is a good point that I had not considered yet. Thanks, I agree.
I've been on the other side of this with a few startups, and the right answer is almost never to come in and drop a bunch of code as much as founders would like an extra set of hands.
A good SME can come in and have a solid whiteboard session with a team to shave off the first two iterations of development. I've done this before from a security perspective where just making the developers aware of the sharp edges and being available to answer questions was a massive force multiplier.
I think that's moderately useful - doing the work on building financial models or finding operational hacks to solve specific problems can be helpful, and isn't really a thing where it is annoying bringing a person up to speed only for them to leave.
No way. Assuming a 4 year investment that's lower pay than a low risk bigcorp job.
This is a little bit disingenuous, because I’m pretty confident outside the 10% best case, there’s a pretty broad distribution where you work long hours and come away with SOME return, so I suspect the expected return may be close to even for passionate founders, albeit probably with more stress in the overall effort.
Of course, the people starting companies usually aren’t guessing they have a 10% chance of success; you need to believe you’re an outlier to be successful in the startup game, it seems to me.
As stated, the contractors are not startup employees but gain any research knowledge are on patents. Do these partners still have non-compete contracts with the start up or can they freely leave with IP?
It seems like this system allows the VC to pull support easily. You can't force someone to continue to work for you. If the partners are time splitting how would you approach that situation? Can you fire them?
Seems much more complex than cold, hard cash.
It's like a very hands on incubator where the VCs are basically providing human resources and are invested in getting the start-up off the ground and moving by providing exactly what the start-ups need.
Instead of giving start-ups cash to hire, they provide the expertise as needed. Marketing gurus, tech gurus, generalists, etc... It can save money and time, especially if the VCs have good technical leaders that have lots of experience building products efficiently.
Essentially, why throw money at me as a founder and hope I spend it wisely, when you could instead lend me your vetted team members to help directly.
Yes, they also provide cash as part of the funding deal, but they will most likely place one C-level executive in your startup. They'll also happily provide you with more headcount than you probably need and if your numbers aren't where they are supposed to be, you are expected to buy consulting services from them, so in the end a good chunk of the funding amount flows back to them. That's why a lot of their companies are as soulless as they are.