The funding Bill of Rights: Helping entrepreneurs and VCs come together

The relationship between an entrepreneur and a venture capitalist can be enormously rewarding (monetarily and emotionally).  It can also be incredibly painful, costly and aggravating.
A few months ago at the NY Entrepreneur Week, I presented what I called the Funding Bill of Rights (FBR).  The purpose was to set a framework for a very direct dialogue between entrepreneurs and VC’s that would enable a successful relationship.  After 13 years as a VC, I have discovered (sometimes painfully) that the sooner you talk about sensitive issues, the better and more successful the relationship can be.
ARTICLE 1: Entrepreneurs have the right to own 50 percent or more of his/her company, but VCs have the right to make large returns
Companies can be built for a fraction of what it cost just a few years ago.  Less cost means less capital needed.  Less capital means less dilution for the entrepreneur.  At FirstMark, we love to see the founders with more than 50 percent of the company’s ownership: When they spend money, it’s more theirs than ours – so they spend it a hell of a lot more wisely.
VCs, though, are in the business to make our investors money.  If we don’t, we won’t be in business.  If we‘re not in business, we won’t be around to back you next time.  As such, we need to be invested at a reasonable valuation.
Common Ground: You can own more than 50 percent of your startup and VCs can have a fair and reasonable valuation.  The way that happens is you don’t raise much money.  By building a capital efficient company that generates revenue and cashflow to fund growth, though, we can get what we want.
ARTICLE 2: Entrepreneurs have the right to take only as much money as needed, but VCs have the right to the largest dollar returns possible
Just because a VC might “need to put a certain amount of capital to work” doesn’t mean you need to take it.  More money is more dilution for the entrepreneur and makes it harder for you to own more than 50 percent.
The ugly truth about the VC business, though, is that we need to spend the bulk of our time and energy where can make the most amount of money for our LPs.   That might be our largest investment, but it might also be a small investment that is a gigantic home run.
Common Ground: By scaling into investments over time with milestone-based fundings, we can put more money to work but you can get a higher valuation because you have taken some of the risk out of the investment for us.   We have more money working for us and you have less dilution.  It’s either that or generate 100x for us on our small initial investment!
ARTICLE 3: Entrepreneurs have the right to get more than money from investors, but VCs have the right to be consulted on strategic issues
If we get a good valuation, you should get good value.  Make us work for our return.  Give us homework!  Make us sell for you.  We can help you build your business. Get your money’s worth out of your VC!
Keep in mind, however, that a board meeting is not a “show and tell,” it’s a “discuss and resolve.” We’ve got a lot of money and time riding on you and we have the right to some input.  If you don’t value our opinion, why’d you take our money?
Common Ground: A regular dialogue (not limited to board meetings) around the business’ goals and objectives and the results is critical to a successful relationship.
ARTICLE 4: Entrepreneurs have the right to insist that investors stand behind them in later rounds, but VCs have the right not to have their money pissed away
An investment is a mutual obligation that extends beyond the current round of funding.  If you deliver for us, we need to deliver for you.  That means we are there for you in future rounds, unfailingly.
But the entrepreneur has both a moral and fiduciary obligation to his investors.  That means you use our money to invest in building your business, not waste it on things that don’t generate value for us (and for you).
Common Ground: Agree on goals and strategy before the investment.  Establish milestones and objective measures of success and agree what happens if they are hit (or missed).  Then communicate with each other regularly and thoroughly.
ARTICLE 5: The founder has the right to remain CEO, but VCs have the right to replace him or her if the job’s not getting done.
It’s your company.  If you want to be CEO, you deserve to be CEO if you deliver the promised results.  End of discussion.
Keep in mind that execution is more important than vision, though.  If you don’t execute, we’re going to have to find somebody who can.  Nothing personal, but we need to make this investment work.  And, as the largest shareholder, so should you.
Common Ground: Agree on objective measurements for success.  Measure performance with consistent metrics. Communicate regularly.  These discussions should never be a surprise if you do so.
ARTICLE 6: Entrepreneurs have the right to run their own business, but VCs can hold them accountable
Committees or boards can’t run companies. They are run by the CEO and the management team.  Boards are here to advise and counsel.  Take our input, but, in the end, it’s your call.
This is a business, though, not an exercise in your personal fulfillment.  It’s your call on how you run your business, but we can and will hold you responsible for the outcome since our investors are holding us responsible.
Common Ground: Establish clear business metrics, goals and objectives and communicate regularly.  In addition, hold regular performance reviews with a candid discussion about management’s performance.
ARTICLE 7: Entrepreneurs have the right to a two-way dialogue, but VCs have the right to the truth immediately – and without spin
The worst kinds of investors are like seagulls – they fly in, leave their droppings all over the room and then fly off.  Sometimes we VC’s need to just shut up about all the things we know and have done and actually listen to what is being said.
Bad news does not get better with age, though, so don’t wait to tell us.  Sooner is better than later.  Spin = untruth = lying.  No spinning.
Common Ground: Talk, talk, talk.  Communication is everything – clear and common goals, objective metrics and a regular conversation outside of board meetings.
ARTICLE 8: Entrepreneurs have the right to choose an exit date, but VCs have the right to ensure it’s timely
If you deliver for us, you have earned the right to say when you sell.  After all, you are the largest shareholder and can control this vote anyway.  But remember, you are a fiduciary and you have an obligation to do the right thing for all of your shareholders.
We told you when we invested that we need to get liquid at some point in the future.  At the end of the day, we are here to generate returns, not create a legacy for you.
Common Ground: This conversation has to happen before the company is funded.  And both sides need to agree.  One key point: define timely for both sides.
ARTICLE 9: Entrepreneurs have the right to protect their investment – as do VCs
Your company is probably your largest investment.  In fact, it’s probably more than 100 percent of your net worth.  So, as the largest investor, you, the entrepreneur, have the right to protect this investment to ensure that its potential is realized just like we do.  Just remember that as a fiduciary, you have to protect everyone’s interest, not just yours, in the same manner.
Your company may or may not be our largest investments and it certainly is only a fraction of our net worth.  But our job is to protect our investments and we are going to work just as hard as you will to get it done.
Common Ground: By agreeing upon the goals and the objectives of the business and the metrics for measuring the outcome, we can establish the framework for everyone to achieve a mutually satisfying outcome.
Nothing moves in a straight line except abject failure, so these articles are really only a rough framework for a candid discussion between a VC and an entrepreneur.  But, I am shocked at how rarely these types of discussions happen.
Want more?: Lenihan discusses each article in much greater depth at his Ready, FIRE! Aim blog.
Tags: Venture Capital