A Sack of Seattle

My new rule of thumb for entrepreneurs: Divide by 3

If a year ago, an entrepreneur was hoping to raise 3 million at a 6MM pre-money valuation.  Today, that very same entrepreneur should divide by 3 on both the money raised and the valuation. That same deal would be a 1MM raise at a 2MM pre-money valuation -- as a starting point.  This rule of thumb seems to be applying to our Founder's Co-op  portfolio. One of our companies is raising 300K at 1MM pre-money: this same deal a year ago would have been a 1MM raise at 3MM pre money.  This rule of thumb applies to money raised and valuation.
The world has also changed for two other important terms:

• liquidation preference is often 1 times with no cap.
• ratchet: in the event the company doesn't make progress there is often a full ratchet for future downside financings.

It's easy to get in, but can you get out; Investment opportunities abound but what about exits?

We've been busy at founder's co-op looking at deals but like many investors we didn't make any new investments in Q4, 2008. We've got a couple deals in the pipeline that we're excited about and may get done in the next month or so. If we do the deals, I'll be sure to let you all know. One of the things, that's on my mind -- like many of the investors out there -- is exits in the future. Expectations amongst entrepreneurs have come down and thus, deals are increasingly investor friendly. That's good.
But the question of what happens after an investment is made and a company grows are more uncertain today than ever before.  Another way of putting it is that getting into deals is all too easy but getting money out on the back end is hard. It's impossible to have an answer to this -- and one either has faith that there will be a back end in 3 to 5 years or not.  We're keeping the faith --and hopefully, making some bets in the near term but the m&a market of the future is on our minds. 

A tip for entrepreneurs raising money: Don't make an investor wrong

I recently had a conversation with an entrepreneur about possibly investing in his company.  The entrepreneur asked for my opinion on the opportunity.  I told the entrepreneur I was interested in the business but wasn't willing to invest yet because he hadn't brought the cost of customer acquisition down enough (i.e. he needed to innovate on marketing). 
His reaction turned me off: he spent the next 5 minutes telling me why the cost of customer acquisition didn't materially matter and why I was wrong....or focused on the wrong thing. I appreciated his spirit of argument....but I really didn't want to argue with him.  (Differing opinions are welcome but argueing is a pain in the ass)
I wanted to interrupt him and tell him that my opinion was just that -- my opinion. It's neither right nor wrong....but whatever you do, don't fight with me and position me as wrong. I'll just retreat.  It's a delicate balance for an entrepreneur to make a convincing pitch in any environment and that balance has gotten harder to maintain in this environment. However, it's all the more important to make sure you guide your investors to coming to the right conclusion -- a big part of keeping that balance is making sure that you give the investor the space to have their opinion, to change their mind, and ultimately to make a choice of whether to invest or not. 

View of a Seattle angel investor

As an investor today, I have to choose between:

1. Making an early stage bet on a company with no revenue
2. Buying into an existing company with a revenue stream
3. Buying shares in a publicly traded company of choice
4. Doing nothing

What would you do?  If you're selling me on #1, your investment in terms of company, market, product and deal pricing has to be compelling enough to get me not to do the other 3 options. 
I make this list not to dishearten entrepreneurs but to give them insight into the mindset of the people their pitching.

Flat is the new up

I just had a meeting with an entrepreneur who is trying to do a financing at the same valuation as he did a year ago. Last year, he raised 1.5MM at a 1.5MM pre-money (3.0 post).  Now, he's trying to raise another 1.5MM at the 3.0MM post money so that no-one gets hurt. I told him, "flat is the new up" and I realized that I had the title for my blog post today.  I'm skeptical he'll get the deal done at that valuation but appreciate his desire to keep everyone whole.

No new cash for the next 12 months?!

I spoke with an entrepreneur today who used to be in the private equity world. He is trying to raise $3 million at a $12MM pre-money for an early stage environmental company. I told him that Founder's co-op would not be a good fit as a capital source. I asked him how the raise was going and he told me it was the toughest capital market he had ever seen.
I think he's right about the capital markets. I'm telling the companies that I'm involved in that they need to assume that they receive no more cash for the next 12 months. I don't know if it's true or not but it's a good mind set to have.

Economic reality is setting in on entrepreneurs

I've had a number conversations in the last week with early stage companies who are still holding onto too much hope with regard to the prospects for investment.  I hate to be the harbinger of bad news but getting investors -- whether that be venture capitalists or angel investors -- to part with cash this year is very unlikely. I don't want to say it's impossible, because we're looking at making a couple of investments this year. But, I'm still seeing too many entrepreneurs with expectations that are too high for the prospects of their company and the respective valuations, terms and likelihood of an investment. And, I'm still seeing investors holding onto their cash like a life raft.  Realistic expectations, perseverance, and innovation are the mind set that entrepreneurs must have toward managing their companies through this period.

To raise capital, make your company smell like money

An alternate title for this post. Use money deodorant.  I just had coffee with an entrepreneur who was bemoaning the woes of the fund raising process.  He's been unsuccessful to date in raising 600K for his internet company.  And he's dismayed and disheartened by success that others are having raising their rounds.  He asked me, what is he missing? 
I told him investors will invest -- even in this crazy economic climate -- if his deal smelled like money.  He then asked what makes a deal smell like money. Below is my list of things that make your deal smell like money (you don't need all of these things but the more the better ):

• Proven entrepreneur -- someone who has sold a business before for 20MM or more
• Proven technologist -- some high level geek at Google, Oracle, or Microsoft
• A determined, hungry entrepreneur with integrity
  
• An easy to understand product or business, and preferably one that is fun
• A clear path to making money, and preferably proof on making money is even better
• Customer traction -- the more the better, and preferably evidence of accelerating customer traction
• The stamps of big company endorsements always helps -- as customers or partners

Learning to be an investor

I've been an entrepreneur since 1994 -- that's almost 14 years.  I'm surprised at some of the basic lessons that I'm learning as I become self educated as a seed stage investor.  Having started and run 5 companies over the past 15 years gives me lots of insight into the management of the companies that are pitching me on investment. Currently, I'm trying to figure out how exactly to apply my experience -- which is still relatively unique in the investment community -- to investing. 
The question I'm asking myself today is -- would I have invested in Twitter early on.  My answer is -- I think not.  I would have understood the entrepreneurs and gravitated toward them, and I would have understood thee messaging platform, but I would  have likely dinged the business because of its lack of a revenue engine.  This is all mute -- because I never invested nor was I asked to invest but it's all part of evolving my investment perspective.

Congratulations to Shelfari

One of the companies I am an investor in just got acquired by Amazon. Here's the company post about the acquisition.   Josh and his team did a great job going up and down and around the early stage company roller coaster ride and ended with a nice exit.  I'm happy for all the guys.