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Search Results for: chemistry
Two recent publications do a very nice job of describing “growth equity” and distinguishing it from early-stage venture capital and buyouts.
This piece at Inc.com explains that due to Sarbanes-Oxley young high-growth companies are delaying IPOs, staying private longer, and seeking other sources of capital to fuel their growth:
What makes a growth-stage company? Generally, it has its first product or service in the market and is getting traction. At this stage, investors like to say that the dogs are eating the dog food. Product development continues to be very important, but sales, marketing and customer service are now center stage. The founding management team is still in place, but new faces and skill sets are needed. The amount of money needed to maximize the company’s opportunity outstrips the company’s ability to generate free cash.
Growth investors cover a wide spectrum. Some growth-stage investors prefer the early stage of expansion. This investor generally has been rooted in the venture capital industry, or he or she may be a successful entrepreneur-turned-investor. These investors tend to be active and more hands-on. They will make available their extensive networks and years of experience. You may want seasoned growth-capital investors as board members or advisors, as they will be able to open doors and help you solve problems that may be new to you but that they’ve seen repeatedly.
At the other end of the field are the financial engineers. They tend to be passive investors who engage much later in the growth cycle, when a big exit is not too far over the horizon. Most will write jumbo checks — $50 million and up — to be well-positioned for an IPO. They generally will have no interest in being on your board or offering operational assistance…
Similar to your hunt for early-stage investors, compatibility with your aspirations and personal chemistry are essential ingredients. If your company is doing well, you should have the luxury to pick and choose whom you work with.
If you were seeking to locate growth equity on a spectrum of private investment strategies, you would most likely place it somewhere between late-stage venture and leveraged buyouts—established companies that can benefit from additional capital to accelerate growth…
It is instructive to contrast growth equity deals with buyout and venture capital transactions. Leveraged buyouts, for example, also typically involve companies with a stable earnings stream, perhaps growing less aggressively, and in this case used to facilitate the assumption of debt, which is expected to be a material contributor to the investment return. Venture capital investors, meanwhile, generally receive preferred equity positions similar to those given to growth equity funds, but because of the nascent stage of most venture-funded companies, the downside protections outlined above are typically lacking.
Further, venture investors usually share control with a syndicate of other institutional investors that can have conflicting interests and priorities—a situation that growth equity investors often avoid…
In summary, while growth equity shares some characteristics with both venture capital and leveraged buyouts, it should be viewed as a separate strategy with its own risk-reward profile, distinguishable by its minimal use of leverage and portfolio companies with strong organic growth. Simply put, growth equity offers a similar return profile to leveraged buyouts but without the leverage, and could also be viewed as a low-octane venture proxy,with far less dispersion among company returns given the lower risk of loss, but also little chance for the fabled ten-baggers integral to venture’s long-term success.
Both these pieces describe fairly accurately the strategy that BPV has pursued since our founding: our investment is a “growth accelerator” for companies at or nearing profitability and in the early stages of rapid expansion. Our entrepreneur partners benefit from our network and experience with high growth companies, and our limited partners benefit from the fact that our strategy entails a lower risk of loss of capital and is not reliant on a frothy IPO market for an attractive exit. We have pursued this investment approach since the founding of our predecessor firm, South Atlantic Ventures, over thirty years ago. and we are pleased that Cambridge Associates has recognized the unique aspects of this asset class.
BPV was honored to have Mike Quilty, founder of Matrix Medical, give the keynote speech at our Annual Meeting last Wednesday. Matrix Medical – a former portfolio company of ours – provides physician services and prospective assessments for patients in long-term care facilities on behalf of managed care plans and skilled nursing facility operators. (The Company was a very successful investment for BPV I and was sold to Welsh, Carson, Anderson & Stowe in October 2011.)
Mike discussed the inevitable ups and downs on the path to entrepreneurial success, dispensing several bits of advice along the way.
Get the right team members into the right roles.
U.S. Grant enjoyed great success as a general, but not so much as president; and Babe Ruth, while a good pitcher, was too good not to play every day. We’ve covered this topic ourselves, within the context of the roles venture capitalist and entrepreneur must play to make the team work well. The long-term partnership is best served when (switching sports…) each learns when to take the shot and when to pass the ball.
Getting this piece right isn’t so much about control as it is about chemistry. If VC-CEO partnerships are like marriages (as is often said), then the issue of control needs to mirror that of a healthy marriage. It’s not about 100% control, or even 51% control – it’s about playing to each others’ strengths and making the concessions and adjustments that a given situation demands.
Of course before you can get people into the right roles, you have to get the right people. As Mike put it, “We had to turn over a few B and C players to get to the A’s.”
Once we found our lightening in a bottle, we had to act.
Or, as James Dyson, British Inventor, puts it: innovation often grows in unexpected directions. When BPV looked inside the mind of great entrepreneurs we found that the successful ones thrive on contingency:
Professor Saras Sarasvathy of the Darden School of Business likened great entrepreneurs to Iron Chefs: “at their best when presented with an assortment of motley ingredients and challenged to whip up whatever dish expediency and imagination suggest.” Professor Sarasvathy had several keen insights on the difference between this mindset, which she termed effectual reasoning, and the causal reasoning of successful corporate executives.
Corporate managers believe that to the extent they can predict the future, they can control it. Entrepreneurs believe that to the extent they can control the future, they don’t need to predict it. Entrepreneurs thrive on contingency. The best ones improvise their way to an outcome that in retrospect feels ordained…
Thriving on contingency, outcomes that feel ordained… some could argue this conflates luck and skill. Napoleon famously (and apocryphally) was said to prefer lucky generals over clever ones. He was reliably quoted on the subject thusly: “A bold general may be lucky but no general can be lucky unless he is bold.”
“I have not yet begun to fight.”
Mike – a graduate of the Naval Academy in Annapolis and a former nuclear submarine officer – cited John Paul Jones’ immortal words to recount the persistence required to build his business. “We had so many of these moments, really hard times.” He also quoted the creator of the P90X workout, referring to how many times they redesigned their infomercial: “The 22nd time is the charm.” We ourselves wrote on persistence as part of 10 rules of entrepreneurship:
Develop flexible persistence – the sense for when to stay committed to your vision and when to pivot in the face of new realities. You are at least partially wrong about your product. Launch early enough that you are embarrassed by your first product release, and find out how people are using it. Aspire, but don’t drink your own Kool-Aid. …[A]lways look for good perspective on how you are doing. It is very easy for creative innovators to get caught up in their own story rather than learning where they should be headed.
Last March we briefly mentioned Professor Wasserman’s book here at NVSE based only on its reviews; having subsequently finished it ourselves we have chosen to make it a permanent addition to our library.
Among the dilemmas the author tackles is the dueling motivations (wealth or control) found in most entrepreneurs, juxtaposed here as “Rich vs. King.”
He reminds entrepreneurs to remain “aware of who they are as entrepreneurs” because to know one’s strengths, weaknesses, and motivation is critical to making good decisions. In the case of raising capital for growth, Wasserman says it’s “not necessarily” wise to bring an experienced VC on board:
The Rich founder should pursue the best VCs, but the King founder should think seriously about avoiding VC funding and finding other ways to learn about the road ahead. Each type of founder has a different definition of success and varying degrees of outside influence they will and should tolerate.
Choosing (or not) partners who best fit in terms of experience, vision, reputation, and operating style requires as much rigor and thoughtfulness as any decision an entrepreneur makes. Partners who intuitively understand the right kind of support to offer over the long term can bring additional resources – financial, expert, and network – to bear when needed, and offer trusted counsel when not.
Most research and literature about good governance is developed with public boards in mind, and although the context is a little different than in our business, many of the same lessons do still apply. Since our long term reward depends heavily on whether or not the value of our portfolio company appreciates, we tend to have a more personal ownership mindset – over and above the legal and fiduciary responsibilities – than public company directors.
Here are two interesting reports on good governance which echo our own thoughts on how to ensure a strong board. While processes and best practices may be important, great boards rely on ‘robust social systems’ among its members to ensure that they function properly.
First, from Spencer Stuart’s Point of View 2012. When helping to assemble a board, consider executives who:
…combine integrity with the right mix of knowledge, experience and vision to perform the board’s defined roles with excellence. Beyond even these considerations, qualities such as judgment, engagement and strong communication skills are critical attributes for every director. And, just as it is a component in any high-functioning team, interpersonal chemistry also plays a role in every effective board.
And this, from Bridging Board Gaps, by the Study Group on Corporate Boards – a joint effort by Columbia Business School and the John L. Weinberg Center for corporate Governance at the University of Delaware:
Recent institutional failures, surrounded by general economic turmoil, once again sparked the familiar question: Where were the boards?” … But the new rules (e.g. Dodd-Frank) for public company boards are focused on board process. In addition, boards need a renewed focus on their aspirational purpose and guidance for achieving it… never mistake process for purpose.
That purpose (for public company boards) is stated as “creat(ing) sustainable long-term value for shareholders.” One Study Group member summed up the report’s conclusions this way: “Maybe we should rename directors ‘shareholder representatives’ – then they would pull up to the table in the right mindset.”
Naturally this mindset comes a bit more naturally in our field since we are literally a shareholder representative – alongside the entrepreneur and any fellow investors. (There are also far fewer investors than in a publicly traded company so owners are more meaningfully engaged.)
Owners of private companies get to pick both their investors and their board members. If entrepreneurs pick great partners (broadly defined) to fund their business and make sure both financial incentives and long term goals are aligned, they will have achieved high performance corporate governance that will contribute substantially to their eventual success.
Did David Gelernter, professor of computer science at Yale, invent a precursor to Facebook only to be undone by a failed launch strategy preferred by his investors?
The Economist reports that Dr. Gelernter’s 1991 book Mirror Worlds – which brought him unwanted and tragic attention from the Unabomber – would later inspire him to form a company of the same name that envisioned an online medium called “lifestreams.”
More than two decades ago, Dr Gelernter foresaw how computers would be woven into the fabric of everyday life. In his book “Mirror Worlds”, published in 1991, he accurately described websites, blogging, virtual reality, streaming video, tablet computers, e-books, search engines and internet telephony. More importantly, he anticipated the consequences all this would have on the nature of social interaction, describing distributed online communities that work just as Facebook and Twitter do today…
In 1997 he and his colleague Eric Freeman formed a company, also called Mirror Worlds, to develop an approach called “lifestreams”—a graphical user interface intended to replace the windows and files of conventional computer desktops with an elegant chronological stream of digital objects.
Looking like an endless Rolodex, a lifestream would extend from the moment of your birth to the day of your death, containing every document, photo, message or web page you have ever interacted with—all in a single, searchable stream, and held safely online. Individual items could be shared with other people. “When I want to make something public, I flip a switch, and everyone in the world who’s interested sees it,” says Dr Gelernter. “I could also blend millions of other streams into mine, with a simple way to control the flow of information so I’m not overwhelmed. It would be my personal life, my public life and my confidential electronic diary.”
If that sounds an awful lot like Facebook, the similarities become almost eerie when Dr Gelernter explains how he hoped to release lifestreams into the world. “I wanted the company to build software for college students, who are eager early adopters. It would be designed not only to eliminate file systems but also to be a real-time messaging medium. Social networking was the most important aspect of it. Starting with Yale, we would give it away for free to get undergraduates excited about recommending it to their friends,” he says. But Mirror Worlds’ investors decided that it would be better to focus on corporate clients, and the result was an organisational tool called Scopeware. It sold modestly to a few large American state agencies, but never took off. Mirror Worlds ceased trading in 2004, the same year that Mark Zuckerberg launched Facebook.
It’s not entirely clear from the story precisely how (and who) the launch strategy was chosen, and as the saying goes, “success has many fathers but failure is an orphan.” In our experience decisions such as that one are less about control and more a matter of chemistry: robust debate leading to some kind of consensus which includes contingency plans – with enough credit or blame to go around when the dust settles.
We’ve often written that predicting technology trends is not for the weak at heart – and that’s before one tries to protect the IP and find a way to profit from it. There are reasons we affectionately call the really early stage of investing adventure capital. It’s a long and difficult journey from idea to successful business, during which failure can be counted on to make at least a cameo appearance; so over the long term partnerships will have mistakes (and successes) that are “his, hers, and ours.”
The full article is a fascinating read about Dr. Gelernter, his belief that computers are still too hard to use, and his patent battles with Steve Jobs and Apple.
VC Dispatch has some fun with the old quote about The Golden Rule: he who has the gold makes the rules. But they also ask: who has the gold?
We’ll second that with our own twist on an old quote: “The fate of control is that it always seems too little or too much.” When term sheet negotiations turn to the topic of control, the cliche is that VC firms may ask for too much while entrepreneurs are inclined to offer too little.
Getting this piece right isn’t so much about control as it is about chemistry. If VC-CEO partnerships are like marriages (as is often said), then the issue of control needs to mirror that of a healthy marriage. It’s not about 100% control, or even 51% control – it’s about playing to each others’ strengths and making the concessions and adjustments that a given situation demands. One spouse may be better at particular types of decisions, the other at handling certain types of tasks. At other times an issue will just be more important to one than the other. It’s hopefully a long term relationship, and so over time you each learn when to take your shot and when to pass the ball.
From VC Dispatch’s Who Has The Gold To Make The Rule – VC Or Entrepreneur?:
Twitter Inc. as an example of a start-up that has brought in more business acumen to help it craft a business model. Indeed, Twitter co-founder founder Biz Stone said at the conference that the inclusion of more business-minded people was an essential factor in the acceptance of $135 million from investors this year. Twitter’s investors have been careful not to intervene too much, but with that big investment there is now more pressure for the executives to deliver a working business model.
For Jeff Glass, a managing director with Bain Capital Ventures, the debate over power has defined much of his career as he was a business founder and entrepreneur long before joining Bain. And, in wrestling between needing money and wanting control, he said the steps being taken at first meeting shouldn’t be taken lightly.
“A huge part on both ends is just personal chemistry between management and board; board and CEO; investor and management,” said Glass. “But being on this end now, I would advise to spend more time diligencing the VC or PE firm. Everyone’s cash is green until you have a problem.”
Jeff Glass makes a good point above. Entrepreneurs who are raising growth capital (i.e. bringing on a long term partner) as opposed to selling their businesses (i.e. get the best valuation) should invest a lot of time conducting due diligence on their prospective financial partner. A credible partner will let you (indeed, encourage you) to talk to as many of their previous entrepreneur partners as you want to get a feel for what they are like to work with. Entrepreneurs should ask for references from successful investments, unsuccessful investments and current investments. Ask for the venture firm’s entire list of previous and current investments and randomly call a number of them. Find some independent sources on your own who weren’t provided as references but know the venture firm.
Picking a financial partner is as important a decision as any an entrepreneur will make in building his or her company. Most venture firms will have a good “rap”, but it’s absolutely essential to verify that through due diligence:
Establish a solid foundation for the relationship early: Will you share the same vision? Agree on ground rules?
Once the honeymoon is over, will you collectively put forth the constant effort required to sustain the relationship? How will you resolve conflict? Are communications open and largely free of clashing egos? Does the quality of the arguments make the outcomes better? U2 credits their longevity to a “group ego” that “trumps everything else.“
Fred Wilson of Union Square Ventures, in an outstanding post at his blog, describes one key to successful long term relationships: “shtick tolerance“. You don’t have to accept everything about your partner – outside of integrity/honesty – but you must be able to more or less tune some things out over the long haul. You’re patient with their shtick because they’re patient with yours. It’s hard work.