You aren’t your cap table
A strong one increases the odds you win
A weak one is a missed opportunity
And a disaligned one holds you back
— Jason ✨BeKind✨ Lemkin ⚫️ (@jasonlk) August 19, 2021
In my first start-up, I had some rough experiences with VC collusion.
I remember I went to one top VC’s Monday partner meeting (which went well) in the morning, and then in the afternoon, visited another. The two firms had not only talked between the meetings, but shared feedback and notes!! I didn’t even know they knew each other, let alone “authorized” them sharing notes between partner pitches. Both ended up passing. I’m not sure they would have without the collusion.
Later, when we finally got two term sheets (from different firms), each lead VC talked to the other without telling us to dictate and manage terms. It was kind of rough. Those 2 term sheets became 1 worst term sheet. Not cool.
At Adobe Sign / EchoSign, I had a different, but equally painful experience in our seed round. We received 4 offers to lead our seed mainly because I’d already had a successful exit (it’s wasn’t nearly so hard to raise the second time). We made our top choice, without signing anything, and I went to tell our second choice first as a courtesy. Well, that firm immediately called the first one. They talked to each other, and tried to force us to take both their investments. The problem is, the deal they hammered out was worse, and way more dilutive, than was already discussed. We walked, and they got very angry, accusing us of I Don’t Know What. I was accused of being unethical, which was … well … funny. We’d never even signed a term sheet with anyone.
So I became a bit jaded on how VCs colluded.
But … that was long time ago, folks.
Today there are 1000+ seed VC firms and much, much more money in venture capital. Today, I see the opposite risks as bigger risks. When I look across the 25+ companies I’ve invested in, I see the most VCs problems now when the VCs aren’t friends.
Why? Because if your VCs have already worked together before, successfully, simply put, they are much more likely to collaborate and cooperate. And much less likely to play games and create drama.
Here are the benefits when your VCs (say seed + late seed + A + B) know each other and are “friends”:
- If you need a bridge, and your VCs are “friends”, they’ll agree to it much more easily. Bridge rounds (i.e., extra rounds between rounds) are always full of stress and drama. But in the end if you are doing OK just not great yet, you’re existing investors will likely give you more money. But if they don’t trust each other, there’s room for way too many games. One of them may not want to write their share of the bridge check. Or they might want to the last minute to see if they commit. And so on. But if your VCs are “friends”, in one meeting, they’ll just figure it out. If it’s give you another $750k at the last round price, and everyone splits it $250k/$250k/$250k, so be it. No one wants to break too much glass with friends. But if they don’t know each other? Just figuring out the split could take weeks. Or even months. And they might never even agree.
- “Friend” VCs don’t play as many games with the next round. These days, everyone wants to put more and more money into their winners. If a VC thinks you are a winner, they will want to pile in, in a way they didn’t even just a few years ago. This can lead to a lot of temptation to play games. To buy shares from ex-employees without anyone’s consent. To try to lead rounds without telling other investors. And maybe most importantly, to not help you source the next round as much. Because they might want to take it. But if your VCs are all friends, the games may still go on, but they will have friendly boundaries. No one is going to screw anyone else over too much. That takes stress off your plate. And makes their motivations more transparent.
- “Friends” VCs are more honest with you — the CEOs. You want honesty. This is an issue I see a lot. If the VCs don’t know each other well, and they don’t know the CEO well either, then everyone sort of … holds their tongue. No VCs these days wants to not be seen as “founder friendly” — whatever that means. In many ways, that’s good. But it also means you often won’t hear the truth when VCs are worried. When they are worried you are spending too much. When they are worried you’ll struggle to raise the next round. When they are worried you are hiring the wrong folks. VCs aren’t any smarter than you, and they don’t run your business. But you do want to know where they stand, and to have honest feedback from your investors. I see honestly much, much more often when VCs are friends. Rather than all pretending to be the most founder-friendly.
- “Friends” VCs are frankly less likely to talk about replacing you as CEO. This is less common than it once was, but still something to think about. When your VCs are all friends, if one of them believes in you — that’s usually enough to tip the balance in favor of “we believe in the CEO”. Even if it’s not your largest investor. But if your VCs aren’t friends, it can be challenging when the largest one loses some confidence.
- Overall, much less drama. VCs on your board and cap table who are all friends just don’t sweat the lows as much. VC investors are an odd bunch. It’s a lonely job, with many layers of risk. And VCs that don’t know each other just worry more and play more games. There are more sharp elbows. More jockeying around ownership and control. And the bad times look sometimes, even worse than they are. But when all your investors know each other, you just don’t see that much of this. It’s all … calmer. And folks reinforce to each other that bumps are just that — bumps. That’s better, all other things being equal.
That’s the biggest benefit when all your VCs are friends. It dramatically increases the odds you get honest feedback, and it decreases the games VCs sometimes (maybe even oftentimes, these days) play behind your back a bit. And everyone sort of settles into a groupthink that things generally will be good, even in the rougher times.
In many cases, what’s best of all is when a VC brings in the next VC for the following round. If that’s also your #1 choice in the end, everyone starts off from a position of trust, that’s a win-win. That’s a great way to kick off any new relationship. And those are the start-ups I’ve seen scale and raise more money — both in good times and bad — with much less drama.
If you can, and it works out … pick VCs that are friends.
(note: an updated SaaStr Classic post)