Founders, leave the Legal Jousting for later (rounds)

If a man gets known by the startup he keeps, then a founder should be known by their legal professionals.  Think about it, out of the vast sea of capable professionals available, the founder’s ability to separate the chaff from the wheat gets judged when they choose untested people to represent them in front of investors (or acquirers).

In a recent transaction, the partner of the law firm signed up our founder to protect them, but then the transaction was quickly hived off to an associate who was (at the time) working on their 2nd or 3rd term sheet. The “associate” relying on the legal knowledge taught in textbooks versus the knowledge gained from doing real transactions merrily redlined every single line of our term sheet. It was as though the associate was grading a college assignment.

The founder didn’t understand why there were so many redlines. They did not take the time to know whether the issues redlined were issues (for them) and forwarded the email to us. The entire episode made us reevaluate our assessment of the founder’s maturity.

Note to founders: When your legal help sends back term sheets with more than 10 red lines, you either have the wrong law firm or the wrong investor.

Founders erroneously expect their legal help to do three things that inherently have conflicts of interest:

  • Represent the startup
  • Represent you as a shareholder
  • Represent you as an employee, i.e., CEO/CTO/etc

With three different vantage points to look from, which one should the legal professional put as first, but most importantly – which one comes last?

Who an investor will want lock in their legal agreements can be explained by this diagram from a Pear.vc presentation:

In the early stages, your startup derives its value from your role as an employee. Your startup ties you in as an employee by providing you with a large chunk of equity as a shareholder. Therefore, the startup doing well is directly proportional to you doing well. If you (as an employee) do not perform, i.e., cannot execute on the business plan or leave the startup mid-way, then the large chunk of equity given to you must go back to the startup. Regardless of your involvement in your startup, the startup must continue to operate. It could mean that they must find someone who will execute the plan on which the startup got valued or end up liquidating.

Therefore, the valuing shareholders, i.e., the investors, will include caveats like vesting, lock-in, ROFR, etc., to protect the startup’s interest and its shareholders i.e. you. You must remember the investors are the ones that valued the startup based on your promise to execute the business plan. Any changes that negatively affect the startup’s value will get reprimanded seriously. It may not be in your best interest as an employee, but it is in the best interest of the startup and yours as a shareholder.

As the startup matures, the reliance on you will reduce, and the startup will justify its valuation with revenues, intellectual property, profits, etc. Most founders will move out of the daily affairs of the startup as running day to day operations get too structured for their innovative mindset. However, the startup will continue to flourish without them.

Now imagine that the startup is going an IPO. Would you (as the shareholder) and your startup have the same lawyer representing both of you? No, you would not. It would be unsound legal advice.

Therefore, just like hiring investment bankers to raise early rounds of capital is useless – so is hiring a law firm to negotiate early rounds. The law firm’s partner cannot justify spending their high per-hour legal charges on the nominal fees you can afford; therefore, your transaction will get managed by an associate looking at making a mark.

However, should your startup be the guinea pig for someone else’s career ambitions?

A better strategy is to self-educate on term sheets and shareholders’ agreements. Brad Feld’s Venture Deals: Be Smarter Than Your Lawyer and Venture Capitalist is a good start, although it specifically caters to the western ecosystems. You could sign up for TiE Mumbai’s workshops on Termsheets and Founder’s Agreements, which are helpful for you too. Here is a video from one of their sessions on valuation:

Therefore, instead of pushing off the problem onto your lawyer, who will push it off onto an associate who will eventually screw up your relationship with your investor. You, as a founder, get better served by knowing the monster you are dealing with and leaving the legal firms for rounds where the fees you payout are commensurate to the size of the round you are raising. Then you can demand that the partner personally looks at the documentation.  

No one gets a free lunch. No one.

How To Get a Job With a Contrarian Investor

I haven’t blogged consistently as much as I would have liked to in the past few weeks. However, as I started writing the answer to a question asked on www.showmedamani.com/ama, it went from a short form answer to a full-blown blog. It was the best trigger to restart my daily blogging habit.

The question asked: How can I learn more about investing? How can I get a job with a marquee investor?

The first question to answer is, who is a marquee investor?

A marquee investor is someone that consistently beats the market over a long period. Anyone that has invested for a living will tell you that beating the market is not easy; therefore, the select few that do, do it by refusing to follow the market. These investors few enter (or exit) investments against market sentiments because they figure out that the market has mispriced a stock, sector, instrument, etc.

Investors that invest against the market sentiments get branded as contrarian investors.  I consider myself to be one too.

I  understand why finance or investment professionals want to learn from contrarian investors, and it isn’t about the money.

Contrarian investors represent something far more significant, the ability to speak up (through their investment decisions) against the majority and – win. At its very core, contrarian investing is the classic underdog favorite story of David vs. Goliath.

It isn’t a surprise many contrarian investors get bombarded with requests for “ability to learn” from them. What is surprising (to me) is how individuals that want to emulate contrarians do it by approaching them conventionally. They send resumes with cover letters praising the portfolio picks, but their resumes and praises get lost in a pile of many deserving candidates.

So how can a candidate stand out?

The biggest challenge for contrarians is to find people that want to challenge the status quo. It takes a lot of guts to develop a contrarian thesis and an even stronger constitution to hold onto that belief. Contrarian strategies look incorrect for a long time before they look correct, and a contrarian can lose employees, friends, family, and investors by holding onto that belief.

Michael Burry’s predicament in The Big Short is an excellent example of how lonely (and frustrating) it can be as a contrarian holding onto their predictions.

Therefore If a candidate wants to showcase that they can think, act, and hold onto contrarian views, it shouldn’t it reflect in their attempt to seek a job?

Here is an exciting approach that I thought of (and could work on me, possibly):

  • Study your target investor’s thesis and learn how they pick their investments.
  • Try to find the next investment that would excite your target.
  • Prepare an in-depth investment recommendation note for your target.
  • Your note should highlight your ability to research, analyze, model, and recommend.
  • But it should showcase your nonconformist approach to investing, the ability to find information where no one is looking.
  • Most importantly, it should put it on display that you do not think about where the ball is right now, you think about where the ball is going to be.
  • Send that note to your target with a detailed cover letter explaining why you chose the investment you did and how you went about your process.
  • If you have gone a step ahead to tie up the investment for them too – major brownie points.
  • Most importantly: do not ask your target for a job or an opportunity to work with them. Just ask them for feedback on your investment note.

This approach requires effort. However, if one wants to run ahead of the crowd, like Usain Bolt, they must practice harder than everyone else too.

Summarizing my exit interview with a venture capital intern 

Two interns finished their learning cycle with Artha this week. One of them wanted to speak to me and get my feedback on his performance during his 4month internshipThe schedule short feedback session went on much longer, and at the end of it, we got into an exciting topic – the importance of forming an opinion.  

I believe our discussion applies to anyone who wants to work in the investment business, especially earlystage venture capital. I am sharing a synopsis of that conversation with the permission of the intern.  

 

Intern: What is one piece of advice for me? 

Me: Form an opinion and be vocal about it. It is acceptable to be wrong, completely wrong, and heinously wrong. However, it is cardinal mistake to have the ability to accumulate and analyze data but lack the courage to form a decisive opinion. The best investors have often sought out views from their peers and from people who could provide them with a fresh perspective. In fact, the investors I emulate often seek out contrarian views to their own to test their hypothesis.  

 

Intern: Why is the trait of forming and communicating our opinions so important? 

believe that investing is the ability to predict future outcomes of current decisions, and an investor’s brilliant foresight finds appreciation only in hindsight. That is why I consider investing more of an art than scienceA room full of experienced appreciators of art would almost inevitably have deep-felt disagreements on the value of Van Gogh. They could all be right or be wrong – we would only find out once the money gets transferred into the sellers account 

 

What should an intern do?  

fondly remember eyeopening realizations I have had during discussions (sometimes heated) with interns, associates, principalspartners, coinvestors, and even entrepreneurs over the last 10 years in venture capital. Initially, it was intimidating for me to showcase my opinions in front of the experienced hands of this game. But I realized that I wasnt learning anything by keeping them to myself. I learned more by expressing my incorrect opinions and recognizing the gaps in my understanding, over keeping my opinion to myself for fear of getting called out.  

A newcomer to the investment industry should seek out experiences where they can form these opinions. Join investment clubs, seek out investors who have strong opinions, even if they are contrarians to their own, but learn how to build and present your investment viewpoint. 

 

Don’t be afraid of being wrong; we learn best through the mistakes we make. Expressing your opinion is a win-win situation. You either get called out and learn where you went wrong, or your opinion contributes valuably to the discussion. Most importantly, you grow with each interaction and learn to receive constructive criticism. 

The Fastest Path(s)

The fastest path to the CEO chair is very different than what you might believe!

Last week I concluded the appraisals for 2019 as well as inducting two analysts into our team at Artha Venture Fund. I attempt to have a conversation with each of the new inductees, and one of the questions I ask them is where they see themselves in the next five years. Most of them have plans on doing an MBA or becoming a manager, but very few have plans to become entrepreneurs.

Therefore when I do their appraisal, I ask them the same question once again, and it isn’t surprising that most of them have had a shift in their five-year goals. Invariably they would like to be in some entrepreneurial position whether that was in a start, proprietorship, NGO or as a fund manager. I hold the entrepreneurial energy that flows within the walls of our office responsible for this shift, and I am confident that I am the one responsible for dropping cans of fuel to flame any evidence of an entrepreneurial spark.

While I have recalibrated the goals for many team members, I have found that like the entrepreneurs that I have met, my team holds misconceptions about the path one should take to becoming a CEO/Founder. I could harp on my own experiences as a case study for them to follow, but it was a pleasant surprise to learn that the team of Nicole Wong, Kim Powell, and Elena Botelho were conducting a study that I could share!

In a ten year study, the trio assembled data on 17,000 C-Suite executive assessments, studying over 2,600 of them in-depth. They wanted to analyze who gets to the top and how and they went onto publish a book based on their findings called, The CEO Next Door.

Their study (aptly called the CEO Genome project) took a close look at the career paths of individuals that they have (once again) aptly called, CEO-sprinters. Their study discovered that on average, it took 24 years from the date of joining their first job to become a CEO. Therefore CEO-sprinters are those individuals that got the CEO title before 24 years.

Some of the data sharing from the study are thought-provoking:

  • 24% of the CEOs had an elite-MBA
  • 7% graduated from an Ivy League school
  • 8% did not complete college
  • 45% had had a significant career blow-up

The study concluded that the CEO-sprinters had three types of career catapults that got them to the CEO chair early viz:

  • Go Small to Go Big
  • Make a Big Leap
  • Inherit a Big Mess

Understanding these career catapults and experiencing them is crucial. Their importance is inferred by the fact that:

  • 97% of the CEO-sprinters had had at least 1 of those experiences
  • ~50% had had at least 2

I will review the book in a future post, but until then you can learn about the career catapults as well as other findings from the CEO-genome project at   

I concur with the findings of the CEO Genome project, and it has once again confirmed what my mentor & ex-boss used to ingrain into each leader that was led by him

The people that solve the most problems make the most money!

My Rules for Successful Angel Investing

When I first started angel investing in 2009 in India it was considered (and probably still is) a from of gambling that was reserved for haughty, tech-obsessed, introvert &  radical investors who were chasing a pipe dream in that one “jackpot” investment that would make tons of money to cover all losses.
Infact I vividly remember my father having a tough time explaining what I was doing with my career to friends or family with any semblance of pride.
I must be honest – I was very green and still learning the ropes of investing in public markets at that time let alone the world of the unlisted! I just knew that there was going to be a winning set of rules that will separate the winners from the losers in this space. 
So over the years I have read/seen/heard, tried & tested the theories many types of early stage investors from across the globe.  I have imbibed their knowledge & experience and combined them with knowledge & experience of the great investors (like Buffet, Soros, Munger, etc) in developing a set of rules that have worked very well for me.
Disclaimer: Probably none of these are my original creations and I have no intention to impart any investment advice. I am just jotting down what I follow as simple rules and could be handy for you too in evaluating a startup for investment 

  1. Invest a maximum of 5-10% of your overall portfolio into early stage
  2. Divide that amount into 10-12 companies to be invested into annually 
  3. Build a diversified portfolio 
  4. The earlier you invest the larger the risk and the reward
  5. Set a maximum valuation over which you will not invest – doesn’t matter how well the company is doing
  6. Bet on the founder & not the idea
  7. After the founder the “lead” investor has the 2nd most weightage in the investment decision
  8. Make sure you have set aside money to invest in follow on rounds
  9. Build a portfolio of startups instead of a startup that makes up your entire portfolio
  10. Invest in businesses you understand (conceptually)
  11. Completely understand their revenue & profit model before investing
  12. Take enough equity for your money to make it worth your time  
  13. Leave enough equity on the table for the founder to stay motivated 
  14. Be prepared to book losses quickly and workout a tax efficient strategy for winners

These are the rules that have helped me and have given amazing returns to many investors that I have met who have been generous to give me the opportunity to learn from their experiences. 
Would love to hear your thoughts on these..