All Perspectives 2017

Chasing the Money: Making Capital a Strategy

Over the past 9 months, we have screened thousands of companies, had introductory meetings with about 200 founders, and conducted deep due diligence on about a dozen. Whether we’re doing a full dive into a company’s history, projections, and vision, or just having a quick chat about short-term goals, one topic that almost always comes up is the alignment of entrepreneurs’ operating strategy with a thoughtful and defined capital strategy.

We have been repeatedly surprised by how few entrepreneurs see capital as a strategic activity. Raising money for the vast majority of entrepreneurs we encounter (even some really excellent operators) is a glorified form of securing what may be referred to as allowance money. VCs are pseudo-parents, there for the asking in order to get cash in one’s pocket!

But, venture capital functions so very differently from merely being money in the bank. And trouble will brew if it’s not seen in its full utility.

The benefits of a sound capital strategy are numerous. For one, disciplined management of optimal cash resources allows founders to foresee operating pitfalls that may have otherwise gone unnoticed for months. This attention to strategy and capital needs provides founders with the tools to adapt and make adjustments in a timely manner. Beyond merely ensuring the survival of the company, a sound capital strategy maximizes a company’s leverage in subsequent financings. Planned and controlled runway is a strength that will be rewarded in higher valuations and dollars raised. A position of strength and operating integrity will be created through an optimal capital strategy.

While the benefits of an optimal capital strategy may be somewhat obvious, the mechanics of actually building it are less so. Let’s start with the numbers. Operating a startup is like navigating through a jungle Tarzan-style. The entrepreneur swings from one milestone vine to another in order to progress toward scale and sustainability. Swinging too far or not far enough is dangerous.

As such, clearly defined milestones must inform the raise amount. In nearly all cases, the amount of capital raised should lead to either the next round of financing or profitability within a given time frame. A raise amount should not merely allow for X months of runway. To determine this optimal round amount, build a financial model that granularly accounts for the drivers and variables of both revenue streams and costs, making sure to factor in some leeway/optionality. It is often helpful to have 2-3 different scenarios modeled with varying round amounts, hiring plans, and sales projections to truly understand what can be ramped up or slowed down. Use this information to raise optimal cash that tightly supports the execution vision in month-to-month detail.

After mastering these numbers, the next earnest consideration is the investment partners. Much has been written on the topic of choosing “value-add investors”, but the point remains: as hard, long, and disheartening as fundraising may be, putting in the sweat to secure VCs and strategic investors that contribute their networks and expertise to your company is immeasurably more worthwhile than settling for the low-hanging fruit of funding simply for the sake of moving on. Choose your partners wisely. Do your due diligence. As we always tell the founders we meet with, ask a VC’s portfolio companies what working with them is like, not just when things are going well but especially when they aren’t. A strong investor network, in combination with a solid Board of Directors (more on that in our next blog), can make or break a company.

In addition to the right partners and the right capital, founders also need to be mindful of capital structure itself. Some of the elements to keep in mind are below:

  •  Number of investors (both individuals and entities) -- having a cluttered cap table with dozens of investors can become a logistical nightmare regarding updates, information requests, and general communication. While the diversity of perspectives that comes with a varied investor base is valuable, there is an inflection point after which the utility of numbers begins to decline.

  •  Investment vehicles -- venture rounds can come in all shapes and permutations, with combinations of notes, SAFEs, preferred equity, common stock, etc. Though notes are often touted as being simpler to structure and execute, this is not necessarily true for early stage rounds; term sheets are quite vanilla and can be done comparably quickly and inexpensively. For everyone’s benefit, keep structure as simple as possible. Particularly avoid stacked notes with varying caps that reduce transparency for both founders and investors alike. Fred Wilson’s post on Convertible and Safe Notes adds additional color.

  •  Terms -- in line with the previous bullet, again, keep terms as simple as possible. Atypical preferences, ratchets, etc. have no place in early stage financings. Brad Feld’s timeless Term Sheet Series is a fantastic resource for those unsure of what to expect or avoid.

Often, we use a “clean cap table” as a proxy for a deliberate capital structure: if the above is done correctly, a neat cap table will reflect it. If prior financings were suboptimal and unnecessarily complex, a new round is the perfect time to reset the overall strategic direction, as a mess of a cap table is often a deterrent of future investment interest.

Finally, make sure that the capital strategy leaves the founders with enough skin in the game to want to play. Nothing makes us as investors more miserable than seeing founders crammed down into a miniscule amount of equity that will require nothing short of a miraculous exit for the venture to have been worth their while.

Applying strategic thought to capital, rather than treating it as a temporary, painful and necessary evil, will pay off in building a sustainable venture. With some luck, you may even find the ordeal rewarding.

Swimming through the Buzzwords: Our VC Summer Internship

If you ever want to make a college student cringe, usually all you have to do is ask, “Have you found a summer internship yet?” Luckily, after developing mild carpal tunnel syndrome from scrolling through our respective college career sites for countless hours, we were both given the opportunity to enter the venture capital world as summer interns at Laconia Capital Group. Just completing our sophomore years at Penn and NYU, we began our internships at Laconia unsure of what our summers had in store for us. On each of our first days, we walked into the office uncertain but excited to gain experience in an industry that would give us exposure to a variety of businesses and accomplished people. However, ten weeks later, we now find ourselves participating in office discussions with confidence and an eagerness to absorb all of the information thrown our way. As our internships come to an end, we reflect on our experiences and the invaluable lessons we have learned this summer. We’ve outlined the top five takeaways from this summer that are relevant to those working in the VC industry, as well as those thinking about their own business.

Keep Your Friends Close:

One of the key lessons we both gained from our internship this summer is the importance of cultivating relationships. After attending multiple networking events, it is evident that one of the ingredients crucial to becoming successful in the VC world is to maintain strong connections with entrepreneurs as well as other VC firms and personal networks. Establishing strong ties with other venture capitalists has the potential to increase exposure to high quality deals, while also nourishing relationships with possible co-investors for future investments. Even if a VC firm decides to pass on an entrepreneur for the time being, forming valuable connections with founders allows investors to keep communication ongoing and open new doors for business.

Keep Your Eyes on the Prize:

“Your capital strategy is just as important as your operating strategy.”

This is a message we have had drilled into our heads almost daily over the past ten weeks. Far too many times, entrepreneurs overlook the importance of a well organized cap table or capital structure. It is rare that a CEO would say that they love fundraising; however, having a detailed plan going into your capital raise is crucial to the success of your business. Ensuring that your company will always have enough money in the bank to meet your KPIs allows founders to go into negotiations in a position of strength rather than weakness. Companies run into trouble when leaders fail to raise the appropriate amount of money needed to reach their milestones. Additionally, building strong relationships with VCs prior to needing to raise capital can be advantageous to the entrepreneur down the road.

Perfect Your Pitch

After going through dozens of pitch decks and sitting in on presentations, we can now properly identify the good, the bad, and the ugly. What makes a pitch stand out to us is the founder’s ability to develop an easy-to-follow storyline that the audience can relate to. Oftentimes, founders get too tied up in jargon and struggle to simplify complex concepts. Even though you may know each and every detail of your business, remember that outsiders need to be walked through each step to fully understand the problem you’re trying to solve. Keep in mind that although you might be the smartest person in the room, you still need to illustrate your business as if you were speaking to a five year old (with an MBA).

Be Ready for Anything:

One lesson learned as an intern is to come prepared. You are not expected to know how to write an investment memo on day one. However, it is helpful to familiarize yourself with the language used on a daily basis. One book that expedited the learning process for us in our first few weeks was Venture Deals by Brad Feld and Jason Mendelson. We highly recommend this read to anyone interested in venture capital or starting their own business, as it will help you understand not only the financial aspects of a venture deal but also the legal and technical sides.  

On the entrepreneur side, VCs appreciate those who come prepared to meetings and have materials ready to go once the due diligence process begins. These documents oftentimes include financial statements, customer referrals, a well-thought out pitch deck, and team bios. Each VC firm varies on their level of due diligence; however, it is helpful to have these resources on hand for whatever might be thrown your way.

Back to the Future:

It’s hard to imagine what the world will look like in 5-10 years; however, as an entrepreneur or investor it’s important to evaluate a marketspace and try to imagine how it will evolve over time. VCs are interested in understanding the vision of your company and how you would adapt to a change in the competitive landscape. We have learned at Laconia that it is not about finding the “unicorns” of the industry but rather seeking out scalable, reliable businesses that will be able to stand the test of time.

We’d like to finish this post by telling you about the best parts of the job. For starters, what normal twenty-year-old gets to sit in on meetings with the founders of some of the most innovative companies in the world? In VC, this is the norm, and we were lucky enough to get to sit in on at least two each week. In addition, interning at a micro-VC firm allowed us to work side-by-side with Laconia’s two partners, exposing us to the minds of investors and the way in which they think about potential investment opportunities. Finally, we were able to gain access to accelerators, incubators, and pitch events, introducing us to the larger VC community. We hope these tips come in handy as you attempt to enter the daunting world of VC or take on a new business venture.

So, You Bet Your SaaS on IoT

Various estimates peg the number of Internet of Things (IoT) devices deployed in the market to be between 6 to 7 billion, and that number is expected to grow over 8 times in the next 3 years. To illustrate an example of an IoT device, imagine a parking spot with sensors installed. These sensors send data on the availability of that parking spot to a local internet-enabled gateway that ultimately communicates the information to the car drivers (through their navigation systems) in that vicinity – in this case, and in any similar scenario in which sensors enable communication between physical objects and Internet-enabled systems, we are talking about IoT devices.

The market opportunity for SaaS companies within IoT becomes huge once these devices become more pervasive. Today, the primary market opportunity for SaaS companies is centered around enterprise, web, and mobile sectors, with industries more skewed toward modern non-traditional (non brick-and-mortar) sectors. That market is less than $20 billion. With IoT devices, many traditional industries such as energy, utilities in general, construction, transportation, and the environment will be ushered in the 21st century of connectivity. That means stakes are much higher, as these multi-billion dollar industries are much bigger than the modern enterprises. There is a reason GE calls IoT the Industrial Internet of Things (IIoT).

Not only that, we anticipate that IoT will bring brand new challenges – which subsequently pave the way for opportunities – for current and next generation SaaS companies to build services and products. For example, current generation solutions might not work as they are to get similar intelligence, data, and analytics for IoT devices such as sensors and actuators.

Similarly, applications for Quality of Service (QoS), Security, Billing, Maintenance and so on all have to be reimagined (or retrofitted) in the world of IoT. As far as data is concerned, what we call “Big Data” today will look like rounding error in 3 years with the amount of data generated by 50 billion IoT devices.

The Dying Art of the Thank You Note

We must see at Laconia a few dozen pitches each week, and what continues to amaze me is the lack of relationship-building skills that so many entrepreneurs seem to have.

While growing up, my parents hammered into me the courteousness and importance of writing thank you notes. During the early days of my career, I was shown how to build a business relationship, and most importantly, how to maintain one. Thank you notes were a cornerstone of relationship maintenance. And this was all before there were emails and texts to make the process so damn fast and easy.

Entrepreneurs work so hard building businesses. They identify opportunities, draft business strategies, hire people, develop technology, raise capital and sell, sell and sell! Yet, through it all, they seem to treat relationship-building like a speed bump on the road to success. It seems most people today do not understand how a simple email can leave a door open for future opportunities that might not seem obvious at the time.

I tell my entrepreneurs, and my three children, to try and do the following as religiously as they can:

  1. Send an email to the people you have spoken to or met with by the end of that day. If it is a very important meeting go the extra mile and draft a handwritten thank you note. Yes, write an actual paper thank you note! You would be shocked by someone’s reaction when they actually get a hand written thank you note. Talk about going old school and positively differentiating yourself!

  2. When someone connects you with another person, circle back with them and let them know how the new interaction went. So many times I will connect someone to one of my contacts and then feel like the intro fell into a black hole. Follow up with people who make introductions for you and let them know you met with their contacts and how it went. Then thank them again! A consistent follow-up will more likely encourage additional introductions.

  3. Keep your contacts updated on your progress. Why keep news to yourself or only for those who tell you what you want to hear? Share good news.

Relationships might begin during an appropriate request, such as when looking for a new job, funding, customer introductions etc., but it is the post initial communication that builds life long relationships.