Forgot your password?
typodupeerror

Open Source Venture Capitalist Answers Your Questions 38

Posted by Roblimo
from the Money-isn't-everything-but-having-some-never-hurts dept.
The venture capitalist is, of course, Richard Gorman, of Bay Partners, to whom we sent your questions earlier this week. He prefaces his answers by saying: "Thanks for all of your questions. They were very insightful and I enjoyed answering them. I also want to thank Salil Deshpande of Bay Partners who contributed to these answers and provided some healthy discussion. Salil is a successful two-time entrepreneur and is very knowledgeable."


1) On the subject of strong teams...
by AKAImBatman

Your profile states your feelings that a "very strong team" is important to the success of a startup. However, most startups only have the basis for a technology team in place, and rarely have a strong executive team. In a recent interview with Robert X. Cringley technologist-cum-Venture Capitalist Bill Joy stated that his firm worked with startups to assist in installing team members that are missing from a venture. (Google is an excellent example of this in action, with Page and Brin turning over the Chief Executive reigns to the more experienced Eric Schmidt.)

What are your thoughts and opinions on this practice? Does your firm assist startups with more than just financial matters, or do you feel it important that the startup be fully formed by the time you invest?

A: Thanks for the question. For initial investments in startups (Series A) it is almost always the case that key members of the team need to be recruited, and we very much help in this process. In fact we have a person dedicated full time (Karen Loebbaka) to just recruiting people to work for the startups that we fund - we're one of only a handful of VC firms to have a dedicated recruiting director. So we are committed to recruiting world class teams for our startups.

We also often help in the formation of the business strategy; this includes target markets strategy, distribution channel strategy, product strategy, and competitive strategy.

Important in our decision-making about early stage startups is the quality of the team. Usually early stage startups are primarily bets on the founding team.

There are usually a number of important questions about the team. What have team members "done" before? What have they invented / built / grown / managed / sold perhaps at other companies or startups? Have they worked with each other before? Have they toiled away at something before? Even if they haven't had entrepreneurial successes, are they just on to something big? Are they passionate about what they're about to do next? Why? Do they like each other? Will they be able to lead people / will people enjoy going to battle with them? Realize not all of these questions need to have positive answers. Some of the best startups have been founded by very driven people under 30. YouTube is the latest example.

2) Exit Strategy
by blinder

In my (very) limited experience in dealing with the VC world, one of the key concepts that was always in any discussion was the exit strategy. Typically that translated into IPO or sale to someone else. Is this any different with respect to open source companies?

It just seems to me, and I'm just a knuckle-dragging developer here (who also engages in diy projects), that the exit strategies might be a bit different than your traditional concerns.

A: This is a very good question. Yes, open source companies tend to be more of a challenge than traditional companies that own all of their intellectual property. The primary difference is that many potential acquirers may come from traditional business models and have to accept this new open source model that does have ownership of the intellectual property. For instance, in the recent of acquisition of JBoss by Redhat, there was at least one additional company that was ready to put an offer on the table, but stopped its negotiations when it realized that JBoss did not own any of its intellectual property.

JBoss ended up selling to Red Hat for $420M which was 28 times trailing 12 month revenue ($15M). Red Hat is a publicly held company; its shareholders and management team are clearly comfortable with the open source business model of not owning your intellectual property and valuing the company based upon unit marketshare and support and service revenue. Unit marketshare is a proxy for long term revenue because if the number is large it indicates a lot of customers; the shareholders are betting the management team can figure out how to get revenue from customers over time (ie by potentially introducing new product and services).

3) Common Failures
by paulevans

What are the most common problems that most startups have when beginning talks with you?

A: Most of the early stage startups are very technology-focused but do not have real customers committed to using their products. Customer feedback and adoption of the products is key.

In the consumer internet space, we are looking for initial adoption by consumers. In the enterprise space, we want real businesses that have evaluated the product and would be willing to buy the product if it were available.

4) When to seek VC, when to bootstrap
by morcego

Having started a small website, that quickly turned into a medium sized website, that led to mentions in Private Equity Weekly, calls from Turner, speaking engagements, and emails from a couple Investment Banking firms, at what point should a startup seek outside funding vs. trying to bootstrap their way to success? We wanted to carry it as long as we could (we're not losing money, we can afford to run at this level forever), but we have since been equaled (or, in some cases passed) by a dozen or so copycats with big bankrolls funding their marketing and PR.

At this point, it feels like we've missed the boat (though our traffic and membership is higher than ever before), simply because we didn't take on the outside management and marketting expertise that would have come with real funding.

The question, then, is: does there exist a fundamental 'right time' to contact a VC/IB to avoid losing your competitive edge? Or, does it always vary by company?

A: The answer varies by business and target market. In the consumer Internet space, marketshare is key. Marketshare is the percent of the market that you own. So many companies will be burning money while they are pursuing marketshare. The best recent example of this is YouTube.com. Youtube is #1 in marketshare with 45%+ share of videos viewed on the web, but they are not profitable and are burning cash. That is OK, they lead in marketshare and were just purchased this week by Google for $1.65 billion.

This is an extreme case, but it illustrates for early stage consumer Internet companies that marketshare is often more important than profitability. The founders can significantly hurt the value of their company by delaying taking investment capital in order to wait for a "higher price." Ironically, if the founders later take investment money they will be in the #2 marketshare position or lower and will end up getting a "lower price" for their stock from the venture investors.

As a general rule, for early stage startups in the consumer Internet space and/or the "open source" area being #1 in marketshare is much more important than profitability.

5) How did you get your job?
by s20451

I have graduate degrees and experience in engineering, and I have good managerial and interpersonal skills. I have often wondered what it would take to sit on the other side of the table, and what it is like to have plenty of funding, helping other people bring good ideas to market.

How did you get your job? Is it hard, easy, boring, fascinating, soul-destroying, fulfilling, all of the above?

A: For myself I have over 20 years of software experience including managing a set of products that had revenue over $1 billion before becoming a venture capitalist. In general, the process for becoming a venture capitalist varies dramatically by person. If you are interested in pursuing this industry it is important that you get to know venture capitalists that you can potentially work with.

I really enjoy this job because I get to work with very intelligent and driven entrepreneurs. This is very exciting. It is also fascinating to work across many industries and many different target markets. You are always learning something new everyday.

6) Why Open Source?
by bit trollent

Why have you chosen to fund Open Source based companies?

From a Venture Capitalist's point of view what advantages do open source based companies have over other software companies?

A: The big advantage open source companies have over traditional software companies is the ability to rapidly take unit marketshare and create a new standard. The best example of this is MySQL. Who would have thought five years ago there would have been another database to rival IBM DB2, Oracle, and MS SQL Server? By all estimates MySQL now has my more installations than IBM or Oracle; some estimates show that MySQL has more installations than SQL Server!

Open source allows a company to completely change the rules of the game. MySQL has over $40M in revenue the past 12 months and is probably valued at over $1 Billion. This is an amazing company.

7) First on my mind
by UbuntuDupe

What are the best ways to actually earn a profit, when you're giving away the source code? Are entrepreneurs in this area limited to "support, support, support", or are there other ways?

A: There are a couple of open source business models that have had some success.

a)The open source version as a "trial" product. For Sugar CRM this is basically the strategy. They give away an open source version that has limited functionality, most customers upgrade to a version that is not available 100% as an open source product. They charge customers for the full functionality product.

b)Charge for service and support; give away the full product as open source. This is the JBoss & MySQL version of the business. Realize companies are then valued on a combination of their unit marketshare and their revenue in this model. c)New open source models. This market is still very young and I am sure other business models will evolve for open source companies.

8) Financing / Control Questions
by grondak

I realize the answers to these questions vary by project, but let's say we have a pretty hot idea and the only contribution is the software IP. Let's say it's a web site. We've got something working but need money for a production deployment (ie bandwidth, systems hosting, customer service reps, support staff, etc. In short, our cost model can look like PayPal's cost model).

1. What amount of control (ie % ownership) typically goes to the investors? 90% ?

2. How is the VC money returned to the investors? Examples: is it given back as percentage of profit (20 % of gross or NIAT), or like a loan (all returned within 5 years?) or is it in perpetuity (VCs get 20% of everything, forever) ?

3. Does risk still equal reward? Seems to me the reward in the Internet/OSS project space is outrageously high, but the risk can't get any greater than the money you lay out + potential loss of goodwill/reputation.

4. What's the percentage in item 2 that VCs actually get for a project like this? 20%?

A: Thanks for the question. Most software companies consist of intellectual property (IT), but more importantly are the skills of the founders. There are many challenges both from a technical and business perspective that must be addressed by the team. So the founding team is key.

The investments from the Venture Capitalist are almost always for an equity ownership in the company. The venture capitalist makes money when the stock is sold (to another company or through an initial public offering - IPO). It would be very unusual for a venture investor to take a percentage of the profits.

The percentage ownership that an investor takes for a company varies dramatically by company. They key for an entrepreneur is to get investors who will actively work to make the company stronger. Good Investors will help find and recruit key employees, make key business contacts, and help shape the strategy of the company.

9) How do I get to talk to your kind?
by Qbertino

As a lead-maintainer / developer of a successfull open source project and a freelancer and company partner who focuses on OSS I have a three-part question:

1) How do I get to talk to someone like you? What would be the best approach?

2) What do you want to see from someone who approaches you? Neat, well formulated ideas? Implementations? Finished business plans? A running company? All four?

3) What bores you to death and what talks have you had with VC seekers that where a total waste of your time? What where the things they did wrong?
--
[My english is better than most other people's german, so please point out mistakes politely. Thank you.]

A: The best approach to talk with a venture capitalist is to try to have an introduction made through a common acquaintance. If this is not an option, directly approach the venture capitalist by email. Be sure to give your personal background in the email, this will hopefully entice the venture capitalist to spend time with you. If you have a business plan submit this as part of the email.

The ideal proposed business would have the following characteristics:

1)A large clearly identifiable untapped market; ideally an entrepreneur would have personally experienced the pain he or she is trying to solve.

2)A strong management team. This typically includes a strong founding CEO and technical founders. Other members of the team (sales, marketing, CFO etc., can be added over time).

3)Ideally some type of technology lock that prevents other competitors from closely following your success. (YouTube is a clear counterexample to this; here the 1st mover advantage was all that was necessary. Note that YouTube had very good traction before it received its first venture financing).

10) The Magic Ingredient
by Phoenix666

You can and must know your subject area, in this case, tech. You also need to put together a business plan and shop it around. But the thing that there doesn't seem to be a lot of help out there on is the magic ingredient: learning to think like a Yankee trader. There's a certain kind of thinking that works out ways to monetize a technology product or service. Sales people kind of have it. MBAs don't have it, or if they do, in small degrees (learning the CAPM doesn't teach you how). Engineers definitely don't have it.

So where/how can the aspiring entrepreneurs among us learn how to think about how to make money with their marvelous inventions? Do you have any books, organizations, or workshops you could recommend?

A: This is very good question. There is no "magic bullet." The answer varies by business and person. It is not easy to learn to be an entrepreneur. Many entrepreneurs learn a lot through a customer experience, where they are the customer. This often helps them to understand the need and how to monetize it (sell it to the customers).

Sometimes entrepreneurs will learn by studying business models and then dramatically innovating upon them. Google innovated in both its search algorithm and its advertising model. There were a number of well known search engines prior to its entering the market.

One of the best ways to "learn" is from other entrepreneurs.

In Northern California there is a group call "Stirr" (www.stirr.net) where entrepreneurs get together once a month to discuss their proposed businesses and network with other entrepreneurs and investors. The Women Technology Cluster (www.wtc-sf.org) is targeted at startups with women as part of the founding teams and provides the entrepreneurs with very good coaching, preparation, feedback and opportunities to meet potential investors. TIE (The Indus Entrepreneur www.tie.org ) helps entrepreneurs with seminars, networking, and forums to seek feedback from potential investors. I attend events from all three organizations on a regular basis.
This discussion has been archived. No new comments can be posted.

Open Source Venture Capitalist Answers Your Questions

Comments Filter:
  • Thank you! (Score:5, Insightful)

    by AKAImBatman (238306) * <akaimbatman@gmai[ ]om ['l.c' in gap]> on Friday October 13, 2006 @01:01PM (#16425581) Homepage Journal
    I'd just like to thank Mr. Gorman and Salil Deshpande for answering all our questions, and providing such useful and insightful information. These answers are some of the best I've ever seen on an Ask Slashdot. They are informative, straight to the point, and well researched. You may very well have enabled a new generation of entrepenuers.

    Kudos!
  • by vlad_petric (94134) on Friday October 13, 2006 @01:22PM (#16425919) Homepage
    If I understand correctly companies like MySQL own their IP, they just license it under GPL ... Seems like a strange omission from a seasoned VC.
    • by Richard Gorman (1013441) on Saturday October 14, 2006 @12:34AM (#16433675)
      Vlad, Thanks for your post. Your posts corrects a mistake that I made. Some of the open source companies do own their IP, MySQL is an example of this. This issue I was trying to communicate is that that the IP of Open Source companies is not protectable from use by competitors because it is licensed under GPL (or a similiar license agreement). Some potential acquirers are comfortable with this, some are not. Thanks Very Much Richard Gorman
      • But certainly MySQL is an example of an open source company that has a very useful amount of control over their product: They own the copyight and they sell proprietary licenses to the software. The GPL version cannot be incorporated into commercial products (unless those products are GPL themselves). It seems to me that their business model is very close to some traditional "closed source" companies that offer free evaluation versions.
  • Very good info here. Thanks for the insights!
  • by _iris (92554)
    A counselor from SCORE [score.org] could help aspiring entrepreneurs learn to monetize their IP.
  • by jd (1658) <imipak @ y a h o o .com> on Friday October 13, 2006 @02:48PM (#16427709) Homepage Journal
    Venture Capital is great if your primary purpose is to make money. The VCs have a percentage of the control, not the profits. The replies said that marketshare is important - and it is, you can't sell anything without a market to sell it to. However, marketshare is only a key factor if you have most of it. The difference between having 0.1% and 0.2% marketshare is very small, as far as the market is concerned, but might easily work out to be the amount you need to make that profit. It is also true that maximum profits won't necessarily happen at maximum marketshare. However, ignoring the market entirely is a Bad Idea if you want that same market to buy something. Those who pay the piper call the tune.


    I know of no VC at all who has ever invested in a "blue sky" research group, even if there's a decent chance of producing valuable intellectual property. 99% of the time, in blue sky work, there is no defined market. The remaining 1% of the time, the market is exactly 1 - whoever buys the technology from you. The reneissance was almost entirely "blue sky". Venture Capital is neither geared towards, nor capable of, backing the Hookes', Huygens' or daVincis' of the world. This is a Bad Mistake, in my opinion - many revolutionary developments in everything from art and culture through to science and technology have their origins in "blue sky" work. The only place such research exists on any scale, these days, is with military establishments. They may turn up some interesting stuff, but the nature of the beast precludes all but some very narrow fields of interest - and by the time it does reach the average person, most of the real strengths have been watered down or eliminated.


    DARPAnet is a good example. That was designed to keep military facilities and labs connected in the event of a nuke war. The modernday lovechild of DARPAnet can barely survive the background traffic levels and the times a conventional war or disaster has occurred in a wired region, the Internet is one of the first pieces of infrastructure to go. It got so bad even ten years ago that most of the DARPAnet sites were running their own private "Internet 2" (with IPv6 and IPSec) in preference to continuing to mourn the desecrated skeletal remains of an unsalvageable wreck - mostly made unsalveagable by corporations squeezing the strengths out of the system in search of gold.


    But the real abstract ideas? The inventions that can't be implemented for another 10, 20, 30, 300 years? Who funds the research that will be the bedrock for the next generation, or the next 15 generations, of developers and corporations? Observations of kettles boiling ultimately made the internal combustion engine possible. The equations of motion for non-linear springs made international travel reliable and safe, and made international communications possible. But if you'd tried to get James Watt a research grant or financial backing from any modern institution, they'd tell you to go take a long walk off a short plank.

    • by garyrich (30652) on Friday October 13, 2006 @03:44PM (#16428795) Homepage Journal
      "But the real abstract ideas? The inventions that can't be implemented for another 10, 20, 30, 300 years? Who funds the research that will be the bedrock for the next generation, or the next 15 generations, of developers and corporations? Observations of kettles boiling ultimately made the internal combustion engine possible. The equations of motion for non-linear springs made international travel reliable and safe, and made international communications possible. But if you'd tried to get James Watt a research grant or financial backing from any modern institution, they'd tell you to go take a long walk off a short plank."

      VCs don't do this. You are right. It's not their business. It's not what they promise their *own* investors when they take their $. Once upon a time this stuff was funded by Medicis (in a loose sense)... and don't fool yourself, they make a buttload from Da Vinci. Now who does it? If it's long term research investment you can still probably call the japanese. If it makes the world a better place, but only makes limited profit? Gates, Buffet, that fund that Google is starting, Bono (not Sonny). Muhammad Yunus just won the Nobel Peace Prize for microcredit. People fund him. It's not the "Future of Banking" and it's not going to make those who fund it rich, but it's a Good Thing and it doesn't lose $.

      Watt is probably a very bad example of your point. Not only could he get VC $ now - he got it then. Carron Iron Works backed him - not only would Roebuck he make a killing on sucess, but iron consumption would go up. Roebuck's timing was off and he lost his ass (still happens to VCs today). Boulton picked up his patent rights like India picked up the "dark fibre" from the 90's and ran with them. Watt's steam engine was not any sort of blue sky investment. And Watt was connected - a family of well heeled shipwrights with strong connections in the Presbyterian Church.
  • Wow... just wow! This is an actual detailed and insightful interview. Compare this with the 'interview with a lawyer' recently and it becomes even clearer how good these responses are.

    This guy actually answers insightfully and in detail, rather than fobbing people off with half truths and then being surprised when they are called on the inconsistencies with the facts.

    Thanks!
    • Even though I'm the lawyer you're dumping on, I have to agree with you. This is a terrific, informative, and insightful interview.

      In my defense, however, I must say that this interview is marked by good questions, while mine was dominated by two troll-like questions, and a lot of people beating me up because they didn't like my answers to those two absurd questions.

      Secondly, because of the fact that I was a lawyer and the troll-like questions were asking me for legal advice, it would have been unprofe
  • I liked the stirr.net site a lot, but it seems to me, that it definitely lacks a (online-) forum. I'd like to attend those meetings, but since I'm located in Germany, that's not so easy...
    Is there a online version of this concept, where you can discuss your ideas in a forum?
  • The open source version as a "trial" product. For Sugar CRM this is basically the strategy. They give away an open source version that has limited functionality, most customers upgrade to a version that is not available 100% as an open source product. They charge customers for the full functionality product.

    Someone explain to me what this means!!I thought Open Source means giving away (no choice here) the source code of whole functionality.

    • by dublin (31215)
      The open source version as a "trial" product. For Sugar CRM this is basically the strategy. They give away an open source version that has limited functionality, most customers upgrade to a version that is not available 100% as an open source product. They charge customers for the full functionality product.

      Someone explain to me what this means!!I thought Open Source means giving away (no choice here) the source code of whole functionality.


      Obviously, GPL restrictions don't apply to the *originator* of a pro
  • Reading this interview made me remember something I studied at university about startups and the IT industry: Ricardo Semler, boss of a Brazillian company named Semco was branching out into IT, and decided NOT to go for VC funding. In his opinion, the company would lose too much control with this, and therefore I think a sense of responsibility to be realistic with the money spent in breaking even. Semco's way was to start small and grow gradually, rather than go for all the huge funding deals...

    Shouldn't t

The biggest mistake you can make is to believe that you are working for someone else.

Working...