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The Almighty Buck

An Inside Look at Venture Capitalists 199

Christopher Thomas writes: "IEEE Spectrum has a scathing review of venture capitalists this month. Authors Nick Tredennick and Brion Shimamoto paint a devastatingly cynical picture of venture capitalism from the engineers' perspective." Funny to read, but probably 100% accurate. Wow.
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An Inside Look at Venture Capitalists

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  • by Barbara Streisand ( 518896 ) on Saturday September 01, 2001 @03:49AM (#2242462)
    They're not called "vulture capitalists" for nothing. They'll squeeze you for every last bit of stock and control possible. So, before you begin talking to them prepare yourself! I would try and take my project as far along as possible before selling any shares to these people. If you want more detail on just what I'm talking about visit the bootstrapper's website which will show you how to do this. Remmember the more sales you have the stronger your negotiating position will be.

    I have to disagree that Venture Capitalists will "squeeze you for everything." Unlike many in the "those that can't do--teach" category, I've actually done venture capital deals. I've also done private offerings (equity financing sold to individuals), bank financing and debentures (privately held debt) -- as well as non-traditional methods of raising cash.

    At different stages of growth, different types of capitalization are appropriate. In my experience, Venture Capital is most appropriate after you've gotten a start-up off the ground and built a management team (which can be as small as two people).



    Besides going for Venture Capital mid-way into your growth pattern, you need to have a business that can realistically offer very high growth. If you have a less explosive business, private offerings can work -- they can be successfully sold if the folks get 2-3 times their money back.

    Other options include setting up a non-profit entity alongside your start-up, assigning a charitable or socially helpful role to it, and seeking grant monies from private foundations or corporate foundations. The grant money can help offset operating costs for your for-profit start-up by paying you a salary and covering some office expense and equipment.

    Still other methods for raising capital include piggybacking with established businesses. For example, a publisher can get an endorsed promotion of a book or booklet from a large association, the association solicits orders for the book via its members' newsletter, you split the revenues with the association, and generate substantial incoming cash.
    • I've started a small business, and I'm quite leery of selling anything to anyone. It's my company, and I'm not going to report to a boss after taking this long to become my own boss. That attitude may change in time.

      One question I have is... is it truly ethical to use a non-profit organization as a front for your for-profit business venture?

      One idea that I've had is to do this:

      • Recycle or refurbish old computers that have been donated from businesses and educational institutions
      • Give the recycled/refurbished computers to people who have no computer
      • Sell the same people low cost internet access and support


      This would go along with my one-man jack-of-all-trades computer sales/web design/hosting/ISP/consulting/programming/but-wait -there's-much,-much-more
      business. But, who knows. Maybe I'm biting off more than I can chew. (Nah...)
      • I'm not going to report to a boss after taking this long to become my own boss.

        You always have a "boss". Be it your business partners (who boss you and whom you boss) or your customers... there is someone that you are ultimately responsible to...

        One question I have is... is it truly ethical to use a non-profit organization as a front for your for-profit business venture?

        You probably won't have much chance for 501c3 status unless you completely separate the two businesses... better to stick with a for-profit. Starting a non-profit is hard work, and not something that should be taken lightly... or with expect for anything but a trival return on your time investment.

      • It's my company, and I'm not going to report to a boss after taking this long to become my own boss.

        You're 28! That's not even old enough, in most cases, to have reached full technical competency, let alone to have also reached the level of maturity and business skill where you could be entrusted with employees' livelihoods. There are only so many hours in each day to learn all these very different skills.

        "Taking this long" my ass. Along with all the other things you need to learn, try learning some patience.

        is it truly ethical to use a non-profit organization as a front for your for-profit business venture

        In a word, no. In two words, HELL NO. Anybody who would even stop to think about it has a lot to learn about ethics.

        • That's not even old enough, in most cases, to have reached full technical competency, let alone to have also reached the level of maturity and business skill where you could be entrusted with employees' livelihoods

          Given the differences between people, surely it's possible that he's so skilled he kicks our asses? Why assume that he couldn't possibly be very much better than you or I at running a business?

          thenerd
          • 28 not old enough to be a boss? Of course it is. There are any number of 50 year olds we do not have the skills to be a boss, just as there are 28 years who do have the skills. Your statement that a 28 year old cannot possibley be mature enough to be trusted is pure, mindless, discrimination.

            I worked for a 25 year old once (I was a fair bit older) because he had worked his butt off and built up a business that I wanted to be part of. I always got paid. He always let me know how things were going. He made all his employees part of the team. In short, he was a better manager/boss than a few 40 plus aged people I have worked for.

            • He might have the skills. It's highly unlikely, but it's possible. More importantly, 28 is not old enough to feel all entitled about the whole thing, or to whine about "oh, I've had to wait so long". Even if he is All That, there are plenty of other people who are also All That plus they have some ethics plus they've already had to wait longer due to reasons beyond their control. I'm sorry, but I'll save my sympathy for them, not some 28-year-old punk who thinks that six years past college is too long to wait to become a multi-millionaire.

    • Customer financing is another way to go. If your company is real, something with an economic future, then it's offering a solution to a real problem. Find a company with that problem and see if they'll finance you, either with equity or pre-orders. If you can't get money from a customer, maybe you don't have something worth buying.

      Charles Ferguson of Vermeer has even more stories about venture capitalists in his book High Stakes. Bottom line is, find out whether you're dealing with someone who's ethical, or who at least practices enlightened self-interest.

      And a good VC (yes, they exist, yes, of course Sturgeon's Law applies) can bring a lot of value to the table. I've heard of entrepreneurs turning down higher valuations in favor of getting Kleiner Perkins on board.
  • Realistic goals ... (Score:3, Informative)

    by LL ( 20038 ) on Saturday September 01, 2001 @04:18AM (#2242490)
    ... someone once said that VCs want impossible goals. How many business opportunities that existing with triple digits compound growth, clear exit strategy, and quantifiable risk? Nobody wants to be first to bake but everyone wants a double helping of the successful projects. The very nature of investments (harking back to the British India company) is to create competitive/proprietary positions which means exclusion of some sort, whether knowledge or opportunities.

    Unfortunately VCs are the only people willing to invest in high risk (read unknown to them) speculative ventures. Banks are basically pawn-brokers and bean-counters, they only risk their money on assets which have a ready secondary market. But unfortunately there's none for failed (or half-finished) ideas which leads to a fair amount of cluelessness. I've just come from a dinner where someone said that the only reason a "VC" invested in their company was that they read in Red Herring that nanotechnology was going to be "big" and they thought a name like Nano-xxxx (name disguised to hide the guilty) was related ... wait until someone tell them they bought 40% share of a electron microscope :-). What VCs continually forget is that they are investing in people, not business plans.

    Oh well ... at least every engineer has got someone else to blame for the stress :-).

    LL
  • by cperciva ( 102828 ) on Saturday September 01, 2001 @04:48AM (#2242522) Homepage
    One of the comments made in the article is that VCs are like sheep -- they flock about, and if one invests in electronic basket weavers the rest will.

    I can attest to this from personal experience: I am one of a small group of people to have received the (questionable) pleasure of being cold-called by a VC firm. It didn't matter to them that I was still finishing my BSc in mathematics; all that was important to the VC was that 1. Distributed Computing was hot, and 2. I was responsible for a recent [cecm.sfu.ca] distributed computing project.

    My name is [censored], and I'm with [censored], a traditional VC firm. I saw a press release regarding your recent accomplishment ... What particularly interested me was your use of a distributed computing system. This is an area that has been of interest to us at [censored] and we would like to speak with you ... We are currently investing a $1 Billion fund and our typical investment size is $5 to $15 million.
    Of course, calculating Pi isn't likely to be commercially profitable any time soon; for that matter, distributed computing isn't either. So I wrote back explaining that I had no intention of helping them waste their investor's money on ventures doomed to failure.

    Ever since then I've refered to that day as "the day I refused five million dollars".
    • Of course, calculating Pi isn't likely to be commercially profitable any time soon; for that matter, distributed computing isn't either. So I wrote back explaining that I had no intention of helping them waste their investor's money on ventures doomed to failure.

      Nice attitude! There was no commercial future for things like "home computing" and garage-built Apple I's, either! Take the money and let the funds decide if they're overstepping their investors' risk aversion levels. (The highest upside generally comes at high risk, and that's exactly what some people are looking for.) Does this mean you're looking to take equity or a salary in a nice, safe, obviously commercial idea instead? ;-)
      • Look, if the founders of the company themselves do not fundamentally believe in the technology OR how they're approaching their targeted market(s), then they have NO business wasting other people's money. First, not every idea is worthy of investment. Second, and perhaps even most importantly, even if the idea itself is worth something, if management does not know where or how to execute, it is wasteful of everyones time and money. If you don't at least have a fairly clear plan, you have no business being in business, at least when you're playing with other peoples' money.

        Furthermore, while it is true that high return investments almost always bear higher risk, that does not mean that every high risk investment will or can return a decent amount. For instance, I could loan a fugitive 1 million dollars, while this is certainly high risk, it's almost certainly a formula for ruin. This point being that some investments are simply bad investments, deserving NO investment because they do not offer a return commensurate with the risk, relative to what can be had else where. Fundamental to the field of finance is that at any given level of risk you want the maximum amount of return. This is why: some companies cannot get additional capital, why some shares are priced so low, why some land is worth so little, and so on.

        • I agree with you. But I'm still surprised the previous poster would lay a blanket statement like "distributed computing isn't going to be commercially profitable any time soon". I suppose he'd know better considering the projects he's been involved with. But my reasonably educated instincts tell me that _someone_ out there can make a commercial venture out of distributed computing. And when that happens, I hope someone shares an early investor prospectus with me!

          But yes, if the founders themselves don't believe in an idea, it's dangerous to have empty evangelists at the VC and stock promotion level. I speak from experience!
          • But I'm still surprised the previous poster would lay a blanket statement like "distributed computing isn't going to be commercially profitable any time soon".

            This is rather off topic, but it elucidates somewhat the problem with flocking VCs. Distributed Computing -- as exmplified by d.net, SETI@Home, GIMPS, and my own project (PiHex) -- has so far been dedicated entirely to attacking embarassingly parallel problems: All the problems so far have been trivially decomposable into cpu-sized chunks. This makes it really easy to create s distributed computing project... working on a meaningless problem.

            It is almost a theorem that "interesting problems aren't embarassingly parallel"; in fact, certain results can be proved along those lines. "Interesting" problems are always problems which don't decompose trivially: In fact, the standard supercomputing benchmark (linpack) in its normal form requires networks with latencies of a few microseconds. In general, the problems which are commercially interesting all require large amounts of bandwidth and reasonably low latencies.

            Now I'm not claiming that these problems can't be overcome; the issue of latencies can generally be solved by switching to different algorithms, and the bandwidth requirements will be met over time (bandwidth is growing must faster than computing power). Thus my comments "... any time soon".

            However, none of the VCs even considered such issues. They saw "distributed computing", and knew that "distributed computing" was hot... without even checking that the distributed computing being done bore much resemblance to the distributed computing they wanted to do. It's as if someone decided that they wanted to start a company to transport people between New York and London, so they invested in a company which had been carrying people from New York to San Francisco... simply because the company was "transporting people thousands of miles".

            I think the VCs have gotten so overwhelmed with using buzzwords to sell their companies upon IPO that they start to listen to the same buzzwords when people come to them looking for initial funding; unfortunately most (all?) VCs lack the technical expertise to actually evaluate companies' modus operandi, so all they can do is fall back on the buzzwords.
    • by LionKimbro ( 200000 ) on Saturday September 01, 2001 @04:53PM (#2243894) Homepage

      A year ago, I would have made the same decision as you.

      Now that I have studied Confucius and worked in industry for a while, I would not.

      [confucius.org]

      When Yuen Szu was head official to the family and was given nine hundred measures of grain, he declined it.

      The Master said, "Do not decline. Distribute it among your lin, li, hsiang, and tang." (your community)

      Accept the $5 million. Consider that money as research funds. Build a company. Hire engineers. Learn as much as you can, and work as much as you can. Be glad that you have a roof over your head. Acquire valuable experience. The engineers that you umbrella will be grateful.

      Basically, the real world we live in is not the ideal world. Read Mark Twain and Mencken to understand this deeply. Then read Confucius to preserve your idealism, even in the midst of the crazy world that Clemens and Mencken will show you. Confucianism will show you how to commit right action, and protect idealists, even in a selfish world.

      Imagine that you're an engineer. You come up with an idea that makes the company millions of dollars. What will you get in return? You'll get a $5,000 raise, and "the opportunity" to work on something that will make them even more money. Yip-pee-yah-yay. What do you think- they're going to give you enough money to retire?! You're lucky enough that they aren't tossing your ass out on the street; You're to feel lucky for even having a job.

      Very few people are motivated by idealism. I am. You are. But the VC you talked with was not motivated by idealism. He was handing out money, hoping to get much more in return. I don't know what the larger situation was, but these guys aren't hurting for cash.

      If the situation ever comes up again: Take the money. Work with the VC. Your VC's life will be business as usual: Some successes, many failures. If it's really bad, they might need to delay building that new house on their lot, and tearing down the old one. Learn everything you can about how your distributed systems work, and learn everything you can about how the world of funding works. You will become a more knowledgable and experienced person in the process, and fund the lives and research of many engineers with you.

      [confucius.org]

      The Master said, "Adhere to your beliefs and be devoted to learning. Secure to the death the good of the Tao. Enter not a state in disorder. When all under heaven are with the Tao, be visible. When without the Tao, be secluded. When the state is with the TAo, to be poor and lowly is shameful. When the state is without the Tao, to have riches and position is shameful."

      • Accept the $5 million. Consider that money as research funds. Build a company. Hire engineers. Learn as much as you can, and work as much as you can. Be glad that you have a roof over your head. Acquire valuable experience. The engineers that you umbrella will be grateful.

        No. Tempting as it may be, don't do it. Otherwise it's just a shot in the dark. You might get lucky and discover a business that is sustainable and profitable, but then again you probably won't.

        Why do you think the economy sucks right now? It's precisely because VCs are sheep and invested in any "business" that came along, whether or not doing so made sense (because after all, other VCs managed to do the same and made a boatload of cash on the IPO. Monkey see, monkey do). Worse, these same VCs encouraged many of these "businesses" to do stupid things, like grow the company rather than focus on being profitable. They did so because they wanted to cash in on a superstar IPO, even if the value of the company was doomed to drop through the floor soon afterwards. I know. I was there, and saw it with my own eyes.

        Back to the economic consequences, however. The economy sucks right now because lots of VCs invested in lots of stupid startups whose "management" had no clue about how to turn it into a profitable, sustainable business, and the VCs didn't care about that, either. Again, they just encouraged the companies to grow to make them look good for IPO, so they could make a quick buck.

        Because these companies grew, they bought lots of things: talent, equipment, etc. This caused a spike in the demand for talent and equipment, so salaries spiked. Equipment sales spiked. Equipment manufacturers ramped up production, thinking that the trend would continue (and, after all, if they didn't, then their competitors would get the business instead), and hired people to do this. Everybody grew, and everybody was happy.

        Furthermore, you now had a lot of people (engineers, support staff, etc.) out there who were being paid a lot of money. Such people tend to spend that money, and they did. They bought houses, cars, went to restaurants, and bought lots of goods and services. The parts of the economy that service them grew to fulfill the increased demand. Again, everybody grew, and everybody was happy.

        Then the inevitable happened. VC-backed businesses started to fail because they ran out of money. Oh, they did exactly what the VCs told them to do: grow and worry about being profitable later. Don't worry about spending the money to grow the company because that's what it's there for. Except the VCs were too stupid to figure out that if you don't worry about being profitable, then nothing else matters in the long run. They were concerned only about short-term returns (from an IPO) rather than being concerned about the health of the business, and the increased prices of goods, services, and people caused companies to burn through their money a lot faster than was anticipated. All the money these companies wasted on parties, doodads, etc. didn't help that situation either.

        So VC-backed startups began to fail. VCs began to realize that a lot of these businesses wouldn't make them the quick buck they were after and stopped their funding. When the funding dried up, these companies went bankrupt, fired all their employees, and closed up shop. And, in the process, sold off all their equipment for cheap.

        Which brings us to where we are today. There's a surplus of equipment on the market at bargain-basement prices because all these failed companies (or whoever acquired their assets) are selling it off. So as a result, equipment manufacturers are unable to sell their stock of equipment at a profit. And remember all those people they hired in order to ramp up production? They've had to get rid of them, and all the support staff they needed to deal with the increase of customer support calls and all the things associated with that (field engineers, etc.), since the number of customers who need support (and who can buy support contracts) has dropped through the floor.

        There's a surplus of people in the market because they're no longer working for the startups (who went under) nor are they working for the equipment manufacturers (who are getting rid of people because demand for their products and services has dried up).

        And the companies that provided all those goods and services that people were buying? They're starting to hurt, too, since there are now a lot fewer people with money to spend on such things. Worse, the supply of such things increased to meet the increased demand. But now the demand is down significantly. That means prices will fall through the floor and most providers will go out of business.

        It's a self-adjusting situation, to be sure. But don't kid yourself: the adjustment hurts. And because the economy has a strong positive feedback component (think about it: drop in demand means drop in prices, which means more people with less money, which means further drop in demand), the downward adjustment can easily go a lot further than it should.

        So no, he shouldn't have taken the money. You think the money grows on trees or something? That money represents the fruits of the labor of countless individuals. When it's not spent wisely (on things that people need now or in the future), bad things happen to the economy. As has been proven by the dot-bomb fiasco. The people who took VC money knowing that they couldn't achieve a sustainable and profitable business are at least partially guilty of causing the economy to go into the toilet.

        If you want to do research, apply for a research grant. Such money is expected to be used for such purposes, and isn't expected to gain any real return (research, after all, is by its nature a very uncertain thing -- a shot in the dark). That's why it's a "grant" and not an "investment".

        • They did so because they wanted to cash in on a superstar IPO, even if the value of the company was doomed to drop through the floor soon afterwards.

          ...

          You think the money grows on trees or something? That money represents the fruits of the labor of countless individuals. When it's not spent wisely (on things that people need now or in the future), bad things happen to the economy.

          A feudal lord has a bunch of land, which he bilks peasants into farming. He gets 90% of the yield, and lets the farmers hold onto somewhere up to their 10%. That 10% for the farmers is divided up in such a way as to work the farmers, so that they can strive to improve their lot. Give the best farmer x2 as the weakeast, but divide it all up so that it totals 10%.

          You're right: The VC's money represents the fruits of the labor of countless individuals. You're a sucker (not only have you been ripped off, but made to feel that it is just) if you believe that the VC's are the laborers themselves..! We're still living in medieval times, people just don't know that they're peasants because they aren't being manipulated through force and police action.

          If a bunch of mobsters want to throw a party for everyone, train everyone in computer skills, employ and house them, I say let them. The flow of money from someone who doesn't deserve it to someone who does isn't something I'm going to lose any sleep over.

        • I don't really agree with your point of view on this issue. Why does it have to be sustainable to be worth doing?

          If he takes the $5 million and goes to build a business, even if it fails (which it might not), he is going to have a huge learning experience. There is really no substitute for running your own company to understand what it takes. (People who have done it all say it's required and people who haven't all say it isn't. :-) Then he gets another job a year older and many years wiser.

          I also think it is silly to think that grants are "less damaging" to an economy than a failed investment because it is known ahead of time that the money is going to be gone. In fact, I disagree with the whole premise that failed investments hurt the economy. The money invested in those companies doesn't "disappear". It goes to pay engineers salaries and buy Aeron chairs, whose purchase price goes to pay salespeople and assembly line workers and castor manufacturers. The engineers take the money and buy computers and pay for daycare for their kids and go to McDonald's with that money.

          All it really is is redistribution of wealth from the very rich to the technically advanced. And I'm in favor of that. :-)

          Crash
  • I've never had to deal with VCs so I can't comment on most of it, but there is one part I have trouble with:

    Look, for example, at hard disks and floppy disks. In the hard-disk business, there have been as many as 41 rivals fighting for market share. Only three major manufacturers competed in floppy disks. The hard disk has improved much faster technically; the floppy disk is stagnant by comparison. I'm not talking about market size or market opportunity (the hard-disk business versus the floppy-disk business); I'm talking about rates of innovation.

    Although his thoughts are noble, in the real world, who is going to willingly do something to help kill their own company? Will the engineers do that? If say I started a video game company, why would I HELP someone else start a competing video game company? Same with investors. Why would an investor put money in one video game company, and then fund a competing one? The conflict of interest alone could get him in serious legal trouble.

    Really, we all want our society to compete and innovate. But that should be done on a legal level (anti-trust laws, for instance). To expect it from people on a personal level or a corporate level is totally ridiculous and will never work simply because humans are selfish creatures. We will always serve ourselves before serving others. To think that human nature can change without force is a bit naive.

    Just think, if you had tomorrow's lottery number, would you tell the whole world about it or would you buy the ticket all for yourself? Now be totally honest.
    • As proponents of the Friedman school of voo...err economics like to remind us, a rising tide lifts all boats, economics is not a zero sum game, etc.



      Often, early in an industry life cycle, competition is good because it grows the overall market; think of the early PC or automobile markets, where the biggest challenge was not to get a sale from a competitor, but rather to convince people they wanted your product at all.



      Now, when you get to a mature market, and you've convinced everyone they need a particular new geegaw, you need to start slitting the other guy's throat. But until then, it's better for him to get a sale (converting people to the idea they want what you both sell) than to have people fialing to enter your area of the market as a customer at all.


    • Nobody in the financial sector cares about innovation just for the sake of innovation. The floppy disk manufacturers are probably in a much healthier situation than a lot of hard disk makers. Why spend zillions of dollars in R&D to make a product that (with some luck) will be slightly better or cheaper than those of your 40 competitors.


      Also, the comparison is not quite valid. He's comparing a standardized removable medium with a fixed medium. One is a docking bay for standardized cars, and the other is a magic box that you put things in. Who would you rather be? The company that sells approx 1/3 of all floppy disks, or quantum... oh wait... they don't sell hard drives anymore.

  • by Anonymous Coward
    If VC are the cold-hearted monsters who want to suck the life out of a firm, then angels are rich dreamers who want to have fun and make a profit. (At least some are.)

    At my last startup, we were mostly funded by angels. Unfortunately, unscrupulous people in upper management took them to the cleaners. The upper management took worthless business trips to exotic locales, and bought extremely expensive office furniture. By the time we got the crooks out it was too late, the money needed to fund development and pay salaries was gone. Then the economy turned sour, and relations between the new management (who had been the old middle management) and the angels broke down. Personally, I felt bad for the angels, they had paid my salary for two years and given me a chance to be essential personnel at a company that had a viable business plan. If the con men hadn't eaten up all the money and left a husk, I might be making a reasonable (I never expected vast wealth) living now instead of collecting unemployment and the angels wouldn't have had to see their money tossed down a drain.

  • I am SO floored!

    As a total GPL'er and Linux advocate, no article I've seen in recent memory truly distills the geek/aristocracy dynamic as well as this one does.

    This shit goes back MILLENIUMS, folks! There's nothing new here.

    It's, however, ohso nice to see it updated so well. Congrats to all involved.
  • A typical VC trick (Score:5, Informative)

    by Veteran ( 203989 ) on Saturday September 01, 2001 @07:17AM (#2242674)
    One trick used by VC's is to give you enough money to fund the product development - but not enough to do any marketing. When the company has a fine product developed but is tottering on the edge of bankruptcy for lack of marketing - the VC's move in and take it over.

    The old saw about "The world beating a path to your door if you have a better mouse trap" is pure hokum. The one thing that Microsoft proved with Windows 95 is that if you have enough marketing money you can sell anything - no matter how bad it is. Conversely - take the best commercial program you can find - write up a sign that says "Software $5.00" stand on a street corner with the sign and see how many copies you sell. I have tried that: all you'll get is sun-burned; marketing is far more important than product when it comes to making money in a business.

    • The old saw about "The world beating a path to your door if you have a better mouse trap" is pure hokum.

      I wouldn't be so sure about that. The message right before this one was about being cold-called with an offer of $5 million based on a press release.

      It is impossible (read it again) impossible to replace quality with marketing. In the short term (read: one quarter for a stock price bump) it might work. In the long term, a competitor with a quality product will eventually take over the market.

      Word of mouth advertising is still the best kind of advertising, and it's free, if the company has a quality product.

      As always, YMMV
  • I have to admitt, 100%, with the author of the article. The feeling I have nowdays is that when the VC are in over 50% of the company, the company is lost. They will drive the company to its knees and force the orignal enginners out. All that without really wanting it, just by pure incompetence or ignorance. The VC (pet) CEO will be changed within 12 month when, accoring to plans, the company has outgrown his set of competences (allthough not much may have changed in the company). They have no eye for talent since they really don't care for technology or development. The product is the company, not the technology put into to product of the company. Once a structure reminding of a company has been created it is due for introduction to more traditional investors that may buy the company on the basis of "track record" and build up of market presence.

    /Jarek
  • by Anonymous Coward

    The New New Thing, by Michael Lewis, is an account of Jim Clark's adventures in Silicon Valley. Clark created Silicon Graphics, which was stolen from him by VCs. He used what he learned to extract much more favorable terms from the VCs when he started Netscape -- the company that caused the Internet boom, and rewrote its financial rules, by a) creating fabulously wealthy *engineers* (although the VCs made out like bandits too) and b) going public when profits were only the foggiest of concepts.

    This book's a great look at Silicon Valley venture capital and definitely supports Tredennick and Shimamoto's observations. Looks like the VCs are back to business as usual and only experienced, buzzworthy engineers like Clark can get decent terms.
  • summary (Score:1, Insightful)

    by philipm ( 106664 )
    So, lets see, Vulture Capitalists BAD, and engineers GOOD. Hmmm.

    Personally, I'm a very very good engineer.
    However the way our society works is that the best engineers are the ones that haven't had time to open their mouths and remove all doubt.
    The way the engineering career path works is you very quickly sell out and replace the values of being a good engineer, with the values of deferring to authority and accepting "things" the way they are, so that when you are older you can take advantage of these values to maxime your own PERSONAL gain.

    In fact, this extremely typical career progression and value development merely leads to being a Vulture Capitalist at the end. The only real complaint people seem to have about this whole situation is that others are at the top of the food chain and not themselves.

    I'd love to be in their position and screw anyone I want (clueless engineer drones or management wannabes).

    Want to come out on top? Then stop complaining about the existing hierarchy. There are easier ways to succeed then by "changing the system".

    Want engineers to have more power? Screw the people who have the money - that will cause a quick transfer of money and power. Maybe not to you though.
    • To me it sounds more like the way people tend to behave when there is an imbalance between power and responsibility. Not all people, but it only takes a few abominable ones, and the memories linger.

      And people who have been wronged and are enraged tend to shout about it, whereas those who have been treated decently just expected it. So they don't say anything.

      VC's are one example, but only one, and not the most vicious. Somebody above said (approx.) "You need more money, then bend over." But it's worth remembering that some people experience that being said literally, and without the promise of any reward. Not even "and then I won't kick you".

      The problem is a power imbalance.
  • "One company I worked with had an innovative idea for a firewall: build it with programmable logic and it works at wire speed. Wire speed meant no buffering, no data storage, and therefore no need for a microprocessor or for an IP (Internet Protocol) address. Simple installation, simple management, but so different that experts--even those from programmable logic companies--didn't understand it. To them, proposing a firewall without a microprocessor and an IP address was like proposing a car without an engine. No funding. Back to work at a big company. Worse for them; worse for us. The industry loses. Progress is delayed. "

    Trying to building a firewall without a uP was an exceptionally DUMB IDEA!

    First you would have to build a real fancy state machine. TCP/IP protocols are based on streams of bytes/bits. Doing a couple of states in a parallel hardware design is easy, but thousands, or ten's of thousands of states is nearly impossible. Plus, a firewall needs to be flexible, (catch the latest un-expected hacker exploit, log it, etc), which is something most hardware designs are not.

    Hence the idea of using Microprocessors is a very useful thing. B.T.W. What where they going to use to drive the I/O interfaces? All the designs I know of need at least one micro to run them! (I.E. Program dma lists, handle errors, etc). Unless you're going to re-invent those wheels as well, and build your own custom interfaces.

    In summary, that idea deserved to die, it failed to reduce risks too an acceptable level!

    The VC's were right not fund a real dumb idea, next time, pick a better example.

    • >Doing a couple of states in a parallel hardware design is easy, but thousands, or ten's of thousands of states is nearly impossible.

      Depends on how complex the states are. It might be possible to compile the hardware from a representation language that is close to the IP domain.

      > Plus, a firewall needs to be flexible, (catch the latest un-expected hacker exploit, log it, etc), which is something most hardware designs are not.

      Hmm. He said they were using programmable logic. There are programmable logic devices that are dynamically reconfigurable in real time. I assume they would use them.

      The idea was definitely high risk, but in my opinion can definitely be done. I work with equally complex ASICs every working day of my life. Whether it is worth doing, is very arguable; but it's definitely possible.
      • If any of you had written any Unix Network device drivers, protocol layers, you would quickly realize the folly in your statements. Just configuring the ethernet link types is a fairly complex task (needs a CPU), HDLC ATM virtual circuits even more so.

        Just one 64 KB IP layer packet can be constructed from 60+ ethernet packets, and/or 1200 ATM packets. All/any of which can be received out of order. After it is assembled, you can verify the checksum and the begin checking the payload. Then you've got to add time-out's, duplicate discards, CRC handling, retries, sliding window acknowledgments. Once data contents are checked, then the IP packet can be sent along to the destination, (another 45 or 1200 packets worth of packets sent, retries, collision detects, Ack's, etc.). So far I just described ONE IP packet of One IP Stream. Add in processing multiple IP streams at the same time, plus the extensive memory management to keep track of resources.

        So far that's just up layer 3 stuff, you still got TCP layers 4 through 7. Anyone who thinks they can accomplish the objective without using ten's, hundred's of thousands of lines of CPU code is dreaming. ASIC only implementation without CPU, forget about it.

        B.T.W.. Implementing a somewhat slow CPU in a programmable ASIC is a terrible waste of very expensive resources (>1/2 of 500$ programmable ASIC). It much/much cheaper to use a very fast DSP ($10 + $10 DRAM) to perform such tasks. You might use a smaller ASIC ($20) to accelerate some of the slower, repetitive logic processes, but that's about the maximum extent of any ASIC usage. If any of you had written any Unix Network device drivers, protocol layers, you would quickly realize the folly in your statements. Just configuring the ethernet link types is a fairly complex task (needs a CPU), HDLC ATM virtual circuits even more so.

        Just one 64 KB IP layer packet can be constructed from 60+ ethernet packets, and/or 1200 ATM packets. All/any of which can be received out of order. After it is assembled, you can verify the checksum and the begin checking the payload. Then you've got to add time-out's, duplicate discards, CRC handling, retries, sliding window acknowledgments. Once data contents are checked, then the IP packet can be sent along to the destination, (another 45 or 1200 packets worth of packets sent, retries, collision detects, Ack's, etc.). So far I just described ONE IP packet of One IP Stream. Add in processing multiple IP streams at the same time, plus the extensive memory management to keep track of resources.

        So far that's just up layer 3 stuff, you still got TCP layers 4 through 7. Anyone who thinks they can accomplish the objective without using ten's, hundred's of thousands of lines of CPU code is dreaming. ASIC only implementation without CPU, forget about it.

        B.T.W.. Implementing a somewhat slow CPU in a programmable ASIC is a terrible waste of very expensive resources (>1/2 of 500$ programmable ASIC). It much/much cheaper to use a very fast DSP ($10 + $10 DRAM) to perform such tasks. You might use a smaller ASIC ($20) to accelerate some of the slower, repetitive logic processes, but that's about the maximum extent of any ASIC usage.

  • Whoa! (Score:3, Funny)

    by HungWeiLo ( 250320 ) on Saturday September 01, 2001 @09:24AM (#2242896)
    An inside look at venture capitalists, and nobody's posted a link to goatse.cx yet?
  • by Brad Wilson ( 462844 ) on Saturday September 01, 2001 @09:40AM (#2242936) Homepage
    I've been ".COM'd" twice in 5 months. Both times I had a real good view of the financing process; the first time, because the CEO was very open with the company and took time to explain what was going on; the second time, because the company was very small and the CEO and I talked fairly regularly about it.

    While the article in question has some obvious flaws, in general, it's on target. VCs are looking to screw you any way they can, in the hopes that it'll make them some money. It doesn't matter whether they're dealing with engineers or financially astute CEOs.

    The general pattern looks like this:

    1. Meet with the VC, present the business plan
    2. The VC offers unrealistic terms -- like, grow the company by 1000% and we'll invest the money, and make financial assumptions on 1000% better productivity.
    3. Lather, rinse, repeat, until you realize those are the only type of terms you're going to get.
    4. Nod along, get the cash.
    5. Hire like crazy, according to the "plan".
    6. Money runs out in some short period of time (usually around a year). Nothing has happened, because growing a company by 1000% doesn't give you 1000% better productivity, even if you were hiring pre-trained employees.
    7. VCs say, "gee, shucks, guess we need more money". BEND OVER.

    6 and 7 get repeated a few times and all the original players get diluted to nothing (except the original VCs, of course). You go IPO with a horrible product and no cash inflow; the VCs make their cash, but your company is bound for failure, and your restricted options/shares guarantee that you won't make any money. Or you go under and the VCs swoop in and take the technology in an attempt to sell it to get some of their money back.

    Welcome to high tech.
  • What an interesting phrase. Is it 90% probable that it's 100% accurate, or just 51% probable, and in any case what the hell does that mean? Are you certain of its accuracy, or uncertain? Or are you not sure which you mean? ;-)

  • The best thing to protect a company against investors that are just being too pushy is to make it very clear to them that you only need them in order for them to make money, but that you could clearly do this slower, but without the added benefit that they would get.
    This way you make sure your planning stands on two grounds : with or without VC money, and you make it much harder for VCs to pressure you into doing things which are totally stupid.
    But this suggestion is definitely not easy to realize, but if you can have it you will probably stand your ground with a stable company for a long time ! It will also help your valuation a lot.
  • Engineer incentives (Score:5, Interesting)

    by Salamander ( 33735 ) <jeff&pl,atyp,us> on Saturday September 01, 2001 @10:07AM (#2243007) Homepage Journal
    Reducing the engineers' share of the pie is counterproductive, however: they become demoralized; productivity suffers; eventually, they leave.

    To be fair, some VCs do recognize this and do something about it. I have a friend who's been involved in a few startups. Not too long ago he described what had happened in one funding round. BTW, you're practically always involved in some sort of funding-related activity or another, all day every day. If you're a true techie you'll go insane wishing you could sit down and write code again. Anyway, this is basically what the lead VC said:

    You don't have any business, so that's not your value to us. Your IP isn't that valuable either. [Ow, harsh.] What's valuable to us is the talent you represent, and if your people's share gets too low we know you'll start to defect. That share is already below our standard, so we will not participate in the next round unless in the process we can bring the founders' share back up to that standard.

    What ended up happening is that some of the previous-round investors saw their share reduced so the founders' share could be increased. I'm sure they didn't like that much, but I'm also sure that if it was presented as a choice between that and losing the lead investor (with nobody else ready to step in) they would have gone along. Losing the lead investor like that at that point in time would basically have meant that the company had zero prospects of survival (in fact it did not survive).

    The upshot is that a "vulture capitalist" really - for once - did try to do the right thing by the founders, and even leaned on other investors to make the right things happen. They're not evil people. They're ambitious, they're greedy, they're often ruthless, they almost always have goals that are at odds with techies' goals, but they do have honor.

    I wish I could name the east-coast VC company involved, because I like to see good behavior rewarded. Unfortunately, I don't feel safe doing so. One character trait they hold very dear is "discretion"; it's not very discreet to tell stories like this one in a place like slashdot, and I might want to do business with them myself someday. ;-)

    • I say this from first hand experience, well from a parent that is an engineer and an extremely experienced and successful entrepreneur (e.g., not naive), but this article really does hit the mark with a great number of them, really. I've seen them at their best and at their worst.

      Speaking in general terms:

      As a community they are extremely incestuous.

      As a community they are very risk averse, in a personal sense. They're willing to risk their investors money, but not if they themselves will hang out to dry. What this means is that they'll invest in the latest fads, so long as the herd is with them. By and large, they will not invest in superior investments from a risk/return perspective, if the herd is not there behind them.

      Many are extremely amoral. There is a difference between being greedy and neglecting obligations and duties, to both the investors in their own funds and investors in that companies that they hold board seats on. I've personally seen this border into the illegal territory.

      Many are simply ignorant--in both the financial, operations, and technical sense. Ok, they don't need to be experts, but what makes them dangerous is that the dont know what they dont know. On technical issues, they consult "experts" that are not experts in the least and consider it "expert" advise.

      Most are in there for the short term. They're willing to invest in companies that are doomed to fail, just as long as they can flip it over in an IPO or to another company before it craters.

      And it goes on... I really hate to make such sweeping statements, but this a terribly universal experience with VCs. Not just one or two firms, but many of them, in different regions and industries and from different perspectives (CEOs, founders, engineers, etc).

      In short, many VCs really serve all involved poorly [In other words, I believe there are better real-world solutions for the necessary parties]. There are some really good VCs out there, but they are hard to find and they have finite resources. A beginning entrenprenuer would be well advised to get some solid and independent advise, both legally and otherwise, from people that are experienced with startups and dealing with these kinds of investors. Especially when it comes to issues like drawing up a solid board of directors...
    • Ambitious, greedy and ruthless go a long way toward filling my definition of evil. Dishonorable would certainly be even worse, but I'm not convinced that the epithet doesn't fit a lot of them.
      • Ambitious, greedy and ruthless go a long way toward filling my definition of evil.

        Then I would say you have a rather weak definition of evil. Ambition, greed, or ruthlessness do not necessarily involve a total lack of interest in the suffering or anguish one's actions cause. They do not necessarily make one more likely to cheat, steal, break promises, or worse. There are people in the business world who will tell you a lie that will wipe out your life's savings, and they won't even blink. Some will even take pride in having been so clever, and brag about it to their friends. Those are the people I would call evil.

        Aside from the percentage of bad apples that exists in every field, I don't think VCs are evil in that sense. They don't want you to fail. They are, if not friends or even necessarily allies, not adversaries in a zero-sum game. Their ambition and greed are what - along with your own ambition and greed - what brought you together, and their ruthlessness can work for you as well as against you. They might not be the best of company, but calling them "evil" robs the word of meaning. If that's evil, how little must someone do for you to consider them good?

  • I would really love to hear from Philip Greenspun and his experience with ArsDigita. [arsdigita.com]

    I think Venture Capitalists, with this behavior, will f*ck themselves out of a job. Check out the SBA [sba.gov] They give very favorable terms. --BlueRain
  • by John Kelvie ( 515281 ) on Saturday September 01, 2001 @12:09PM (#2243309)
    A few thoughts on VCs, Engineers, and Managements:

    1) VCs, in general, are not very trustworthy. They are in business, they are looking to make money, and they are not afraid to step on some toes to get it. I don't think there is anything particularly shocking about this, but it is something to keep in mind when dealing with them.

    2) "Your ideas, Your work, Their company" - let's not forget their money. As the author of this article himself points out, it is very difficult to raise money. The fact that VCs give people astronomical amounts of money and ask for something in return (i.e. a share of the company and a voice in how it is run to protect their investment) is not unreasonable.

    3) VCs, like most people, and especially those controlling large amounts of money, tend to have a herd mentality. Do they take more risk than the average investor? Absolutely. Looking at the number of ideas that have been funded in the last few years and then turning and blaming vcs for not funding "enough" risky ideas to me seems pretty silly.

    4) Good management is critical to the success of a company. This may be anathema to many of the people who frequent this site(or at least this topic), but one of the mantra's of VCs is "management, management, management." Now, I am an engineer, I started a company, but I am more than willing to admit that:

    A) I am not well suited to managing it
    B) If I don't find someone who is, the company will have real difficulty succeeding.

    Now, obviously there are many examples of companies that have been run into the ground by bad management. Does this mean that management is evil or (perhaps even more absurd) unnecessary? No. Good management is critical to a company's success, just as bad management is critical to its failure. This may not be pleasing to our egos as engineers, and there may be exceptions to this, but having worked with some good managers and some bad ones, it seems to me to be generally true.

    5) Engineers are often not good managers. Let's be honest here. Sometimes the guy from Wharton is a really lousy manager. But just as often (I would argure more often) the brilliant programmer is also a really lousy manager. Being a good manager is an hard-to-acquire skill, in some ways as nuanced and difficult to achieve as technical proficiency. Just as a cs degree does not assure programming competence, neither does an MBA assure management competence.

    6) In general, I found this article to be whiny and annoying. Yes, I don't like VCs either. Many of them are "sharks"(as I was told before I got involved with them, and have generally found to be true). They are not necessarily (and I would argure are rarely) the best businessmen, the best partners, or the best engineers. They are though the guys with the money. And if your talking to them, you are most likely the guy who needs. Now, the historical balance of power in relationships between those having money and those asking for it does not need to be summarized here, except to say that one of them (I'll give the author of the article a hint, not the one without it) holds a significantly stronger position.

    What would be nice is a more practical-minded article about engineers dealing with VCs(because there are many useful things to keep in mind, and are things to watch out for, even if you don't have an axe to grind), rather than the sort of flailing complaints that we have received here.

    John
  • I was part of a start-up that managed to avoid VC by having a founder who was smart enough to know why it should be avoided. This was a very good article, I thought.

    However, there's a big missing piece here. The reality is that the money goes to those that risk the most, not those that work the hardest (or have the best ideas or IP, etc.). That's just the way it works.

    Yes, the engineering is a critical element to success, and it would be nice if the engineers got a bigger share. But start-ups are extremely risky (look at the failure rates), and the initial investors are putting up a huge amount of money and rolling the dice. Most engineers will lose a whole lot less than the investors if the company goes under.

  • by Brian Stretch ( 5304 ) on Saturday September 01, 2001 @02:18PM (#2243587)
    I'm convinced that most startups don't need venture captial. What they do need is a core crew of engineers and (later on) a skeleton crew of support staff (ie, people who will find paying customers) who are willing and able to take equity instead of cash until paying customers are found. When and if those paying customers are found, profits not reinvested in the company are paid out as dividends to the shareholders. Add angel investment into the mix as appropriate. Don't even consider going public (not worth the overhead and distraction, especially now that the IPO bubble has gone kaboom), but if the stockholders (mostly engineers, if you've managed to do this right) want to sell out to a Big Company that offers the appropriate pile of lucre, that works too. (A local crew did this, selling out to Cisco for $millions. Neat trick.)

    Benefits:
    1) Paying out cash to employees is inefficient, since the marginal tax rate in America is roughly 50% (28% Federal income + 12.4% SocSec + 2.9% Mediscare + the state income tax that pays for the roads/schools/fire/police that people actually use). This is known as "soaking the rich", aka slavery, aka how the Democratic Party has adapted from the pre-Civil-War era to the Information Age. Equity doesn't get taxed until it's sold, and the long term capital gains tax is 20%. Which is why the 1993 Federal income tax hike didn't kill the economy, people just switched to financing with stock instead of cash, which had the unfortunate side effect of making it easy to fund things like pets.com.

    2) Very little corporate overhead, very simple. Minimizes contacts with lawyers, accountants, and other such creatures that add friction to the economy.

    Problems:
    1) The U.S. Federal Tax Code is rigged to royally screw companies that pay out dividends. Corporate profits are taxed once as income, and the stockholders are taxed again on what's left of that income when they receive their dividends at the stockholders Federal income tax rate. So $1,000 in gross profits becomes $650 in net profits becomes ~$450. Possible workaround: profit-sharing checks for the employees, but that doesn't help angel investors if you have them. Killing the double taxation of dividends would make more sense but it would never get through the Senate.

    2) Surviving on little to no income while the company gets off the ground. Even without dependents, just paying for housing is a bitch, and geeks tend to congregate in territories with the looniest real estate valuations. (In the Midwest, that means my home city of Ann Arbor, Michigan, home of the University of Michigan, with housing valuations second only to Chicago.) The reason valuations are so high is that the Federal Mortgage Interest Deduction encourages real estate inflation, and the average voter is too stupid to realize that giving up their precious deductions (aka social engineering) and switching to the Flat Income Tax [flattax.gov] plan would leave them at least as well off. Local zoning regs that make high-density development impossible do the rest (thus why we have yuppie lofts in renovated decrepit downtown buildings renting for $big bucks rather than highrises).

    3) Stock is much riskier than cash for workers. Nice upside when it works, though.

    4) This doesn't work for companies with heavy capital expenses. Fortunately, many/most geek companies don't fall into this category.

    Fair warning: IANA(lawyer | accountant), just a geek who follows finance and politics enough to be dangerous.
    • 2) Surviving on little to no income while the company gets off the ground. Even without dependents, just paying for housing is a bitch, and geeks tend to congregate in territories with the looniest real estate valuations. (In the Midwest, that means my home city of Ann Arbor, Michigan, home of the University of Michigan, with housing valuations second only to Chicago.) The reason valuations are so high is that the Federal Mortgage Interest Deduction encourages real estate inflation, and the average voter is too stupid to realize that giving up their precious deductions (aka social engineering) and switching to the Flat Income Tax [flattax.gov] plan would leave them at least as well off. Local zoning regs that make high-density development impossible do the rest (thus why we have yuppie lofts in renovated decrepit downtown buildings
      renting for $big bucks rather than highrises).


      Ah, the Flattax, which gives breaks to companies (deductablity of expenses) and denies that to individuals. An individual expenses (housing, education aka human capital, car, etc.) are not deductable, despite them being used in teh exact same matter as a company's, i.e. produce revenue aka income.

      Of course, what is income for a Flattax - will my company's (deductable to them) purchase of a car for my use be income to me? How about housing they provide? Maybe I'd be better of becoming Me, Inc. and selling my product to a company to produce revenue, from which I deduct my expense (house, car, commute, etc.) Or, my company provides those things and I take a lower salaray (income0 to reduce my tax while providing my employeer with deductions (expenses).

      You also forgot one definition:
      Objectivist - someone who wants teh government out of their busienss, until a better competitor comes along and beats them, at which point they run to big brother (aka government) and cry foul and whine until it steps in (aka Microsoft vs everyone).
      • You just proved my point. The Flat Tax plan substitutes a five-figure personal deduction and lower flat rate for all those separate deductions. Company perks (company cars, etc) are taxed as income. In effect, the Flat Tax makes a well-padded guess on living expenses, calls that the personal deduction, and taxes anything above that at 17%. You don't have to get Big Brother's approval to spend your money the way you want!

        Corporate capital investments are fully deductable first-year rather than depreciated and any unused deductions are carried forward. That ends the disincentive to invest in productivity-enhancing capital equipment, and I guarantee the companies that build that equipment (say, PC vendors) will appreciate it, even though they'll be paying more in taxes because they're doing more business.
        • All it does is shift deductions to corporations (who still get itemized expense deductions)from the individual (who'll now see medical benefits, parking, etc as taxable income). For example, Why should a car be deductable to a company if it buys it to move peopel and generate income, but not to an individual who uses it to generate income as well (to commute)?

          All teh falt tax will do is cause people to dream up new ways to reclassify income as an expense (such as incorporating and being a firm of one, perhaps. Why should a company get expense carry forward, but an individual gets one flat deduction, and if his/her income is less, no carry forward.

          All a flat tax is is a new way for "Big Brother" to decide who benefits from the tax code.
          • Well, for starters, companies don't get personal and dependent deductions. If a family of four gets to tax deduct their first $35K of income, are they really going to care that they don't have a separate deduction for their health insurance and mortgage? Like I said, with the Flat Tax, there's no social engineering. And it ends the massive tax discrimination against renters.

            Companies are just tax collectors, btw. Their customers pay their taxes. It's just easier for politicians to tax an abstract accounting construct than a flesh-and-blood individual. All the same, having the same 17% rate for individuals and corporations minimizes the risks of accounting trickery.

            And people already use sole proprieterships for exactly what you describe. The current 40,000 page tax code is abused almost as much as it is abusive. With the Flat Tax, auditing is simpler, compliance is easy (not to mention possible), and with the lower tax rate there's far less incentive to cheat. And you get to skip the TurboTax tax. Companies won't need platoons of accountants and tax attorneys to figure out how to comply with the tax (some, but far less), and we'd remove the primary source of corruption in Washington: special interest buying (and Congressional selling) of tax loopholes.
            • Well, for starters, companies don't get personal and dependent deductions. If a family of four gets to tax deduct their first $35K of income, are they really going to care that they don't have a separate deduction for their health insurance and mortgage? Like I said, with the Flat Tax, there's no social engineering. And it ends the massive tax discrimination against renters.

              Actually, there's still social engineering, you've just changed the goals. For example, you now shift much of the tax burden to individuals directly, rather than hiding it in higher costs of goods. You also now value corporate spending more than individual, because you give them deductions you deny individuals. Companies get expenses and capital deductions, which individuals do not. In fact, they lose the biggest capital deduction they have - the home mortgage. You've created a two tier system that now discriminates greatly against individuals.

              Companies are just tax collectors, btw. Their customers pay their taxes. It's just easier for politicians to tax an abstract accounting construct than a flesh-and-blood individual. All the same, having the same 17% rate for individuals and corporations minimizes the risks of accounting trickery.

              Sure, but I decide by my purchasing power which taxes to pay. All a flat tax will do is change the accounting trickery to accomplish the same thing we do today - minimize our tax burden. As an individual, I'd be looking at ways to create a corporate shell to hide revenue and maximize expenses. And if you don't think companies will get special provisons that create new types of 'expenses" and "capital expenditures" passed by Congress, I'd ask why do you think 200+ years of political chicanery will disappear overnight? More importantly, why do you think anyone in Congress would support it if they didn't think they could still serve "their" special interests?
    • by Anonymous Coward
      It is true that it is possible to start and run a company without raising venture capital.

      The problems you list are the reasons most people don't do it, namely (2), (3) and (4).

      Problem 2, restated, is "people generally need incomes, which pre-revenue businesses obviously cannot provide without being capitalized."

      Problem 3, restated, is "stock in pre-revenue companies is a risky investment"

      Problem 4, restated, is "pre-revenue companies often require equipment/plant [economic definition of CAPITAL, not 'money'] to get to break-even cash flow"

      Congratulations, you've basically stated the need for venture capital.

      Your credibility is further undermined by making statements like

      1. "a skeleton crew of support staff (ie, people who will find paying customers)". Everyone position outside engineering, even in high-tech firms, requires a different skill set. If you think finding the first set of paying customers for a unique, new product is easy, you obviously haven't actually tried doing it.

      2. "Minimizes contacts with lawyers, accountants, and other such creatures that add friction to the economy" Again, these people provide specialized services that are necessary overhead to having a largely functioning free market. For lessons on what happens when law is arbitrary or unreliable, accounting rules are vague or unenforced, just study Russia, China, Korea, even Japan, ... and decide whether they provide the type of rules by which you'd like to play.

      I am actually an engineer / entreprenuer, and get annoyed when engineers with an arrogantly upturned nose for all they choose not to pursue attempt to lecture on how things ought to be. I mean really, you damage my credibility along with yours.
  • It's not Unfair (Score:4, Insightful)

    by Bob Uhl ( 30977 ) <eadmund42.gmail@com> on Saturday September 01, 2001 @03:23PM (#2243693) Homepage
    Although it seems unfair that the engineers have such a small share in the company stockwise, what is their share in the company itself? Obviously they've brought talent and intellectual property to the table. They've certainly brought some amount of money to the table as well. But how much money have the venture capitalists brought to the table? The talent's being paid for, so let's ignore it for a moment. The intellectual property might be worth several millions; the engineers maybe raised one or two million. The VCs raised $100 million. So in fairness the engineers wouldn't even have a 10% stake in the company--anything more than that which they have is a kindness.

    Now, I'm sure that in the Real World it's more often that the IP would be worth $150 million, and the engineers brought in maybe $5 million, and the VCs only pitched in $50 million, and the engineers end up with a 15% share of something they conributed 75% of.

    It takes money to make money. You might have a great idea, but generally great ideas need financing. I might make the world's greatest cheesecake, but without the hundreds of thousands of dollars needed to buy a restaraunt, outfit it properly, fill the pantries and larders, hire and train employees, purchase advertising, invite the media &c. my idea is worth very little indeed. Someone needs to finance me--and he's taking a huge risk. That costs me.

    The best solution is to finance your activities yourself. If you cannot, sell the rights to your IP to others. You lose the opportunity to become the leader and known name in that market (which one needs to survive after the patents expire), but you turn your idea into cash. You might then use this cash to fund another idea, and this manner become the market leader. When the patent expires, it doesn't matter, because everyone knows and trusts the Smith family of widgets. And then you'll have a profitable corporation.

    Remember, though, that it's more lucrative to have a 1% share of a $100 million concern than it is a 10% of a $5 million concern.

    • Although it seems unfair that the farmers get so little of their rice yield, what is their share in the land itself? Obviously they've brought labor to they table, but think about how much land the feudal lord brought to the table! The farmer's labor is being paid for, so let's ignore it for a moment. The rice may be worth several mil; the farmers brought along their cardboard box homes. The feudal lords brought a shitload of land. So in fairness, the farmers wouldn't even have a 10% stake in the rice yield-- anything more than that which they have is a kindness.

      I imagine in the Real World, it's more often that the rice yield would be worth $150 million, and that the farmers brought in maybe $5 million, and the feudal lords only pitched in $50 million worth of land, and the farmers end up with a 15% share of something they did 75% of the work for.

      But Hey! It takes money to make money. You might be the best farm worker in the world, but if you don't have land, you're shit out of luck. You've got to find a Lord who will let you farm his land. Remember, if a lord is going to let you farm his land, he's taking a huge risk. That costs him, you know? You should consider you lucky he lets you walk on it at all. Supply and demand, you know? Supply and demand.

      The best solution is to get your own land. Despite the aforementioned difficulty of making money with money, and those terrible risks, and the poor deranged farmers, the best solution is to become a feudal lord yourself. (Think of the poor, noble, nobles.) So go get your own land. If you can't, discover a new country, and see if you can get some Lord to reward you for discovering it. When you get land, you can take advantage of other farm workers, and get rich!

      If you're content to be a farmer though for some reason, you should look for a lord who has good soil. It's better to have a 1% share in a great crop, than to have a 10% share of a bad one.

      I haven't found a new country yet, but I still think about it. I keep looking in various places, but all I see are more feudal lords in every direction. One day, I'll find a new place, and be just like my Noble Lord. Until then, I'm going to vote Feudalist, so that when my day comes, there won't be any of those crazy laws that those damn peasants (well, I'm a peasant, but just for now- one day I'll be a Lord!) keep proposing. If I let them steal from my Lord, when MY turn as Lord comes up, they'll steal from me!

  • The first 90% of the article is dead on. VC's don't get technology very well and they are definitely vulnerable to herd mentality. (There are fashions in the VC world just like having the latest cell phone or the hottest computer.)

    Where he goes wrong though is when he says that it shouldn't work that way and that somehow the investors are jerks and want all these things to fail. Let's examine the loss state (out of business) for both parties in the transaction.

    VCs

    A VC takes in money from private investors, distributes it out to these startups, hopes that they work and that he can get his money back out. His job is to make rich people 20-40% a year and that doesn't happen till the money comes back out.

    When a company is going in the shitter, the LAST thing he wants to do is shut it down, because then he has to recognize the loss on his books (and explain it to his investors). Instead he puts more money in (sometimes) to keep it alive. However now he's really puckered up because the stakes have gotten higher and the risks are also known to be higher. He is like a First World bank lending more and more money to the Third World to enable them to pay the interest on their original loans. Also, he feels that the company is in the shitter for a reason, so when he puts more money in he often dictates management and strategy changes in a desperate attempt to "fix" whatever got them where they are now. Taking control and changing strategies is an alternative to DEATH for the company--many times death is what happens instead. Which is better? Depends.

    So in the worst case (which happens a lot), the company finally does die at some point after a few millions. The VC takes the phone calls from his investors and explains how the next one is going to make it all up and how they are all high-risk and only one or two have to hit to get the returns they are looking for. If those one or two don't hit, the investors' billions are GONE. And from a personal perspective, if his fund returns suck, his career is DONE. He can go work at Starbucks because his days of managing rich people's money are over.

    Engineers/Technologists

    - Have an idea.
    - Get Millions of dollars in exchange for a piece of paper called a stock certificate.
    - Sit on Aeron chairs and work on the technology. Maybe it gets done and maybe it doesn't.
    - Earn a salary the whole time.

    If it goes in the toilet, give them another piece of paper (and perhaps voting control of the company) and you get to rinse/repeat.

    If they don't give you more money, shut the company down and get another job somewhere in a couple weeks or a month. Big deal.

    The VCs are the ones at risk in these deals. I suppose there could be a couple of examples where VCs took control on a late round, booted the original inventors and made it huge, but I would challenge someone to actually come up with a NAME of one. I think it's a myth.

    I would hate to be a VC these days...

    Crash
  • Zero Sum Game (Score:2, Interesting)

    by crashdavis ( 69986 )
    I agree with the comments above, but there doesn't seem to be an understanding of WHY VCs are so vulture-like.

    It is really very simple. There is no such thing as a "win-win". Or rather there is no reason why a win-win has to be 50-50.

    When dollars are on the line, it is a zero sum game. What the VC gets, you don't get. What you get, he doesn't get. What he doesn't get, his investors don't get.

    If you were an investor in a VC fund, you would want that guy chiseling every percent he could from the companies he funded. As the entrepreneur, you want to chisel every percent for yourself. Both sides are justifiable and equivalent.

    It's nothing personal.
    • You are incorrect in one aspect - if I were investing in a VC fund I would want a fund that sought a global maximum of return from companies funded, not a local maximum as you describe.

      As I've seen from companies I've been in, what really matters most is not IP or existing code assets, but in fact the employess working on them. No matter how good the IP you mioght have, it is worthless without a team working well with each other to bring an idea to fruitful realilty.

      By attempting to pay the people that actually make things real less, you are more likley to loose some employess and thus reduce the effectiveness of the team. You then reduce output and in the end the returns from the company.

      More than that though, if you seek to make the employees with the good ideas and a knack for execution much better off, then later (after the company has produced) these same people can feel free enough to go off and start thier own companies with other good ideas, producing even more companies to reap profit from.

      I see it as the difference between slash 'n burn farming vs. real cultivation.
  • missing the point... (Score:2, Interesting)

    by qasama ( 235880 )
    This article entirely misses the point of VC. VC isn't out for you or your company, they are out for themselves, and if that means they leave a body count behind, it's just part of the business.

    the VC's goal in investing is increase his money immensely. Just like a lot of folks had as a goal when they dumped untold millions on Power Ball or the Big Game. Start Ups are VC's version of the lottery, and just like when I lost powerball, both toss the ticket when it's clear it's a looser. (and since these are folks who if they loose a few dollars aren't going to miss a meal, it's little emotional investment for them to toss you and your company)

    Just like a loan shark, expect unreasonable demands, exhorbitant interest rates, and an indifference to anything but getting their money back and the expected rate of return... since VC is a little more than legal loan sharking.

    As a founder it's in your best interest to be very very clear on this before you sell your soul to the devil. My suggestion for an education is go look up the reference to Mark Twain's Republic of Gonder... walking in assuming these people are interested in anything more than their money is just poor thinking.
    • Overall, you are exactly right. They are about wealth maximization.

      Where you are wrong is in calling it "their" money. VC funds have gotten contributions from tens or hundreds of other people out there to make up their funds. Their own money is almost always a very small (1%) proportion.

      Crash
  • Tredennick & Shimamoto wrote in IEEE Spectrum [ieee.org]:
    Engineers should band together to form venture funds. Start-ups need more angel funding and they need better-organized angel funding. I'd like to see a dozen or so $100 million venture funds run by nerds. These nerd-based venture firms would work at the seed round and at the next funding round (called the A round). They provide initial funding and advice and they, with the benefit of professional financial advice, represent their start-ups in future funding negotiations with traditional venture firms.

    This is basically what my firm, Alacrity Ventures, does. We started after the sale of Consensus Development (who wrote the reference implementations of SSL 3.0 and TLS 1.0) to Certicom. We are not a $100M fund -- only the personal investments of the founders. In over two and a half years of investing, we have yet to have a single company go under, which in these troubled times I believe to be a spectacular record.

    However, after investing in over a dozen companies, I have discovered that there are some real reasons why VC's behave the way they do. We too have fallen into some of the behaviors that are described in the article, as much as we resent and dislike them.

    It turns out that there are some very interesting economic, sociological, and psychologal reasons why the VCs fill a particular economic niche and why it very difficult to find alternatives. These reasons range from how many startups a person can be really involved in at a time, the economic incentives of associates to become partners, the pressures of repeatedly raising money for the next fund from publically accountable entities, the 'sharks' at the mezzanine rounds, etc.

    As an example of one of these factors: It is common wisdom VC associate can't be meaningfully involved as an advisor in in more then 5 to 7 companies. I found this to be true in my own small company. Yet it is also true that 1 in 5 companies "break even" and 1 in 20 companies "makes the fund", i.e. pays off enough to pay for the fund. Even choosing better companies to start with doesn't necessarily improve the odds much as there are still significant "random" factors, especially if you invest early. Thus there are significant pressures on the VC associate to attempt to try to be involved with more then 5 to 7 companies, as it based on how he does with these companies that he will earn, or not earn, a right to be a partner when the next round is raised. This contributes to why VC associates often are spread far too thin, and why they don't want to invest "only" a couple of hundred thousand. Also, VC firms only make management fees on money after it is spent, and with the limits of how many people are required to supervise the investments they want to invest millions in each or they'd have to manage too many companies to use up all the money their fund has allocated. Another factor making it difficult is that you can't just invest in early rounds -- you have to participate all the way through else you risk a subsequent series C-D investor or "mezzanine" investor devalueing your participation. As a for instance, we invested significantly in a Series A round of a company that is doing reasonably well. However, they do need to raise more money now in a Series D as it looks like it will be a while before they can IPO given current market conditions. We can't afford to participate at this level (we only invest at early levels), and because of the funding climate, the lead of the Series D investor is converting all of us Series A investors to common stock. If we rally the series A investors to reject this (which is a right we have) it doesn't do us any good as it might cause the company to go bankrupt. So we have to accept it. So it isn't just the founders and engineers that are getting screwed, but also the early investors. If we were a large VC fund, we could participate all the way through and prevent such an occurrence, but then we'd have the pressure that the large funds have to invest only in larger chunks and we'd probably not have invested in this firm in the first place. There are many other reasons why VC behave the way they do that I've discovered over the last few years that are consequences of much more complex things then what this article describes. There are probably more that I haven't discovered yet. Yet like any engineer, I do have some ideas on how things might be done differently, but it requires tweaking some of the VC parameters in radical ways -- it is not a case where tweaking one variable will transform the system, it requires a major redesign of a new system. And like any new system, it will be difficult to test so it will be quite risky.
    Here's a third suggestion. I'd like to see an engineer-run start-up whose goal is to raise $100 million in a public offering. The money becomes a fund for sponsoring start-ups. It's a public venture firm and it sells shares to raise money. Investing in start-ups wouldn't be exclusively for rich people; anyone who could buy stock could be investing in start-ups. Ideally, the public VC firm would be managed and run by nerds with empathy for nerds in the start-ups.
    This is what CMGI and a couple of other companies did, and they are failing spectacularly. There is a real price for public funding, one of which is that you are constantly beholden to sweet talk to the investment community every quarter, and they don't want to talk to an engineer CEO, they want to talk to someone who speaks their language.

    It might still be possible -- we done a lot of thinking about it at Alacrity Ventures, but it is unlikely we'd use a public stock model. Instead, something that is more like a mutal investment fund might be possible.

    If anyone is interested in talking about the topic of "Why VCs Behave the Way They Do" further, or on ways to create a different kind of VC investment firm, I'd be glad to talk to them.

    -- Christopher Allen
    Alacrity Ventures
    www.alacrityventures.com

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