Lessons from a Garage

Location Cubed

I live in Falmouth, Maine.  Falmouth is about 3500 highway miles from Silicon Valley.  I've heard from people in the area that raising Venture Capital in Maine is very difficult.  In fact, I read an article which put Maine squarely in the bottom 5 states for VC raised during 2006.  I haven't tried to raise VC here, but I can see it would be difficult.  Why?

My company used to be in Santa Cruz.  Santa Cruz is about 25 highway miles from Silicon Valley.  A short trip over a pretty mountain range.  Despite that fact, most investors that I spoke with expressed grave concern about being located so far away -- in Santa Cruz.  To them, Maine doesn't even exist.

If I was going to start another VC funded company, here's what I'd do.

I'd rent the crappiest 300 square feet available in Mountain View, California.  The crappier, the better.  I have a strange fantasy about running a startup company powered by a Honda generator.  In fact, I think I would find someone who would rent me their driveway.   Then, I'd have a POD delivered, and hook it up to the generator. If the neighbors or local authorities complained, I'd move it somewhere else.

Whatever you do, don't waste money on office furniture - it really doesn't matter.  Don't let anyone convince you that "customers" might ever want to see anything shiny or new. Go to a used office furniture store (there's an awesome one in San Jose) and buy some tables and chairs -- you're going to need some space heaters too.  Even if you're not in a POD, cheap office space has crappy heat.  Just believe me.

If you don't want to do the Pod thing, then find a floundering retail business and offer to rent a back room.

Also, don't buy a phone system.  Get really nice cell phones for everyone.  Use a family plan, where everyone can share minutes.

You're going to need a pretty good Internet connection -- so you might have to negotiate with a neighbor to use their WIFI.

If all goes according to plan, you'll get several VC brownie points.  First, you get the Mountain View brownie point.  They just can't argue with Mountain View.  Second, you get a brownie point for having employees that believe in the plan -- why else would they deal with such squaller?  Finally, you're obviously a cheap bastard -- they'll like that a lot.  You get several bonus points for that.

Look for Lead Investors

When you look for investors, look for lead investors.  Ignore the rest.

For example, there once was this man from Los Gatos...

"Barry, this is going to be huge! This is going to make you FILTHY FREAKIN' RICH! Not only am I going to give you the money, Barry -- but I want YOU to promise me that you'll take it!  Seriously!  This is un-#&#ing believable stuff.  Wow. A $10M pre-money valuation?  I have no problem with that whatsoever.  Opportunities like this don't come along every day!  Wow.  Thank you soooo much!  I'm so glad that you came to see me."

Did this really happen?  Heck ya!  More than once, even.  Was he lying?  Not really.  Did I ever see any money from the guy?  Not a single penny!

Huh?  Wha..?

It turned out that this guy was willing to invest as long as I found someone else to lead the investment.  Then, once I found a lead investor, this guy would be willing to bet his money as well.

Keep in mind that it takes a lot of work for your typical lead investor to make a sound yes/no decision about an investment.  If they are serious, this decision requires a huge amount of market analysis, reference checks and plenty of good 'ole intuition.  They also need to see a match with the criteria for their portfolio, and see some ways that they can add value.

Lead investors do a lot of work. Follow-on investors don't do a lot of work -- they just look for good opportunities to invest alongside big names.

My advice is to simply ignore everyone who isn't going to lead the investment.  An exception would be if the investor is part of a consortium of investors, headed by a lead investor that you already met with.  Then, yeah, take the meeting.

Ask investors up front, even before you schedule the meeting, "Is this investment the type that you would typically lead?"   If not, politely tell them to get lost.

Also keep in mind that lead investors typically want to bankroll the whole thing -- especially early rounds led by VCs.  There are exceptions though -- but once an investor has decided it's a good bet, he/she will want to gamble the full round.

So you might not want to make too many promises to follow-on investors.

This guy, the guy in my example, wasn't actually a bad guy at all.  The bad guys are the blatant tire kickers. I usually have a pretty cool demo, so I found plenty of tire kickers who were eager to see what we were doing.  Tire kickers have no intention of leading the investment, and seldom have any interest in participating at all.  They're just curious. They like to do "research".  And, they have the misguided belief that they are helping you out by taking the meeting in the first place.

So, do your homework. Find potential investors who actually invest in your market. Ask them in advance, "is this the type of thing that you might lead an investment in"?  And if it turns out that they were just tire kickers after all, you have every right to go postal in their conference room. As an entrepreneur, every minute matters.

One Billion Dollars or Bust

VCs are like farm animals. They herd -- you seldom see them individually.  They chew things, or drink coffee, or both.  They look at you a lot. They can be really slow.  Often times they don't react to spoken human language.  They don't return phone calls.  They don't know what a fax is.  If you stick your tongue out at one and make a really funny face, they just stare.  When they type e-mail messages, it seems that they don't have opposing thumbs. And finally, when they step on your foot, it really hurts.  Especially if you get stepped on by a super-huge one.

Of course, I'm joking. There is an important difference between VCs and farm animals. The VCs are all thinking about billions of dollars. The farm animals on the other hand, are probably only thinking about millions of dollars. Who knows, maybe I'm wrong.  Maybe cows are secretly crafting some new search engine technology, and if so, I guess I'd have to give them a lot of credit for that, actually.

Let's face facts.  VCs are smart.  There are few things more exciting than a billion dollars! And VCs know that for sure.

The deal is this; VCs would much rather have a single billion dollar success than 10, one hundred million dollar successes.  I don't blame them for that, it makes sense for many reasons.  Most importantly, it's less work.  It takes a lot of energy to work with startup companies.  Each startup has it's own challenges.  This means e-mails,  board meetings, and talking stuff over with the herd.  Sometimes, especially during the "post investment honeymoon", entrepreneurs actually want the VC to do things.  This means even more work.

There are other ways of looking at this too.  Let's say you had 10 companies, and you knew you had 1 in 10 odds that one of them would end up at $1B.  Would you allow any of them to sell out at $100M? Definitely not.  What if you sold the golden goose, back when it was just a goose?  You'd be kicking yourself all the way to the country club.

So, this is all just barnyard math -- pretty straightforward, no big deal, right?

Well, lets think about you for a while.  You, unlike a VC, might be thinking like a goat.  You just want a few million dollars.  Ma-aa-aa... Maybe 10 million dollars.  Maa-aa-aa-aa...

How does this play out?  If you owned, let's say, 20% of your company, and you wanted 10 million dollars -- then you'd be happy with a $50M company.  Here's what actually happens.  At the point that your equity is worth 10 million dollars, your investors are going to bet your 10 million dollars for you. You have no choice.  You might have a 1 in 10 shot of a payout, and due to follow-on rounds of investment, you won't make 10 times as much.  You'll make maybe 5 times as much depending on how things go.

I've heard that there are ways to tweak this scenario.  If, for example, you can convince your investors that the company has peaked at $50M, and that replacing YOU isn't going to make much of a difference, then perhaps you have a shot at selling out.  That's a hard card to play though -- it has serious potential to backfire.  If they can find any willing CEO to say that the company hasn't peaked, you're dead meat.

There are tons of other factors involved in your probability of success.  Maybe you aren't a goat. Maybe you can already taste that $1B valuation.  Go for it.

By the way, if you aren't familiar with the term, "Qualified Purchaser", it's a good one to look up.  Companies typically require that their investors are qualified -- meaning that they are rich enough to be unlikely to ask for their money back in a case of hardship.  A $5M liquid net worth is usually the minimum requirement for qualified status.

If you are an entrepreneur who has invested his/her own money or time in your company, and you are not a Qualified Purchaser --  you might be the only unqualified investor in the deal.  Just remember that you are playing the odds in a high stakes game, and you don't have control over the bets.

Key points:

1. Learn the Venture Capital game. Don't take my word for it.  Ask people.
2. Understand the motivations of the other players.
3. Just because you're all in the same boat, don't expect that other people have your best interests in mind. Other people have other boats.
4. Remember; One Billion Dollars or Bust.

Now go eat a boot or something.

How to Start a Software Company -- why listen to me?

I started a couple of software companies.  While neither of these companies has succeeded with a big pay-off (IPO or Acquisition) -- that doesn't dampen my enthusiasm for dishing out gobs of entrepreneurial advice.

So really, what makes me qualified?  For one thing, I don't have an MBA. Indeed you might find it inspirational that I, Barry Spencer, a computer programmer, was able to overcome my caveman social skills and limited education to actually start high-tech companies in the first place. Of course I am thankful to hundreds of people who helped me -- but realize that those people weren't there in the beginning.  In the beginning I was just a guy with a coffee cup, a big idea,and a 56K modem. A year later I had my picture in Fortune Magazine. What a great country!

It's also significant that I was able to keep my latest startup, Reality Fusion, afloat for an amazing 9 years. In fact, although the name changed a few times, the company is still in business today.  I kept the investors interested, the employees commited, the team productive, and I did what I had to to get to the next milestone. And I did it over and over again.

For me, failure is scary.  I've seen other companies fail.  It's ugly too. The moneys gone, the employees leave, the investors write it off, the technology gets buried, the furniture gets taken away, the locks get changed and suddenly your baby, www.yourbaby.com, returns a 404.

Raising money for Reality Fusion wasn't a one time deal. It turns out that you can't raise money for a 9 year operational plan all-at-once unless you're Dean Kamen. That meant the money had to keep coming. And unfortunately, most of the money didn't come from customers.  It came from investors.  That means an ongoing fund raising process.  That means a crap-load of work. A crap-load of selling. A crap-load of power-points. A crap-load of financials. A crap-load of business plans and a crap-load of CEOs. In fact, I've been to hundreds of investor meetings with a total of 6 different (myself included) CEOs at the helm. I've seen a few things that work, and many many things that don't

Investor meetings are like skits. Everyone has their role. I was sometimes relegated to "technical geek" and fly-on-the-wall, aka "geek on the wall"  I admit it, I was also a "yes man"... which was important. After all, you don't want your CEO to go limp in the middle of the pitch.

I give myself major kudos for being one of the mainstays (or perhaps even the mainstay) that kept the company going.

My involvement in Reality Fusion went 404 after unnamed investors and colleagues attempted to formalize my role as Glutton-For-Punishment. So, I logged out, moved on, and took the important lessons with me.

Someday I'll document the amazing story of my labor of love, Reality Fusion. But first, I'll focus on the lessons. Hopefully these words will help other entrepreneurs avoid the bumps and bruises I sustained along the way.