VC Perspectives

We’re really happy to announce that Johan Brenner has joined our team. Johan is an experienced entrepreneur and investor in technology and growth companies.

Recently, he worked as a General Partner at Balderton Capital (previously Benchmark Europe) and was involved with Nordic and European investments such as LiveBookings, Habbo Hotel, Rebtel, Zopa and others. Prior to joining Balderton, Johan has been involved in building several successful companies as an entrepreneur, investor and board member, such as Jobline, E*Trade Nordic, DIBS and Tradera.

A few week backs I spent some time in Boston and New York with fellow Nordic VC colleagues meeting US investors, VCs, entrepreneurs and academia. It as a great week and here are some thoughts and remarks from the trip.

The state of VC

In general, the views on VC is pretty pessimistic. As in Europe, US investors and VCs are debating the poor returns from VC during the last 10 years: on average, VC returns have been zero or worse.

There are several explanations to the situation, the most common one being that there’s just been too much money injected into the VC market. Many VC firms grew in fund size and many average VC firms received lots of capital as well (the total amount of yearly VC investing doubled or tripled from mid-90s to mid-00), while at the same time the IPO-market has been much worse compared to the boom years.

Most agree on that what will happen is a healthy readjustment with fewer, smaller funds & teams and total VC investment levels down to what they used to be before the millennium.

There’s also self-criticism on behalf of how the VCs have been investing, throwing money at companies to grow (too quickly) and get a quick exit. Now, the VCs are now even talking about finding capital efficient companies.

Capital efficiency

Maybe not something you would expect to hear from US VCs; it is often said that European VCs are not providing enough capital for the companies early enough but there’s definitely much more focus on investing in capital efficient companies. Or as Axel Bichara at Atlas Ventures put it: Prove-Build-Scale.

The LP (VC investor) perspective

The classic VC approach is to have a few home runs providing the returns and cover for the bad ones. However, this approach has meant high volatility (how much the returns fluctuate) with a few good exits creating almost all positive returns. So when the exits weren’t as many and as big as before and the failures increased, it became difficult to get consistent, good returns. From an investor perspective, this creates a problem because they want consistent, good returns. As a result, LPs are more and more appreciating stable returns and fewer failures which few VC firms have provided, alas LPs’ appetite for VC has gone down.

Dare to invest early

I was surprised to find that most of the VC firms we met (large, top-tier funds) still are doing early-stage investments, even seed investments. The problem is normally that when you have a billion dollar fund, it is hard to justify small, early investments because of time and resource aspects - it is more efficient to invest large pools of money at the same time. So it was very encouraging that the VCs are still regarding it important to continue to do early deals as well.

Terms

A typical A-round is 1x participating liquidation preference where the VC invests x dollars on x pre-money valuation. This means that the VC owns 50% after the investment, the founders 30% and 20% is usually allocated for options. This is quite different to the Nordics where VCs typically would own less after the first financing round and where much lower amounts of shares are allocated to options (partly due to tax issues of course).

Here’s a good article about what’s wrong with the venture capital.

The Seedcamp season is in full swing with events happening around the world. For the Nordics, this year’s event is held in Copenhagen May 27.

One of the mentors at the New York event was Jonathan Klein, co-founder of Getty Images who presented 10 tips on how to build a great business. And one of the participants was Emi Gal, CEO of Brainient, who wrote about Jonathan’s presentation here.

There are plenty of very good advise from Jonathan; from a Nordic perspective I would particularly like to emphasize point 3 & 9 as these are oftentimes much more important than one might think and really critical when scaling up an organization.

Here’s the list as noted by Emi:

1. Raise more money than you think you need. If you’re on to build a large business, dilution doesn’t matter anyway. You’re in the business of minimizing risk.

2. Cash is the only thing that matters. That should be your focus. Create an automated, scalable business model that will generate cash.

3. Invest in your company’s culture. It works as a filter for making small, easy or complex and tough decisions.

4. The two most important things in your company are: your employees and your customers.

5. Be honest, transparent & realistic. Especially with yourself.

6. Decide fast. It’s better to be wrong and fix it than sit around for 3 months and miss on opportunities.

7. Wrong decisions are OK. As long as you’re wrong really fast!

8. Focus, focus, focus. Say NO to stuff. Constantly.

9. LEAD. People are crying out for leadership. Know where you’re going, and they’ll follow. You can find Jonathan’s leadership principles here.

10. Have fun every day. “Sometimes it’s even black humor“, he said.

If you’re interesting in getting some data points on European and US venture capital for 2009, it could be a good idea to attend FutureMoney in Helsinki on February 18. The event will be chaired by Mikko Suonenlahti from Growth Management Ltd.

VCs usually use various forms of preference shares when investing. As an entrepreneur, it is important to know what this means since it will affect things such as how proceeds from an exit will be distributed.

Through Fred Wilson, I found this good link to a description of how VC terms affect the proceed distribution in various cases. Here it is.

Larry Cheng at Volition Capital keeps a VC blog registry sorted by popularity. Good source for adding new blogs to follow.

Ramine Darabiha asked a very good question in his comment to the post Being a VC in the Nordics:

Could you please comment as to why you think Sweden and Norway are leading both in terms of investments and exits, in comparison with Finland for example?

The background to the question is one of the takeaways from the exit study, namely that Sweden and Norway have produced the vast majority of exit value among the Nordic countries.

This is a tough question to answer, but I’ll try to give some possible explanations:

First of all, the data is by no means perfect and probably slightly skewed to Sweden’s benefit since I think we have more and better data from Sweden than from the other countries. Also, some sectors are excluded from the study, e.g. life science where Denmark is pretty strong and energy where Norway is very strong. But still, there’s enough data to see some sort of a bigger picture.

As for Norway, there are a few things that stand out. Firstly, Norway has had a much better IPO-market than the other Nordic countries, also after 2001. Solar company REC was one of the biggest IPO’s ever and there have also been a number of other smaller ones e.g. Trolltech, Funcom, Mamut, NextGenTel, Opera, Powel, Telio. Norway also has some very strong technology clusters in e.g. materials (REC) and internet technology & search (e.g. Fast, Opera); areas that have accumulated lots of value during the last years.

As for Sweden, it is first of all a bigger market. More people, more entrepreneurs, more investments and also more exits. Sweden has a longer track record of international & export companies in general. This has resulted in ex-industrialists and consumer folks turning into entrepreneurs or business angels, managers that have been internationally trained before turning entrepreneurs, and a mindset which is pretty focused on making it outside the Nordics.

Compared to Finland specifically, I also feel that Sweden is a few years ahead in terms of startup experience in various technology trends. The Swedish internet boom in the late nineties generated more than a few failures but also provided a breeding ground for web entrepreneurs leading to some accumulated experience. There were for example several community initiatives that people could learn from in terms of user-contribution, viral user-uptake and how to monetize social media. The same was true for the software industry in the nineties, many of the larger software companies were founded almost a decade earlier.

In Finland, I meet a lot of young web entrepreneurs but the experienced entrepreneurs are mostly from enterprise software or industry. I think it will be very interesting to follow the development in Finland when the experience from Sulake, Jaiku and others start spreading.

I am also very positive to actions that unite entrepreneurs from across the Nordic and Baltic countries, I think there is so much value to be added from joining forces and experiences. Arctic Startup is doing a great job promoting events around the whole area and startups such as Bambuser have founders from several countries in the region.

Finally, I think this is a very interesting topic for further discussion and I would love to hear your opinions on it.

At the end of the day, for a VC it is all about exits. We are in the business of building companies and then selling our shares at a (hopefully much) higher value than we originally purchased them for.

As a VC in the Nordic region, we wanted to understand if the market in which we operate is attractive enough in terms of if it is producing enough exit value. We also wanted to improve our knowledge of:

• are there differences between the Nordic countries
• in which sectors value creation has occurred
• impact of VCs both local & international
• exit market in terms of IPO vs M&A and important geographies for exits
• the time it takes to build companies that get exited

As a result, we have over the last few years collected information about more than 250 Nordic technology exits relating to the areas in which we invest. The focus has been on VC & angel investments plus companies that Nordic VCs or angels had the opportunity to invest in.

I have included a presentation of some of our findings which you are most welcome to make conclusions from. In general, it is not easy to make conclusions on what works and what doesn’t, but it is usually very beneficial to have discussions around some of the pieces of data that we have collected.

Here are some of the conclusions we drew:

• The Nordic region is an attractive market - relatively much larger exit value than rest of Europe
• Technology sector is maturing - more substance, less expectation exits
• IPO & exit to US companies are vital for large exit value BUT IPO dried up after 2001 and US economy is not as dominant any more - what will the impact be?

There are many reasons why US has been more successful than Europe in producing fast-growing startups and good returns for investors. And although Europe has caught up the last years, it still falls behind the US in terms of having a well-functioning ecosystem of investors.

Ultimately, we’re all in one way or another striving for the same thing - building great companies. To support this, it is important to have a well-functioning ecosystem of investors ranging from angel to late-stage investors.

The system must have money AND liquidity in all phases. That’s why I really dig the initiative of ArcticStartup to include angel investors in their ArcticIndex database. Angels are often the best resource for startups in the very early stages. In pretty much all of our investments, we have either invested together with angels or provided follow-on investment for companies that already have angel investors.

So, I hope that angels and entrepreneurs can meet more easily through ArcticIndex!

Guy Kawasaki (ex-evangelist at Apple, venture capitalist, entrepreneur, blogger etc) is one of my favorite reads. Some time ago I read his book Reality Check which is basically a do’s and don’ts plus helpful tips and insights to building successful startups. One of the entertaining parts is his lists of top lies that VCs, entrepreneurs, lawyers and partners et al tell.

I have now worked as a VC for a bit more than 2 years so I figured it would be fun to look back and give some of my thoughts on the top-10 VC lies that Guy mentions in his book.

1. I liked your company, but my partners didn’t

Guy argues that if the VC really believes in your company, he/she will make sure to get the investment through.

I don’t really agree with this. We have had several cases where one partner really believed in the investment but we still decided not to invest (all investments need to pass a vote of the whole team). However, I fully agree that this should not be used as feedback to the company because it doesn’t help the entrepreneur in any way. It is much better to give the reasons why ultimately not everyone in the firm believed in the company.

2. If you get a lead, we will follow

Yepp, this is a cop-out. We think your company is interesting but we’re not fully convinced. However, if a big-name VC is willing to invest, so are we.

For a Nordic VC, one of the biggest challenges is to figure out if a local company really has the potential of making it globally. So if a VC outside of the Nordics decides that they think so, it naturally makes us more convinced as well. The drawback is that if a local company manages to attract e.g. a US VC, it may be too late for the local VC to get in anyway. Ironic, isn’t it…

This one shouldn’t not be mixed up with point 4 below.

3. Show us some traction, and we’ll invest

The lie here is that even though you have traction, we may not invest. But traction is often fundamental for a VC. Firstly, faced with the option of a company with traction vs a company without traction, the answer is pretty obvious. Secondly, especially for consumer-facing products & services, it is close to impossible to “know” what millions of people will like and how they will behave so traction in the form of user growth or conversion becomes essential for making qualified investments rather than throwing darts.

4. We love to co-invest with other venture capitalists

Guy argues that if a VC really likes a deal, no way someone else would be let in. I don’t agree. Especially during the last 12-18 months it has been very clear that most companies need more money than expected and that it is really hard to raise money even for great companies. At Creandum, we prefer to syndicate and it shouldn’t be mixed up with point 2 above. This genuinely means that we like the company, would like to invest but think it is better for the company and for us to co-invest with someone else. It gives additional financial capability and also more resources to allocate to the company (see further point 6 below).

5. We’re investing in your team

Yes, we invest in teams. But it doesn’t mean that the team will have our support forever. Most successful startups change some or all of the original team members along the road. A hard-earned experience is that once we think it is time to change key people at the companies, usually it should already have been done.

6. I have lots of bandwidth to dedicate to your company

Many VCs say that they are active investors. And most are compared to many other type of investors. But I think that VCs tend to exaggerate the time they actually spend on an individual company. A VC cannot really sit on the board of more than 3-5 early-stage companies and still be heavily involved. If you are looking for a VC that really can allocate time and pull up the sleeves, my advice would be to a) check how many companies they are involved in and b) take references from companies that they are or have been working with.

7. Do you mind if one of our associates accompanies me to your board meetings?

Guy argues that although this isn’t a lie per se, it doesn’t necessarily mean that you’ll get lots of extra support. As an entrepreneur, I wouldn’t be too worried about this request. Usually it means that someone young, ambitious and usually smart person will help out with various tasks and sometimes this person actually have much more time to allocate than the senior partner at the VC-firm. But of course, if you decided upon a certain VC due to that senior partner and an associate is what you get, you might feel a but cheated.

8. This is a vanilla term sheet

Guilty. It is true that most VCs have quite similar terms and that some terms almost have become industry standards. However, a standard term sheet is more of a set of items that a VC would like to have in place. Most individual items makes sense but the total may not be applicable for your company. And usually there is room for negotiation at least if your company is attractive enough.

9. We can open up doors for you at our client companies

Guy argues that since a VC cannot get a customer to commit to your product, it’s just a slick pitch. Well, I agree to that VCs can’t really make anyone buy your stuff but VCs definitely can and do open doors and make introductions and I think this actually can have great value to entrepreneurs.

10. We like early-stage investing

Usually VCs don’t want to limit themselves so why say you don’t like early-stage investing. Best way to check this is to see what investments the VCs have done. If a VC hasn’t done an early-stage investment in several years, it is usually a sign that you’re not getting any investment either. Sometimes, it can still make sense to get to know a VC at an early stage, VCs like to follow the development of companies even before they are ready to invest.

Finally, I would like to add one lie that I think is quite common. One of the main reasons why a startup gets a no is because the VC doesn’t think the team is strong enough or that we don’t get a good feeling of the entrepreneur(s). Now, I think this is sometimes a pretty difficult thing to say so I have a tendency to rather communicate other reasons.