136. Dispelling Conventional Wisdom in VC, Part 2 | Should Seed Investors Follow-on? (Eric Paley)
Summary: <a href="http://apple.co/1RlJ4Qz" target="_blank" rel="noopener noreferrer"></a><a href="http://bit.ly/1SdFrwX" target="_blank" rel="noopener noreferrer"></a><br> Today we cover Part 2 of Dispelling Conventional Wisdom in VC with Eric Paley of Founder Collective. In this segment we address:<br> <br> * <a href="http://fullratchet.net/wp-content/uploads/2017/05/Eric_Paley_Founder_Collective.png"></a>I wanted to get your quick take on follow-on investing. There was a recent <a href="https://twitter.com/epaley/status/845346049317388289">twitter convo w/ you, Parker Tompson, Semil Shah & Nick </a>Ducoff on Follow-on funding… Nick made the statement: Knowing when to double down is the key to solving the “I wish I owned more of my winners and less of my losers” paradox. And you said you strongly disagreed, stating that “Venture funds are made on the first check and destroyed on the follow on checks.” Wow, that was certainly a shocker to read. Why do think following on is not wise?<br> * Why small, early investments by large firms can create conflicts for founders when they’re raising their next round<br> * Why many early investors actually have a weighted average cost basis of a Series B investor without knowing it<br> * The paradox of pro-rata where investors want to pay the lowest price but also want their existing portfolio to raise at the highest valuations<br> * Eric’s thoughts on concentrated vs. diversified portfolios<br> * His final thoughts on key takeaways from the study and items running counter to conventional wisdom<br> <br> <br> Guest Links:<br> <br> * <a style="color: #0000ff;" href="https://twitter.com/epaley">Eric on Twitter</a><br> * <a style="color: #0000ff;" href="https://epaley.com/">Eric’s Blog</a><br> * <a style="color: #0000ff;" href="http://www.foundercollective.com/">Founder Collective</a><br> * <a style="color: #0000ff;" href="https://twitter.com/fcollective">FC on Twitter</a><br> * Eric’s article: <a style="color: #0000ff;" href="https://techcrunch.com/2016/10/15/overdosing-on-vc-lessons-from-71-ipos/">Overdosing on VC: Lessons from 71 IPOs</a><br> <br> <br> <br> Key Takeaways:<br> <br> <br> 1- Capital as a Magnifier<br> Before we got into the study, Eric first reviewed the fundamental principles of raising capital. He said that “VC is a magnifier of whatever you have… it can magnify good things or bad.” There is pressure for VCs to deploy capital and increase their AUM. They want to raise fast and deploy fast. Which is great for strong businesses that are under-capitalized. But for those that haven’t determined how to grow in an accretive way, capital magnifies the problems. While growth is the best way to assess if the market cares about your product, companies often throw money at things that aren’t working. Founders and investors are equally culpable… the founders are chasing growth and investors are pushing for it. Yet scaling things that don’t work, damages the long-term potential of the business and is very hard to unwind. Remember that the money has no intelligence. It’s just a multiplier of good or bad.<br> And the results of <a href="https://techcrunch.com/2016/10/15/overdosing-on-vc-lessons-from-71-ipos/">Eric’s IPO study</a> showed no causation or even correlation between the amount of capital raised and the exit outcomes. Just because <a href="http://fullratchet.net/135-dispelling-conventional-wisdom-in-vc-part-1-eric-paley/">one can raise $20M on $80M pre</a>, doesn’t mean they wouldn’t be better off taking $10M on a $40M pre. Even though the founders suffer the same dilution for each, capital is not the driver of successful outcomes it is merely an enabler.<br> <br> 2- Pro-Rata Founder Impact<br> We spent a lot of time discussing the impacts of pro-rata. Let’s first address the situation for founde...
