Startable - Healy Jones’ & Prasad Thammineni’s Blog

Charlie O’Donnell has a great post on getting momentum in a seed financing round. He is talking about momentum, but an understated undercurrent is how to get a higher valuation. I’d like to elaborate on one of his points, which is “understanding the social graph of the investors.” Charlie’s point is a great one - that if you can get a group of investors who talk with each other (and invest with each other) to talk about your company then you dramatically increase the chances of closing a deal with them. Thus, he recommends focusing and lighting a fire under one of these groups and using that to push toward a close. He is 100% correct.

However, I’d like to point out that this strategy does not maximize the chances of a higher valuation. I’ve found that angel investors who regularly invest with each other tend not to like to compete with each other - instead they like to co-invest with each other. While this is great if you can get things going, since you are likely able to raise enough capital to hit your fund raising target, it does not help you create an auction type environment where you get a higher valuation. As I’ve said before:

Once one group (an angel group) sets a pre-money valuation I don’t think the other angel groups are going to get into an auction type-process. These groups need each other to fill in bigger financing rounds. One group can’t outbid another aggressively, or they will not be able to find enough capital to meet most startup’s financing needs. A startup can get different syndicates of venture capitalists in a bidding war; I don’t know if this is as easily possible in the angel financing world. It may be a better idea to try to pit a VC against the angel groups if you are really valuation sensitive.

(That quote came from my post on how angel groups are professionalizing)

So, I will moderately disagree with Charlie’s last point of not pitching in too many places. If you are going to get a decent valuation, you probably need a couple of different groups interested - groups that don’t naturally invest together or information share with each other.

Sim Simeonov (a much higher profile Boston-area former VC than me) just published a good post on raising a Series A venture round. I agree with the majority of his points, although he does postulate that it may make sense to ask for/raise a bit more money upfront even if it means the founders end up with a lower ownership percentage. I agree with his thesis that more capital is better if it boosts your next rounds valuation/de-risks the business intelligently. However, I’m not 100% sure it actually has to decrease the founders’ percent ownership all that much. I continue to believe that early stage VCs main valuation tool is how much they want to own (which usually falls within a pretty narrow band). See my post on the way VCs calculate startup valuations.

Sim puts forth some important math on how to calculate the real pre-money valuation of your Series A round, taking into account option pools, amount raised and percentage ownership taken by the VCs. As a startup founder looking to raise money, you should understand this. The algebra is simple, it’s nice to have a clean little formula to help you understand the implications of your term sheets. (I have worked at funds that did a more complicated pre/post money “effective” valuation taking into account the impact of some preferred stock features like participation - basically breaking the participation out and valuing it as a stand alone bond and then valuing the equity separately, but I wouldn’t bother/recommend that for most early stage investments.)

Sim also lays out the other real truth in getting a higher Series A valuation - you need multiple funds competing for deal. This is much, much harder said than done. And you also have to remember that VCs are pretty clubby - they like to syndicate/invest alongside each other, so if two firms realize they are both interested in the same company and they like investing with each other you probably DON’T actually have any real competition. This is because they are likely to team up and offer you a joint term sheet, or one is likely to wait until the other makes an offer and then try to join that investment as a co-investor.

He also has a link to a startup valuation calculator, that I haven’t stress tested yet. But it looks pretty straight-forward and very handy. If you are raising a Series A, you should read his post.

Tomorrow evening there will be a wine tasting event attended by many of  Boston’s technology leaders and venture capitalists to benefit TUGG, a non-profit created to help fund organizations that promote youth entrepreneurship and technology learning in less-fortunate parts of the area. The event is organized by Hemant Taneja of General Catalyst and one of my former bosses, Jeff Fagnan of Atlas Venture. You can sign up for the event here - I will be there and if this is at all similar to the previous few years’ events it will be a great place to meet movers and shakers in the local tech scene (note that I’m suggesting that I’m a mover and shaker, just that real movers and shakers will be in attendance!)

BusinessWeek recently ran a piece on the contraction in the venture industry is causing some startups to lose their VCs. The article talks mostly about how the shakeout in VC is causing some venture funds to abandon certain investment sectors. While I am a happy subscriber of BusinessWeek, I think they missed the real point - that if you lose your VC you are potentially in a lot of trouble. Earlier this year I wrote a couple of posts on What happens when your VC leaves and Steps to take when you lose your VC. I think that advice still stands. Given the back and forth I’ve recently had on the state/changes in the VC industry in my last post, I thought it might make sense to relink to those previous posts and remind everyone that the changes to the early-stage financing world are not yet over!

I had never thought about it before, but it seems that B2B publishers may be managing the transition to an online business/distribution model much better than their consumer focused brethren. MediaPost is reporting results of the American Business Media’s 2009 Media Financial Survey, and business publishers are somehow replacing a lot of their offline magazine revenue with substantial online revenues. 

While tota B2B publisher revenues were off about 2% from the 2007 to 2008, but this is much better than 16% decline in the traditional B2C newspaper and magazine market. From the report’s press release:

Online media benefited from the continued shift in ad dollars from magazines to online channels. Online display and search advertising, which accounts for more than 50% of total online revenue, gained 12.4% in 2008 versus 2007 and grew at a CAGR of 30.7% from 2006 to 2008. At the same, magazine net ad revenue declined (10.2%) in 2008 versus 2007 and fell at a CAGR of (4.9%) over the three‐year period.

Good for B2B publishers! 

I guess the real questions are: 1) what are B2B publishers doing right and 2) can this be applied to B2C publishers.

I hope that this isn’t just because business content users were never trained to expect to get free content like consumers have been…

Since this is my first post as a former venture capitalist I thought it might be interesting to answer a one of the more… opaque issues in venture financing. Two of the most frequent questions I got as a VC from entrepreneurs were “how much is my company worth” and “how do venture capitalists value my company?” The truth is that the answer has nothing to do with DCF’s or other business school theories, but instead is based around what the VC thinks/needs to return to their fund from that particular investment. The following is a bit of an over simplification, but is as close to a “rule” as I could gleam from my time in venture capital.

Series A valuations 

Series A* valuations are usually based on percentages - as in, how much of the company does the venture capital fund want to own. Most established venture funds have an established strategy of owning a particular percentage of a company after a Series A investment. A typical, good fund will look to own 20% to 33% of a company after the initial investment. I’ll ignore the rational behind this for a moment and cut to the chase: this means that during a normal two-VC, syndicated Series A investment your startup sells around half the company to the VCs. Raising $4 million? Pre-money of $4 million. Raising $6 million? Pre-money of $6 million. 

Getting a higher valuation

Strange as it sounds, this does imply that the more you raise the higher the valuation. I’ll get into the rational behind this “math” later in the post, but first I’ll mention a few things that you can do to try to command a higher valuation.

• Have a name-brand management team. CEOs/CTOs and founders who have been previously successful and previously venture backed command higher valuations for their companies. Recruiting the right one of these executives to your team will increase your valuation. It may very-well be worth the percent ownership in the company that you will have to give them to get them on-board. (Who knows, they may actually be able to help grow the business too…)
• Get multiple firms interested in your startup. VCs can get competitive. If they fear losing the deal to another venture firm they can become more aggressive around the valuation. Read the rest of this entry »
  

I hope that this post will be helpful to you as you prepare to meet with a venture capital firm’s EIR. This is the second of three posts about entrepreneurs in residence at venture capital funds and how you might interact with them during your VC financing process. The first is a general introduction to the concept of an entrepreneur in residence and the third will be some tips for your interactions with an EIR.

Preparing to meet with an EIR

The better your discussion with the entrepreneur in residence goes, the better your chances at raising venture capital. Here are some things to prepare before your meeting:

1. Research the EIR’s background. By knowing their bio/background you can get a feel for the lens they will use to think about your business. They might have something knowledgeable to say about some aspect of your startup or have some connections that could be useful to you. Try to take advantage of this. Also see if you can understand where they had difficulty, as they may attack similar parts of your business plan.
2. Figure out how the EIR could fit into your startup. Remember that the EIR’s primary goal is likely to be finding a company to run. Assuming that there was a good fit with your startup, what role would you like to have them in? Get ready to ask questions around this particular function (at the right times during your discussion)… you may get some good advice and they will get to show off their experiences.
3. Search for shared connections with the EIR.  Read the rest of this entry »
   

2008 proved to be solid from an online advertising perspective, showing impressive growth according to the 2008 Internet Advertising Revenue Report, released by the Interactive Advertising Bureau (IAB) and PricewaterhouseCoopers LLP. $23.4 billion was spent on online advertising last year, up from $21.2 billion in 2007 - a 10.6% growth rate. 

I am still digesting the report, but there were a few interesting tidbits. As you would expect, search really grew robustly last year by almost 20%. Display also grew by 8%, not bad considering that overall advertising supposedly shrank last year. Digital video advertising grew by over 125% to $734 million - still a small amount, but moving quickly into becoming a real category.

A couple of other interesting items:

Approximately 57 percent of 2008 full year revenues were priced on a performance basis, up from 51 percent reported in 2007.

Approximately 39 percent of 2008 full year revenues were priced on a CPM or impression basis, down from 45 percent in 2007.

and

Financial Services advertisers represented the second-largest category of spending at 13 percent of 2008 full year revenues or $3.0 billion, down from the 15 percent ($3.2 billion) reported in 2007.

Automotive advertisers accounted for the third-largest category of spending at 12 percent of 2008 full year revenues or $2.8 billion, up slightly from the 12 percent ($2.5 billion) reported in 2007.

How did auto manage to increase ad spending while financial services shrank? I guess we know who is using their bailout dollars to try to sell their product vs. having it sit on their balance sheet…

Of course, none of this mitigates the fact that venture capitalists are not very interested in investing in pure “advertising” based business models (i.e. sites trying to generate their revenues off of their users’ eyeballs…)

Forrester, as mentioned in Adweek, recently found that 75% of advertisers have budgets of less than $100k for social media in 2009. However, the study also suggests that just over 50% of advertisers intend to increase their spend on social media this year, while only 5% will decrease it.

Startups seeking venture financing need to realize that VCs are pretty skeptical these days around using destination social media sites with ad-driven business models. Advertising focused startups that are succeeding in raising financing are like Quattro Wireless (just raised $10M) - infrastructure type plays that are providing platforms or tools used to advertise across multiple sites.

Here are a couple of interesting links I found today; too busy for a real post:

Google’s search share up to 72%

Well, not too surprising. At the bottom the article also notes that longer searches are increasing in frequency. Wonder what kind of implication that will have on online paid search results/key word purchases?

How to make display ads suck less

Funny title to an article addressing a real problem - display advertising is often lacking in the creative department. I heard this several times at the OMMA conference a few weeks ago. Agencies and advertisers want to have better and more targeted display ads but don’t know how to create it. Although, I wonder if they would know enough to buy it if there was a technical solution to the problem…