This is another question I have had to deal with and have got asked in the past. How do you structure a business, or hire or develop a startup in a way not to turn off the VC’s at a later stage. You have to consider the cap table, the business location and structure, the team, the investor base and many more things.
Do not start-up without considering the long term objectives of the business and its funding path – in other words consider all the issues for the life of the business at the start, as far as you can, and then get going.
As you go along try and make sure you minimize issues and actions that will lead to problems when it comes to funding at each stage. In particular, VC’s are very sensitive to all manner of issues and will pass on a deal that takes too much effort to "clean up".
I read an excellent and funny piece that deals with this in detail on infoChachkie.com, where he refers to the issue as "deal hair".
Shining, Gleaming, Steaming, Flaxen, Waxen
Deal hair, just like the real thing, comes in a variety of colors and styles. Some of the most common types of deal hair include:
Junky Capitalization Table – A hodgepodge of small investors that could cause potential headaches for management and/or institutional investors.
- Nair Solution – Repurchase as much stock as is practical and convert any remaining preferred stockholders to common stock status.
Untenable Bridge Terms – Convertible debt terms that are prohibitive to an institutional investment, such as large discounts and/or warrant coverage that dilutes the intuitional investor’s investment.
- Nair Solution – Marginalize the relative dilutive impact of these terms. For instance, a discount of less than twenty percent is usually deemed reasonable. In addition, converting warrant coverage to non-participating status will also enhance your adVenture’s fundability.
Band of Brothers – Friends, family, former roommates and other unqualified people occupy senior management positions.
- Nair Solution – Replace such mis-hires with strong-willed, independent executives who have relevant, successful track records.
IP Confusion – Questionable ownership of key intellectual property, including non-exclusive licenses, potential infringement of a third party’s technology and/or inappropriate use of open-source tools.
- Nair Solution – In most failed adVentures, the only asset of value upon dissolution is the underlying intellectual property. As such, it is paramount that investors can unequivocally evaluate its veracity.
Legal Landmines – No matter how frivolous, lawsuits will seriously chill investors’ interest.
- Nair Solution – As noted in Roping In The Legal Eagles, it is generally advantageous to fight nuisance lawsuits to avoid becoming known as easy mark for unscrupulous lawyers. However, when fundraising, it is more appropriate to expeditiously resolve any litigation (potential or otherwise), rather than expend energy convincing a skeptical investor that your legal issues are without merit.
Geographic Dispersion – Significant physical separation of Core Team.
- Nair Solution – During an adVenture’s early days, virtual teams are often viable. However, as a company accelerates its growth by deploying its institutional funding, the Core Team cannot afford to be handicapped by disparate locales. As such, the Core Team should be prepared to relocate to a central location within a reasonable period after obtaining funding.
Way Outsourcing – Outsourcing core competencies.
- Nair Solution – Identify the areas of your adVenture that are critical to its success and internally develop the necessary levels of core competency. For instance, technology startups should maintain key development resources in-house, rather than relying exclusively on third-party, contract labor. If your business model is predicated on superior online marketing expertise, do not utilize consultants to craft and execute your online marketing initiatives.
Double Agent – Problematic agency issues, such as high salaries, non-entrepreneurial perks (car allowances, exorbitant travel expenditures, etc.), side businesses and/or cross-ownership of related businesses.
- Nair Solution – The addition of disciplined, experienced investors to your adVenture team will require you to run your business with a focus on creating long-term value. As such, eliminate any unconventional forms of compensation or other potential areas of Agency conflict before you are forced to do so by a prospective investor.
Before you seek investment capital, do what you can to make your adVenture smooth and shiny, with no nicks or cuts. Although judicious use of metaphorical Nair on your adVenture will help your fundraising efforts, it is often also necessary to unequivocally acknowledge the remaining deal hair. It should be shampooed, conditioned and styled in the most attractive manner possible. Trying to cover up deal hair with a cap and deny its existence is not a viable strategy. If you remove and groom the hair on your deal, there will be no doubt as to “Who loves ya baby?”
See the full article here: http://www.infochachkie.com/nair/