Kissing Frogs

When to Burn Bridges: Instagram Pays Sequoia to Signal to FB They Mean Business

TechCrunch is reporting that Sequoia doubled their money in a couple of days by investing in Instagram. At first, I was pretty amazed, why take the dilution just before closing a round. But I think I've worked it out.

People offering to buy Instagram were probably making offers with the thought that the venture investors already in the company would be happy with a 10X on a $7M round. So they were probably thinking they could buy the company for around $100M. Given that investors thought it was worth more, they probably kept talking about taking a round, and running with it rather than sell out so soon. So it makes sense that they ran dual tracks, selling the company and preparing for a round. 

Now, I've often seen it that if you think you're going to sell the company, you state that if you do so within some number of days, perhaps 60, that the new investor just get's their money back. The thinking is that northing really changed in that time, and so they shouldn't get outsized compensation for that. So why didn't Instagram make that deal?

I think Instagram was essentially paying Sequioa to signal to buyers that their hands were now tied. The new minimum was going to be 1B since that is what Sequioa would want since they put new money in. In Game Theory this is known as Burning Bridges. So, by giving Sequioa 10% of the company ($100M in the end) Instagram was signaling they wanted $500M more total. 

Finally, why didn't they just use the current investors? Well, for the pricing to be counted as real, it had to be done by an outside investor. Also, going with a firm with such deep pockets signaled that the company would be able to go the distance with other well financed firms. Of course Sequoia had to also believe that even if their wasn't an offer in the next week that the company was worth the $500M. 

All in, this was probably a pretty crafty move. By burning their bridges and showing to FB that Instagram couldn' sell for less than 1B they netted the current team an extra $400M (after paying Sequioa their $100M).

Obviously this is just my guess, maybe Instagram really was planning on shunning FB but when FB saw the round come together they got worried the price was only going to go up from here and came out of the blue with an offer the team just couldn't refuse.  Hopefully we'll learn the truth over the next few weeks. 

 

Why NYC Now

The last bubble was a bit crazy.

In the summer of 1999 I graduated school with a degree in CS and took a job in NYC with a startup. Well, that isn't exactly true. The startup I agreed to work for, i33, was bought out, not once but twice, between my accepting the offer and my first day. 1999 was a crazy time.

Why am I telling you all of this? Well I wanted to give a little bit of a backdrop, for those that didn’t get to experience it, on how crazy things were at the height of the last bubble. 

Anyway, things feel really different now. 

11 years ago when I was new to NYC most of the programmers I knew worked for banks or, if they were lucky, hedge funds. They were expected to dress well, no hoodies, and programmers who worked at startups in NYC were seen as oddballs. When I told people I was a programmer at a startup, I left my first job for a company of 7 people, it wasn’t seen as a cool thing. It was more like I was living in my parents’ basement. This was because banks paid so well that the best coders went there, so either you weren’t as good as them or you were a bit crazy: turning down the money to take a flyer. 

There were a couple hacker type gatherings; they mostly revolved around Unix programmers and beer. Again, they were a lot of fun, but a good turnout was 20 people; nothing like the NY Tech Meetup today.

Don’t get me wrong, there was a lot of unbounded optimism, but as a you coder there weren’t a lot of hero’s in the NY startup scene. I remember some really amazing programmers helping to start hedge funds. Hopefully, today they would start a big data company.

Things feel pretty different today. There are a bunch of tech savvy founders who are doing interesting things, and you can’t swing a dead cat without hitting a startup incubator. I believe NYC is close to, or has passed, the point where the ecosystem is self-sustaining and I’m really excited about tech here now.  I’m hoping that I can help young geeks do great things in NYC; basically I want to help techies succeed in NYC because I remember how overwhelming it was the last time.  

 

I Love Living in the City

Like many of you, I expect, one of my new year's resolutions was to start blogging again. To kick things off I thought I'd describe where I'm at and what I'm up to.

Let's start with the obvious big changes. About 7 months ago I left SF to take a job at DFJ Gotham in NYC, and I really couldn't be happier. Shortly I'm going to write a blog post about the NYC tech and startup scene, but not today. I'm back living in the financial district, a few blocks from my first apartment here in the city back in 1999. I must say, the neighborhood is so much more livable now. 

The Job: I'm an associate at DFJ Gotham, an early stage venture fund where we invest mostly in Seed and A rounds of tech companies, and I'm learning a ton. The people I work with are awesome, and being at a small firm let's me see how all the different parts of the business work. While USVP was an amazing experience I was sheltered from a lot of how the sausage was made when it came to the internal workings of a fund; now I'm the one making the sausage. 

I know this sounds trite, but I've just been having such a blast. I love the "new" New York tech scene, my job, and all the great people I've been interacting with. It is really good to be home.   

<FEAR, an LA Punk Band, wrote "I Love Living in the City" about New York, and though the song is meant to be negative it made me homesick when I heard it the past few years. Enjoy.>

 

That Way Lies Madness

Note: I actually wrote this about a month ago just after Immunet was acquired, and then I sat on it. I didn't want to post somthing that would sound to self absorbed... I've re-read it now, and I'm pretty happy with the sentiment. 

If you’ve worked in technology for any length of time, you probably have a story along the lines of: "I could have joined Hot-Startup a year ago, and if I had, today I'd be worth X."

For instance, a good friend of mine, back in the late 90's, shared an office with Jerry Yang. My friend could have been one of the first 5 guys at Yahoo if he wanted. He would later lament that he had the opportunity to join at pretty much anytime –and had he gone that route, he would be worth multi-millions today. But don't feel too bad for him: he sold his first startup and did quite well, though not as well as if he had gone to Yahoo. I was speaking with another friend, and his story was missing out on YouTube. I've heard plenty of others over the years.

So why do I bring this up? Well, I had the chance to join Immunet a few months ago and they were just sold to Sourcefire. When I learned a bit about how the employees of the Immunet deal made out, I can’t say I didn’t do my own hindsight calculation.

Before I took my current full-time role in July 2010, I asked the guys at Immunet if they had need for someone with my skills. I've known Oliver (the CEO) for a long time, so the conversation was pretty informal and very cordial. He said that given their level of funding they couldn't take on another person at the time, so I happily took my current corporate job. Then a few months later --October I think-- Oliver called me up and asked me to join the team. The job was something right up my alley and I really wanted to take it, but I had only been in my current job for 4 months or so. I thought it over a lot and decided I couldn't leave my boss, who is also a good friend, in the lurch. So I turned down a really cool job at Immunet because the timing was just a few months off.

This brings us to the part where I say: "If I'd taken the Immunet job I'd be worth X." Actually, all I know for sure is that I would be worth more than I am now, since there is no way to really tell. I thought it through for a day or two, and I don't regret my decision. In fact, if I had it to do over again I'd make the same decision. I just didn't feel leaving a good job after 4 months would be right --when you take a job, you make a commitment to do the work, and not bail the moment something cooler comes along. 

Does this self-congratulatory stance make me feel better about turning down a great opportunity? Yes, but I also believe it illustrates why some of us “miss out” on the hot startup. In my case, it was about loyalty and commitment; in my friend’s case with regard to Yahoo, he had his own startup vision. Other people may consider family: spending time with your three year old rather than 14 hour days at a startup doesn’t sound like a path people truly regret. Not every decision to go somewhere is about money, and when we make a hindsight calculation, we need to remember that.

 

 

Let the Consolidations Begin

A couple years ago I wrote a paper on the security space and why I felt it was a good spot for VC. I'm going to try to start to track the buyout and see if that thesis is panning out. (I'm also going to have to find a way to watch for the companies that die.)

This week we have two companies at the far ends of the acquisition spectrum. 

Dell has acquired SecureWorks. 

Though terms of the deal have not been released I've heard rumors that the price is between 500 & 550M. With funding of 31.5M if we assume they have 30% of the company then that should be a good return for the investors 5x-6x. Of course, the investors may have a greater piece of the pie, but this is just a back of the napkin guess. 

SecureWorks has been around since 1999 and appears they took funding in 2000. So 5x over 10 years isn't great, but it is still a win.  

SourceFire buys Immunet

SourceFire paid 21M for Immunet on Wednesday in a cash deal. 17M up front and 4M of earn outs. I know these guys well, so I'm pretty familiar with their fundraising efforts. They took 2M in capital, and it is likely that that investors got around a 3x in just over a year. Pretty good numbers, especially for a smaller fund where they don't need to return 500M+ to LPs. 

These companies are vastly different. A 11 year old company that almost IPO'd and a 2 year old company that was bought after just one round of funding. Investors in both will likely be pretty happy though. 

FB: Take the Money and Run

Tyler Shields (@txs), an old friend and colleague,  asked me the following: 

I know you have some education and experience in the business world so I was curious what your thoughts were on something. I was debating with some folks about the Facebook valuation and what the results of this Goldman's Sachs back channel IPO is going to be. If you had the chance would you throw money into the pile or would you wait and hold? Also do you think they are overvalued or fairly valued at approx 50B$? 

So I first took this to mean would he invest if he had access to GS, then I figured maybe he meant would you dump if you were an FB employee. So I have both answers.

Let's start with value. (Since that will inform whether you want to put money in.)

Some context-

• Google is worth 200B. 
• AOL is worth 2.5B
• Yahoo is worth 21B

Now everyone who has bet against high FB valuations in the past has been wrong. And I can see that FB might be worth twice what Yahoo is, and they have just surpassed Google in traffic. So Maybe 50B is a fair price. BUT, part of the Goldman valuation has to do with the fact that they can make fees by selling parts of that 1.5B fund to their clients. And they will likely get to do the eventual IPO, which will earn them more fees. So Goldman has a revenue stream that most of us can't count on. 

Possibly the most telling data point would be Digital Sky Technologies, the Russian firm. They are already an investor, and they have a pretty big stake. If anyone has a decent idea of what's really going on it's them. If they put in more money, then you'd hope they did their due diligence. So if I'm arm chair quarterbacking I say it is probably a fair valuation.

On the other hand, if I really had 10 million and GS came to me I'd say no. The reason is simple, you don't get to see the books (the way GS and DST did). If you can't do your own due diligence then you're a sucker; pure and simple. Sure, you might make a lot of money, but you can also make a lot by betting on red in Vegas. Doesn't make you smart. 

Now, if you're asking what I'd do if I'm an FB employee:

This is actually an easier answer. 

Though it always depends on your personal situation, most people would tell you to take some money off the table. What happens if the company explodes? You not only lose your job, but also your nest egg. That's not smart. The common answer is to not hold your companies stock (everyone cites Ennron here). But this is FB, the hottest investment in the world. So maybe you limit yourself to 10% of your nest egg... If you've got 10M in stock, I'd dump as much as they let me. (I think it is 10-15%) Why not take some of that risk away.

Also, you have to expect that you have a ton of unvested options. (Maybe not, but my guess is they use 'em to keep you there.) So even if you sold your vested portion, you still have plenty of exposure. 

There you have it, my un-asked-for advice to current FaceBook employees. 

Cash 4 Gold Clunkers: Everyone Loves a Good Bubble

When Cash4Gold got funded by Highland and General Catalyst, I remember one of the partners crowing about the deal at a school sponsored venture panel. In case you missed their Super Bowl ad, Cash4Gold would send you prepaid envelopes in which you would send them your gold jewelry, they would then send you money for it. A simple arbitrage play; they offered convenience and you'd get 60 cents on the dollar.

Later Micheal Arrington wrote a piece extolling how profitable Cash4Gold was.

Revenues in 2009 are on track to hit $160 million, says our source, with a similar profit margin. That implies $50 million or so in 2009 profits. (Via TechCrunch)

At the time, I thought it was a bubble bet. Gold was at all time highs, this couldn't be a good idea. But when anyone said anything negative the refrain from the investors was always the same "You haven't seen the numbers." It is hard to argue with someone when they say, in effect, I know something you don't know so you're going to have to trust me.

Anyway, recently the other shoe has dropped.

Cash4Gold: On Friday I reported that Highland Capital Partners is no longer a shareholder in the parent company of Cash4Gold. General Catalyst has since confirmed that it too is out, although it declined to specify why or how (based on an apparent confidentiality agreement with the company). Also, one of General Catalyst’s limited partners emailed to say that Cash4Gold was still in the firm’s portfolio as of Q2, and had been written down nearly to zero. (via The Term Sheet by Dan Primack)

To recap: In October 2009 this was the best idea ever and they were printing money so VCs backed them. A year later they are worth zero. Troubling to say the least.

Now, there are some interesting ideas about how the rise in the price of gold might have hurt Cash4Gold, but let's be fair. Whatever the investment thesis was, it managed to go sideways in a year. It isn't like the economy rocketed up and people no longer need cash, nor is it that the inflation struck and people wouldn't want to part with gold. So was it a management problem? Or was the thesis really just a bet on the spot price of gold?

A friend of mine suggested that the revenue projections were unrealistic since they didn't take into account competition. There were already big players in the space and there was no barrier to entry. While the barrier to entry and competition issues really boil down to execution and the cost of obtaining a customer the revenue projection issue would really be the nail in the coffin. If the revenue projections were off (and they must have been) one could argue that diligence should have caught this.

Whether this was speculation on the price of gold, bad execution, or bad due diligence, this weird excursion from the VC norm definitely didn't pan out. This in turn means that people will mock the deal because they thought it was crazy at the time (I sure did). But you have to give the guys who backed this credit, they had the courage of their convictions and put their money where their mouth was. Of course, now they get to pay for their boldness twice, once with money and once with jokes at their expense.

Everything Old is New Again: WildFire is the Web 2.0 Version of FlashBase

The first startup I worked for, about a year after graduating college, was a small company named FlashBase located in NYC. I believe I was the 8th employee and the 3rd full time programmer, not counting the two founders who wore many hats.

FlashBase started life a web front end for database backends, which was a technology in search of a solution. Basically we allowed users to graphically create webforms; common uses were surveys, help boxes, and sweepstakes. During the attempt to raise a 2nd round of funding we made a pivot, and switched from a general tool to a specific solution: Sweepstakes.

Thanks to the wayback machine we can see the homepage a month after the aquisition. (The pre brand change site doesn't have images and hence looks pretty ugly.)

It turns out that getting opt-in mailings lists was important enough for people to actually pay for our product. And thus a business was born. We made a turn key solution for running sweepstakes. Which is why WildFire sounds so familair to me. WildFire is a platform for running sweepstakes and doing analytics around them. Essentially, it is the Web 2.0 version of Flashbase; better analytics and tools for virality I'm sure, but essentially the same product.

 

While web design has come a long way, the value proposition is the same: WildFire creates turnkey solutions for sweepstakes, user-generated video, photo, & essay-based contests, and coupon give-aways.

In the end, just as the dot com bust happened, our founders sold the company to DoubleClick for around 20M. Given the peak for the NASDAQ was in March selling in May was quite lucky, the slide had only just begun and people still thought that a recovery might happen. For the VC, Dawntreader, this was a pretty decent outcome since so little had been invested and the flip was quick.

So what does this mean for Wildfire, who has taken 4M? I suspect it is going to be a tough road to hoe. A 20M sale aint what it used to be, and buyout valuations are lower now than in 2000. I'm sure there is an arguement that Social changes everything, but having been there in the past I don't expect WildFire to be a "Big Company". For a month long campaign at the premium level ($250 + $5 a day) we are looking at $400. Let's say they can sell the company for 3x Revenue. So to reach a 20M sale they need 6.6M in revenue. To get that at $400 a pop you need to run 16,500 campaigns a year. Let me say, that's a lot of sweepstakes.

 

Timesvr Rules: Finally I Have People

I've started reading Tim Ferris's book The Four Hour Work Week, and in it he suggest hiring a virtual assistant (VA). After a bit of searching I came across TimeSvr.com, and it has changed my life... Though maybe not all for the best.

The concept is simple, you can call, email, or post through a website any number of "Simple Actions" and a team of VAs in India will take care of them 24/7. What constitutes a simple task is anything that can be done in 15 minutes. Need some quick research on the best place to buy a puppy? No problem. Want them to set up a walk through of a condo? Done. Obviously they can do online work, but they will also make calls to more than a few countries. Handy. 

The cost is $70 a month, though they have a free 3 day trial. But I like to think of it as $2 a day. I've been averaging about 4 requests a day, so we can call it 50 cents a task.

I'm about a week into this little experiment; let's see what I've learned.

1) They can actually help you save time on important tasks you would have to do yourself:

• Setting up apartment viewings.
• Finding lists of Alumni events and adding them to my Google calendar. 
• Finding and booking couples cooking classes.

Etc.. So these are the types of tasks that they excel at and really save me time.

2) They can help you save time on unimportant tasks that you would have done yourself though probably shouldn't have:

• What's the best brand of mascarpone for making Zabiglione.
• Find out the cost to rent a yacht for my birthday party.

3) They can help you simply wast time and learn that you're a bad person:

I was telling my friend Josh about Timesvr and he asked if they would do stuff that was illegal.

• "Like what?"
• "I don't know, call your dealer?" (I'd like to make it clear that I don't have a dealer.)
• "I guess so. I mean they're in India right? What do they care. I bet I could.... let's try it."

So I created a task to call my bookie:

Please call my bookie and tell him I'll get him his money tomorrow. 510-xxx-xxxx His name is "Big Josh"... Please be polite.

Within 10 minutes Josh got a call.

Let me say it at the outset, Josh was very polite; we didn't want to be jerks to the guy calling.

Josh managed to keep a straight face while saying: "No, tell him that's not acceptable. ... No, I'll reserve that for when he calls me. ... Just tell him this is not acceptable." 

Now, normally they send me emails that have smiley faces at the end, or say something like "I hope this proves helpful." Here was the reply from Owais's call with "Big Josh":

Hi Lucas,
I called your bookie Big Josh at 510-xxx-xxxx as per your instructions and told him that you will get him his money tomorrow so he said that it is not acceptable.

So no smiley face on this one. :)

What have I learned?

• Turns out, yacht rentals cost a lot and I'm not big pimpin enough to rock one for my bday. ($1200 an hour with minimum of 4 hours if you'd like to know)
• It really helps to have a project that you can break up into small amounts to do. Setting up an alumni mailing list is a good example. Lots of small tasks that require some research but no domain expertise.
• There are a lot of tasks where the 80/20 rule applies. I might be able to find a better cooking school for couples, but the 3 options I got back are good enough and avoiding rat holing myself for 2 hours on research is the big win. 

For $2 a day TimeSvr is awesome and it has led me to look into a more permanent VA to help me on the next stages of a couple projects.

Welcome Back Kotter - Some Thoughts on VC Allocations

It has been too long since I've posted here. All the regular excuses apply. I have a new job, I've been trying to work out more, dingo's ate my baby, etc. etc.

A few weeks ago I sat down with Brent Ahrens of Canaan Partners to talk about the industry and basically catch up. We got to discussing the state of venture and Brent said something that I wanted to play with a bit more; he said that the amount of money going into venture was pretty steady (the bubble years aside). Essentially he was pointing out that the graph of money allocated to venture should should be pretty linear rising along with GDP and the market. I thought it would be fun to graph this and see how accurate it is.

Turns out the NVCA beat me to it. :)

As we can see, commitments are slightly above average, but not widely out of whack.

Since 2002, commitments have run just slightly above the historical average (0.146% versus 0.139%).

Since 2002, investments have run slightly below the historical average (0.155% versus 0.164%).

<via It Ain’t Broke: The Past, Present, and Future of Venture Capital by Steven N. Kaplan and Josh Lerner>

Also, investments are slightly below average. But this is hardly the giant overhang that people have been discussing. If anything, the situation should be getting better as the bubble funds from 1999 begin to totally exit the market since their 10 year investment periods are running out. (We can look at Elevation as an example of a high profile fund that can no longer make new investments no matter how much dry powder it has.)

Given this, the contrarian in me says that now should be a fine time to invest in angel and venture. Now if I can just find that spare 20K in change in my couch.