Secrets of Sand Hill Road

Companies are definitely staying private longer, resulting in more of the appreciation of startups going to those investors in the private markets, at the expense of those in the public markets.

The term sheet is filled with important items that should not be overlooked. They contain the economic and governance terms that can make or break a deal for all parties involved. The entrepreneur needs to be aware of the meaning and consequences of each term.

What goes into a pitch? VCs are incented by their LPs to produce outsized returns. So your job as an entrepreneur is simple: Convince a VC that your company has the potential to be one of those outliers. You need to show market sizing, team, product, how you plan to go to market, milestones you plan to reach with funds for this round and plan for next round.

How to get in front of VCs. You should be industrious enough to find someone who knows some-one who has some relation to a VC. Your ability to find a warm introduction to a VC is often a screening heuristic that VCs use as a gauge on your grit, creativity, and determination, each of which might be an important characteristic of a successful founder.

How much money should you raise? The answer is to raise as much money as you can that enables you to safely achieve the key milestones you will need for the next fund-raising.

Founder stock vesting and aligned incentives. You contribute to the success of the company by helping to grow the business, and you are rewarded over time with an increasing ownership position in the equity you helped create.

Startups formed should be formed as a C corp. There are lots of reasons, but probably the most fundamental is that the C corp is a good vehicle for companies that are focused on building long-term equity value in the business versus distributing profits directly to shareholders.

How VCs get paid: 1) Management fee – 2% up to 3%. This is used to pay bills, salaries, etc. 2) Carried interest. 20% up to 30% of profits generated.

The limited partnership agreement (or LPA) is the legal document that formally lays out the rules of the road—the economic relationship between the LP and the GP and the governance relationship between the LP and the GP.

Funds tend to be ten years in life and often can get extended for a few years beyond that. It’s important for the entrepreneur to know what stage of the cycle a VC fund is in. If they are early in the fund, then they should have less pressure to return capital.

How early stage VCs decide where to invest. There are qualitative and high-level quantitative heuristics that VCs use to evaluate the prospects for an investment. What matters most to VCs is the ultimate size of the market opportunity a founder is going after. Big markets are good; small markets are bad.

The venture capital industry represents a tiny amount of capital at work in the broader financial system. But the impact of venture-capital-funded businesses punches well above its weight.

VC firm results tend to follow more of a power-law curve instead of a normal distribution. In fact, as recently as 2017, the median ten-year returns in VC were 160 basis points below those of Nasdaq.

There are basically three types of people involved in VC. There’s an investor, venture capitalist, and entrepreneur.

Startups thrive (or die) based on the availability of capital from VCs, particularly at the formative stages of their lives when the business itself is in growth mode and can’t support itself through operating cash flow.

Cash is undoubtedly king in the startup world—and in the business world more generally.

“Live to fight another day” is another great startup mantra to always keep front and center in your mind.

VCs seek investment opportunities with asymmetric upside payoff potential. This means low risk and high reward with a minimal loss compared to the extraordinary potential gain.

Successful venture capital firms do not just pick winners. They work with the companies they invest in and help them throughout the company-building life cycle over a long period of time.

A company typically leaves the venture ecosystem one of three ways: via an initial public offering (IPO), a merger or acquisition, or bankruptcy and a wind down. If you look at VC exits today, more than 80 percent come via acquisition.

Venture capitalists raise investment funds from a broad range of limited partners (LPs), such as endowments, foundations, pension plans, family offices, and fund of funds. The capital raised from LPs is then invested in great entrepreneurs with breakthrough ideas.

There is actually too much money chasing too few deals out there. VCs and their investors are unable to put enough money to work. Possibly for the first time in history, we’re talent-constrained instead of capital-constrained.

Conditions now favor entrepreneurs more than ever. Barriers to entry are being reduced everywhere, thanks to the semiconductor revolution, the rise of globalization, and the influx of new talent into every industry and sector.

The difference between a top-performing venture fund and a poor-performing one is not the batting average, but rather the at bats per home run.

Good VCs get a hit about five times out of ten at bats (a .500 batting average). A VC “hit” means that the investment returns more than the original amount the VC invested in a company. Luckily, we still have 10–20 percent of our investments left—and these are our home runs. These are the investments where the VC is expecting to return ten to one hundred times her money.