Monthly Archives: March 2014

Growing Grapes

Red Grapes on the Vine in Napa ValleyDuring a winery tour in Napa Valley, our guide revealed to the group one of the secrets of growing perfect grapes for wine: restricting the amount of water fed to the vines. She explained that, with a restricted water supply, the vines concentrated their growing energy on the grapes in order to enable propagation of the species. With all that energy going toward the grapes, the grapes would be filled with rich sugars for later fermenting.

If they over-watered the vines, the vines would start growing lush leaves, which would provide a beautiful canopy while it competed with the grapes for available resources, diminishing the quality of the grapes. And watch out if water becomes scarce: the vines will suck those grapes dry in order to continue feeding the pretty leaves. Eventually, all that will be left will be the vines, some leaves and a bunch of shriveled raisins.

To me, this is a great analogy on financing companies. If you keep the money supply tight, the company focuses its energy on the things most important to keeping the company moving forward. If you over-water that company, it starts to build a lot of leaves: corporate functions and capacity that are “nice to have” luxuries at best and premature waste at worst. Moreover, when an over-built company runs short on funds, the amount to keep the company going may be too much to justify based on its larger-than-necessary burn rate, plus the cost to downsize the company (severance) may be more than the investors are willing to bear.

Every time we invest we risk turning a good project pre-venture financing into a failure brought about by infusion of the very capital we think the company needs to grow. We strive to find the balance between investing too little (thus retarding growth) vs. too much. By remembering that we want to grow grapes, not leaves, we can get that balance right.

Raising Your Children

Family for WebsiteAfter a manager raises a new venture fund, that manager will invest the fund in a series of companies—often 20 or more portfolio companies.  The goal, of course, is to build the companies to successful exits that will generate strong returns for the fund.

Before investing, we spend a lot of time performing diligence on a company and understanding the business, technology, market, customers, sales channels, etc.  Most importantly, we spend a lot of time with the team, and typically invest based in part, and often primarily, on the strength of the team.  We develop personal relationships with the team and, after investing, our portfolio companies are like our children that we hope to raise, put through college and graduate to bright futures.

So, consider this scenario:  say you have twin boys in high school.  One is killing it in math, acing every test and destined to score 5 on the AP test.  The other is struggling to get the concepts and has failed pre-algebra twice.  You check your wallet, and you have enough to hire an after school tutor for one of your kids.  What do you do?

The answer is clear:  use the money to buy your star child an iPad, and give a bus pass to your struggling child, wishing them well but making it clear they are out of the family!  In venture capital, the companies are decidedly not our children, and our job is to create big returns by doubling down on the emerging winners and jettisoning the laggards.

Think about this scenario:  you have invested $2 million each in two companies.  One is struggling, and the value of your $2 million investment has fallen to $500,000.  The other is doing great, and your $2 million investment is now valued at $6 million.  If you can invest $1 million more, and that infusion will enable the receiving company to double in value, putting the money into the laggard will turn $500,000 into $1,000,000; putting that same money in the $6 million deal will produce $12 million.

It can be very difficult walking away from a company on which we’ve spent countless hours performing diligence, in which we’ve invested $1 million or more and with which we’ve spent substantial time serving on the Board and advising, but when the performance goes south, it usually is best to walk away, saving our money and time to spend on the winners.