5 Tips On VC Alignment: Discuss The Exit Before You Enter

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5 Tips On VC Alignment: Discuss The Exit Before You Enter


The following is a guest post from Jeff Bussgang.  Jeff is a serial entrepreneur and currently a general partner at Flybridge Capital Partners, a Boston-area early-stage venture capital firm.  Jeff is also the author of the recently released book “Mastering The VC Game”.

One of the hardest things about venture-backed start-ups is achieving alignment.  When there is alignment between entrepreneurs and VCs, all collective energies are directed towards the magic of building an amazing, world-beating start-up from scratch.  When the entrepreneur and VC are out of alignment, the likelihood of success plummets and self-inflicting wounds, rather than market- or competition-related issues, tend to dominate the agenda.business boxing onstartups

In researching my book on entrepreneurship and VC, Mastering the VC Game, the issue of alignment came up again and again from both sides of the table.  Here are some of the best practices I heard from the entrepreneurs and VCs I interviewed:

1. Be explicit from the start.  Naturally, there will be pockets of misalignment – VCs and entrepreneurs answer to different masters and sometimes have different structural objectives.  Making explicit these pockets of misalignment and talking them through openly is often even more critical than the particulars of, say, the deal terms in a financing.  One useful technique for clarifying the various scenarios of misalignment in financings and M&A outcomes is to maintain a simple spreadsheet with the entrepreneur-VC split laid out under different exit outcomes. This distribution of proceeds in the event of a sale is often called the “waterfall,” evoking an image of sale proceeds cascading like a river to various shareholders.  I recommend entrepreneurs be clear at all times and at every financing about what the waterfall calculations look like for each of the preferred and common shareholders.

2. Seek first to understand, then be understood.  I borrowed this one from Steven Covey.  It’s important that entrepreneurs understand the VC’s perspective in all situation and through what lens they are looking at things. For example, if everything goes well, most of the control-oriented provisions in a term sheet never come into play—it’s all discussion, earnest debate, and aligned decisions. But when things go poorly and there are the inevitable disagreements, the VC is often in the driver’s seat to make major decisions. Only in rare circumstances can the entrepreneur retain full control of major decisions after they take VC financing.  Therefore, entrepreneurs need to invest the time and energy to understand how VCs are compensated, motivated and what the particular interpersonal dynamics of their board member are within their partnership.  For example, how much carried interest does their VC board member have in their respective partnership compared to the other partners?  VCs always want to know how the equity is split amongst founders.  Turnabout is fair play.

3. Don’t take it personally.  Zynga founder and CEO Mark Pincus put it very well to me when he said, “I tell entrepreneurs:  don't be a victim. It doesn't matter whether you like the venture capitalists or don’t like them, really.  Structurally, they have areas of conflict and areas of overlap with you.  Depending on the way things go, there's a high likelihood that you're going to run into conflict with them at some point, whether they're your friends or not. And what defines great companies and what defines great venture capitalists and great entrepreneurs is not whether or not you run into those conflicts, but it's how you navigate around them.”  The key is to de-personalize this and simply understand what is the job of a venture capitalist and what are their levers.  Mark voiced every entrepreneurs fear, “All that we feel as an entrepreneur is, ‘They're trying to get control of my company. They want to mettle. They want to second-guess me when things go bad and ultimately fire and replace me.’” It’s natural for those issues to come up. So talk about them, as dispassionately as you can.

4. Discuss the exit before you enter.  Before you accept a VC’s money, make sure you are on the same page about your financial objectives and what defines success in terms of ultimate outcomes.  If you don’t see eye to eye on the exit criteria and framework in advance, don’t bother entering into business together.  Some VCs, particularly those with smaller funds, like you to raise less money and operate in a more capital-efficient fashion.  Others, particularly those with larger funds, will push you to go for the bigger outcome.  The nightmare scenario arises when an entrepreneur may be thrilled with a $100 million exit, but the VC doesn’t feel it’s “good enough” and blocks the transaction to play for a bigger win. The VC is swinging for the fences and has many chances in their portfolio to generate enough returns to ensure success for their fund, while the entrepreneur may feel this is their one shot and being a multimillionaire is good enough.  Fred Wilson tells a great story I include in the book about a team of entrepreneurs getting pressure from their spouses to take the $100 million offer and cash out.  Hard to argue with your spouse that it’s worth doubling down on your start-up when paying down the mortgage and putting enough money to pay for college is priority #1!

5. Communicate, communicate, communicate – no surprises. In trying to ensure VC-entrepreneur alignment, nothing helps like clear, transparent, high frequency communication.  And nothing hurts like a lack of transparency.  “No secrets. No surprises,” Dave Balter CEO/founder of BzzAgent explained. “I heard that early as a CEO.  If something new is going to come up in a board meeting that’s not good, put the calls out early to the directors. ‘Here’s what’s going on, here’s why. I want you to think about it. Help me.’ So when we get in the board meeting, they don’t say, ‘What are you talking about?’”  I had one situation where a CEO revealed to me that his technical co-founder was moving to Spain for personal reasons right in the final stages of a new funding process. He was nervous about telling me, but did it in an honest and open way as soon as he found out. His candor was compelling to me, and his plan for recovery was pragmatic and thoughtful, so we still funded the company.

To be successful partners in business-building, entrepreneurs and VCs have to trust each other to be open about their motivations. In the case of the entrepreneur, they may be trying to protect their position of power at the expense of shareholder value. In the case of the VCs, they may be trying to achieve gains on behalf of their limited partners at the expense of the other company shareholders. If entrepreneurs and VCs suspect that the hidden motivations of the other are dominating their behavior and their decision making, they will lose trust in their advice and counsel. That’s when the soap opera stories begin.

In the end, entrepreneurs need to raise the right amount of capital for their business, under terms they can live with (and can achieve under the circumstances) from VCs with whom they have great chemistry and who they believe will be good business partners for the long, hard journey. It’s difficult enough to build a large, valuable company from scratch. Imagine if you get some key decisions wrong and start off with the wind in your face.

But the right decisions and the right VCs put you in a position with the wind at your back, allowing you to focus on all the tough challenges of building a business and creating value in your start-up.

Learn more about Mastering the VC Game at www.jeffbussgang.com.  You can follow Jeff on Twitter @bussgang.

Posted by Dharmesh Shah on Thu, Apr 29, 2010


Not communicating can land you in heaps or trouble down the road, topped with a generous helping of headache. Never 'assume' that they understand something the same way you do, especially when it hasn't been discussed. 
Great post, thanks!

posted on Thursday, April 29, 2010 at 11:24 AM by Chris Mower

Thanks for posting this article. Very insightful, especially for a startup like ours seeking the first major round of venture funding.  

posted on Thursday, April 29, 2010 at 11:43 AM by Justin Sharry

Great article, Jeff! I purchased "Mastering the VC Game" on Amazon yesterday and I'm really looking forward to reading it. 

posted on Thursday, April 29, 2010 at 11:49 AM by Ryan Beale

You had me until you started quoting Zynga's CEO.

posted on Thursday, April 29, 2010 at 4:25 PM by Richard Hassinger

Great post Jeff, you were awesome at the NYU 0260 conference!

posted on Thursday, April 29, 2010 at 4:39 PM by Trevor Owens

Great post. I particularly like item 2. It is only human to get so caught up in your own vision and think that if you explain it enough others will just get it. Unfortunately, the fellow you are trying to convince often is just as much a prisoner of his vision/needs as anyone else.

posted on Sunday, May 02, 2010 at 9:38 AM by dave broadwin

Dharmesh, just like in a marriage, the key is communication, communication, communication! Nice post. Thank you. Des

posted on Sunday, May 02, 2010 at 9:22 PM by Desmond Pieri

"Seek first to understand, then be understood" 
This is a great mantra for life. Listening will get you respect and allow you to respond better. 
When it comes to not taking things personally, the best way to do this is to develop an "on the court/ off the court" mentality. When you're in the arena, things can get rough, but it's part of the job. When you're off the court, you can be friends again.  
Yet, again why the athlete is a great analogy to the entrepreneur. You have to do business with people you'll have a personal relationship with.  
"on the court/off the court"

posted on Monday, May 03, 2010 at 11:00 AM by Kevin Vogelsang

Great points, I agree whole heartedly. 
Its important to decide as well what you want out of the business. If it is to see a powerful idea flourish and do great things, VC is excellent although you must be willing to flex and do what it takes, including stepping down at some point. If it is a lifestyle or control thing (the idea is your baby), then VC may not be the way to go in the first place. So again as has been said, communication! that includes with self!

posted on Friday, May 14, 2010 at 12:10 AM by BillyB

Excellent article Jeff. I also enjoyed your comments while on a panel recently at Larry Gennari's office - that was a great event. I especially agree with the points regarding communication and clarity. Entrepreneurs, here are some more comments regarding VCs and angel funding that you may find helpful, from the MassChallenge.org website: http://www.masschallenge.org/blog/bettina-hein-how-get-angel-investment

posted on Thursday, May 20, 2010 at 2:51 PM by Amy Tindell

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