It's been a while since I've last had the chance to do so, but I always look to try to draw out lessons learned from successes and failures that I've witnessed firsthand in this sector over what's now something like 12 years of being a cleantech investor. In particular, over the past year or so, I've gained a lot more of these lessons, for better or for worse. (We've already covered exits, growth and the limitations of the venture model.)
Venture capital has always been described as a "coopetition" model. The investors sometimes find themselves competing with each other for deals, and then once they find themselves as co-investors around a startup, they work together to help build it to a success.
This model was originated right from the start, because from the very beginning, building great companies was seen as a very difficult undertaking. Hard enough to require everyone helping out, bringing different customer and partnership relationships to the table, helping build a team, and collaboratively determining market strategy. As VCs became more visible, the ability to lend their brand equity and fundraising prowess to startups has been additionally valuable, and an area where multiple investors can contribute simultaneously.
Because the model was based around an assumption of some level of collaboration, the standard VC-driven governing documents for startups reflected this assumption. Remember that the asset class is really not that old, so many investors would disagree with each other about standard operating procedures; I'm always amused to watch boardroom conversations where various senior investors express great certitude around things like, "This is the way it's done!" Nevertheless, through the efforts of the The National Venture Capital Association and some pioneering legal experts and investors, some standard documents and language have evolved. And they reflect this assumption of collaboration.
Thus, you see protective provisions in the documents that make sure investors have a collective say in major changes to the business, like selling the company or taking on major debt or a new financing. Most often I've found that, by the time you get at least two major investors involved in a company, they set the voting thresholds so that no single big investor holds veto power. This prevents a unique situation at one of the company's investors from holding up necessary progress or even painful changes. It also requires that everyone be consulted and included in any conversation about major changes to the company. The concept is to use these voting requirements to make sure collaboration happens.
It's worth mentioning the difference between board voting and shareholder voting here. Board directors, via fiduciary duty, have the obligation to make the best decisions they can on behalf of all shareholders (typically shorthanded to just the common shareholders), whereas protective provisions and other clauses requiring a shareholder vote impose no such fiduciary duty upon the shareholders when they're voting their shares -- they can simply vote how they please. So what I'm talking about here are shareholder votes, the motivations of those individual shareholders/VCs, and the implications for the company.
The most obvious example would be a situation where a startup, having hit some hiccups, requires a "down round" financing, because that's the only outside financing available to them. If, for instance, one of the major investors around the company doesn't want to broadcast a lowered valuation (because they're in the middle of raising their next fund, or for whatever reason), you don't want their individual internal situation dictating the startup's decisions. Perhaps they have the right to nominate a board member, and that director votes in favor of the down round. But the firm itself can still vote their shares against it, for whatever reason, and if the thresholds are set so that they have a veto position, that financing doesn't happen.
All of which still makes sense if everyone acts rationally to build the company together. After all, who would possibly risk the startup running out of cash, even if it meant having to take a down round? So ideally, the voting thresholds will be set so that no single investor has a veto, but even if they do, you generally expect them to agree with obviously necessary steps.
But this rational story hides lots of loopholes. Because the asset class and its document library is relatively young, not everything has been formalized in the language to prevent people taking advantage if they want to. So I have, for instance, seen examples where some investors use a veto position to block necessary actions for a startup's survival, as a negotiating ploy. Essentially, they hold the startup hostage to demand extra economics from the entrepreneurs and even their fellow co-investors, before agreeing to a do-or-die deal.
This may be the way the rest of the tech world is evolving, perhaps, as it becomes more transactional and as more people involved in the venture industry are financially motivated rather than just being committed to growing great companies. But for entrepreneurs, it can be a big problem. And especially in the cleantech sector, where so many startups face additional obstacles. We simply cannot afford for people stuck in the same boat to be rowing in different directions.
In the early days of the cleantech sector, investors seemed to be very committed to collaborative models. Perhaps it was because it was a small community, and everyone knew each other and knew they would be working with each other in the future. But in my early experiences as a cleantech investor, whether we were climbing a summit together or stuck in a foxhole together, there was a strong expectation that we were all working together, even across investment firms. I see this today across the family-office network we work with, as well.
Unfortunately, not everyone in the VC industry seems to agree these days, and even more unfortunately, many of them seem to get away with non-collaborative behavior far longer than you would expect, even when it clearly doesn't work to benefit their own returns in the end. This has affected a number of cleantech startups over the years.
It's a shame, and it doesn't have to happen. Cleantech entrepreneurs and early-stage investors can and should do significant diligence on new investors who offer to join their companies. Are they collaborative or combative? Do they add good value and truly welcome input from others, or do they distract from the collective effort with sideshows, and accept only their own interpretation of how startups should be grown?
Over 12 years of doing this job, I've had the opportunity to work with a lot of different investors along the way. Most have really impressed me with their insights, their ability to add direct value, and their commitment to helping entrepreneurs succeed. I've been privileged to learn first-hand from the examples of some really great venture capitalists who are exactly what an entrepreneur could hope for. Only a few I've encountered have seemed to purposefully interpret their role in a different way. But those few examples have been enough to convince me that cleantech entrepreneurs and early-stage investors really need to do their homework before letting any new investor into their company. This world-changing mission is hard enough as it is, without letting non-collaborative investors make it harder.