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How to Approach Venture Capital Firms?
dev asks: "A friend of mine has designed a device (yes, it runs Linux) which fills a gap in a certain market. A prototype is nearly ready, and he asks himself how to approach a Venture Capital firm or a partner firm the right way. He is really paranoid that someone could rip him off, or could steal his design, and he would like to know what he should look for and how secret he can keep his device, i.e. talking to a firm without telling too much." I'm hoping some of you out there who have some experience with this are willing to give some good advice.
I traipsed around and visited a bunch of Boston area VC's over the span of about 14 months, a while ago. Ultimately, our venture was not funded, and we gave up. But I learned an awful lot.
1) VC firms are in the business of meeting with investors. That's how they find new opportunities. They are *not* in the business of stealing your idea; most of them won't have the faintest idea how you do what you do. It may be difficult to get a first appointment, but there are a number of ways to do so. In Massachusetts, there is an organ of the state government that functions as a pseudo-VC; they are extremely helpful in getting you in to see other VC's.
Getting a meeting with a VC means nothing. Don't get excited when it happens. They're PAID to meet with you.
And don't expect them to sign an NDA, for the reasons that others have enumerated below.
2) VC's generally have a "hidden agenda." They like to invest in certain companies with a certain profile. It helps to identify this profile before you see the VC. Ask every VC you get to meet if s/he can think of a VC who invests in companies with the same basic market/structure/whatever as yours. A VC who decides you don't fit the profile dismisses you, and you'll often never know why.
3) Some VC's invest in zero-stage companies; most don't. Most VC's would rather be second- or third-money in; nobody wants to be first. So the first investor is the tough one, because everyone else just piggy-backs off #1's due diligence. It's usually easy to find a zero-stage VC -- just ask. For example, "Zero-Stage Capital" was such a VC in Boston. Duh.
4) For some ventures, only "angel" investors are appropriate. Our venture, for example, fell somewhere between two VC "categories", and everyone from category #1 was scared off 'cause the venture smelled like category #2; and vice-versa. Angels are tough to find; several of the ones who met with us were funneled our way by a VC who couldn't fund us, but who believed in our idea.
5) Patents are appropriate for four reasons: first, they smoke out whoever else has already patented your idea. "Wait," you say, "my idea is totally original and wonderful and nobody could have possibly patented it." Wrong. You should see the claims in some of these patents. Patents from left field are uncovered by the patent search, and are somehow applicable to your idea! You have to navigate carefully through this minefield.
Second, a patent (pending or otherwise) is a valuable commodity when dealing with some investors. Hip VC's know that a patent is useless, and that speed to market is the key to success; but angel investors (and even some VC's) sometimes aren't that bright. Neither are bankers.
Third, a patent is an important *asset* for your new company. Why? Because patents can be CAPITAL ASSETS. Developed software in an LLC, for example, IS NOT A CAPITAL ASSET. What does this mean? It means that when you sell out your little LLC to some bigger fish, you pay ORDINARY INCOME TAXES on the sale of the asset. Can you say ouch? On the other hand, you can sell the PATENT to someone (along with the software) and get capital gains treatment for most of the transaction. This could amount to huge $$.
Fourth, a patent *protects* you from some other asshole who comes along later and patents something similar. Until we slap ourselves upside the head and make software patents illegal, there's always going to be some moron who tries to patent, say, a heapsort. And there's probably some patent examiner who will let it through. So you *have* to patent your idea, in self-defense.
You should expect to pay about $5-7K, spread over several years, to your patent attorney. S/he should be able to tell you whether you are likely to exceed that amount or not, depending on what the patent search turns up.
6) VC's are generally looking for reasons NOT to invest in your company. That's helpful to them, because it culls the herd, so to speak, quickly. I can remember one meeting with a Boston VC which was dominated by a woman who had read an article the day before (with only tangential applicability to our idea) that pissed all over certain technologies. She trotted out her article, and that was the end of us.
Maybe she was just having a bad day. Whatever. We were screwed. Get used to this phenomenon -- VC's try to pigeonhole you so they can understand you. Truly new ideas are difficult to get across to them. They would, by and large, much rather invest in something conventional.
7) VC's tend to like big deals better than little deals. If you need $20M, you are more likely to find it than if you need $2M. Paradoxical, but true. Try to find reasons why you need boatloads of cash, but don't think you can fool anyone. They have to be legitimate reasons. These guys are finance dweebs and they are idiot savants when it comes to budgets and dollars.
OK, that's the brain dump. Hope this was helpful.
Or you can file a Disclosure Statement with the patent and trademark office, and they will keep it in confidence as evidence of the data of conception of the invention or idea. You can either send a 8 1/2" x 13" drawing, a copy, signed disclosure, SASE and a check or money order for $6 or a request for more information to the address below:
Disclosure Statement Commissioner of Patents and Trademarks Patenet and Trademark Office Washington, DC 20231
The phone numbers to that office are as follows:
Recorded Message 703-557-3158
Disclosure Office 703-308-HELP
Legal Council 703-308-HELP (Yes I know it is the same number as the Disclosure Office)
Note that someone else could still go out and patent the idea first if you don't dispute it while the patent is still pending. So your friend might want to consider getting a patent attorney and filing for the patent before he goes to the VC firms. If I was your friend I wouldn't worry too much about Venture Capital Firms stealing his idea though. VC firms would be out of business if people couldn't trust them. Just make sure to go to a firm that has given capital before. In other words stick to the more established capital firms when introducing new technology.
I hope this helps.
Some clarifications: First of all, we don't sign NDAs. Neither do any other reputable VCs along Sand Hill Road, because we'd quickly be swamped with them (we review upwards of 10,000 plans a year). Our business depends on our reputation, and nothing else--everyone's money is green, and our competitors are literally everywhere along Sand Hill. If someone approaches us with an NDA, and refuses to talk until we sign, we pass on the deal.
Second, VCs do take a big ownership stake. But it's not just about money. We have the connections into our portfolio companies and into other large companies around the Valley and beyond. As an early stage firm, we work for our money. We help recruit talent, we help with later financings, we help make strategic decisions, etc. CEOs often talk with their lead investors several times a week.
Third, regarding patents, they're nice, but what's more important is defensibility in the marketplace. With the exception of foundational algorithms like RSA, it's unlikely that patent protection will be all that significant. It's more important to have a lead over potential competition due to a combination of better technology, speed, and strategy.
Finally, no bank in the world is likely to give a loan to a startup company without financial backing--you're simply too risky, and there's no assets to recover. VCs can handle the risk; we're used to it.
As far as advice goes: 1. Make progress. Prove your assumptions--people want your product, say they will pay for your product, want an alliance with you. Move your technology as far along as possible. Hire good people.
If you have had no professional money invested yet, consider approaching angel investors Garage.com, Angel Investors LP. They will help you advance to the stage where VC money is appropriate. If it's two guys and an idea, we generally won't back it unless it's people we know and trust already. And sometimes not even then.
2. Think about the strategic landscape of the market you're entering now, 6 mos from now, a year from now, and beyond. What will happen once you enter the market? Most importantly, what problem are you solving, and who will pay you to solve it? How much will they pay? How will you market to/sell to them? VCs will ask tough questions about everything--you, your competition, your technology, your strategy, etc.
Good VCs aren't just money managers--they are engineers with MBAs. Many have CS or EE degrees, and all are up on the latest technologies. You'd be surprised how many technical discussions take place here.
3. Do your homework. Figure out who else is out there, what they're doing, and make yourself stand out. Be the diamond in the rough of 10000 plans we see. For advice on how to do that, check out MIT's 50K page. Pay special attention to the "resources" section.
There are dozens of other pieces of advice to offer. So I am considering creating a website with this and other information on the VC process. Does that seem like something people would be interested in? If so, please post a reply, and I'll start putting one together.
I may not know much about the kernel, but finally a subject I can be useful on!