In about 50% of instances where an early stage company actually succeeds in raising venture capital, the founder CEO is fired within the first year and kisses most of his or her equity good-bye. Even the Wall Street Journal pointed this out in a article by Barnaby Federer from 09/30/02:
"If you ask a VC what value they add, and you get them after a few drinks, they'll say, 'We replace the CEO' ", he said. And that, he indicated, does not vary with the economic climate.
It usually occurs in this manner. The venture capitalist invites the founder out for a friendly lunch. During the meal the venture capitalist brings up a new person who would benefit the company greatly through his connections or industry experience. The venture capitalist explains that although this person is not available to serve on the management team, he could probably find the time to serve as a director. Yes, it would mean making the board larger than originally agreed to by everyone but this guy is a “star”. The founder wishing to please his venture capitalist reluctantly agrees to the change in board size.
The new face turns out to be the extra vote the venture
capitalist needed to make wholesale management changes. Within a week the board
has fired the founding team and replaced them with friends of the venture
capitalist. Oftentimes the new board member assumes the CEO role.
Yes, this scenario happens often and has little to do with the founding team’s performance. Venture capitalists just prefer their friends at the helm.
Bottom Line: If you had the clout at the beginning to negotiate a board of directors balanced between management and venture capitalist, don't be a wimp and give it away for nothing. To do so only reinforces the venture capitalist's belief that he was right about replacing you.
The best tactic to employ when faced with this offer is tell the venture capitalist that you 1) can't recommend someone for a board seat until you are satisfied that they can make an actual contribution, and 2) that since the board is working well it would be preferable to compensate this person--once they have made a tangible contribution--with consulting fees instead of a board position.
Finally, if you sense a strong negative reaction from the venture capitalist you can be assured that there's trouble brewing in River City and it's spelled with a capital "T". He will always have a Plan B for pink-slipping you and it won't be pleasant. Call your lawyer immediately, and I mean your lawyer not the company's.
You're about to experience your own personal "Night of the Long Knives".
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This happened to our company last year. The company was doing well hitting its numbers but the VC wanted their in-house entrepreneur to take over the helm. The founder who was a great CEO lost 90% of his equity. The fuckers.
Posted by: Gordon | January 30, 2008 at 12:39 PM
How do they lose their equity? Where does it go?
Posted by: | January 30, 2008 at 03:12 PM
It's in the fine print. If you're fired or die the VC gets to yank back your common shares into the pool of unallocated stock.
Posted by: Gordon | January 30, 2008 at 03:50 PM
Great post! I like to think I have a thorogh understanding of venture capital but still learned a lot from you. I will remember this post when I start dealing with them.
Posted by: Don | January 30, 2008 at 04:15 PM
This is true. After completing my MBA, I was hired by a Sand Hill Road venture capital firm where I worked for six years before leaving to start my own company. This is how founders are kicked out. The trap is set over a friendly lunch. The founder naively agrees to the board addition and the axe comes down within days. Sometimes it happens at the next full board meeting. But just as often the founder receives notification from a secret board meeting, to which he wasn't invited, that he's been terminated.
I have seen a dozen of these firings and in at least three quarters of the acses the venture capital firm just wanted their own man in the driver's seat.
Posted by: Stanford MBA '98 | January 30, 2008 at 07:19 PM
Whoa! I guess a little girding of the loins is in order before traipsing off to a 2-martini VC lunch, nu? Surprise!
It's not about friendship or fun, it's about power and money, let us not forget.
Thanks for your thoughts on eating some humble pie.
Anthony Kuhn
Posted by: Anthony Kuhn | January 31, 2008 at 01:37 PM
you folks need to read venturebacks
Posted by: /tmp | January 31, 2008 at 02:44 PM
Who picks up the tab at these lunches?
Posted by: Beef Jezos | January 31, 2008 at 04:22 PM
Keep up the good work. Most bloggers are a mutual ass-kissing society and little more.
Posted by: . | February 01, 2008 at 01:34 AM
This is a refreshing change from the usual self-serving stuff posted by venture capital asskissers. Thank you for daring to tell the ugly side.
Posted by: SV Startup | February 02, 2008 at 11:18 AM
Mmmm...This post makes me feel all warm and secure.
Posted by: David Mackey | February 04, 2008 at 08:52 PM
I do not doubt that a low U.S. federal-funds rate in response to the dot-com crash
Posted by: Igor | May 04, 2008 at 03:58 PM
Surprsing or Not? 50% of venture funded startups fire CEO/founder in first year [VOTE] - http://www.thriveorfail.com/b6509
Posted by: Kevin | August 08, 2008 at 07:02 AM
Blogs are so informative where we get lots of information on any topic. Nice job keep it up!!
Posted by: Finance Diseratation | October 12, 2009 at 05:02 AM
is it worth to check integrity and professionalism ?
Posted by: keladi tikus | September 26, 2010 at 07:28 PM