Capital And You (Part Four)
This is post is the fourth in a five part series on Capital, and You.
Previously, I defined capital as potential power, and argued that the primary optimization objective of the venture capitalist is to acquire more capital. Further, the board is the embodiment of the Corporation, it is made up of people who represent the Venture Capitalist, the Founder(s), other shareholders, and by proxy, Capital, and it is obligated to behave in a manner that increases capital accumulation.
This fourth post expands on the relationship between the Board and the Founder.
Noam Wasserman, in his book, The Founder’s Dilemmas, makes the case that a Founder has one of two optimization objectives: to be a king or to be rich. Either the Founder is setting out to maximize their control of their firm and their destiny, or, they’re setting out to maximize the amount of capital they accumulate for themselves. The dilemma is how to maximize control and capital accumulation at the same time.
In order to grow their corporation, the Founder has to access the power locked up in capital. If the Founder already has capital, they can self-fund their way into growth. That is rarely the case. Often, the Founder must access and deploy significant volumes of Capital in order to grow the corporation. In startups rooted in data science, including analytics, narrow machine intelligence, wide machine intelligence, and general artificial intelligence, considerable volumes of capital are required.
The Founder starts off with 100% equity in their corporation. At founding, they, alone, are the board. They are often the President of the Board, and the Chief Executive Officer. From day one, the Founder is also the Chief Operations Officer, the Chief Financial Officer, the Chief Human Resource Officer, and the janitor. They are the board, and as such, the embodiment of the corporation.
The deal they strike with Venture Capital is that in exchange for a sharing of the risk, they cede equity and control. One common saying among founders is that the day you hire a board, you’ve hired your boss. You’re no longer king. But you have capital, and the power that goes with it, to accumulate yet more capital. And maybe, you get to make a lasting impression on the world.
Many Venture Capitalists saw that tech founders weren’t so enthusiastic about working with them after a few rounds of getting burned. One day you own 85% of your company and the next you own 40%. It damages the morale of the Founder and their Managers. As a result, there’s been tremendous innovation both in the branding and in the nature of the investment over the years. Some of this is pure predatory behavior, with term sheets designed to sow confusion and cause deliberate harm to management. Some of it can be judged as genuine concern for the capital itself.
If the Founder/CEO is aware that they are trading equity for capital accumulation themselves, then they are aligned with the Board and the Corporation. The Startup is transformed into a financial instrument with the goal of accumulating more Capital. This is why, seemingly suddenly, the CEO becomes obsessed with growth. All they ask about is new sales.
Because they often have to double their sales in under 18 months in order to make the threshold for the next raise. The entirety of the startup is about growth. And their ability to convert that power into a machine that in turn creates even more Capital is on trial.
If the Founder/CEO is not aware, and they retain to a self-image of kingship or lordship, you’ll watch some interesting fighting between the board and management. Sometimes the CEO and the Board become misaligned on how to scale. This too may doom the startup if they can’t figure it out. Doom.
If the Founder/CEO are aligned with the board, then they are aligned in accumulating as much revenue as possible to form a liquidation event, resulting in great capital returns for both the Venture Capitalist, the Founder, and any managers or employees that didn’t get laid off during the traditional profitability cutting that happens just before diligence to juice up that valuation.