• The Rolling Close: Here to Stay or Gone Tomorrow?

    restricted_area_-_authorized_personnel_only_sign_lVenture capital was long a clubby, opaque industry, but AngelList and crowdfunding are two intertwined innovations that have since knocked that model onto its side. Now, another related twist looks poised to roil it again: the rolling close.

    You’ve probably heard the term in recent years. A rolling close is what happens when a management team raises money within a certain window of time with no predetermined size for the “round.” Every amount invested is closed immediately at a set valuation, versus a traditional funding where a round isn’t closed until a predetermined minimum is raised.

    The messaging service Snapchat is the highest-profile company to employ the model, closing $485 million from 23 investors over the course of nine months last year.

    Last week, as TechCrunch reported, an eight-year-old, London-based film streaming service called MUBI closed on $15 million in similar fashion, raising the money from 49 investors over many months.

    StrictlyVC is aware of two startups in San Francisco that are currently employing the same tactic.

    You might think of it like crowdsourcing, without the middleman. “Whoever wires the money is in, and when you reach your target, you ‘close’ the round,” MUBI founder Efe Cakarel told TechCrunch.

    Ramana Nanda, an associate professor at Harvard Business School, characterizes rolling closes as a product of a frothy market – full stop. It’s an “effective strategy for entrepreneurs in industries and at times when capital for startups is abundant and financing risk is low.”

    As long as firms and investors can reasonably expect to continue raising money on good terms, Nanda says, they’re “less concerned about having a cash cushion in the event that things don’t go as well as expected, or because investors will not show up when the cash reserve runs low.”

    Rolling closes are also tactical, argues Todd Chaffee, a managing director at Institutional Venture Partners, a Snapchat investor that wrote its first check to the company in 2013. “The formality of, ‘Let’s close this round, get back to business, and then raise another round’” isn’t always ideal for a fast-moving company, Chaffee says, calling rolling closes a “more fluid and dynamic approach.”

    Still, there are downsides, including — presumably — managing investor relations. According to TechCrunch sources, Snapchat CEO Evan Spiegel has been known to invite different parties to invest in Snapchat at different pre-money valuations. (TechCrunch says some investors funded Snapchat last year at a $10 billion valuation while others participated at a pre-money valuation that was closer to $20 billion.)

    MUBI’s backers invested at the same pre-money valuation, but all while the company’s post-money valuation was rising, meaning that every subsequent investor in MUBI’s newest fundraise was getting less of the company for his or her money.

    It was a “very transparent and fair process,” says Cakarel, who tells StrictlyVC that “new investors weighed [MUBI’s] increased ‘pre-money’ valuation against a company that was becoming better capitalized [and] that continued to grow its subscriber base significantly throughout the funding period.”

    Little wonder that investors who are accustomed to traditional rounds — where everyone receives the same terms — aren’t sure what to make of the trend. “We haven’t seen this sort of financing/closing structure in the late stage,” says Paul Madera of the late-stage investment firm Meritech Capital, but we “generally wouldn’t be very comfortable with it,” he adds.

    Hunter Walk, cofounder of the seed-stage firm Homebrew, says his firm has “occasionally participated” in rolling closes — in cases where the entrepreneurs are “herding cats a bit and want to put money to work right away from committed investors.” At the same time, he says, “It would give me pause at the seed stage to see a founder who tried to mark up the company several times during a round.”

    The big question, of course, is whether rolling closes are here to stay. Only time will tell, but our guess is that they are — that they’re indicative of how private financings are moving toward a more market-based approach. After all, if there’s more demand for an issue, doesn’t it make sense to raise the price? Why should founders be forever bound to the artificial constraints of “rounds”?

    As Cakarel puts it, “It was unimaginable, even eight years ago when I started MUBI, to do a round of $15 million from a bunch of individuals, each coming in with somewhere between $50,000 and $1 million in Silicon Valley.”

    Cakarel isn’t saying he’s closing the door on VCs. “Raising institutional capital is also very attractive, and VCs can add a lot of value.” But he notes that “VCs are no longer the only option you have for this kind of capital. And this is good for entrepreneurs. Out of options come good decisions.”

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  • The Startup Whisperer, Paul Graham, on Getting Back to Basics

    Paul-GrahamCombinator cofounder Paul Graham spoke at the Launch conference in San Francisco yesterday afternoon in a “fireside chat” with the event’s founder, Jason Calacanis.

    While it wasn’t exactly a hard-hitting interview – these things are rarely intended to be – Calacanis managed to surface a lot during their conversation. Graham spoke at length about about Y Combinator’s earliest days, for example; addressed a couple of the controversies he has found himself embroiled in over recent months; and explained the rationale behind his decision to relinquish day-to-day control over Y Combinator. (He’s basically exhausted and wants his “brain back.”) Calacanis also asked Graham plenty about what indicates to him that a startup might succeed or fail. Here’s some of what Graham — whose platform has helped launch Airbnb, Dropbox, and Stripe, among more than 600 other companies — had to say:

    On one of the quickest ways to get crossed off the list during an application interview with Y Combinator:

    “The founders have to get along. If the founders hate each other, you’re in big trouble,” and it happens “very, very often,” said Graham. “You don’t know how good friends you are with somebody until you try to start a startup with them. That’s why it works so badly when you have some startup that’s started by some dude in business school who has this idea for some startup, and then he goes and finds some, like, 20-year-old meek, undergraduate computer science major to realize his vision, and that’s the founding team … If you go into a Y Combinator interview, and one of you looks in terror to the other one before answering questions, that’s one of our secret tells. Or if you roll your eyes while your cofounder is speaking, which has actually happened, or if you stand up your cofounder – like you don’t show up for the interview… these have all happened.”

    On a founder type that Graham may have misjudged earlier on his career:

    “The one thing is people who are very smart, but that’s it. People who are very smart but ineffectual. We used to have more faith in brains. It turns out you can be surprisingly stupid if you’re sufficiently determined. And anyone can tell this empirically. There are some parts of America where there are a lot of rich people and they’re not very smart – parts of Manhattan and Florida and L.A. You don’t have to be supersmart if you’re fearsomely effective.”

    Calacanis asked him the most important thing for startups to focus on:

    “There’s a meta answer to that,” said Graham. “The most important thing for startups to do is to focus, because there are so many things you could be doing, but one of them is the most important, so you should be doing that and not any of the others. So you should not be grabbing coffee with investors. When you want to raise money, you shift into fundraising mode and you go and raise money. You do not promiscuously meet with investors in the middle of the day when you should be working simply because they send you an email saying, ‘Hey, let’s grab coffee.’ There are a 1,000 things you could be doing, and only one of them is the most important … and you work on that.”

    On the essence of growing a startup:

    “You have to start with a small, intense fire. Suppose you’re the Apple I. I think they made something like 500 of those things. So all they had to do was find 500 people to buy these things and they launched Apple. Apple! So you’ve got to find a small number of people – it’s necessarily going to be a small number of people…who want what you’re making a lot… You don’t have to do any better than Apple and Facebook. You’ve got to know who those first users are and how you’re going to get them, and then you just sit down and have a party with those first few users and you just focus entirely on them and you make them super, super happy.”

    Calacanis also managed to back into a question about how Graham righted the ship when, in 2012, it began to seem that Y Combinator was accepting too many startups into the program for its own good. (Its summer 2012 class welcomed 80 teams.) Considering that Y Combinator intends to grow much bigger, and may even spread to other cities eventually, according to Graham, his answer seems noteworthy:

    “We thought, ‘Why does this batch suck so bad? Why do we hate our life?’ There were startups, like halfway through the batch, I still didn’t know what they were doing. And we were asking what went wrong and it was so obvious…It was N squared, specifically,” said Graham. “It would be no problem having that many partners dealing with that many startups, so long as they were sharded,” he added, referring to a programming word that means a horizontal partition. “So we redesigned YC to be sharded and it has been ever since and it works just fine. Like, 68 [teams], no problem … We have three siloes, each one overseen by a group of partners. So basically, it’s like three little Y Combinators. And we know little Y Combinator works.”

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