185. “Blessed” Teams, Pseudo Deal Leads, and Caps at Pre vs Post (Ash Rust)

Download_v2
Nick Moran Angel List

Ash Rust of Sterling Road joins Nick to discuss “Blessed” Teams, Pseudo Deal Leads, and Caps at Pre vs Post. In this episode, we cover:

  • His beginnings in tech and how that led to starting the fund.
  • What’s the investment thesis at Sterling Road?
  • What’s unique about your approach that other firms aren’t doing?
  • Something that I think is frustrating for many founders is seeing these idealistic stories of founders that are raising $5M on a $20M cap with zero traction. And, it’s also misleading in that I have a number of founders that think they need to be raising a lot more than they are… very early on before indications of product fit or even a focused commercial plan. Can you talk about the profile of these teams that are able to raise seemingly irrational seed rounds and then later let’s jump into consequences.
  • The seed round has now divided into a series of phases… we have pre-seed, seed, mango seed, seed+, seed extensions, etc. We’ve spoken to Semil Shah about this and how it’s no longer a stage it’s a series of phases and gates. Can you talk about these phases and how founders should think about milestones and raise amounts prior to raising an A?
  • At New Stack we’ve encountered some strange and troubling circumstances regarding who the lead investor is on a deal and who is not. What are you seeing in terms of who takes the lead and how has that evolved over the past few years?
  • Pro Rata has always been a hot button issue, for a variety of reasons and we’re seeing some new challenges emerge as our portcos are raising up-rounds. What are the key issues you’re observing with pro rata and what’s your opinion on how it should be handled?
  • A number of my founders are either raising more in their seed round or trying to pull-in and raise their A rounds before their ready b/c everyone is sounding the alarms about an impending recession… raise the money now, before it dries up. This seems curious and a bit misleading from my standpoint… What are your thoughts on founders raising more money or raising sooner because of a potential recession?
  • I’ve been getting a number of pitch decks from so-called “CFOs” at startups… yet, upon review of a LinkedIN profile, it’s pretty clear that these folks are bankers. Are you seeing the same and what are your thoughts?
  • I think it was about eight months ago that YC changed its SAFE to a post-money cap, instead of a pre-money cap. They claimed to have the right intentions when they made the switch but we were immediately suspect for a few obvious reasons, some less so. Talk about about SAFEs as an investment instrument and your thoughts on the switch to post money caps.

Guest Links:

Key Takeaways:

  1. Founders can improve exponentially with the right coaching, therefore Ash prefers to spend a minimum of 3 months with his founders before writing any checks. This time period helps demonstrate whether the founder is resilient enough to build a multi million dollar company, which is impossible to measure in a 1 hour meeting.
  2. Ash states that “investments are relationships without divorce.” At early stages when you are primarily investing in the team, the more time you spend up front with founders, the better your ability to understand the risk factors becomes.  
  3. Ash uses the phrase “Blessed Teams” for founders that are raising seemingly irrational rounds of $5 – $10M based on a product idea only, with little to no traction or commercial plans. 
  4. The characteristics of these “Blessed Teams” include – Serial founders who have a big stamp of credibility and an overwhelming technology advantage, raising money for products in large markets that are already well funded. 
  5. Ash encourages founders to first generate individual levels of traction and prove the basics of the business out before accepting large checks from VC’s. He stresses the importance of building businesses that are sustainable, especially when we’re 11 years into a bull market.
  6. Ash outlines his standard formula with B2B companies – First get a sales funnel setup and iterate on the feedback from the first customers, then ideally find a channel to generate new leads and build a playbook for how to take leads through to deployment, and lastly develop customer success processes. This formula allows you to set clear expectations around revenue and sustainability. 
  7. There are multiple milestones and gates to go through before reaching series A, Ash defines the first milestone as a friends and family round of $100k – $250k. He shares how important this round was for him, as a founder, in terms of gauging his level of commitment early on.
  8. The next milestone would be the pre-seed round of approximately $250k – $750k or $1M, that is suited for a well formed team with a prototype in place. The gates within this phase include a general product direction and customer interest. 
  9. Ash defines the third milestone as a seed round of $1M – $3M with at least $150k ARR for a B2B saas company. He notes that this ARR is on the lower end, therefore in order to be successful, a strong team with a clear technology mote or a good pipeline is necessary in most cases. 
  10. Lastly, Ash covers the mango seed round of $3 – $5M. He highlights that in this phase it is rarely based on traction and most often based on team strength. 
  11. Across the board within any of the aforementioned milestones or phases, team strength is crucial. Without a strong team, domain expertise, or any indication of credibility, founders will most likely need to achieve higher levels of initial traction to be considered. 
  12. Ash shares his bias towards early investors gaining access to their Pro-Rata, because in exchange for the amount of time he invests in founders, he asks for the right to be able to buy up to 5% of the company in their next priced round. He believes this is the fair way to repay early stage investors by allowing them to maintain their steak. 
  13. To avoid dilution as a result of Pro-Rata, Ash encourages founders to think about their cap table from the Series B stand point, by imagining what it would look like at that time, then working backwards to map it out.
  14. Ash is in favor of YC’s change of the safe to post money cap, because he believes it provides clarity and prevents the issue of founders raising as much as they want on the notes and stacking them up.
  15. An unintended consequence that may result from this change, specifically for inexperienced founders, is the potential to experience serious dilution if they choose to raise larger amounts. Unfortunately, there are not many solutions to extending the round if they get more demand. 

Transcribed with AI:

0:03
welcome to the podcast about investing in startups, where existing investors can learn how to get the best deal possible. And those that have never before invested in startups can learn the keys to success from the venture experts. Your host is Nick Moran and this is the full ratchet

0:23
Welcome back to TFR today the entrepreneur turned investor Ash Rust joins us. Ash is currently the managing partner at Sterling road which invests in b2b startups at the pre seed and seed stage of any of the investors I follow on social media. Ashes posts are some of the most direct and helpful advice for founders in the sea of noise out there. He’s one that founders and investors alike should be following closely. In today’s interview, we discuss the b2b early stage thesis at Stirling road, the importance of coaching and collaboration, the so called Blessed founding teams that are raising huge rounds at irrational valuations with no traction, the different phases of seed and the milestones required at each, how the lead investor has changed and is sometimes lead in name only the complicating issues of pro rata and competition for ownership. And we wrap up with ash his thoughts on why C’s change from pre money to post money caps on their safes. Here’s the interview with the eloquent and candid ash rust.

1:34
Ash Ross joins us today from San Francisco Ash is the managing partner at Stirling road a partner at the alchemist accelerator and co founder and former CEO of sand hub. Sterling road is a pre seed and seed stage venture firm with investments in Brian Nephi campus hire me and Semper health among others. Ash is also an adviser to Bullpen Capital and previously worked at Trinity ventures. He has mentored hundreds of startups through accelerator programs, including Y Combinator TechStars, Alchemist and universities such as Stanford, UC Berkeley, and UCLA. Ash, welcome to the program. Thank you for having me. Yeah, tell me about your start into tech and how you found it center hub.

2:16
My journey starts back in the UK where I’m from. So I have a few degrees in computer science and moved here in 2008, right before Lehman Brothers collapsed. But I was lucky to be working at a startup that was well funded at the time, and so largely avoided that, but unfortunate that startup failed, went through another failure right after that. So it was bumpy early on for me. And then I was very lucky to be an early employee at a company called Cloud ended up selling for a couple 100 million dollars in 2013. And then me and some friends started send hub, which is basically MailChimp for SMS. And we sold that in 2015. And that’s when I started thinking more about the investment side, as I was starting to think in 2016, about what might be next for me. I was working on some business ideas, but I found myself spending more and more time working on the mentorship side and more drawn to that. And so I wanted to find a way to build that into a business. And venture seems like the best way of doing that. Although, when I was trying that out, it’s series ABCs. Like when I was an entrepreneur in residence at Trinity ventures, I didn’t really like that approach of doing things where you’re kind of waiting for somebody to really peak and then give them an awful lot of money. I’m much preferred to spend more time with less people at the very, very earliest stage and see if I could help them just get started.

3:42
Got it? So were you doing your own angel investments while you’re mentoring at these accelerators? Or, you know, when did you start cutting checks? Actually, you know, I was doing interviews with Alchemist, and we were cutting checks there. So that was probably from 2015. I was doing that helping them select the cohorts. But then the first fund investment wasn’t until 2017. I wish I had done more angel investing in 2016. Actually, that’s probably you know, the if we’re thinking about the bad passes, I’d have two investments in 2016 that were clear opportunities for me where I should have done an angel investment. But I was kind of in between my plans of whether or not I was going to become an entrepreneur again and hoard my cash to fund a new business or whether or not I wanted to go full out on the investment route, as well. As you know, there’s a lot of complexity if you’re trying to bring your great angel investments into your fund. It’s not an easy process. And so I was advised against doing that by my lawyers as I was thinking about doing a fund. But yeah, there was definitely two companies in late 2016 where I was helping them coaching them a little bit. They were clearly really special teams. And one of them has raised now money at over a $500 million valuation in retail space. Yeah. Bummer. And then the other one has raised

5:00
He’s more than 25 million. And I’m actually an investor now, they let me in late. But yeah, thankfully, so it’s not complete egg on my face. That is a really good example of you know, I think one of the weird things about venture with these long cycles that we have is that opportunities don’t come all the time. And some of these great opportunity just simply won’t come again. Right. There’ll be no other companies in that exact space doing that exact thing in that exact way with that exact opportunity for me. I think the public markets somewhat hide that because there are so many opportunities. When did the transition happen to certainly road and you raising your first fund? Yeah. So whilst I was working at Trinity ventures, it was clear that I really want to me that I wanted to do something in this area. And the partners at Trinity were really great mentors to me. And they were they pushed me to raise my own fund. And so you know, you can make this mentorship into into something that’s really valuable. And it’s unique that not a lot of people want to do coaching as a as a full time role, and then can use that as a mechanism for deal flow. So probably when I started Trinity ventures that was in late 2016. And then by April 2017, I’d done the first investment in the fund, and a lot of the partners from Trinity had been with my early investors, in particular Nord Fenton, who founded the fund.

6:25
Got it and where are you at, in terms of,

6:28
you know, stage for the fund? Have you raised multiple funds now? And yeah, I’m on my second phone now. So very listen. So thank you very lucky that the first one went well enough that the second fund has been, I’ve been able to raise that, and I’m now deploying out of fun two.

6:44
Very good, very good. Tell me about, you know, what you do that that’s unique? You talked about coaching a little bit before, you know, what are some of the things that you do that that other firms aren’t? Well, I think the thing I get the most feedback about from entrepreneurs is that I want to spend a bunch of time with you before investing money. So I will always work with you for a minimum of three months before writing any checks. And now, obviously, some pre seed and seed investors might meet with you over a week or a two week period before making a decision, what I want to do is meet with you every two weeks for 30 minutes over that three month period help you on goals, fundraising, recruiting ultimately holds you accountable to the things that you said you are going to do. And through that, we’ll learn a lot about working together. And if the you know, if it’s mutually interesting, at the end of that three months, then I’d want to invest a small amount like a low six figure check. And then I keep working with you for another 18 months up to two years, in some cases, until you get to your next price round, usually a seed round in San Francisco of maybe two to $4 million. And then you’re going to have someone join your board, perhaps and you’ll have outgrown me.

7:55
Got it. So what happens in cases where, you know, a startup gets to you, and they they’re already putting together around, they’re ready to raise, you know, compelling opportunity, good team, but you don’t have the opportunity to work with them for multiple months before making a decision. How do you handle those? I mean, I just say no to those meetings, in a lot of cases, if the round is closing on Friday, as it as it often is, for many people, at least over email, then I would just say no to that meeting, if they’re interested in having a conversation with me about how it might work beyond the confines of this particular round, then I’m open to that discussion. So in a lot of cases, especially if I’m investing in a company that I’ve met on a demo day, and maybe they’re doing their round right now, but it would be another three months for me to invest, we might have a conversation about how we can go through the process for 90 days, and then I could sign a safe at whatever the final valuation is that they got from the most recent round, as a way of just sort of tacking on because I only write checks in that first case from about 150k. It’s not usually a big problem to add on to around and at least in Silicon Valley, in why the need for the three months before making a decision? Well, the reason is that I want to work with people that really want to work with me, and vice versa. And so I really believe that you can improve an awful lot through the coaching. I’d like to think, you know, I can be one of those people that can be helpful to you on that front. And but I’m a handful, so I want to make sure that a you’ve filled in, you know, you’ve demonstrated to me that you’re resilient enough to build a multibillion dollar business. And that’s not something that you can really measure in a one hour meeting. And at the same time, but do you want to be coached? And do you want to be coached by me? Those are big questions as well, because this is a big commitment. We might spend nearly two years together and that’s a lot of time if you don’t like each other or it’s not a fit.

9:53
Yeah, it’s interesting. We just made our 17th commitment. A number of those are still pretty early still

10:00
You know, incubating so to speak. But as I look back at performance on the portfolio, it’s maybe just coincidental but the top four performers that I have at the moment, with all of those, I spent at least four to six months with the founders before we made a commitment. Well, yeah, I’d appreciate if you didn’t just, you know, tell everyone about my market advantage, and then articulate that it’s working for you, too. But yeah, I think it’s amazing how, you know, this is always the case, if you if a VC encounters an entrepreneur that they’ve made money on before, they’re going to give them an awful lot of cash upfront, because that that trust is there. And it’s the same kind of thing here, right? If you’ve spent four to six months with somebody, your ability to understand the risk factors is so much better. I think there’s a lot of instinct that you can derive from just the first meeting with somebody. And obviously, there’s a lot of filtration at that point. But at the same time, spending 90 days with somebody, you’re just gonna learn an awful lot about them. And whether or not their relationship is a fit, and you know, with an investment, that it’s a relationship without divorce in most cases. So you want to be sure, I think it’s, it’s easy, well, maybe not easy, but it’s easier to sort of game of fundraise, sort of play the part over short time periods. But folks often reveal their character and reveal a sort of true level of commitment, tenacity, and resourcefulness. And, you know, a lot of these soft qualities that, you know, we’re vetting for at these super early stages. Exactly. Yeah, we were investing in the team. And resilience is an enormous factor, you can’t measure that in one hour. So we talked about, you know, these, these decks that you get early on, that are ready to raise right there, right out the gate, we’re closing on Friday, we needed a decision and, you know, Ash passes. Something else that we’re seeing that you and I have chatted about is, you know, these, these sort of idealistic stories of fundraisers, right, you’ve got these founders that, let’s say they’re raising five on a $20 million cap, they have zero traction, right out the gate. And, you know, they’re able to raise at these excessive prices, they’re, they’re able to raise these very large initial rounds. And it can be a bit misleading. In that, you know, I’ve got a number of founders that think they need to be raising a lot more than they are often very early on before indications of product market fit, or even even a focus, commercial plan, you know, right out the gate, they think they need to be raising these huge rounds, because they’re reading about them on TechCrunch. Right, you know, to start off here, can you talk about the profile of these teams that are able to raise these kind of seemingly irrational rounds? And then maybe later, we’ll jump into, you know, some of the consequences and effects? Yeah, so I definitely see a two tier situation in fundraising, at least in Silicon Valley. But I think also in other markets that I work in like LA and New York as well. And I call them the blessed teams. So if you’re in this category of blessed, then you can, you can raise a serial entrepreneurs regularly raise five to $10 million on idea only, yep. And if they’ve got a previous good outcome from an investor, and that might be when they’re just by themselves, they may not even have the team in place, or their co founders at that point, as well. I think I see, you know, Y Combinator Demo Day, this past month, there was a significant percentage of teams that were raising at $15 million post money caps. And they were at less than 100k of ARR. I’ve seen numerous teams from Stanford, in particular, who have raised one to $3 million,

13:49
with maybe zero or equivalent, zero traction, maybe prototype, but no, nothing live nothing with customers. And they are not full time given. In fact, I took just someone quite recently who had people on the founding team who were never planning to go full time. And they’d raised a seven figure round. Wow. Yeah, the blessed teens, they they bless teams. So we’ve got, you know, folks that are serial founders, folks that have a big sort of stamp of credibility, like yc. You know, what are some of these other profile characteristics of these these blessed founding teams? Well, those are the three that I’ve found. I haven’t I mean, I think that you could an equivalent of it might be some kind of overwhelming technology advantage. Yeah. Yeah. So maybe if you had a patent or a medical trial, and something that was particularly valuable, you might be able to get that but the University of investors that you’d have access to would be relatively small in comparison to these other teams. A serial entrepreneur in raising money, with a good exit or two with raising money in the SAS space has to

15:00
Two or 300 funds they can talk to in the US, right? I think if you’re raising money in pharma, or because you have some kind of overwhelming tech advantage and chips are processing, maybe there’s 10, or 20. So I think that that’s a big difference. The A lot of these blessed teams are raising money for products, which are in large markets that are well funded. And there’s a lot of VCs that fund those kinds of companies. Yep, my co lead on our AngelList syndicate. So we have a fund. And then we also run a, an angel, a syndicate that CO invest with the fund. And my co lead was at a Y Combinator Demo Day, last year, mid last year. And he sees this company that he loves, it’s a consumer business. And it was a hardware product. And we had recently invested in a consumer hardware product, completely different spaces. But it was an interesting space, it was an interesting product. But it basically the profile looked exactly the same to the business that we just invested in both serial founders with modest successes, both similar levels of traction, similar levels of product development. And the Y Combinator founder was raising at a $25 million cap. My, my co lead was saying, you know, this is a really interesting one, you know, we need to take a hard look. And the name of the business that we have just invested in, in the Chicago areas was called Winston. And I said, you know, I said, Jeff, would you rather do six or seven Winston’s or one of these?

16:25
Because, yeah, to get the same ownership level, you got to you got to increase your check size. Right. So and he kind of said, who I’d much rather do six or seven. Winston’s so, you know, I think a lot of people don’t look at that, like the, at least the early stage investors, they’re not quite thinking about ownership the same way. And they’re a little less price or a little more price. Elastic. Yeah, and I think that and I’m totally open to those people getting access to the funding that they want from whoever is willing to fund them. But it’s just not, it doesn’t fit into my model. And, um, you know, 25% of my portfolio is Y Combinator, and I went through the program myself. So we’ve got a lot of great things to say about the program as a whole. But there is a whole section of those companies that I can’t invest in, same with, you know, I work with Stanford, there’s two different programs that I worked with down there. And I really enjoy it. But yeah, there’s just a percentage of the companies I just won’t be able to invest time with, because their expectations are out of whack. And even across my own portfolio, have done 16 investments, a large percentage of them are serial entrepreneurs. But again, they had more reasonable expectations up front. Right. And I think that that you’ve just identified, you know, at least one of the problems that I’ve seen in the Midwest is around expectations, you know, when some of the founders here, see, see these big rounds at these big caps, you know, when they’re super early, they’re thinking they should raise way more than they, they can, and it gets them into trouble, you know, because they hunt for a lead investor that can do a two to $3 million, check, try and hunt for one of those for six, eight months. And then, you know, they’ve lost all their momentum, they’ve lost all their progress. They’ve been spending all their time fundraising, and it never happens. Yeah, and I think there’s also problems when VCs who traditionally write really large checks, come down to the earliest stages with and bring those ideas to founders as well. You know, there’s a lot of times where a founder might be raising 500k to a million later stage VC may be excited about the idea, put in 250k In that situation, and then start telling the founder, the next round, they need to be thinking about is a $5 million round, and they need to adjust their strategy different, you know, to be ready for that. Rather than focus on generating individual levels of traction, let’s say you’re getting that first customer and just proving the basics of the business out. And it’s a shame I’ve gotten, I have some bad stories about that, because it’s easy for a founder to be influenced by someone who can write them checks for millions of dollars. Yeah, we see, you know, a different investment model that’s common in the valley. And on the coasts, which is, you know, put an amazingly talented team together with a huge idea and a huge business proposition in a big space. And give them a ton of capital, give them a war chest. And hopefully they’re smart enough to figure it out. Right? Yeah, they can build a product and commercialize a product and scale a business. It’s completely the opposite. In the Midwest, which is about 50% of my portfolio is here, but it’s much more, find your beachhead, build an MVP, get real traction, whether it’s user growth or revenue, and, you know, use fundamental creative metrics to raise the right amount at the right time. Long may that model live. That’s exactly how I tried it. I just want to build businesses that are sustainable, because I don’t want to have a portfolio that’s filled with people who need more venture funding no matter what, especially when we’re 11 years into a bull market, I think. I think it’s risky to be assuming that you’re every company you have can raise more money within 12 months. Well, you

20:00
Think Chamath has been talking about that right? How it’s, I mean, he kind of maybe he’s exaggerating using some hyperbole, but he talks about sort of the Silicon Valley Ponzi scheme, and how a lot of these, these companies that have no product market fit, and in some cases don’t even have reasonable product Bill, you know, they’re able to raise more and more tranches of capital that add excessive valuations. Yeah, I think that I have, I have less sympathy for that point of view, because I think that’s the same kind of viewpoint that was published in 1993, by the Alta Vista founder, I mean, it’s a famous paragraphs that gets sent around whenever there’s all this bubble talk that goes around. And I think that, that is a similar kind of thing, especially with consumer companies, right, they can either be Facebook or Instagram, or kind of not. And so I’m not surprised to see people plowing 10s of millions of dollars into those kinds of businesses, when the hope that they might be this, they might own a market that will be massive, you know, with something like VR, or AR that can be genuinely game changing for consumer entertainment, consumption, etc. But I think for the way I do business, which is just a very different scale, and you know, a much smaller fund, I’m trying to think about businesses that are going to be able to get to at least a million ARR on my watch, you know, and 100 million Arr, within five or six years credibly. And that’s just a very, very different game. And there’s a clear formula with b2b companies, you know, you’ve got to get a sales funnel set up, we’ve got to iterate on the feedback from our first customers, we’d ideally like to find some kind of channel where we can generate new leads, and then build a playbook for how we take leads through to deployment and Customer Success processes. Those kinds of things are pretty much consistent across b2b companies. And that means that we I think you can have more expectations on their revenue and sustainability. Yeah, tell us more about sort of milestones and gates that you think are necessary to progress. You know, we’ve seen this seed round itself kind of divide up into phases, we’ve got precede seed, Mango seed, c plus seed extensions, etc. You know, we had a chat with Neil Shaw about this on the show. And he said, it’s it’s not about a stage anymore. It’s more a series of phases and gates, can you tell us more about how you see the phases playing out? And what sort of milestones and raise amounts make the most sense before? Yeah, so I think about it, just the earliest stages of friends and family round of 100k to 250k. It doesn’t have to be actually be friends and family. I know, not everybody has access to those kinds of people in their network. I didn’t either I went to the executives of companies that I’d worked at previously, for example, to raise that kind of money, and my co founders redid their parents 401 K’s like, true story. So people went, Yeah, we went deep in order to raise the money to do first money for the center hub. So that’s the first thing I think one of the really important reasons for friends and family around is to gauge your commitment, you know, do you really want to do this, you’re signing up, you know, to use the savings of people who trust you. And I think that is, it was certainly really valuable for us. I know, it’s not for everybody. But it made a big difference to our level of commitment it sent over especially in some of the darker times, the second point, I would make a the precede is maybe comes to like 250 K to 750k, maybe up to a million. And I think that’s usually for a formed team. And maybe a prototype in place, maybe a customer that’s interested or getting ready to deploy, even if there’s no real chance of revenue in the near term. But some kind of general direction, some kind of idea of a product, some kind of general customer indication of interest, I would say those are the gates and strength of team is usually a, you know, a minimum bar as well across all these, if you don’t have domain expertise, or, or some kind of indicator that you’re credible, then you’re likely to have to get a lot more traction. And then I’d say the standard seed round is sort of 1 million to 3 million these days. I often tell founders that you need at least 150k of ARR in a b2b SaaS company for that, but I’d say that’s the lower end these days, you know, you’d have to have a strong team a clear technology moat, maybe a good set of logos, or a very good pipeline that you could prove out in order to get a multimillion dollar round with only 150k error if you’re not in that blessed category. If you are, then you could, you know, again, you that that kind of traction might get you $5 million.

24:25
And then mango seed, I would say you’re seeing people with raising three to $5 million. I would say that very rarely, the mango seed seems to be very rarely based on traction. In my opinion, it is most often based on Team strength. So it might be someone that has the traction of the standard precede or seed level but the team is very strong and so they’re raising a mango seed. So I’m not sure there’s a specific gate that I’ve seen there but you know, if you think about it as a small a then you’re probably looking at companies that are in

25:00
between 50, maybe 508 100k Arr. Got it with some domain expertise and credibility hallmarks? Well, I think at that stage, if you’ve got the technology moat, and the vision would be important. But if you’ve demonstrated that kind of traction, you’ve got double digit month over month growth, then you’d be able to raise money from somebody, especially if you’re willing to invest the time and build a relationship, because you’d be able to demonstrate your prowess over that three month period, just with the discussions and the materials productions. And, you know, the VC would ask you some hard questions, you’d have to go away, think about them come back with good answers, etc. And you’ve got some friends over it bullpen? You know, what’s the bar there for the C plus or the posi? Yeah, I would say that they just because they’re one of the only funds that does this and stay true to that they get so many inbound that they have a particularly high traction standard, or at least that’s what I would place that as I could be wrong. But I would say that, No, I’ve not seen too many companies pitch there with less than 500k Arr. But I would I wouldn’t recommend having less than a million arr. In in most cases. Yeah, I see a lot of investors flooding into this space. Now sort of this pre a round. You know, Calacanis talks about it a lot. He calls it his Goldilocks zone. But it seems like I’ve heard of at least four firms in my city, Chicago, and a number of folks on the coasts that are now very much focused on this pre a round. I’d be interested to see if people stay in that area, I think when bullpen got to their second fund, and people started to realize that it was an interesting model. There was a bunch of people that came into that space then. But I think that if you look at someone like Jason Calacanis, he obviously invests across a wide range of stages through Yeah. And so while he may well be excited about it, now, I wonder if it will get the same amount of print in his newsletters in a year or twos time. Interesting. Any other thoughts or comments on sort of the phases and gates and seed? Well, I think those are the core ones. The only other thing is that yeah, being just remember that those gates mean nothing. If you have that, quote, unquote, blessed mark, once you have that, then you can just wipe the entire slate clean, move to the top, collect your $200, you know, go pass go. It’s kind of always funny to me when you know, I’m talking to a first time founder, and they’re so excited. And we’re putting together a pre seed round, and they’ve really got something and they’re they’re talking about raising their series A in 12 months. And I’m like, well, easy. Now, guys, you know, first of all, there are kind of some interim phases here that have emerged. And as much as I’d love to see you raising it, you know, 20, or 30 million, pre money, there’s a ways to go before we get there. I hope you can leapfrog you know, some of these phases, because some do, some can skip over a bunch of these. And no one would be happier about the nose. Right? Much less dilution, much clearer path. But how about let’s talk a little bit about sort of lead investors. I won’t get into detail. But we’ve been feeling some sort of strange circumstances, in some rounds with the nature of the lead investor and who wants the lead. And it’s often a little bit different than it may suggest, based on what you read. So what are you seeing, you know, from the standpoint of like, who’s taken the lead on rounds, and how that’s changed over the past few years? Yeah, I think there’s a bit of a crisis around this at the seed stage, there’s not many firms that want to be leads. And there’s an awful lot of firms that don’t want to invest until you have a lead. So it’s created an awful lot of traffic around lead investors. And I think people also try and go after lead investors first Compounding the problem, this then creates a market for people that aren’t traditional leads to say they are. So certainly, I guess, when I first started as an operator in Silicon Valley in 2008, lead investors tended to be people who were putting in the majority of the round, and setting the terms, I think, now you can go as far as being someone who maybe has as low as 10% of the round, in some cases less, but they’ll probably I don’t know if they’d talk about that openly. But certainly, I’ve seen plenty of cases where it’s 10% of the round, and you’ve kind of set the terms in coordination with the founder. Maybe this was an alternative approach to finding a mainstream lead. So there’s a lot of that I see. I don’t always have a problem with that I participated in the round that did that recently. It’s much more about the credibility of the name. And I think there’s some elements of founders hunting for a name that is well known, who will say yes, I’ll be the lead, but maybe doesn’t want to commit to all the other responsibilities of being a lead, like, you know, sitting on the board and putting in a bunch of time and effort in this company and hopefully being a big part of its funding in the future. So you’ve seen sort of some of the smaller players that are, in a way kind of masquerading as a lead and putting these rounds together. What

30:00
about just, you know, non lead rounds. I mean, I invest pretty early, you invest early as well, are you fine with just kind of doing party rounds on convertibles with a host of people kind of at the same price point. But love it, I definitely prefer to have a lead because of though, you know, I want a company to have support after they’ve outgrown me. And I hope that there’ll be someone will devote similar amounts of time as what I’ve done. I’m okay with it. Because I think it’s a reality of this of this, this market dynamic where there’s a small number of leads. And if you add on that maybe that you’re in an odd market, maybe if you’re in healthcare, for example, it’s almost impossible to find, you know, a lead at seed. I’ve got a company, for example, that’s grown to offer million in revenue, annual recurring revenue over the last year 6x growth in the healthcare space, and they’re really struggling to find a lead, because, you know, there’s just not that many of them. And a lot of leads in the healthcare space would want an awful lot more traction, because they’re sort of at later stages. Yeah. And I think often to lead, you kind of need your own proprietary channel and deal flow that can be argued, but you know, how do you think about deal flow? In general? How have you created sort of your own funnel of unique opportunities? I actually don’t believe deal flow is unique. I think that we all pretty much see everything if you want if like if he wanted to see every company that I saw, I think he probably could and vice versa. Really, yeah, I don’t think that there’s like a ton of companies that I will, you know, maybe that I don’t, I don’t see everything because I choose not to, you know, build relationships with everybody in the world. But at the same time, I think that the people, if you wanted to, you know, come to the places where I spend my time or have done the majority of my investments, that’s not a big secret. It’s Y Combinator Alchemist, Excel APPRISE pair. And then, you know, basically through the opportunities that come to me through my blog, almost, you know, if anybody found that company that almost certainly on AngelList, and those companies are desperate for cash and a lot of cases, so you’d have no problem getting access to them. My personal feeling is that we, it’s when you pick them, right, the problem in terms of competition is when everybody figures out this company is exciting at the same time. And then there’s a beauty contest. So the way I think about deal flow is much more about timing, and how do I find these companies as early as possible before there’s this scrum to invest in them? I think that’s where I would agree with you. It’s about timing of finding them. Certainly, when we lead a deal, for instance, we may be the first investor involved. And often we’re the only VC involved when we’re leading a deal, because these people are not actively spamming a bunch of VCs. But you know, after we lead an investment, many of our partners do get an introduction. So I don’t know, maybe it’s a geography thing to maybe the undercapitalized areas. Sure. But if I came to Chicago, I’m sure I could meet those same companies, right. I just choose not to spend all my time in the Midwest in the same way as you don’t spend all your time I hear. I disagree, because, okay, so think about it this way. So, you know, 34 ish, 1000 people listen to the show, you got angel investors, and micro VCs and a lot of different cities of the country, not just Chicago. And a lot of these places are undercapitalized. So there are no VCs, or the VCs that do exist are like series A folks that are peddling private equity term sheets from 1980. So, you know, often I’m speaking with a founder, and I’ll check their LinkedIn profile. And I know everyone’s not super active on LinkedIn, but they’re not connected with anybody in my network zero. Now, you know, in a lot of cases, these are first time founders, and they’re not well networked in the VC community. And that’s part of the value add, but interest rates or deal flow is absolutely exists, in my opinion. Yeah, that example, makes me believe it more. But I guess in San Francisco, where and you know, most companies would be talking to pretty much anybody that would be willing to take a meeting with them, especially when they’re in the heat of raising, I would say that I do, I personally don’t have access to anything proprietary. I do travel a lot. You know, I spent time in, for example, as far afield as Nigeria this last year. And so I’ve met some companies, obviously, that most people wouldn’t meet in that situation. But you know, Trinity ventures invested in a Nigerian company last year as well. So I would argue that it’s more about where you want to focus your time. And I think that’s where you get the advantage. And my point is more like, I want to focus on being as early as possible, because I believe the beauty contest for the best companies is coming at some point. So I’m just going to pre dated. Well, to your point earlier on timing, if a close friend of a new founder in the valley founder is starting a stealth startup. And that close friend who’s a VC ends up leading the round, that friend is going to introduce it to the partners that they liked to work with. And in those cases, you know, you may end up seeing a little later. But yeah, the valley is kind of a different place than some of these other regions where everyone should have access to certain networks that’s starting a tech startup in San Francisco. Yeah, that’s true, but it’s definitely locations.

35:00
I think I agree with you on that. What do you think about, you know, Paratus? You know, I’ve seen a lot of sort of challenges with pro rata is particularly at series A lately, but you know, the early investors often get a pro rata. And then successful companies go on to raise up rounds, some challenges there. What are some of these issues you’ve observed on the pro rata side, I’m biased, because I asked for a super pro rata from all of my investments. So I ask, in exchange for the amount of time that I invest with them, I want to have the right to buy up to 5% of a company in their in their next price round. So obviously, I’m biased towards early investors getting access to the pro rata, and I think that that is the right way of repaying. An early stage investor is just letting them maintain their stake, or whatever you’ve agreed when you’re at the point of investment. But I understand the challenges of it. Because I think the ownership requirements of latest stage VCs, who we absolutely need are such that, you know, if a company has had to raise two to $4 million, in order to reach a Series A, then they are going to experience serious dilution. And I think that people are starting to do the math, and they want more ownership of their companies if they go and want a moderate outcome to be lucrative for themselves. And I totally get that if you’re going to put four or five years of your life into a company, it’s not going to work out perfectly, I don’t think you should don’t walk away with nothing or close to nothing. And that can happen if you’ve if the preference stack is heavily filled with a lot of investors and in an awful lot of pro rata. So I’m biased in favor of it. But I do understand empathize with some of the other issues. The best way of solving this problem from a founders perspective is think about your cap table from the series B standpoint, like what is it going to look like then? And try and work backwards from there? So what would the advice be? Well, the first step, I think, is I try and think about the first $3 million is going to be about 50% dilution. So try and work on that as a rule of thumb, at least again, that’s the Silicon Valley standard. But that means that you know, you can accept small amounts of capital that are very low cap of like maybe one to $3 million for that first six figure amount, and it’s going to escalate steadily from there. I think that when you think about your cap table over the long term, yeah, it’s best to look at it from the standpoint of two priced rounds, and two to $3 million of debt that’s converted into equity as well. And there’s a lot of tools out there that allow you to do that angel calc is the one that I think Y Combinator produced, the long term Stock Exchange Ltsc has tools for this as well, Carter probably has something as well, so but it’s makes sense to invest the time and map this out, don’t get your lawyer to do it, it’s gonna cost you a fortune. I mean, some of the challenges that we’re seeing is, as you load up, you know, convertible based funding, or safe base funding, prior to an A, and as you do all these rounds, as we talked about all these phases of seed, you know, you raise a precede to C to C plus, etc. When you get to Series A, it pushes up the post money significantly at the Series A, so the round size is quite large. And this has created a couple issues for you know, portfolio companies or other companies that have helped over time, you know, trying to close this a round, but the a round kind of balloons and gets much larger than expected. I guess this is kind of a challenge of notes in general, is that people sometimes raise too much on them, because it’s a little too easy. And they can raise on a rolling basis. And it affects pro rata, you know, you get to series A and series A investors don’t want the early investors to take their pro rata. I don’t know, are you? Are you seeing this as well, Ash? Or is this sort of, yeah, I’m somewhat insulated from it, because I often see the term sheets as they’re happening. I have such a close relationship with these founders that we’re talking about fundraising two or three months before it happens, you know, where I literally work on editing, you know, the term sheet responses with them when they’re negotiating the high level documents, that combined with the legal agreement that I have with them, you know, prevents me from having too much pressure. But I certainly experience it. No question. You have to fight for your pro rata if you’re early stage investor, and you better be having a lot of conversations with the founder in the run up to that round closing. Yeah, I just I think that the thing that bothers me most is when one seed investor maybe the lead seed investor tries to push out the other seed investors. I’ve got more sympathy for a later stage VC looking after just their interests and trying to insane to the founder that you choose. Who gets the dilution either the you take dilute more dilution or your early stage investors take less pro rata. I understand that discussion. I have a lot less sympathy for seed round leads, taking the majority of the pro rata because they feel very entitled to it, and then pushing out the rest of the investors and I see plenty of that. Unfortunately, you know, well, while we’re on the topic of notes, what do you think about why CDs change of the safe to post money cash

40:00
From a pre money, I think they did this like maybe six, eight months ago. And it was a big red flag for me immediately for what I thought were a couple obvious reasons. But now there’s, I think, some unintended consequences as well, you know, what are your thoughts on the post money cap, so I’m largely in favor of it. And I’ve started signing them myself. The reason why I like it is it gives clarity on the problem that you just mentioned before, it prevents this issue of people just raising as much as they want on the notes and just stacking them up or six. So I definitely had companies that told me they were raising 1 million on an $8 million cap for a safe and then when it came round for the next price round, it turned out that actually raised near a two. And obviously, that makes a big difference to the post money. As you mentioned, the post money caps save solve that problem, because everybody knows exactly how much of the company you just bought with that, or the minimum amount of the company that you just bought. But the unintended consequence, I think, is that inexperienced founders may not realize that a if they raise more, they’re going to experience some pretty heavy dilution. And then on the other side, they don’t have a good solution for how to extend the round if they get more demand. So certainly, I’ve had companies in recent months come back to me and say they were raising, let’s say, a million on a $9 million post money caps in old terms, that would be an $8 million pre money cap on those, they raised a million and then they couldn’t go further, they thought they thought that was it, they weren’t possibly allowed to raise any more money. So then I had to go through and explain to them that well, we could just create a new post money cap for a different safe, and it wouldn’t really make a difference to your dilution significantly. But you know, that’s complexity, significant complexity. So while investors understandably don’t like the idea of people just being able to constantly add on to existing safes on a rolling basis, the consequences of not doing that are, are significant as well. Got it yet. One of the challenges we’ve seen with a lot of green founders is that they don’t quite understand the nature of pre money and post money caps. I think most get it when it comes to price rounds. But you know, they may just adopt the safe because the safe as the standard instrument from YC, without quite realizing that if they raise one on four, for instance, at an early stage, it’s really like a $3 million post money, not a 4 million or sorry, a $3 million pre money, not a $4 million pre money. Yeah, I think it’s just gonna take some time for people to learn that stuff. And I think one of the big consequences of venture capital in the way it’s structured at present is that these documents change a lot. And most financial documents, as you say, from the 80s, and there may be, you know, vestiges of private equity, there’s a lot of problems with those kinds of documents, but they’re also well tested and well understood, at least by, you know, counsel. In this case, safes have given us many, many advantages, but they’re nowhere near as well tested in terms of decades of understanding and how they go through the courts, etc. So I think that that combined with the, you know, these fairly significant changes that we’ve had recently leads to an increase in misunderstanding, and ultimately, the consequences can be very severe. Because I mean, who’s going to tell if a founder is raising that round, that it’s going well, who’s going to tell them, and then it’s too late by the time they’re raising a price round for them to go back on anything? Right, right. Well, I think it’s helpful when early stage founders partner with somebody like you that can help coach them through some of these issues, you know, as a raising capital and moving on to Series A, because for us to stay on top of this stuff, it takes some effort, but for founders to, you know, for them to kind of be aware of all the dynamics and all the nuances and the changing nature of these agreements. I think that’s too high a bar too high and expectation for the founders. I agree. I also just prefer to be working on the business. This is, you know, this is learned knowledge, it’s not particularly valuable, longer term, it’s only matters because I have to spend right every day in it. Good point. Good point. Hey, Ash, if we could cover any topic here on the program, What topic do you think we should address? And who would you like to hear speak about it? Well, I say I think more generally, you guys have some great guests who have a lot of industry knowledge, I would be interested in maybe doing a two to three questions, survey with everybody and seeing what kind of trends you could pull out from that. And then maybe pulling out the guests who maybe represent those trends the most, and bringing them on. So you know, let’s say if you were talking about just how many investments people did in the last year, and you could track that over time and be able to see whether or not people were increasing or decreasing their pace in general, or if certain regions were increasing our sectors, etc, and then have somebody on to talk about that and why they think that might be going on. That’s what investor has influenced the most. The two people I’d say Duncan Davidson, general partner Bullpen Capital, yep. Largely trained me in venture. And then no offense and the founder of Trinity ventures have been my, you know, one of my closest mentors for two or three years now, and I will the fund wouldn’t exist without him. Awesome. And finally, what

45:00
So the best way for listeners to connect with you. So my email address is on my Twitter account ash rust as HR ust Ashurst on almost any service and then my email address is ash at Ash rest.com. Awesome. Well, Ash, this was a lot of fun. If you’re listening in the audience and you don’t follow ash on LinkedIn or Twitter, I would suggest him up there with some of the top folks to follow. He has really direct and really helpful advice for founders. So I suggest you follow ash and ash thanks so much for your your candid feedback and your candid responses today. It’s been a lot of fun. Thanks a lot for having me, Nick.

45:42
That will wrap up today’s episode. Thanks for joining us here on the show. And if you’d like to get involved further, you can join our investment group for free on AngelList. Head over to angel.co and search for new stack ventures. There you can back the syndicate to see our deal flow. See how we choose startups to invest in and read our thesis on investment in each startup we choose. As always show notes and links for the interview are at full ratchet.net And until next time, remember to over prepare, choose carefully and invest competently. Thanks for joining us