The Mis-alignment between Founders and VCs in India

This is a continuation of my story on Rahul Yadav and the Housing.com fiasco

Some of you have asked, and rightly so, whether investors could have played this game differently and not allowed things to come to this pass. Common perception is that the investors at Housing were the ones who got it wrong and everything else was right. Not true — that would be the wrong takeaway.

While it’s true that all the investors (including me) had a part to play in this saga, we are not the only ones. I’ve argued the investors certainly could have seen this coming, and moved faster to build a professional team to take charge. But it is a tough call: they are expected to be entrepreneur-friendly and hands-off, even as they are responsible for the future of the company because they invariably become the largest stakeholders. Besides it is their natural instinct not to pull the trigger, as they operate in a competitive market for start-up deals — such situations hurt their image and are left to fester.

There is a lesson here: given the ever-younger and inexperienced breed of start-up founders coming out of the colleges, Indian VC firms should develop deeper management strength and bandwidth that allows for continuous engagement to help start-ups at every stage of their growth. And finally, it should be okay for VCs to step in and take charge when the situation merits without fear of a backlash from founders and the ecosystem.

Going beyond Housing, I see a worrying phenomenon across the start-up ecosystem: a mis-alignment, if you will, in the relationship between founders and VCs.

To understand what I mean, check the level of founder shareholdings across most major start-up firms. It has uniformly come down to anywhere between 15 percent to the low single-digits. There appears to be no equilibrium between control and ownership. It doesn’t work to my mind when the founder’s stake has dropped so low, but they continue to retain significant (or complete) control over the company. The question is: Where’s your the skin in the game then?

Once the founders’ stake drops below a certain threshold, there’s little incentive for them to bother with capital efficiency (or “control the burn”). They have too little to lose or to gain and they get caught in a binary situation: either they make it “exit-able” at any cost (read, cash burn) or get nothing. Founders are seemingly happy with stock-swaps at crazy valuations, especially when the investors are common. Some founders seem very comfortable raising so much money (as if dilution does not matter anymore!) or are allowing the creation of these supposed unicorns that now look like holding companies more than operating businesses or brands. I hope I am wrong, but these could be seeds of discontent — ones that will create fissures at the first signs of stress, say, a slowdown in funding or delay in exit. Time will tell.

We need to learn from our counterparts in the West. Founders there understand passion and raw talent are not enough to build a scalable company. They have the maturity to step aside and work with experienced managers, investors and advisors. It’s not only Facebook, Google and Yahoo that do this; it is par for the course in most Western start-ups when they cross a certain size and scale. Founders have to reset their expectations when their companies make the transition from an informal bunch of geeks to a high-stakes company with multiple stakeholders. Most founders craft adult and mature relationships with the investors, and everyone puts the company ahead of their own agendas and calling cards.

I see some of the larger Indian consumer internet companies inducting professionals. That said, I also sense things are a bit uneasy. These professionals need to feel comfortable and welcome. They may not have the pizzazz of the billion-dollar-founders. But they bring the stability these operations sorely need.

I think we are ready to have conversations around these issues. Even though the internet industry in India is young, its relative size and impact is huge and growing. Billions have been invested and thousands of youngsters are pouring blood, sweat and toil into their start-ups. Housing can be the wake-up call. Founders and VCs need to introspect if they are to create companies where their interests and mind-sets are aligned.

Meanwhile, back at Housing, the team is smart. They should put their heads down, put the company ahead of themselves and focus on winning. They are leagues ahead of competition and they need to stay the course. Investors continue to back them and support them. The best companies in the world have gone through these transitions and come out winners…as they say, what doesn’t kill you, makes you stronger.

So, if you run into a Housing employee, give them a shout of encouragement. They have spent too long under the glare of public scrutiny. And the rest of us, let’s get back to work and give them space.

Post Script: A word of advice for the just-out-of-college founders:

Be careful. Raising angel money is not an endorsement of your capabilities or your business model. Don’t give up the best years of your life to an idea just because someone is willing to put up a few lakhs or a couple of crores. Your time and talent is more valuable. Angels usually make several bets and most have very little time to spend with you. So choose them carefully. Finding the right mentor is more important than those few lakhs in valuation.

Founding the 23rd start-up doing hyperlocal delivery should be a call you should not take easily. Decide to do it only if it passes these tests:

1. Is it the only thing you want to be doing, whether you get funded or not?

2. Would you want to do the same thing 10 years later if there no exit is in sight?

3. Are you doing it for the valuation and money or because you love the business and idea?

4. If you were to fail in your first attempt, will you be willing to do the same business all over again?

If you have sensible answers to these questions, then go right ahead. Else wait. Find a job where you can learn the ropes and stand by till the next idea inspires you. There is no dearth of them. What’s the hurry? You will be better prepared after spending a few years in a “boring” corporate job — it builds character… trust me :)

Originally published at www.foundingfuel.com.