Guest Blog: Old School Investing by Chuck McCoy
This is a guest post by our friend Chuck McCoy, founder of the North Texas Angel Network. Thanks to Chuck for a great piece!
Is there merit in staying the same the more things change?
In this time of hundreds of pitch days and thousands of on-line offerings it is important to remember the advantages of some Old School techniques.
The North Texas Angel Network (NTAN) sees every applicant entrepreneur present his/her case for funding in a small conference room at the very first moment of engagement with the investors. There are no flashing lights, no up tempo music, no encouragement to be excited. There is, in fact, no encouragement at all for anyone to invest their hard earned money. There is a deliberate attempt to really understand new and innovative products and business models. Most of the Q&A is about who will buy the product and how much they will pay. Very Old School.
This person-to-person approach yields useful data points in an environment of too little data. Because we do not have any fixed format of slides we get to see what the entrepreneur thinks is important when time is very constrained. How well does the entrepreneur engage with people? Do they think the cool places “the team” went to college are important? Do they tell us right up front what valuation they are seeking or wait until they’ve finished their sales pitch to deliver the bad news? And deeply related, do we have to listen to lots of general purpose assurances of good outcomes? This Old School technique boils down to “Tells us what you got.” We learn a lot from how well they go about doing that. Is their explanation simple and direct?
At NTAN the investors deal directly with the founders from beginning to end. Hence, there are no brokerage fees or carried interests. Brokers and promoters (note: Accelerator = Promoter) do bring something to the table so when they are involved one must determine if what they bring is worth what they get and their carried interests can be very harmful to investor returns on the few deals that have real success. Since we deal directly throughout the process we are clear that we cannot work deals where our members don’t have the required skills and knowledge. “Never invest in a company you do not understand” is an Old School rule that makes sense to me. It is only possible to operate this way if the group has a very diverse background set.
Our due diligence process takes time. We have a cookbook and the discipline to follow the recipe. We also have the judgment to make sure we properly accommodate the unique situation of each applicant company and said accommodation takes time to figure out. We always brief potential applicants about this process and that it will last 6 to 8 weeks, or longer. The process suppresses the initial impulse to grab anything new and shiny. In the current environment of hurry-up and do it quicker we think the Old School approach of a deliberate time table reduces the number of bad investments. (The definition of a “bad” investment is another subject.)
We want the founders to become wealthy from starting the companies we fund. We believe this happens most often when governance and valuation are handled correctly from the beginning. The NTAN investors are all substantial business people that any entrepreneur would like to have on their Board. We expect material representation on the Board when we have material representation in the Cap Table. The only way to know if we have made a material investment is if it is a priced round. We like the Old School format of 5 Directors – 2 from the founders, 2 from early investors, 1 mutually agreeable outsider who is compensated with stock. A convertible note is a part of many investments we make, but the terms and conditions go far beyond the often seen “small discount off a future priced round with a big valuation cap”. Determining these T&Cs requires an Old School valuation agreement.
Old School is Good School. Progress is real and valuable. The best approach blends new techniques and new knowledge with old ways that have proven successful. It is a chore that keeps me awake at night.