My Case Against Venture Capital

Even though my company, Altos Research, isn’t actively seeking capital, I had breakfast the other day with a venture guy at Buck’s in Woodside, Calif. VCs can be very useful for strategic advice even if — or, especially when — you don’t want their money. Interestingly, we spent much of the time talking about why Altos should not take venture capital.

From day one my cofounder and I planned to bootstrap Altos, which provides real-time real estate market analytics, but it was really an intuitive decision. I left Woodside pondering how to express the logic behind our bootstrapping choice. I finally hit on the straight answer: taking venture capital actually reduces your odds of success.

I’m talking about your success as founder. This is considerably different than the ultimate success of a company. Maybe I’m romantic, but… I’ll define success for the entrepreneur as 1) creating and leading a viable enterprise and 2) generating a personal financial windfall, what Paul Graham calls, “solving the money problem.”

I am apparently less motivated by the Fame Factor than some. Guess I’d rather be rich than famous. (See: Do you want to be Rich, or be the King?)

I’d also rather be in control.

In a recent INC. article, software entrepreneur Joel Spolsky describes his disinclination to take venture capital as driven by his need to shape his company’s culture. He’s really talking about achieving success while retaining control. (The VentureHacks bloggers point out that raising venture capital is all about control.)

Take a counter example: Jobster’s Jason Goldberg. In four years, he built a smokin’ hot startup, raised tons of venture capital, and lost his job. Maybe Jason will still make money on Jobster, but the chances diminish every day, even if the investors eventually have a payday. Ironically, Jason’s excellent post on his lessons from Jobster has a surprising twist: If he did it again, he writes, he’d have raised more money. I say, he’d still have lost his company.

Here’s how VC math works against you:

We all know venture firms expect just 10% of their portfolio companies to get to “an exit”. This assumes a 90% failure rate for their startups. But the individual founder’s failure rate is even higher because among those companies that achieve an exit, as many as half, like Jobster or Technorati or Tesla recently, suffer “founder-ectomies” at the hands of the investors. When the going gets tough, those in control exert control.

Other founders see their financial stakes diluted along the way — too many hits on the venture capital crack pipe — leaving the investors entitled to most of the gains. I don’t know of any formal studies on this, but my guess is that barely 1% of venture-backed founders achieve financial success by my standard.

If it’s so risky, why raise VC?

Unless you’re building hardware, ASICs, or biotech anything, where you’ll need capital for years before you can sell product one, I say: don’t. (Covering your mortgage is not a good reason to raise venture capital. You need the cash, your company doesn’t.)

So why do founders still do it? Maybe they think it’s the best way to swing for the fences. Maybe they’re blinded by survivorship-bias. But maybe it’s because closing a round of venture capital is easier than selling to customers.

That’s the final nail in the coffin. You can focus on selling the venture capitalist or you can focus on selling to your customers. Business plans get twisted beyond the point of recognition to appease the grand vision of the venture guys. Your product loses focus, your customers lose value. But of course your customers are going to pay the bills over the long haul. It’s them and only them that matter.

One last note. Avoiding venture capital does not mean avoiding investors entirely. There are plenty of financing options, angel, and strategic investors that can provide ready and intelligent capital without the unnecessary risk from traditional venture capital investors. Capital is for paving your road, not for handing over the keys.

Michael Simonsen is the cofounder and CEO of Altos Research. Read more from Mike — and learn about the real estate market in your ‘hood — on the Altos company blog.