I wrote a post recently called “Double Down, But Only On The Right Hand”
that was about Yahoo!’s decision to bail on search and Microsoft’s
decision to double down on it. It was also about new forms of search,
like real time search, that are worth investing in.
Since writing
that post, I’ve been thinking a lot about “doubling down.” Conventional
investing wisdom is when an investment goes against you, the thing to
do is get out and move on to the next one. Most of the great traders I
know practice that approach and it works well for them.
But in
venture capital and private equity, it is not easy to “get out.” These
are illiquid investments that you can’t simply sell and move on. So
when an investment is not working, you are faced with walking away,
shutting the company down, or making an additional investment. And
these are hard decisions.
Like most VCs, I am guilty of sticking
with our investments too long and putting too much money into the ones
that are not working. It’s an occupational hazard. As I’ve gotten more
experience in the venture business, I’ve gotten better at this part of
the business, but it is still a challenge for me and most VCs I know.
Bliss
McCrum, one of the two VCs who taught me the venture business early in
my career always said, “if you are going to put more money into a
company that is not working, make sure to change the strategy, team, or
cost structure, or all three.” It’s good advice. You will not get a
different result doing the same thing.
The important thing to
focus on when making a follow-on investment in a company that is not
working is to figure out what’s wrong with the company and use the
financing discussion to fix it. That’s when the investors have the most
leverage and when change is most easily obtained.
It is also
important to recognize that some investments cannot be fixed. And in
those cases, painful as it is, the right thing to do is shut the
company down or sell it if a buyer can be found. I prefer the latter
outcome, even if getting it is more costly to the investors. Finding a
“home” for a company and a team has reputation benefits that accrue to
the VC investors over a hard shutdown.
The biggest “double down”
I ever did in my career was on the Flatiron portfolio in late
2000/early 2001. We had invested $500mm in 60 companies from 1996 to
2000 and had taken out about 3x that number in cash and stock
distributions on 24 companies. The remaining 36 companies were all
struggling in the wake of the bursting of the Internet bubble and the
portfolio was basically worthless on paper.
Our financial
partners wanted out, as did we, but there was the little problem of a
portfolio of 36 companies. It would have been easier to take our 3x and
be done, but that is not what we did.
Our financial partners
agreed to invest another $75 mm into the portfolio and my partners and I
agreed to triage the portfolio and invest the $75 mm wisely into the
survivors. We shut down roughly a third of the companies and sold off
another third over the next year. But on the final third that we
thought had real potential, we invested the additional $75mm.
I
am not going to get into the full details of that $75 mm “double down”
but I will say that three of the 12 companies we doubled down on,
Bigfoot Interactive, comScore, and Mercado Libre,
have produced north of $300 mm in combined value for that portfolio. The
other nine have produced even more value and we still have four
companies left in the portfolio.
I’ve told this story before on
this blog so it may not be new to some of you. But I like to tell it
because it was a very formative experience for me. I learned that when
times get tough, you can’t cut and run. You have to commit yourself to
finding a way out. And the way out involves a double down, but it also
involves some hard choices, taking some losses, and restructuring the
remaining assets so you can go forward.
In times like we are in,
most people are living with situations like this. I am as are most of
my friends in the VC business and elsewhere. I hope this post helps
those of you who are struggling with this process. The ending of the
story can be a good one if you do the right thing, are honest with
everyone, and double down on both your financial and personal
commitment to the investment.
(For more from Fred, visit his blog)
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