

Ask HN: Will Y Combinator taking Sequoia investment hurt the YC companies? - bravura

Does taking YC money blended with Sequoia money lead to unfavorable terms down the line if raising VC?<p>As you probably know, YC is taking money from Sequoia to help fund YC companies this term: http://ycombinator.com/party.html<p>Chris Dixon (http://www.businessinsider.com/the-problem-with-taking-seed-money-from-big-vcs-2009-10) and
Venture Hacks (http://venturehacks.com/articles/options-open) put forward the following argument:
Although Sequoia does not get right of first refusal, having a single VC participate in a company's seed funding can nonetheless hurt the company in the long run.<p>What do people think about this potential downside?
======
pg
Top tier firms like Sequoia already have a de facto right of first refusal on
the entire startup market. They already see every deal. So if Sequoia passing
on a deal deterred other funds from investing, they wouldn't be able to invest
in anything.

Which in turn is why Sequoia was willing to invest in us without imposing any
conditions. Because the top tier funds already see every deal, it's in their
interest merely to increase the number of startups, just as, because Google
has such a big percentage of the search market, it's in their interest merely
to increase Internet usage.

Sequoia does get an early look at all the startups, but this was not a
condition of the deal. They always have. (All the speakers get an early look
at the startups; it would be hard for them not to; and since winter 2006 the
VC speaker has always been Greg McAdoo.)

~~~
bravura
My understanding of the Chris Dixon + Venture Hacks argument is: VC
participation in a seed round means that they have a deeper understanding of
the company than if they merely see a deal and pass on it. This implied deeper
understanding gives them greater leverage in controlling the terms of a future
financing.

So Sequoia passing on a deal doesn't deter other VCs because they might just
say: "Well, Sequoia might not have given this deal enough scrutiny to see the
value." But if Sequoia is already a seed investor, it is more difficult for
other VCs to convince themselves of that.

Please correct me if I'm wrong here.

~~~
pg
Sequoia doesn't participate in the seed rounds in this case. They have the
same relationships to the startups we fund that Sequoia LPs have to startups
they fund. They're entitled to a percentage of our returns, but they don't
pick the companies or own stock in them.

Also, within the industry the phrase "passing on a deal" does not mean
anything as casual as it sounds. It implies that an investor has scrutinized
it fairly closely and made a conscious decision not to invest.

~~~
samhogg
Founders who can't take a "pass" and investors who can't stomach investing in
one will not make it long term anyways. Those are just egos talking. Great
teams will breed success and Sequoia is another great team to add to the YC
concept.

------
f00
Disagree. Chris's point regards direct seed-stage investment from a VC, where
a "pass" on funding an A-round indicates that the VC lost interest over time
(suggesting that they might be disappointed in execution, think the market is
no longer there, etc.).

My understanding is that Sequoia is simply providing more capital to YC, and
that YC handles all the decision-making with regards to company selection and
investment. For Sequoia to "pass" on investing in a YC-funded company after
the seed stage is not the same situation.. they never "selected" the seed-
stage funding recipient in the first place.

Edit: Regardless, this is all a silly thing to be concerned about. If your
idea is even remotely viable, your execution is solid, and you have
determination, you will find traction and success (and investment, if you
really want it). If you're sweating things like this, you're getting
distracted from the things that matter.

~~~
gbookman
>If you're sweating things like this, you're getting distracted from the
things that matter.

Agreed.

------
nivi
When your existing investors don't maintain their pro rata in a new financing,
prospective investors will wonder why. This assumes that the existing
investors: (1) Have already invested in your company (duh), (2) Have some
knowledge of the company (e.g. served on the board), (3) Make it a habit to
invest in follow-on financings like yours.

You can still get around this if you have a good excuse, e.g. "Our existing
investors are out of money". And your existing investors confirm your excuse
when prospective investors inevitably call them.

So if USV didn't participate in the latest Twitter round, the company and USV
probably had a good excuse, e.g. "Our fund isn't structured to make acceptable
returns at $1B valuations". When a random angel who isn't on your board
doesn't invest your Series A, most prospective investors won't wonder why.

Regarding YC-Sequoia:

The firms who are likely to invest in post-YC companies are likely to be
mavericks who can think for themselves. That's the kind of investor you want
anyway. You don't want to tell prospective investors that Sequoia spent three
weeks intensely studying your company and decided to pass. But the fact that
Sequoia could have looked closely at your company, but didn't, will probably
be irrelevant.

On the other hand, if Sequoia and other YC insiders are cherry-picking the
best YC investments before they hit the mass market, good investors are going
to get less interested in demo days. That will hurt YC companies.

I don't know how these forces and other forces will play out in the
marketplace. And since we're talking about game theory, the existence of this
thread will influence the outcomes.

~~~
btilly
I don't see the direct harm to YC here. If Sequoia and other YC insiders are
cherry-picking the best YC investments before they hit the mass market,
incoming entrepreneurs will correctly see YC as an awesome automatic
networking opportunity. Sure, the opportunity doesn't always work. But the
chance is valuable.

If there is any possibility of damage it would be because YC could come under
pressure to recommend companies to go the VC route when that is not in the
company's best interest. Why would that not be advisable? Well VCs interests
are not always your own (see <http://www.paulgraham.com/venturecapital.html>)
and particularly not if there is an opportunity for a direct acquisition (see
<http://www.paulgraham.com/vcsqueeze.html>).

~~~
tylerhwillis
The issue is around how many deals Sequoia funds. If other investors think
that Sequoia already has the best 3 companies in any class sewed up before
demo-day, why come to pick up the less interesting companies.

Chris Dixon wrote a good post on this recently: <http://cdixon.org/?p=1746>

------
jasonmcalacanis
As a Sequoia company I can tell you that if you have the chance to take their
money do it. Quickly.

Being an SC company has given Mahalo a HUGE advantage... let me count the
ways:

1\. We got a much higher valuation on our Series B.

2\. We get constant pings from VC firms that like to follow SC.

3\. We get a constant flow of potential team members who want to work for
company that is backed by the company that invested in
YouTube/Apple/LinkedIn/Google/Yahoo/Zappos/Atari/Cisco/etc.

4\. The partners at SC are amazing... Roelof Botha is on our board and he has
been tremendous.

5\. We get an absurd amount of press due to our Sequoia affiliation.

6\. We can get any meeting with any company, organization or advertising
agency by saying "we're backed by the VC who backed
INSERToneOFtwentyAMAZINGcompanies." You can be absolutely sure I do this all
the time.... and it works.

7\. We get massive discounts from vendors due to the affiliation (i.e. think a
technology provider who would like to build a relationship with Sequoia).

As far as I'm concerned YC + SC = DREAM COME TRUE for entrepreneurs.

If anyone ever wants to talk to me about Sequoia as an investor you know my
mobile number: 310-456-4900. I love these guys.

best jason@mahalo.com <http://www.twitter.com/jason>

------
akkartik
The investment means YC will now advise more companies in every batch, so it
will have to spread itself thinner when it comes to advice and introductions.

~~~
pg
It's not true we have to spread ourselves thinnner when it comes to advice.
The startups we fund book office hours with me online. I can tell when demand
is satisfied, because there are slots still open.

And we couldn't spread ourselves too thin with introductions, because the
supply of those is not even limited. Later stage investors are delighted to
hear about any good startup we can send them. If we send an investor twice as
many good deals, they're twice as happy.

~~~
akkartik
I see.

Are office hours a good measure of advice? What about the dinners?

Is the advice really completely stateless?

Some of the benefit of YC comes from networking between the teams. I think
this benefit may diminish as the group grows.

Just thinking up objections.

~~~
pg
I don't think my advice has gotten any stupider. If anything, probably better,
because I've seen so many startups' paths now.

It's funny you should use the word stateless, though, because one of my tricks
for scaling is to keep all the state on the client. E.g. I tell the startup
"remember to tell me x next time we talk." I've been doing that for a while,
and it seems to work fine.

Networking between the startups has actually increased. The more startups
there are, the more likely you are to be in the same batch with another one
that would be a natural beta user for your product, or that happens to be
expert in some technology you have questions about. Maybe there would be
problems with startups connecting if there were 1000 in every batch, but
between 8 (summer 05) and 26 (summer 09) things just get better.

~~~
akkartik
Very cool, thanks for those responses.

I remember 'stateless' from last year's 'Be Good' startup school talk.

~~~
pg
Ironic; I didn't.

~~~
bravura
Not ironic, since you are following your own advice.

------
grellas
Here is an informed discussion on this issue by a serial-entrepreneur-turned-
VC fellow who specifically addresses the points raised in Chris Dixon's piece
and generally comes out in favor of startups being able to take VC seed
funding without serious risks:
[http://www.bothsidesofthetable.com/2009/10/18/vc-seed-
fundin...](http://www.bothsidesofthetable.com/2009/10/18/vc-seed-funding-is-
dead-long-live-vc-seed-funding/).

~~~
bravura
This is a useful discussion.

"I’d also say that I’m not quite as negative about funding someone else’s seed
deal anymore. I now know that the mega funds that did too many seed deals
aren’t paying enough attention to them. So I’m not put off by the fact that
I’ll be used as a stalking horse or that there is something wrong with the
company provided I’ve spent quality time with management and can make my own
assessment about the team and business."

Perhaps as entrepreneurs become more educated about the Chris Dixon and
Venture Hacks argument, they can essentially use this argument to justify to
other VCs why the first VC passed on the deal ("First VC wanted to low a
valuation, knowing that they could signal to other VCs not to take the deal
unless I agreed to their low valuation"). However, some other commentators on
this thread have mentioned the VC "herd mentality" syndrome, so perhaps it
requires a shift in VC mindset too.

------
wheels
I don't think there's that much mystique around getting rejected by VCs right
after coming out of YC -- most of the YC companies don't raise VC immediately.

~~~
bravura
If I interpret their argument correctly, they are not talking about raising VC
immediately after YC. Their argument is that, at some point down the line, if
you try to do a VC round then the sole VC that participated in your seed round
has undue control of your first VC round.

~~~
wheels
I think that's a misunderstanding of the YC / Sequoia relationship. YC raises
from Sequoia just like a VC raises from their limited partners. What you're
describing sounds more like if YC were doing a syndicate seed investment with
Sequoia, which isn't the way the deal works.

~~~
bravura
This clarification makes a lot of sense to me.

------
ryanjmo
What if the founders don't seek investment from Sequoia after the initial YC
investment. In this case Sequoia would never have had the opportunity to pass.

I imagine there is no 'you have to request funding from Sequoia' clause that
comes with the YC money. In fact, from my understanding, you don't have to
take any investment in the future if you so choose.

------
bootload
_"... What do people think about this potential downside? ..."_

The downside is more than balanced by the upside of having VC connections post
YC funding.

------
JoeAltmaier
Many applicants; few chosen. Since almost all are passed anyway, the Sequoia
factor is noise.

~~~
jacquesm
I think the argument is that since they're all passed anyway they are now
passed by Sequoia which may hurt their further chances for VC.

~~~
JoeAltmaier
Presuming some superior ability by Sequoia to choose wisely. If in this
particular case Sequoia is already "ambulance-chasing", hanging around YC's
alley door hoping to pick up strays, I presume they are relying on YC's
expertise, and simply expanding the opportunity to invest in worthy startups
YC could not affort to fund. Otherwise why aren't they running their own show?
Not to criticise Sequoia; I've been in 2 startups they funded. But VCs are
notorious for herd mentality.

~~~
jacquesm
> If in this particular case Sequoia is already "ambulance-chasing", hanging
> around YC's alley door hoping to pick up strays,

That's a wonderful analogy, thank you for that one!

