[EDIT: Changed "until" to "unless" to sidestep the silly debate over the sequence that things happen. We hackers still have to make something. The process of doing that can sometimes become monotonous, so we often appreciate a good soap opera. But, sooner or later, we have to get back to work. I know I have.]
But logically the product still comes first. The entrepreneur might take a pre-order on a product that's not available yet, but it must exist at least notionally.
Say you want to buy a kg of rice from me. You might buy it on the spot for $5. You might pre-order and pay me $3 now, and I promise to deliver it in December. You might pre-order and promise to pay me $5 in December, when I'll deliver it (a forward contract). I might deliver it now and you promise to pay me $6 next month. All those transactions are essentially the same, only the settlement details (and risk, etc) change.
In all those cases the existence of the product, or at least an expectation that a specific product will be available sometime, is a pre-condition for the transaction.
I think the more pertinent conversation should be around what the hell do some of these angels offer to entrepreneurs, anyways? Money is a commodity these days. Plus, real hackers require very little, if any, to get off the ground in the EC2-era. The very top guys (like PG, Sacca, Ron Conway, Chris Dixon, etc.) are obviously in it for the right reasons AND offer a lot more than money. But the majority of angels, even some of the top ones, I fear take more than they give.
1. They offer advice. For a first-time entrepreneur, this is probably enough reason to work with angels right there.
2. They offer networking. Good angels are supposed to know everybody, including just the right people you should be talking to to take your company to the next stage.
3. Money is important. I happen to have savings, but if I were trying to start without already having money in the bank, I'd have to go get an angel round. And people straight out of University don't have money.
1. Advice: This is clearly extremely valuable, even for experienced entrepreneurs. That's probably why a company like Chartbeat (serious revenue, and part of Betaworks) raised a $3 million round from strategic angels, when they probably didn't need the money http://techcrunch.com/2010/08/31/chartbeat-3-million/ . That said, if you're taking on angels for non-monetary reasons, then you still have to think about their value-add in monetary terms (at least, generally). Is this person's advice worth 10% of my company? Also, you could get their advice by asking them to sit on a board of advisors (or directors) for a token sum of equity (<1%) and still get them involved and incentivized without forking over a large chunk of ownership.
2. Networking: This is certainly a huge contribution of the top angels (and frankly, it's probably, more than any other single factor, what separates the Conways/PG's/Dixons of the world from every one else). Again, though, you can potentially gain access to the same networks through less "expensive" means: i.e. connecting with these people in some other way, whether as a friend, or a mentor, or an advisor, etc., but not necessarily as a full-fledged investor. If their network really IS that valuable, though, surrendering a large chunk of equity might absolutely be worth it, provided that they are excited about your start-up. (EDIT: I'm not recommending you "hack networking" in an unethical way. If somebody is providing you value through their network you should certainly reward them for it. At the same time, you shouldn't just surrender a quarter of your company because some says they have a lot of contacts).
3) Money: Agreed. Money makes the world go round. Most hacker/founders, though, only need to cover their living expenses to get projects off the ground. $70k/year for two boot-strapping founders is very different than a million-dollar angel round. Also, people billed as "top-tier" angels are obviously commanding a premium for their investment (a higher % of the company for less money). Just make sure you're getting your money's worth.
I think in certain cases angels are definitely worth it, but I think it's essential to weigh the costs of equity with what they're actually giving you.
Lets draw a line under the soap opera gossip and move on.
It's been pretty clear to me from the beginning that there's a lot of misunderstanding going around, so the whole flap is funny at best. Some influential people got together for drinks and to talk about the industry they all work in, and decided to meet again; some of their conversation, naturally, turned to focus on some of the threats and challenges in their industry, of which YC might be one of; some of the conversation might have made a few attendees feel "uncomfortable"; Arrington got wind of it, showed up uninvited (and, really, I can't blame anyone there for not inviting him in the first place), and smelled a rat; Arrington likely also interpreted confidential statements from anonymous sources in as sensationalistic way as possible, because that's what happens when people talk about something without really talking about it; words like "collusion" were probably the children of phrases like "how can we handle these problems in our industry" and "what can we do to better develop our business"; and in the meantime, Ron Conway overreacted (but with his heart in the right place) and someone else wrote a long piece about how the overreaction made their heart sad.
I hoped I wasn't the only one that thought it was all pretty ridiculous. Thank you, Rich, for writing the first piece on it that hasn't been a waste of time to read.
Not to say I don't care about the core problem at hand (the possibility of collusion). But, I don't care about the noise surrounding it. Plus, I don't know enough about the law to say whether it was actually collusion or not (assuming most of the pieces needed were public).
But, I do know that I bought 10 hot dogs and 8 buns at the supermarket on Saturday. And that code I need to write won't write itself.
"Ron’s advice to Angel investors is analogous to Paul’s advice to founders: focus on what really matters. Focus on anything else is at best distracting and at worst disingenuous and destructive. Entrepreneurs get distracted sometimes, and, I guess, so do angel investors."
It really is that simple.
The premise of the whole drama was that there may be a collusion between individuals who are involved in early stage financing of startups.
A startup founder is by definition in a weak position commercially when facing prospective investors. An engineer puts a significant chink on his life in his venture, he does not have a portfolio of alternatives. This fact is very well known to the party on the opposite side of the table, to the investor that is.
For a rational investor, a startup investment is a high financial risk. It is not a well-researched public stock, it is an option. But it's OK, since it is a game he is in. He knows that most of his portfolio will be worthless, but a few (maybe one) stars in the portfolio will potentially make him wealthy(ier).
So, when two parties are facing each other at the negotiating table, the investor looks at the founder as a sort of a 'disposable' asset. After the deal is struck and the venture goes under, the investor is financially damaged, but he is alive and will have another termsheet discussion sometimes this week. The founder is left picking up the pieces of his life.
That's why the balance of power at the negotiating table is very important. The founder has a single recourse -- there should be competition between suppliers of money. Now, the AngelGate has shown us that such competition may be a myth. There may appear a cartel between technically-savvy suppliers of money. The market is small anyway, and when the bulk of the suppliers can fit at a restaurant table...
The article is quite dangerous in its goal. So what, instead of addressing the issue -- how to prevent collusion of early-stage investors -- the hackers can go back to work and focus on putting more hours in their startups? Really?
Let me suggest a few points that should come out of this scandal before all is forgotten and quiet.
- reputation of the individuals involved in AngelGate should suffer. This will give a chance to potential new entrants on the scene (new investors). Game theory tells us that 'tit for tat' strategy is the most viable in the long term. The cost of future collusion will be higher, and the founders will benefit from that.
- there should be a discussion about how to prevent cartels in the startup field. Maybe a self-regulating body should appear eventually in this market.
- any experts in the field of private equity (lawyers etc.) should seize the opportunity to provide impartial advice to the founder community (via blogs etc.). Angels have lost credibility, the void should be filled. We speak about standard sample term-sheets, financing terms etc.
- a credit should be given to Michael Arrington who has performed a function normally done by a regulator in the marketplace. Founders should probably supply him with more information from now on.
it's not analogous to politicians talking about the economy.
Not saying that these investors are actually participating in this kind of thing but even if they were I don't see how a smart founder who weighs up all the options would get caught out.