Lawyered: Talking to Bo Yaghmaie

Bo Yaghmaie has been a lawyer in the New York venture capital and entrepreneurship spaces since 1996. He currently heads Cooley’s Emerging Companies and Venture Capital effort in New York. Besides working with his clients, Bo’s been very engaged with the local community by serving as a TechStars mentor, ER Accelerator mentor, and on Columbia’s Entrepreneurial Sounding Board. More recently, he was involved with the launch of the Digital Media Center in New York earlier this year, which you can read about below. As an integral participant in the startup space, I had to put some time on his calendar to catch up. You can find our conversation below.

                                                                                                                                                                                                       

When most people outside of the startup community think about its participants, they typically think about people like entrepreneurs, angels, and venture capitalists. Can you talk about the types of critical services you provide, and why working with someone who’s an expert in this space is so important?

First time entrepreneurs have less of an understanding of how important a professional network is to your enterprise’s successful launch and the ultimate execution of your business plan. Serial entrepreneurs, on the other hand, inevitably turn to their lawyers as the first phone call, about whatever they’re doing. Those of us who do this for a living do a lot more than the paperwork attendant to the formation of the company, protecting the company’s IP assets, and venture and other financings, even though that’s part and parcel of our day-to-day job. How we really add value is through our understanding of the ecosystem in which our clients operate, our relationships with all the players in the ecosystem, and our judgment that’s born of “been there, seen that.” In other words, you become their valued, trusted advisor because you’ve seen anything they’re going to see, time and time again. The difference between a serial entrepreneur and the first timer is the serial entrepreneur has been through the curves in the road and has inevitably learned that “Man, if I had someone on my side that knew what was coming, it would of been a lot easier for me and for the enterprise.” The first time entrepreneur doesn’t necessarily know that but more often than not learns the hard way.

In a very crowded environment, a lawyer isn’t just a lawyer when it comes to working with startups. Any lawyer can do some of the basic things that a startup needs but there are only a handful of lawyers in New York that bring the value-add we are talking about. From where I sit, the ideal partner brings together a few things. First, they need to bring a really strong platform and a robust set of capabilities across a broad range of specialties so that they can meet all of your needs, at every turn, as the enterprise grows and scales. Second, they have to have a truly deep understanding of your business and the ecosystem in which you live. And third, the person you’re working with must have a lot of experience and should serve as an advisor. They’re the person you turn to and say “Hey, I’m struggling with how to think about A, or how to present B to the board, or I was thinking about reaching out to my investors and asking them the following, what do you think?” It’s that kind of experience and judgment that makes a big difference in advising startups properly, rather than just meeting basic needs. We give entrepreneurs board-level advice about the issues they’re having and the commercial arrangements they’re pursuing day in and day out.

In early April, President Obama signed the JOBS Act into law. What type of impact do you think that will have on startups?

It’s obviously too soon to have a real sense of how the JOBS Act will play out but there’s no question it removes some barriers to fundraising for smaller companies and fundamentally alters the pathway to an IPO. Clearly, taking some of the regulatory hurdles out of the way of capital formation will inevitably enhance those capital markets. We’re in a uniquely dynamic market for venture capital and early stage investing in New York where some of these additional incentives, like crowd sourced funding exemptions, aren’t necessarily required to create an impetus for additional investments. So exceptions for crowd sourced funding, raising the limits on number of investors before you’re required to register for the ‘34 Act, some of the flexibility you have around solicitation, those are all great but they would be a lot more valuable if we were in a tight investment environment. It’s hard to know how these changes will play out because there’s already so much capital in play in the system. It’s the really challenged companies that will need to go to crowd sourcing, because honestly, it’s not that hard to raise half a million dollars of seed or angel money if you’ve got a good idea. There’s no question the JOBS Act is great for emerging growth companies, particularly for later stage companies that have an IPO in their 12 to 18 month plan. I think the flexibility around confidential filings and the more limited requirements around financial disclosure and controls create a lot of flexibility that will ultimately be highly valuable.  We are already seeing a tremendous amount of activity across the firm for issuers that are gearing up to move forward with an IPO, despite little visibility into the whether or not the markets will be there.  That’s largely because there’s no reason to not pursue a confidential filing and be ready if you are essentially there on business metrics that the market is expecting to see.

Every other day there’s an article about whether or not the startup markets are overheated or if we’re in a bubble. A lot things point to yes and here’s a few: Instragram’s billion dollar buyout without a dollar of revenue, constantly rising valuations, and Bravo’s new reality TV show “Silicon Valley.” From what you see on a daily basis, do you think the pundits are correct?

The markets have been extremely active so it’s definitely a concern. There are too many dollars in the system funding too many companies in each of the verticals that we play in. Now is that good or bad? Companies are getting funded even though they haven’t gone through the typical analytical process that’s long been an integral part of venture investing. That’s the bad. The good is that clearly this additional capital, particularly in New York, has enhanced the viability of the ecosystem. It’s created a fertile ground for entrepreneurship. Fundamentally the markets will determine who the winners will be; I think that’s a good thing. Sure, you have four or five companies getting funded simultaneously that are tackling a similar challenge, and not all of them will survive to raise a B, C or D round. But that additional funding creates an additional layer of competition in the markets so entrepreneurs and companies are forced to produce the best products to win. It’s not all bad. Is it bad that valuations are on the rise and people are going to get burnt? Yes. The venture community understands that. They invest on a thesis that out of every ten investments, they only need one or two big winners and two or three okay returns, and the rest aren’t going to play. On the entrepreneur’s side, in my experience, the best entrepreneurs are the ones who have started a business and failed. This market will provide enough learning experiences like that. In the end though, this excess capital is fueling a really vibrant ecosystem for entrepreneurship. Net-net that’s a very good thing, especially in New York.

You advise a lot of venture backed companies and many of them are seeking exits. What types of exits are most common right now and are people finding it easy to reach them?

Couple of things. One challenge over the last few years has been that the public capital markets weren’t a viable exit for late stage companies. That’s changed. We’ve got a lot of companies in the IPO pipeline looking at valuable exits. By definition, that puts pressure on buyers in the market to act and take some of these companies out before they’re public. I think that dynamic has fundamentally enhanced the likelihood of liquidity events for companies with enough traction to pursue an IPO. Therefore, the folks that have the balance sheet are going to be more motivated to act. The truth is at the end of the day, most venture guys prefer M&A exits. They’re a lot cleaner and easier than IPOs. The notion of being a reporting company that lives quarter to quarter and having insider limitations does not have the same appeal to venture investors as a meaningful sale with meaningful liquidity. Overall, we are seeing a lot of vibrancy in the IPO markets, with clients like LinkedIn, Zynga, and Yelp that have gone out and done very well, and that flows downstream. As VCs see liquidity in some assets they’ve been sitting on for five, six, or seven years when there wasn’t a vibrant M&A or IPO market, they then have a greater ability to put more money to work. There’s a network effect that hopefully leads to relatively stronger market opportunity for emerging companies.

You’ve been doing this for a long time and across multiple business cycles. Can you talk about how the venture and startup scene has changed in New York over time?

I’ve been doing this in New York going back to ‘96. I was here when there was nothing going on and then I saw the dot com boom and bust in 2000-01. Now we’re seeing the emergence of really good companies and a completely different level of activity in New York. Some people parallel it to the dot com bubble but it’s very, very different. What we have in New York is a true baseline ecosystem. Back in the last iteration, there were a handful of companies that raised a lot of money in the public markets without a viable business model that could survive without additional funding. More importantly, there ultimately wasn’t a real deep ecosystem of entrepreneurship. Since then, there’s been a confluence of factors that have really changed the market dynamics in New York.  First, some very exciting companies in New York emerged in the mid-2000’s and got the attention of venture luminaries in the west coast and Boston. In addition, you had venture funds anchor in New York and invest in some really high growth companies. As a result, the markets started looking at New York for good, new exciting opportunities – almost a green field –  and you saw an influx of capital. At the same time, there was the Lehman collapse and the financial meltdown. A lot of the talent that by default used to go to Wall Street all of a sudden didn’t have that opportunity. Some really smart young kids said hey, let me try my hand at a startup instead.  And, that was the moment when things changed – the spark that set New York on fire.

So when venture money, availability of capital, and a rich pool of human capital combined in one place, you saw a lot of great companies get formed in some important verticals: media, adtech, fintech, e-commerce, mobile and social. As these companies have grown, there’s now a real network that’s been built. You have companies founded 5 or 6 years ago that are really far along and now some of those founders have peeled off and started something new. We’ve never had that before. The first bubble was like a big party where someone came in and turned the lights on. All of a sudden everyone had a hangover and no one wanted to go out for a long, long time. This time it’s very different. Sure, a lot of companies aren’t going to make it in this environment either. They won’t be able to meet their milestones to raise additional capital. But that’s okay, not every venture investment is going to be a 7x. Most of them end up being write-downs and write-offs, which is why it’s called venture capital. Some of these companies will build great things and have great value, and that’s where the returns are. They’re here in New York and coming up through the ranks.  But more importantly, the pool of human capital that is being built, regardless of whether the companies are winners or losers, that is here to stay and is now built to last.  That’s a very different environment than any other time in New York because the overall ecosystem is more mature, and there’s a lot more talent and capital deployed in it. This results in an ecosystem that can host great startups that go onto do even greater things.

It’s a pretty frequently discussed topic, but how does the New York scene compare to Palo Alto and Silicon Valley?

The Official Seal of Palo Alto, CA. (Photo credit: Wikipedia)

Truth is, New York is not on equal standing with Palo Alto or the Valley and won’t for a long time. If you look at the numbers of companies started, funded, or with great outcomes, the valley outhits New York by about a 3-to-1 margin. Palo Alto and Silicon Valley will be the hub for tech innovation for the foreseeable future. Over the past three to four years though, New York has emerged from being a second tier tech and emerging company hub to a real first tier player. We’re now on equal footing with cities like Boston and San Francisco, and we can actually hold our own in certain verticals against the Valley, at large.  If you look at internet based business, you see that New York and San Fran are the leaders. But for the overall emerging company ecosystem, Palo Alto is still significantly larger because there’s a lot of tech innovation coming out of places like Stanford, as well the great tech companies anchored out there – Apple, Cisco, Google, Facebook, Intel and the list goes on. You just need to drive by their campuses to be amazed. They have the machine built but it wasn’t built over night.  They’ve been at it in earnest since the 60s.

There will be a day when we’re a lot closer.  I have no doubt about that.  It won’t be four or five years, because that’s not realistic. But if you look at our growth trajectory, the hockey stick is at a much steeper angle here than the Valley. What’s really exciting is that New York is at the heels of Boston when Boston and Route 128 have long been the east coast hub for venture activity and emerging growth. To have New York in the same league as Boston and even in the same conversation as the Valley is really exciting and flattering for the community. My view is that’s going to remain a consistent theme. If things do continue in this trajectory, New York will outpace Boston in the next decade. Silicon Valley is safe for quite some time though.

I know that you’ve been very involved in the launch of the Digital Media Center (DMC) earlier this year. What exactly is it and why have you and Cooley gotten involved?

One of the things we do at Cooley is spend a lot of time and energy supporting key groups and areas that will bolster and support entrepreneurship and create a community that can help entrepreneurs thrive. It’s part of our real investment in the community and its core to who we are at Cooley. The DMC is an example of that. Together with Silicon Valley Bank, Deloitte, and NASDAQ, we wanted to create a forum for companies in the digital media space to get together and share ideas and have an unfiltered, substantive, valuable, peer-to-peer exchange of information and ideas. There’s so much noise in the market that we thought it’d be great to create a forum for the thought leaders to share ideas and challenges and create that dialog. We support a whole host of forums, including TechStars, ER Accelerator, DreamIT and other smaller accelerators, and a variety of groups. We have startup leadership programs with Harvard Business School Angels and Insite. There’s a long litany of community organizations that we support. DMC is a relatively high profile example of that, and we’ve got high aspirations for what it can do for the community.

What’s one free piece of advice you have for people involved with startups?

First and foremost, be true to yourself and your idea. Pick your partners carefully. Whether it’s your founding team, venture investors or the professionals you work with. That matters in a big way.  And, make sure you avoid some of the hubris that goes around in this ecosystem when capital is plentiful.  We are ultimately playing in a very small sandbox and you’ll be surprised how much smaller the sandbox gets when the markets get tough.  So ultimately, build a business based on trusted relationships. I think it’s that simple.

On Venture Capital and other stuff: Chris Yeh

Image via CrunchBase

Chris Yeh is many things, among them a General Partner at Wasabi Ventures, Vice President of marketing at PBworks, father, and blogger. Chris is neither a Droid or Apple guy, but very much requires a physical keyboard on his phone. He hopes someone buys RIMM’s patents, and soon. Chris and I talked about how Wasabi Ventures works, a recently created accelerator at Loyola University Maryland, and some other questions about the industry. You can read much more from Chris directly at his blog Adventures in Capitalism and his personal website, or you follow him on Twitter at @chrisyeh. Here we go…

Image by Eastwick Communications via CrunchBase

From my understanding, Wasabi Ventures doesn’t operate like other venture capital firms. Can you talk about your operating model?

We like to think of Wasabi Ventures as kind of a throwback to the old days of VC. In the old days, venture capitalists didn’t invest as much money as they do now, but they did a lot more hands on work. Over the years, the industry has become much bigger and the amounts of money invested have gotten larger, despite the fact it’s cheaper than ever to start a company. We’re trying to return to a traditional means of venture capital. We invest small amounts of money but we also invest our own time and expertise to provide that kind of nurturing startups need.

Wasabi Ventures recently launched an accelerator program at Loyola University Maryland. What motivated that?

The new accelerator we launched at Loyola is a joint venture with the university that tries to serve what we view as an underserved market. The wonderful thing about the internet is you build these products and companies through distribution channels that are now global, like social media or the various app stores. It seemed like a place like Silicon Valley had a monopoly on innovation because they have so many resources. It’s not because they have more smart people, though there certainly are plenty of those. Silicon Valley has an ecosystem: attorneys who will work with you, experienced executives who can provide mentorship, former entrepreneurs who are now investors, VCs who are used to putting in money. We feel like we can bring some of those things to the Baltimore area and fix the situation there. The good news about Baltimore is it has strong support from the state of Maryland. There are a lot of very smart people and good universities in the area. It just needs some catalysts, and starting an accelerator at Loyola is one of them.

You recently wrote a post on Adventures with Capitalism called “Is There A Social Media Bubble?” That’s very topical right now. Can you talk a little bit more about why you think the startup scene is overheated?

Ultimately, overheating in markets is where the valuations get away from what can actually be supported. I’m an old school guy. I believe you can value any company or opportunity. You do that through the old-school method of a discounted cash flow analysis. You add together all the future cash flows and discount them back to the present day using the appropriate discount rate to arrive at the present value. What I see is similar, but not to the same extent, of what I saw during the dot com era. Then, if you did a discounted cash flow analysis on eBay, it was clear the valuation of the company was based on it maintaining a 100% annual growth rate for two decades, which just simply isn’t possible. No company can grow at a rapid pace forever. Even an enormous company like Apple can’t grow forever; otherwise it’s larger than the world economy. Everything has to slow down eventually and everything has a finite value. In the dot com era, there was no way you really calculate a scenario under which they’d be worth the amount of money they were worth in the public market.

The same thing could happen today. I’m going to invest in a company, a seed stage startup, with a ten million valuation. Here’s the problem. What are the chances that a startup that gets funded eventually exits at a good value? Let’s walk through a scenario. You seed that company. Let’s say there’s a 1-in-3 chance you get venture funded and from there it’s a 1-in-10 chance it becomes a big success. You now have a 1-in 30 chance of a success. So what does a big success look like? Probably on average, it’s two hundred million dollars. You’d feel pretty good selling a company for two hundred million dollars. But if you have only a 1-in-30 chance one of your companies is worth that amount, and you had to make thirty investments at ten million each, effectively you’ve paid three hundred million for a two hundred million return. The math just doesn’t work out; you have to pay a lower price. Or you have to see much higher exit values. The reason why we get bubbles is people see exits like Instragram. Zero revenue, one billion dollars. Well gee, if my average exit becomes a billion dollars, then even if I make thirty investments at ten million each, that is, pay three hundred million present value and get a billion back, you’d do it seven days to Sunday. The problem is those kinds of public market valuations or acquisitions aren’t sustainable. We saw it happen during the dot com era and during 2007, and we’ll no doubt see it happen again in the near future. We just haven’t reached that point yet.

What’s an example of one mistake or failure you’ve had and what did you learn from it?

I won’t use the company’s name because I don’t like to talk bad about any entrepreneurs, but I’ve certainly made mistakes in investments before. You try to learn from every mistake. But if you lose a bunch of your money as an investor, you really tend to remember the lesson. One company, for example, was in a space that I thought would be very strong, and people still haven’t cracked it yet but it could potentially be huge. The entrepreneur was a friend of a friend. He’d been very successful and had led a publicly traded company. He was a very credible figure tackling a problem area that I felt was very strong and attractive. The issue was that he hadn’t gotten the product to the marketplace yet though. As it turns out they were never able to get the product to market and I lost all my money. In fact, I was unwise enough to be the only investor in that particular venture. So, the lesson was don’t invest in companies before the product is there, no matter how great the entrepreneur or market seems to be. It’s very difficult to know the product will be there.

Still, there are exceptions to every rule. I recently did an investment in a company with two very strong entrepreneurs that hadn’t yet decided what they wanted to do. These folks had a proven track record of building and selling products and were themselves coders. The previous entrepreneur, however, was a business founder and had to rely on others to build the product.

Roger Ehrenberg of IA Ventures and Dave McClure of 500 Startups recently wrote separate posts on whether or not venture capital is scalable. Do you think so? Why or why not?

Venture capital as we know it is not a scalable model. The reason is simple, it’s math. Venture capital depends on three things. The first is having a ready supply of capital to deploy. That’s not the limiting factor on scalability. You could always raise larger and larger pools of capital. Warren Buffett has clearly done it with Berkshire Hathaway and has proven you can scale up investments. The second piece of the puzzle is number of available exits. Ultimately, as a VC, you have customers: the public markets and public companies that buy your investments. The total amount of money paid back into the ecosystem is limited to the total number of acquisitions and IPOs. Historically there are not that many monster IPOs or acquisitions. In a typical year, the number of hundred million-plus transactions can easily be counted in the low double digits. There aren’t enough buyers to support increasing capital by 10x. This is why individual venture firms tend not to scale up beyond a certain point. And third, an individual human being can only serve an active role on so many company boards. So let’s say each company you invest in has a board meeting every month. You sit on ten boards, and then you’ve got your own work. As a VC, you’ve got Monday, which is taken up with partner meetings. That’s you and the rest of the partners deciding which investments to make. So Monday’s shot. You’ve got ten companies, so about every other day you have a board meeting. You have to do prep work and follow-ups after, that consumes time. Then, you’ve got to meet new companies and try to assess investment opportunity. It simply isn’t possible to add that many more investments. What I’m sure Dave McClure is doing is arguing that his approach is different and scalable. If you assemble a collection of people to do the mentoring and whatnot, and you make investments rapidly, and invest in companies that can exit for small amounts, that has greater scalability. But that’s not venture capital.

Who are your biggest personal and professional influencers?

I’m a little unusual in that I draw from a wide range of influences from outside the startup world. For example, a big influence on me, from an intellectual standpoint, is Martin Seligman. He’s the former head of the American Association of Psychiatrists who started the positive psychology movement. I’m very interested in issues of popular psychology and behavioral economics. I think those things impact my professional career more than random investor this, random entrepreneur that. That being said, there are definitely people in the community who I know and don’t know personally who I admire a great deal. In terms of investors, there’s Jeff Clavier. I’ve been very impressed with his ability to find good deals and do traditional venture capital stuff. He’s been extremely successful. From a business influence, I really admire certain aspects of what certain famous entrepreneurs have done. Clearly, like many people I’ve tried to learn lessons from Steve Jobs and Jeff Bezos. Both have been enormously successful despite being heavily criticized at various points of their careers. Finally, I’d say in terms of people who’ve made a big impact in the startup ecosystem, it’s hard to match what Paul Graham has done at Y-Combinator, both in terms of producing some pretty amazing companies as well as changing the ways startups and entrepreneurs think.

Do you have an investment thesis that really excites you right now? What is it and why?

Let’s go with two. One’s a traditional investor answer and the other one is not. The traditional investor answer is I think there’s a ton of upside in touch screen computing for the enterprise. A lot of people call it mobile but I prefer to call it touch screen because tablets aren’t necessarily mobile in how I think of mobile. But it’s absolutely huge, because for the first time the devices are adapting to the human interface instead of the human adapting to the computer interface. That has opened up the market enormously. When you have applications that babies and cats can use, then you’ve really broadened the market. There’s no way a baby or cat could pound on the keys of an Apple II and do anything.

For the second one, I feel like there’s a tremendous opportunity in Silicon Valley to drive value with a greater emphasis on startup management. I think most companies and entrepreneurs don’t really think about how to manage or build a great culture. They pay lip service to treating their people well. I think it’s very valuable especially in the kind of environment we’re in, where jobs are highly available for the talented. I think companies and entrepreneurs who really focus on building a great company will have a serious advantage.

What’s the neatest startup you know that you’re not invested in?

As a relatively established startup that I continue to be impressed by, I’d say Square. They’ve taken on an enormously valuable and powerful industry, credit card processing and payments, in a way that PayPal had taken them on about a generation ago. They’ve done it with an incredible amount of style and attention to design. I doubt the food truck industry would exist without Square, because people want to be able to pay by credit card. They swung for the fences and really connected, and I admire that.

Actually, that brings up a related question. Near Field Communication (NFC) technology has been frequently touted as the next big thing. Why do you think someone like Square hasn’t gotten involved with it?

Square’s issue with NFC technology is they’ve already achieved a very strong position and it’s unlikely merchants will stop using Square’s products. I think they can afford to ignore NFC because of that. The reason probably is because NFC is going to require additions to their product, which takes resources to support it and to figure out all the different flavors and phones. Now that Square’s already a little established, until NFC becomes a clear winner, they can afford to wait on making the investment. Meanwhile, I’ll bet Amazon is investing heavily in NFC because they have the financial wherewithal to flesh it out early, much like they did with the Kindle. I think NFC could potentially be huge, but it takes someone like Amazon to invest the money and be patient, and a series of startups that are willing to gamble their existence on it, to really exploit it.