Many Benefits and The One Big Risk for Entrepreneurs-in-Residence

See my last post for context:

There are some really great benefits that come from being associated with a venture fund as an entrepreneur-in-residence (EIR).

EIRs have a unique position that makes it easier to launch a company.  In some ways, being an EIR actually inverts the typical resource-gathering exercise that most entrepreneurs go through — the partners at a venture firm will often pitch ideas to their EIR’s and they continuously introduce their EIR’s to interesting and talented people who could be potential co-founders or business partners.  The first time that happened to me as an EIR, I was completely bowled over by the fact that a venture capitalist was actually pitching me on an idea instead of the other way around — it’s an interesting role reversal to say the least!

EIR roles are also fantastic for research.  EIR’s get direct access to their firm’s partners for feedback, advice, and brainstorming. They get to sit in on business pitches and help evaluate them from the VC’s perspective.  Participating in pitches and listening to how your venture firms partners think about companies is a truly precious learning experience…  Think about how many VC pitches you might be involved with directly as an entrepreneur — through the span of an entire career, how many VC pitches do you think might give?  Ten?  Twenty?  An EIR might get to see that many pitches within a few weeks if they wanted to.  Getting exposure to that volume of pitches in a compressed time frame really helps an EIR develop a comparative study of business pitches and gives you an opportunity to see what happens when teams come in to pitch in various states of preparedness & maturity, with varying styles, and different team compositions.   With full advantage of those learnings and direct access to their firm’s partners, an EIR should end up with a very good understanding of what pitches will work for their firm (and which ones won’t).

And let’s not forget the great fringe benefits of being at a venture fund!  Most VC’s have very nice office buildings that are quiet, secure, ergonomic places to work (much nicer than trying to do conference calls while hunched over a noisy cafe table).  Firms always have free snacks, coffee, and sodas to power you through long days.  Plus they have comfy couches to crash on after that all-nighter.

It’s not all sugar and spice, though — there are serious downsides to being an EIR, too…

It’s seductively easy to hang out in a swanky office, sit in on meetings all day long, listen to other entrepreneurs pitch, and dispense your opinions.  It’s fun to play “the connector” role — introducing that entrepreneur you met at a conference to the firm’s partners.  The partners appreciate it.  The entrepreneur who is raising a round really appreciates it.  And you get to give your ego a smug pat on the back for being so smart and well-connected.  All of that is so fun and easy that an EIR might literally spend entire days taking calls, doing meetings, vetting ideas, and introducing people (mea culpa).  That may be fine if the EIR is trying to add value to the firm by essentially playing an associate’s role, but definitely is not helping the EIR directly learn about use-cases that a customer would actually pay for or launch a new company per se.  So there is this unfortunate but very real tension between spending time helping the firm vs. working on launching a new venture.

This notion of the balance between an EIR’s firm vs. an EIR’s startup leads me to the The One Big Risk for EIRs…

The tension between firm vs. EIR becomes most apparent if/when the entrepreneur seeks financing for their new startup.  VentureHacks would tell you (and I would agree) that the key to closing a financing quickly with favorable terms is to have a strong BATNA.  But an EIR is at a fundamental disadvantage in getting their company favorable financing terms relative to a non-EIR making the exact same pitch…  because EIRs have a harder time creating strong BATNAs.  Why?  There is a fundamental information asymmetry between an EIR’s host firm and other venture firms.  Whether or not the EIR’s host firm actually does know more about the EIR and her/his company, they appear to have access to much deeper information about the EIR’s deal than other venture firms do.  So, as such, if an EIR’s firm does not participate in an EIR’s deal, then you can imagine the partners at other firms wondering: “What does this EIR’s host firm know that we don’t know?” , “There’s got to be something wrong with this deal…” or “Maybe there’s something wrong with the EIR her/himself!”  This information asymmetry gives an EIR’s host firm a strong upper-hand in financing negotiations.  That dynamic can prevent other investors from participating in what otherwise would have been a “fundable” deal or cause them to come in with reduced commitment at lower pre-money valuations.  Every EIR I’ve spoken with has said that their firm brought them in with a promise of “no strings attached, you can work with whomever you want” — but when it was fundraising time, everyone felt palpable pressure to do the deal with their host firm.  Usurious firms can take advantage of an EIR’s lack of negotiating leverage to drive down pre-money valuation and thereby inflate their post-money stake in the firm.  Even well-meaning firms that have great relationships with their EIRs may cause an EIR’s company to accept sub-optimal valuations if the EIR fails to create a market for their shares as aggressively as a typical (non-EIR) entrepreneur would have done.

This is the biggest pitfall for an EIR and potentially a dire/fatal situation for a hatchling startup…  If a startup’s cap table becomes too tilted towards investors in Series A, then the founder(s) may give up control of their company too quickly, or become too diluted to make the startup worthwhile to pursue.  Obviously, everyone loses when a startup gets pushed to the point that the founders are demotivated.  But that’s a very fuzzy boundary and EIRs seem more prone than non-EIRs to end up pushing that boundary in a bad way.

So, is being an EIR the right thing to do?  Depends on your goals and how you manage the risks mentioned above.  I’ll wrap up this series on EIRs in my next post with a list of venture hacks for EIRs to mitigate these risks.

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