Are you giving equity to your VC to get their advice?

This post comes after a discussion through comments with Fred Destin on one of his recent posts. This is something I’ve been thinking for a long time, and I just thought it may be time for me to put this on paper: Nothing in the way term sheets are crafted creates an incentive for any of both parties to value advice from investors.

Let me just state first that I’m not saying that some VCs or BAs are not adding value to companies they’ve invested in. I know Fred and he’s definitely a nice fellow and very proactive investor, he’s for example participating in a lot of initiatives like Seedcamp. But, my point is that VCs or BAs are best viewed as pure financiers with the incentive structure put in place through current shareholder agreements: Their added value is in putting money in the projects that will be providing the best returns – with or without them on board.

Today, once the money has been committed, there is no incentive for the entrepreneurs to listen to investors’ advice – entrepreneurs are not paying for it. Furthermore, there is no incentive for investors to put extra skin in the game – if they do, other investors will benefit from these freebies on the same terms than they will.

OK, we regularly do see some investors providing extra help. But for me, their incentive belongs to either empathy or reputation management (providing value now to get a discount on future financing rounds with other startups). The carried interest, that is often cited, is not actually a hard incentive. Investors will receive it, whether or not they were really instrumental in the success of the company. Sure, investors have an incentive not to let the company fail, but the way to “fix” a company is certainly something that is not widely shared between entrepreneurs and investors, and I don’t think entrepreneurs see them as advice they have paid for when they issued equities.

So my whole point to entrepreneurs is that they should not expect particular help from VCs or BAs. Sure, they will get some “free” advice, but like everything that is free, you may like it or not, it may even have a lot of value for you, but you can not complain on the quality.

I’m actually thinking that we need alternate incentive structures so that entrepreneurs do pay for advice that have value for the project. There is a problem of assymetry in information products like advice, it is that you don’t know the value until you’ve consumed them, and when you’ve consumed them for free, you have litlle binding to pay their full value. My current thinking is that alternative currencies may be a good way to solve this problem: You can imagine that projects will be able to issue local currencies that will be backed someday by actual shares of the profit. But this is another story, a subject for another post…

Creating “Commons Domains”

I’ve lately been involved in a discussion thread on “why we need software patents or if we should kill them“. My position is clearly that patents are a value destruction for the entire community. But the problem is that they create a rent for certain actors and it makes it then difficult for political action to act for the common good when financial powers is concentrated in the hands of a few beneficiaries.

While thinking of a way we could come to the desired end without waiting for politicians to realize where the common good is, I’ve just had the idea of “Commons Domains”. A Commons Domain would actually be an ambitious extension of the notion of a patent pool. The idea would be to create an institution to administer a Commons Domain, a Domain where any signing company would consider that all their IP would belong to the pool of companies.

While at first this may appeal to companies with no IP, I think there may be a twist so that it becomes a winning machine over the IP oriented rent seekers. In fact, once a company has signed into a Commons Domain, and when it is facing with the prospect of patenting a new idea, it could:
1 – patent the idea and try to make money on the companies that did not sign in the Domain
2 – put the idea in the Public Domain for the good of the entire community
3 – propose the idea to the Domain’s institution who could choose to patent the idea or not

The interesting aspect is that there is an accelerating effect. Once you start having a few valuable patents within the Domain, the interest for other companies to adhere and bring potentially more IP within the Domain grows.

I would be interested by your reactions and why not, see how we could rapidly create the first Commons Domain.

Systems to organize what employees have to do, or want to do?

I blogged before on the difficulty Enterprise 2.0 faces for entering big organizations. It suddendly occured to me the other day that current IT systems (ERP, CRM,..) are mainly meant to track and organize what employees have to do. While Web 2.0 tools are doing wonders aggregating intentions and organizing actions of people according to what each one of them wants to do.

It is not new that Markets and Hierarchies represent two forms of coordination with their specificities. In this sense, Web 2.0 seems very suited for Markets, allowing people with diverse interests to loosely collaborate for a while, before moving to something else. With that in mind, it seems that Enterprise 2.0 is confronting a very tough challenge, it wants to re-use for Hierarchies the tools that seem to be almost meant for Markets.

But for people who have been in management positions, it is clear that the command and control model has its limits. That a good part of your job is actually to create meaning so that what people have to do, more or less align with what they like to do. It is even more so when you deal with knowledge workers, where there is a strong asymmetry of information, where they know what they have to do, and you as a manager painstakingly try to keep up with what they are explaining to you.

This is why, even though I believe it will be difficult and require a lot of cultural changes, I still think that big organizations can benefit from the new Web 2.0 tools. At the heart of the change will probably be a modification on the way we conceive firms. But, when some corporations let employee use part of their work time as they wish, there is still hope that big organizations can transform themselves to adopt more decentralized working models.

Trying to make value out of what your employees want to do, instead of what top management thinks they have to do is obviously a big shift. But who said the latter should be the ultimate way to run hierarchies. If there is indeed value in the former, evolution will naturally produce new types of organizations thriving on those principles. If you’re still running on the old model, you’ll just have he choice between mutating or sinking into oblivion.