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- Anatomy Of An Undisclosed Investment Or Exit
Spend time with a VC and they'll inevitably tell you about a startup they've invested in that has a "great story." In fact, this line is repeated so often I've occasionally posited that VCs invest in and sell stories not companies. Likewise, read any number of articles offering entrepreneurs free and usually unsolicited advice, and the ability to tell a great story — to investors, partners, customers, employees and the media — is commonly cited as an important factor in determining a startup's chances of success.
But, as any journalist knows, the most important part of the story is very often the part that's been omitted. In the startup world, this is no more true than in the case of the "undisclosed" investment or exit. When publications report that company A has announced a new funding round but isn't saying how much, or that company B has been acquired but neither party is revealing the price, have you ever wondered what is really going on?
In this post, I'll attempt to scratch beneath the surface a little and explore the story behind the undisclosed investment or exit. This will largely be based on knowledge garnered as a journalist covering startups over a number of years but also as a fleeting entrepreneur who has raised funding and saw an undisclosed exit first hand. It will also draw on conversations with investors and founders who have been directly involved in multiple funding rounds, acquisitions and exits, all of whom agreed to be as candid as possible for the purpose of this article and on the strict condition of anonymity.
Any founder will tell you that raising money is usually hard, really hard. And yet doing so not only provides a startup the capital it needs to grow, but for early-stage companies especially, it also acts as some sort of market validation where few other signals exist. But what if the size of the raise pales into insignificance when compared to a startup's competitors? That doesn't make for such a good story.
The single most common reason for an investment amount remaining undisclosed is that the size of the round would be viewed by the market as derisory in comparison to competitors. This is particularly common at the seed stage, and even more so outside of Silicon Valley where funding is usually a lot lower on a like-for-like basis.
The size of the round would be viewed by the market as derisory in comparison to competitors
Being dwarfed by the Valley is commonly cited as a reason to omit this part of the story. "When we’re at a disadvantage with a smaller war chest it's not in our benefit to announce that and make it plainly known," said one European VC. "Where these dynamics do not exist, we’ll announce the size."
One VC cited the rudimentary and recent example of Groupon. During the group buying site's heyday, which saw it raise north of 1 billion dollars on the road to an IPO, any company wishing to compete would have needed a large amount of capital to be taken seriously. The later they went to market, the bigger that balance sheet would have needed to be. Despite this reality, however, low barriers to entry on the tech side resulted in an attack of the Groupon-clones, meaning that if you raised money for your group buying site after 2009, you were probably a very good candidate for an undisclosed investment.
When a figure is missing from the story, there's also a tendency for people to fill in the gaps for themselves. "Our thinking and experience is that if you don’t say, people drift toward the $1 million mark," said the VC. "So unless you’ve raised more, there's no reason to shatter their illusions".
This thinking has also given rise to the ghastly practice of describing funding in such terms as a "six-figure investment", to imply an amount just shy of a million. (Admittedly, it's a practice I employed as an entrepreneur with limited success.) Or something even more ambiguous as a "multi-million dollar investment". This technique is mostly used at the seed or A round and seems to have become a particularly European phenomenon where, again, funding rounds are smaller.
Another factor can be the desire by a previously successful founder to protect their personal brand. If they fail to raise a significant round of funding for their new venture they may opt to keep the amount undisclosed so as to not burst their own bubble. "You’d be surprised how tough raising anything above seed can be, even for serial folks," said one serial entrepreneur. "Sometimes they don’t want to be perceived as small in the market relative to their profile and track record".
With that said, an undisclosed investment is not always the result of playing a game of "my raise is bigger than your raise". Further market dynamics are often at play, such as the perception amongst customers and potential partners who would balk at the prospect of doing business with what could be perceived as an underfunded startup. "Big retailers don’t typically make time to talk to or partner with startups," said a VC who has been involved in a number of B2B investments. "They want well-capitalised concerns that are not going to shut down next year."
One way to balance the need for publicity surrounding a startup's funding with being taken seriously by potential customers and partners is to ensure that the investment amount remains undisclosed but the name of the company's backers is touted at every available opportunity. The key takeaway from the story then becomes that the startup is VC funded, along with any noteworthy names attached to the fund, rather than how short the company's runway is in reality.
Politics (with a small “p”) can also play a part. If a startup’s proposition and brand is pitched as non-corporate or idealistic, attracting a user base that would take umbrage if it knew the company was underpinned by Venture Capital, then it may seek minimal publicity related to funding. “It may not be well received to highlight any VC money at all even if it’s a nice chunky amount,” said a VC.
Lastly, a reason for keeping an investment amount undisclosed can be purely personal, such as where a full disclosure might inadvertently reveal too much detail about a high net-worth individual's own finances. "Angels generally don’t want the amounts they invest to be known as most are private individuals and don’t want their wealth in terms of amount made public," said an early-stage investor. This can also extend to an individual choosing to hide their name from an investment entirely, or agreeing to disclose their involvement only in aggregate as part of a consortium of investors.
If an undisclosed funding round makes for a dull opening chapter, an undisclosed exit is often an unsatisfactory end to the story not only for those on the outside looking in but also the company being bought or the company doing the acquiring. Once again, the reason for an undisclosed exit largely comes down to price and how this will be perceived by the market.
An undisclosed exit amount is more often the result of stalemate between the three main parties involved: the company exiting, its backers, and the company making the acquisition. As one VC put it, "ironically, the motivations for the acquirer and the investors of the acquired company are at direct odds".
If the price is high, both the founders and the company's investors will want to make it public. "We want people to think the sale price was as high as possible because we want people thinking we made a killing," said one VC. In contrast, the acquirer might not want to divulge how much they paid, "lest they are laughed at for over-paying".
Ironically, the motivations for the acquirer and the investors of the acquired company are at direct odds
Conversely, if the exit price is on the low side, the company being sold, and certainly its backers, will insist on non disclosure so as to maintain the perception of a success. As one VC said: "Unless the investors have made money off the deal, they’re not going to advertise the amount of the exit".
The exception here is a fire sale where it’s usually in the interest of all parties to keep the financial details undisclosed. The acquirer doesn’t want it to be known how much they paid for the assets of a failed company, which may include its user base and/or technology, information that is market sensitive. Likewise, the company being bought and its investors would rather not highlight how poor an investment it turned out to be.
However, this lack of transparency doesn’t always chime well with the wider community. "If I am going to invest in a fund then I want to know the performance of that fund," said an investor. "Of course managers of a fund who are taking a percentage may not want others to know if they are not doing as well as they wish to make out".
Sometimes, of course, the startup's founders and their investors are at odds over what actually constitutes a successful or unsuccessful exit. For a first time founder, any kind of exit could be deemed a success, including an acqui-hire, but in these situations the VCs usually have the deciding vote if they wish to keep the sale price undisclosed.
It's also worth remembering that even when an exit is disclosed, the price made public is invariably inflated, including earnouts and/or simply being rounded up (or out and out made up). "Maybe I’ve just seen too much but at this stage unless it’s by a public company which actually discloses the number in a filing, I’m inclined to be rather sceptical of what's reported," cautioned an entrepreneur who has been privy to multiple exits and acquisitions.
In conclusion, to fully understand the motivation for an undisclosed investment or exit and the conundrum it presents, I'll leave you with the words of one seasoned entrepreneur-turned-investor who perhaps summed it up best: "The people helped by disclosure and a general understanding of the market are not those doing the disclosing. Ultimately all of us in the market for funding startups or receiving funding would benefit from open disclosure by everyone, but individuals and companies often prefer privacy over the group benefit."
Steve O'Hear 26 May, 2013
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