"This should fix the problem. If it doesn't we'll try something else."
That's an interesting phrase. This should really be implicit in everything we say or do. It stands to reason, if something doesn't work, you try something different.
But when you're famous and have thousands of people who constantly try to undermine you or misquote you or take something out of context, you start to need to be explicit in calling this out. Otherwise next month's tech rag headline says "YC partner recants failed investment policy".
Oh I'm sure it'll happen, they'll just ignore the existence of this policy altogether when they do: "PG Prevents Partners from Investing in Minority-Founded Startup"
"This should really be implicit in everything we say or do."
My version of this problem is almost always having to insert the word "generally" into generally almost all of the things that I state (note the redundancy in that sentence).
A corollary to this is to have to preface things that you say in order to not offend one group or another or a particular person that was held in high esteem by others.
"But when you're famous and have thousands of people "
Same issue that celebrities have. We can call it the "sucks to be you" problem. You become so famous that you can't even go out without getting accosted by photographers.
It's particularly bad in politics. Politicians tie themselves to a particular solution and seem to persist with it even when it's clear that it will never work well.
That's smart. When we did it (Summer 2007) investors we talked to still didn't even know you guys did that. A couple asked, most didn't. I won't lie, we used it to our advantage.
I'm sure it only took a couple rounds before people started noticing you (and some alums) in the cap tables and realizing what's going on. Word spread. I have no doubt that now it is considered a signal.
Investing is like dating. You need to be right for them, and they need to be right for you. Just because you don't want to invest in someone doesn't mean they're a bad investment. Smarter angels & VCs probably realize this, but there's plenty of perfectly good money that would not go to companies who might be a good fit amongst the less savvy.
Super interesting story, and thanks for sharing. I think you're referring to your time at DraftMix, right? Admittedly that was a really hard connection to find online [see below].
That said, quietly using partner/alumni investment as a signal for VCs doesn't quite fit the "Startups are a perfect meritocracy" narrative I'd prefer to believe...
[below]
Interestingly, searching for "Matt Maroon" (on Google, Crunchbase, AngelList, etc) yields results like [0] that only mention Blue Frog. Same for your blog. Wouldn't care otherwise, but I wanted to know if your story could be true or to dismiss as an internet rant.
However there was one interview-like-thing [1] still hanging around the Google Index that connected DraftMix [2] with a "Matthew Maroon" as the CEO [3]
Most investors think because a YC Partner invested, that must be the best company. And the YC Partners should know, they've spent the last three months with every company!
I'm sure the YC Partners' track record of "picking" is no better than SV Angel, a16z, Greylock, etc.
I think this tweak to the investment policy will contribute to eliminating the sub-par angel investors who base a majority of their investments on which companies received funding from YC partners. PG taking action to make his dreams a reality [1]
I am assuming that "YC partners not able to invest till the start has raised atleast $500K or 3 weeks after demo day" will mean YC founders follow the rule in letter and spirit i.e. no pre-discussions with YC partners leading to pitching claims like "One of the YC partners has committed to investing after first $500K" ...
We're small enough that we can enforce things easily on our side. We can't control what founders say to investors. But experienced investors wouldn't believe a YC partner had agreed to invest without being able to confirm it.
This is interesting, and actually similar to a policy that a lot of elite high schools in the US follow: not ranking their students. If you have good unis accepting 50% of your class, ranking your students unnecessarily makes your 50th percentile weaker candidates than the 95th percentile at schools that rank (often even if those schools only have 2-3% getting into top-flight unis).
However, the downside of not ranking is that your top 1-5% of students are not clear to the extreme elite (Harvard, Stanford, MIT) schools, meaning there is no one who is "guaranteed" those positions, as even your top 5% has to compete with students in the top 20 or 30% for admittance. For high schools that couldn't hope to admit more than 5% of their class in top tier unis, it makes sense to rank (as then you get to showcase your top students as being exceptional). If you expect 20% or more to be competitive candidates though, it's usually better to stay quiet on relative success.
It usually comes across pretty clearly in the recommendation letters, which admissions teams value over GPA, test scores, etc, since everyone's numbers are high.
I think the most interesting bit is that it decreases a sort of self fulfilling prophecy.
Investors "treat investment by YC partners as an accurate sign of how promising we thought a startup was." So then, the company raises more money - and appears to look more promising.
Sure, partners may have less incentive immediately (as mathattack said) - but the real winners will be more clear to the partners after demo day (and three weeks).
They will have a list of winners (in their mind) before demo day. Then, investors at demo day will pick a list of winners (who they invest in). And YC partners will see the overlap - those who are picked as winners by YC Partners and independent investors.
For what it's worth, 500startups has done this for long time. They don't tell companies whether they are going to provide follow-on funding (even though it's in the original terms as an option) until significantly after Demo Day, for the same reason.
That's not the same, YC has never provided follow-on investment and this doesn't change that.
This policy affects investments made by individual partners. I'm sure 500 startups does not stop it's mentors from investing right after demo day, or does it explicitly do that?
It is in VC funds in the narrower sense, because their LP agreements often forbid any individual investments in startups. VCs' LPs don't want the VC partners siphoning off the best of the firm's deal flow for themselves.
As the other replies mentioned, this is pretty standard. I think there's sometimes an exception for companies that a fund passes on, or for very small investments (e.g. if you personally invest $10k into a $5m company, then your fund's LPs probably won't care).
The main concern is this: let's say your fund passes on Twitter during its seed round, but you put $25k into it personally. 8 years later, the company has an IPO and you get a 100x or 1000x return. LPs are going to be frustrated that they let you invest on their behalf, but you took such a great investment for yourself. Even if the fund passed, there will always be the perception of "maybe they just passed so that Partner X could invest individually because the company looked very promising."
diff funds have very different policies - most top tier funds (from my experience) have a hard rule against it, given the potential signalling issues. That being said, I know at least one Tier-1 fund that lets partners invest in an existing portfolio company if and only if the firm chooses to pass on the investment in a round - take the pro-rata as it were.
It sounds like YC serves as a vehicle to bring deals to YC partners, who make a killing funding the most promising candidates from the YC batch. This has made so much money for YC partners that they still want to continue to pick winners, but they don't want to kill the golden goose, so they withhold their blessings for three weeks. YC companies will still prefer the partners for funding over some random VC, so they still get the deals, but now the relative losers from the YC batch will get more funding from the more clueless VCs.
That's not true. An angel investment after demo day is worth a lot less equity than the YC investment. Most YC companies raise their seed rounds at $5 million - $20 million valuations, so it would take many hundreds of thousands or even a couple million to end up with the same 7% that YC gets.*
That kind of money would usually be put in by a larger fund. Most angels write checks for $25k-$100k.
* One difference being that the demo day investors will have preferred shares upon conversion and YC takes the same common shares that the founders and employees get.
This seems to solve one problem, but does it create another? Does it diminish the incentive for partners? Or wind up penalizing the winners (better firms coming out of demo day) by reducing their exposure to firms most likely to invest in them?
I can't speak for the other partners, but I love that we're willing to do whatever it takes to help our startups succeed. I don't work at YC for the money. I work there because they are the best at what they do and are always trying to do the right thing for their founders. It was my experience when I went through the program and it's reinforced by actions like this.
I don't think it diminishes incentive for partners - if anything, it gives them a bigger window to decide who to invest in based on a larger market response - though I think for most of them this isn't really necessary as they tend to be forward thinking already (and have spent 3 months with the founders) vs having "herd mentality" and reacting to the market.
Maybe I have the wrong end of the stick but this seems unnecessarily forced. Surely, given time, the system should equilibrate. If YC partners investing in startups is treated as a signal of winners, investors will be able to derive their own conclusions in time about whether this is a trustworthy metric.
If it is trustworthy, then surely this would mean that great startups prosper faster and those that aren't that great know it even earlier, meaning that they can pivot after spending much less time on building their business.
If it is not trustworthy, the numbers will show that to be the case, with investors being able to directly assess which companies backed by YC-partners actually make it big. In this case, surely investors will wise up and not go by YC-partner investments as a signal of success.
If I'm missing something, I'd appreciate it if someone could point out where my logic falls short. Otherwise, I stand by my conclusion that this seems unnecessary.
Its the same reason you lock your door when you leave the house. You not accusing your neighbors of being criminal, its just wiser not to tempt fate. That way, you are not inviting bad things to happen.
This "peace of mind" factor has significant economic value, in that it frees up resources from "monitoring" potentially ambiguous motives and situations, and this improves the throughput for tasks related to running the business and making profits.
With respect to the "market equilibrium" notion, theory and practice differ. Gaming the (any) system increases in liklihood as the un-eveness of outcomes is exaggerated; information flows become more assymetric; and/or they become more opaque.
That is precisely the description of early stage investments. More or less. Hopefully this makes a bit of sense.
The counter-argument as to "letting the market" reveal the information, is that it is unlikely to do so. There simply are not formal mechanisms for privately trades companies to disclose such information in a timely and transparent way. Remember, the companies are private explicitly to prevent this from occurring.
This would devalue the signal of YC accepting a company, and inflate the value of the signal of a YC partner investing in company. In fact, not having both could be a negative signal, at which point YC is poisoning itself. This also leads to YC subsidizing one of their partners, and works against its best interests. YC's goal here is not to maximize efficiency of the market as a whole, it is doing this for self-preservation.
Aside from that, if PG feels that the signal is overvalued, the remainder of his own portfolio becomes toxic unnecessarily. So it's a bad outcome if the signal is accurate, and a worse outcome if it isn't.
The problem isn't really whether or not the YC partners are good investors, it's really more of a question if they know something that the startups aren't telling everyone.
Early investment by any of the YC partners after a startup has been accepted to YC could give the impression that the YC partners may be doing some sort of insider trading based on the meetings that they had with the company. That probably isn't an issue at all, but the perception is there.
Incidentally, the new policy also masks YC partners' winner-picking success rate. If YC partners are seen as less successful in picking the winners than widely presumed, one could conclude that being accepted into YC itself is not a reliable signal.
" Which meant we were now making it harder for the startups that partners didn't invest in to raise money."
An analogy to this is what happened during the financial crisis when they got all banks to agree to take money so as not to send a signal showing what banks were the weaker ones.
It looks to me like this is going to put pressure on the window size (currently 3 weeks). Folks can now wait for 3 weeks if they really want the YC signal to kick in, unless other forces are working to counter act the waiting.
Think of it as a star which is trying to explode because of all those gases burning away, and gravity is keeping it together. The size of the star is the equilibrium point of the differential equations describing this dynamic.
One of the signals that was keeping the 3 week window to 3 weeks could have been the YC investments (gravity), but now that gravity has been set to a lower level, the 3 week window will expand..to account for this.
YC company approaches VC and says we have a soft commit from a YC partner. VC calls the YC partner and invests. I am not saying there is anything wrong in the old world. It is what it is. When its your company and there is money involved people get creative and work around rules. Some companies raise successfully and some others dont. If VC's (with all their resources) are taking their cues from YC Partners then something else is broken not the entrepreneur.
Impressed that this issue is recognised and a mechanism created to mitigate it. However, doesn't this merely delay the signal (which is mentioned) so it may simply defer the problem down the line. If after $500k you haven't had a YC partner join, raising more becomes difficult (assuming you were trying to raise more than that to begin with).
Curious whether this will actually matter in the long run but I guess they'll adjust if needed.
This might impact startup fundraising trajectory. Investors may prefer to wait out for 3 weeks if VC partner's investment is a strong enough signal for them.
[+] [-] pbiggar|12 years ago|reply
That's an interesting phrase. This should really be implicit in everything we say or do. It stands to reason, if something doesn't work, you try something different.
But when you're famous and have thousands of people who constantly try to undermine you or misquote you or take something out of context, you start to need to be explicit in calling this out. Otherwise next month's tech rag headline says "YC partner recants failed investment policy".
[+] [-] Zikes|12 years ago|reply
[+] [-] lowglow|12 years ago|reply
[+] [-] larrys|12 years ago|reply
My version of this problem is almost always having to insert the word "generally" into generally almost all of the things that I state (note the redundancy in that sentence).
A corollary to this is to have to preface things that you say in order to not offend one group or another or a particular person that was held in high esteem by others.
"But when you're famous and have thousands of people "
Same issue that celebrities have. We can call it the "sucks to be you" problem. You become so famous that you can't even go out without getting accosted by photographers.
[+] [-] jfoster|12 years ago|reply
[+] [-] mattmaroon|12 years ago|reply
I'm sure it only took a couple rounds before people started noticing you (and some alums) in the cap tables and realizing what's going on. Word spread. I have no doubt that now it is considered a signal.
Investing is like dating. You need to be right for them, and they need to be right for you. Just because you don't want to invest in someone doesn't mean they're a bad investment. Smarter angels & VCs probably realize this, but there's plenty of perfectly good money that would not go to companies who might be a good fit amongst the less savvy.
[+] [-] ivanplenty|12 years ago|reply
That said, quietly using partner/alumni investment as a signal for VCs doesn't quite fit the "Startups are a perfect meritocracy" narrative I'd prefer to believe...
[below]
Interestingly, searching for "Matt Maroon" (on Google, Crunchbase, AngelList, etc) yields results like [0] that only mention Blue Frog. Same for your blog. Wouldn't care otherwise, but I wanted to know if your story could be true or to dismiss as an internet rant.
However there was one interview-like-thing [1] still hanging around the Google Index that connected DraftMix [2] with a "Matthew Maroon" as the CEO [3]
[0] http://www.crunchbase.com/person/matt-maroon
[1] http://en.wikioffuture.org/DraftMix
[2] http://www.crunchbase.com/company/draftmix
[3] http://www.crunchbase.com/person/matthew-maroon
[+] [-] GarrettBeck|12 years ago|reply
I'm sure the YC Partners' track record of "picking" is no better than SV Angel, a16z, Greylock, etc.
I think this tweak to the investment policy will contribute to eliminating the sub-par angel investors who base a majority of their investments on which companies received funding from YC partners. PG taking action to make his dreams a reality [1]
[1] http://paulgraham.com/invtrend.html
[+] [-] pjg|12 years ago|reply
[+] [-] pg|12 years ago|reply
[+] [-] mjmahone17|12 years ago|reply
However, the downside of not ranking is that your top 1-5% of students are not clear to the extreme elite (Harvard, Stanford, MIT) schools, meaning there is no one who is "guaranteed" those positions, as even your top 5% has to compete with students in the top 20 or 30% for admittance. For high schools that couldn't hope to admit more than 5% of their class in top tier unis, it makes sense to rank (as then you get to showcase your top students as being exceptional). If you expect 20% or more to be competitive candidates though, it's usually better to stay quiet on relative success.
[+] [-] gertef|12 years ago|reply
[+] [-] cglee|12 years ago|reply
[+] [-] aelaguiz|12 years ago|reply
[+] [-] jdavid|12 years ago|reply
[+] [-] lbr|12 years ago|reply
Investors "treat investment by YC partners as an accurate sign of how promising we thought a startup was." So then, the company raises more money - and appears to look more promising.
Sure, partners may have less incentive immediately (as mathattack said) - but the real winners will be more clear to the partners after demo day (and three weeks).
They will have a list of winners (in their mind) before demo day. Then, investors at demo day will pick a list of winners (who they invest in). And YC partners will see the overlap - those who are picked as winners by YC Partners and independent investors.
[+] [-] pg|12 years ago|reply
[+] [-] borski|12 years ago|reply
[+] [-] argumentum|12 years ago|reply
This policy affects investments made by individual partners. I'm sure 500 startups does not stop it's mentors from investing right after demo day, or does it explicitly do that?
[+] [-] United857|12 years ago|reply
[+] [-] pg|12 years ago|reply
[+] [-] lpolovets|12 years ago|reply
The main concern is this: let's say your fund passes on Twitter during its seed round, but you put $25k into it personally. 8 years later, the company has an IPO and you get a 100x or 1000x return. LPs are going to be frustrated that they let you invest on their behalf, but you took such a great investment for yourself. Even if the fund passed, there will always be the perception of "maybe they just passed so that Partner X could invest individually because the company looked very promising."
[+] [-] crapshoot101|12 years ago|reply
[+] [-] kirpekar|12 years ago|reply
I never knew fund raising worked so quickly.
[+] [-] petenixey|12 years ago|reply
[+] [-] unknown|12 years ago|reply
[deleted]
[+] [-] codex|12 years ago|reply
[+] [-] CyrusL|12 years ago|reply
That kind of money would usually be put in by a larger fund. Most angels write checks for $25k-$100k.
* One difference being that the demo day investors will have preferred shares upon conversion and YC takes the same common shares that the founders and employees get.
[+] [-] mathattack|12 years ago|reply
My sense is net this is positive.
[+] [-] kevin|12 years ago|reply
[+] [-] outericky|12 years ago|reply
[+] [-] nhangen|12 years ago|reply
[+] [-] kartikkumar|12 years ago|reply
If it is trustworthy, then surely this would mean that great startups prosper faster and those that aren't that great know it even earlier, meaning that they can pivot after spending much less time on building their business.
If it is not trustworthy, the numbers will show that to be the case, with investors being able to directly assess which companies backed by YC-partners actually make it big. In this case, surely investors will wise up and not go by YC-partner investments as a signal of success.
If I'm missing something, I'd appreciate it if someone could point out where my logic falls short. Otherwise, I stand by my conclusion that this seems unnecessary.
[+] [-] 001sky|12 years ago|reply
This "peace of mind" factor has significant economic value, in that it frees up resources from "monitoring" potentially ambiguous motives and situations, and this improves the throughput for tasks related to running the business and making profits.
With respect to the "market equilibrium" notion, theory and practice differ. Gaming the (any) system increases in liklihood as the un-eveness of outcomes is exaggerated; information flows become more assymetric; and/or they become more opaque.
That is precisely the description of early stage investments. More or less. Hopefully this makes a bit of sense.
The counter-argument as to "letting the market" reveal the information, is that it is unlikely to do so. There simply are not formal mechanisms for privately trades companies to disclose such information in a timely and transparent way. Remember, the companies are private explicitly to prevent this from occurring.
[+] [-] lawnchair_larry|12 years ago|reply
Aside from that, if PG feels that the signal is overvalued, the remainder of his own portfolio becomes toxic unnecessarily. So it's a bad outcome if the signal is accurate, and a worse outcome if it isn't.
[+] [-] cube13|12 years ago|reply
Early investment by any of the YC partners after a startup has been accepted to YC could give the impression that the YC partners may be doing some sort of insider trading based on the meetings that they had with the company. That probably isn't an issue at all, but the perception is there.
[+] [-] ivv|12 years ago|reply
[+] [-] larrys|12 years ago|reply
An analogy to this is what happened during the financial crisis when they got all banks to agree to take money so as not to send a signal showing what banks were the weaker ones.
[+] [-] unknown|12 years ago|reply
[deleted]
[+] [-] bluishgreen|12 years ago|reply
Think of it as a star which is trying to explode because of all those gases burning away, and gravity is keeping it together. The size of the star is the equilibrium point of the differential equations describing this dynamic.
One of the signals that was keeping the 3 week window to 3 weeks could have been the YC investments (gravity), but now that gravity has been set to a lower level, the 3 week window will expand..to account for this.
[+] [-] argonaut|12 years ago|reply
[+] [-] unknown|12 years ago|reply
[deleted]
[+] [-] markhelo|12 years ago|reply
[+] [-] amirmc|12 years ago|reply
Curious whether this will actually matter in the long run but I guess they'll adjust if needed.
[+] [-] drp4929|12 years ago|reply