The Downsides of Large Syndicates

There were some great comments on my post from Sunday titled Being Syndication AgnosticOne of them was from Kevin Vogelsang – he asked the following question:

What are the downsides to syndicating a round of financing for the entrepreneur/startup (assuming the relationship with all investors is a good fit of course)? By syndicating a deal, the entrepreneur gains access to a larger network. This seems to be a big positive. However, there must be downsides (less attention, more interest groups, etc.) Love to hear more on the topic.

While there are plenty of downsides, I’m going to take on five common ones in this post. 

Too Many VC’s on the Board: Most VC’s want a board seat when they invest in a company. At the early stages this is usually manageable (although not necessarily desirable).  However, once a company has raised several rounds of financing and built increasingly large syndicates, this can quickly get out of control.  The largest board of a VC backed company I’ve ever been on was 11 (8 VCs, CEO, founder, one outside director).  It was a completely ineffective board.  Now, the board size problems can be dealt with by a strong CEO and a strong lead investor who will help the CEO organize the board in a manageable way, but it has to be done proactively.

Too Many People in the Room: This is a corollary to “too many VCs on the board.”  If the VC doesn’t get a board seat, they’ll want an observer seat.  In addition, most later stage VCs or strategic investors want observer seats.  Suddenly even though you’ve managed the size of the board effectively, there are a bunch of people in the room.  I’ve been in board meetings with over 20 people in them (I don’t know the exact max, but I’m going to guess it’s around 25 since eventually you run out of chairs.)  Not surprisingly, these tend to be weak or inefficient board meetings with separate “executive committee meetings” where the real board meeting happens, and then another three hour song and dance for the benefit of the 15 other people.

Both of these are a natural result of most investors in private companies wanting to have a seat at the table.  While a reasonable expectation, it’s important for the CEO and founders to set an appropriate tone and expectations with their investors early on so that there’s actually an effective board, investor, and company dynamic as the syndicate gets large.

Misalignment of Interests: With each round of investment and each new investor comes new expectations.  As the syndicate size grows, the chance of interests between parties getting out of alignment increases.  This is especially true when each round has different dynamics beyond price (such different preference structures, protective provisions, voting thresholds by class of stock, and various participation caps.)  When everything is going well this isn’t an issue, but the minute the business goes sideways (or worse) strange things start to happen.  As the situation degenerate, the knives (or flamethrowers) come out.  I’ve been involved in situations that resulted in the destruction of companies that deserved to live another day because the investors around the table (which included me) couldn’t get their collective shit together.

Decision Vacuum: This is a corollary to “misalignment of interests.”  It’s similar to when I lived in a fraternity at MIT and a dozen of us would stand in the hallway trying to figure out where to go out to eat.  This drill could go on for a while, especially if we had a keg of beer (or, er, something else) nearby.  Eventually someone stepped into the decision vacuum and said “I’m going to Mandarin – come with me if you want” (well – that was what I usually said – others had different choices).  Whenever you’ve got at least four VCs sitting around a table, you run the risk of a decision vacuum forming (queue snarky jokes here).  If you are a CEO of a company and you see a decision vacuum developing, grab a bunch of matter and get in the middle of it.

Lame Duck Syndrome: There has been plenty of personnel changes in the “VC business” in the past five years, including plenty of firms that are winding down, have shrunk in size (and let partners go), and have disbanded.  However, they are still investors in your company and some of them still sit on your board.  In some cases they are just hanging around to “protect their investment” although they have no ability or interest in putting additional capital into your company.  Now – some folks in this position are incredibly helpful, but many don’t do much more than show up.  And – the more of them like this around the table, the less fun it can be.

Now, there are plenty of other downsides as well as plenty of advantages of large syndicates.  If you’ve got additional ideas, or stories to share (especially horrifying ones showing the downside), comment away even if you change the names to protect the not so innocent.

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  • Thanks for the insight – it's a nice counterpoint to the advice on syndicates that leans more to the positive. It's valuable to get so much input when embarking on the process.

    • Your welcome – just trying to get the good and the bad out there.   

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  • Brad, great post. One thing I'd add to the "too many VCs on board" is that the greater number of VCs you've got involved the greater the probability that some of the VCs will have personality conflicts. On the off chance your VCs have egos you might have a real fight on your hands. And when investors fight, it's usually the management team who gets smacked around.

  • “When investors fight, it's usually the management team who gets smacked around.” Extremely well said and very true.  And something VCs (including me) should be more tuned into.

  • NICE thoughts, writing. Yup, suspicions confirmed: My long observation is that the 'efficacy' of a meeting declines monotonically as the number of participants increases beyond just a few, sometimes beyond just 1, would you believe, for some people, beyond 0.

    Wondered what neat idea investor 'syndicates' had to handle the obvious problem of Board participation. Answer: There is no such "neat idea", and the obvious problems don't get solved. Dangerous, and good to know in advance.

    Maybe there's an exception: Big, successful company, 20 person Board of various poorly paid, public do-gooders, all buddies of the CEO, with good perks, and then the CEO makes all the decisions which immediately get whacked with 19 rubber stamps. Okay, but that's on the horizon and getting there remains a problem.

    The Startup Visa post was also good writing, especially the WSJ piece, although I remain "reticent". I'd want more analysis to be convinced on either side.

    • Re: the Startup Visa – what kind of “analysis” are you looking for?

  • Bill Schnoor

    Brad – well done. On the issue of VC board members, tho, you forgot to mention the Martini Rule – to wit, why are VC directors like martinis? One is good, two are better, three are too many ;-).

    Happy holidaze – Bill

    • I have never heard the martini rule used in this context but it fits very nicely.

  • Mostly we're talking some long NSF efforts to flood the US tech labor market to bring down salaries; US citizen, world class students then left tech for law, medicine, business, etc.; and the average US tech quality went DOWN. The NSF was not after world class quality and, instead, was "haggling over price". We're not talking about getting world class people, e.g., from the US, France, England, into US tech.

    The NSF did damage to US tech.

    Sure, in simple terms, let a world business MVP join the US team and, thus, help the US win in world trade, but without the NSF efforts that would be nearly the empty set.

    Without the NSF efforts, quite likely my wife, sweet, old-fashioned girl, Phi Beta Kappa, Woodrow Wilson, Ph.D., would still be alive and now decorating for Christmas.

    Generally, though, I prefer answers from solid numerical data. For this issue, the data would be difficult to get or present, and I don't have any of it.

  • I don't know if this comment fits here or in the original post, but a related and very frustrating experience regarding syndicates, esp. at the A round, is when a VC says they want to "co-invest" in a deal, but not LEAD it… i.e., they want to ride on another VC's coattails, and enjoy the option to invest IF the startup can pull in a stronger "name brand" firm. While it would seem like this level of interest would get a startup halfway home, instead it's highly disruptive, since the co-investor usually wants to have a say in who that name brand can be. Also, when trying to find a lead VC, other prospective investors always ask, "well, why isn't XYZ taking the whole round?" which casts a stigma on the deal. I would assume this phenomena occurs at later rounds in all deals except those that you describe as "unambiguously on a success path"? Or another way to put it, how often can you really achieve VC brand parity in a syndicate? PS– love the metaphor of fraternity brothers in the hallway to describe the decision vacuum!

    • In early rounds, the “I want to participate but go find a lead” behavior is challenging to deal with.  My general view on it is that it’s not helpful to the entrepreneur – they should politely keep the VC warm but not loop them into the process of finding a lead.  Once you find a lead, if there’s room for additional investors and you like the firm that wanted to follow but not lead, then loop them in.

      Your questions are good ones – they beg a post on “how to best put together a syndicate at different stages.” 

  • Thanks for expounding on the topic, Brad.
    Experience in fraternities (and on sports teams) is undervalued far too often. It's amazing the lessons you can learn from being in a fraternity, especially ones comprised of MIT guys with strong personalities.

  • Great point about having too many people on a Board. I'm on the Board of a non-profit which has 28 (!) members (not my choice), and and the meetings are almost totally pointless. Many don't even show up. Many don't say a word, and the few that are left are really driving the thing.

    Thanks for giving me another reference point for trying to cut our size down to 10 or so…

  • I’ve had my share of 20+ person non-profit boards and I agree that the meetings are generally pointless.  In these cases almost all of the decisions and activities happen outside the board meeting.

  • So, some tip about this issue are welcome and really sorry if my question is very simple. Thanks in advance

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