Behavior of investor directors on startup boards

We have a front row seat watching the ongoing growth and trials of the asean tech ecosystem scene. Since 2013, we have personally invested $9-10m into startups both directly and via asean Vc funds. We have interacted with thousands of founders and met many GPs and Principals of VC funds. On the side of larger organizations, we have been or are board members for stat boards, private entities, non profits which are relatively large with hundreds to thousands of staff and generate 7-8 digit profits or surpluses.

Lately due to the effects of the funding winter and the rerating of many tech stock valuations, we have been hearing disturbing stories coming out of startup boardrooms. There are stories of board members aggressively badgering founder mgmt who have opted for a strategic move towards profits. There are also stories of board members changing their minds about supporting with more funds at last minute creating cash crisis. And of course big ego board observers/members who just don’t add value but somehow still always want to give ideas and suggestions.

So it’s timely to share our views on this issue. Founders, feel free to share. GPs, while it’s normal to focus your personal time on winners, do make sure the less experienced board members you appoint to other portfolio startups do justice to the ethos of being a good member. Many of the issues raised below are happening.

1) Board member has a fiduciary duty to the startup. This means you think from the startup pov. Not your own career path at the investor , not your own investment value pov, not even founders pov. So if mgmt has decided to change strategy towards profit and not chase growth at all cost, you can question and debate but if the board has been updated and the topic discussed and voted, you need to go along with the new direction.

It doesn’t mean you don’t think, or bargain or try to improve chance of success. You can help mgmt decide better with useful datapoints that tell them on they are on wrong track. You can ask for mgmt to peg their pay and esop to delivering the profit with penalties for falling short. You can remind them they promised growth when fund raising from your fund. Get some goodwill even as they override you. But the truth is the market has changed. Good founders like those at sea and grab have already cut and turned profitable. Positive cash flow and profits matter as much as growth now. 

2) Board members should be professional. Be punctual, don’t talk down to people. Prepare for board meeting. Read the agenda, minutes, updates. If you are suggesting something, prepare the arguments with data points. Even if out voted, remember for the founders it’s their one shot, so they rightly should have final say.  If you are like most investors, you backed the founders more than the business projections. So remember that.

Of course there are caveats. In cases where investors own majority share, control board and want to keep growing and can fire founders, or founder did or wants to do something illegal or grossly unfair, then investors need to remove or act against founders. That’s a totally different issue.

3) Do what you say. Never lead a founder on esp if it’s about funding. If you are not sure your side will follow on or will be a backstop investor, pls don’t say you will on something so important if you aren’t 100% sure and willing to stake your job on it. It’s a small blip on your career to have a failed startup but it can cost hundreds of jobs and 10 years of each founder life.

Pulling a backstop which you promise is one of the worst things you can do. In fact, it’s best if you are brutally honest to tell founders early what intentions are in terms of future funding and how you view distressed deals.

4) Finally Board members should be empathetic. Listen to what mgmt is saying and corroborate with outside data and internal data. Don’t forget the business is the founders life and death. It’s just a job and one of 15 investments for you. When cash and exits were easy, it made sense for founders to believe in grow at all costs. Now they are just reacting to the listed markets when they want to go after profits and cashflow. Are you so sure they are wrong? And from any entity pov, it’s right to secure profits so that the entity can survive.

Yes, it does mean your investment is stuck longer or even down rounds for you. But that’s the nature of the markets right. Win some lose some. Winner can become dog, dog can become winner but 5 years later. Patience matters a lot when we invest. 

5) Stay at the governance and strategic level. Don’t go into the weeds and try to talk about sales mgmt or product development unless you are really an expert at it. And even if you are, I would argue the board meeting is not the platform. It should be a separate sharing and the company can even pay you as a consultant to help. It’s cleaner and clearer that way.

6) Finally and this is optional but ning and I do it. Be cheerleaders for the company and for the founders. We find having this basic mindset helps us be more empathetic and get better results in terms of founder- Director relationship. We give more benefit of doubt.

So what happens if we get it wrong on the founders? Consistent bad dumb strategies and execution, and/ or worse ,unethical and mainly selfish behavior? Then we picked a wrong founder, should write investment  off, learn from what went wrong in our selection, and resign from the board. That’s why we invest in a portfolio. Do we then still support cheerlead and support such founders? I think very hard. And when you are no longer a director the fiduciary duty disappears.

Founders, while this article is about how board members and observers should behave, your interest in and effort needed to build a cohesive useful board is even bigger. Done well, boards are a great source of perspective, network and advice. So you have to play the role to take its composition, quarterly running and updates very seriously and do it best of class. Spend time to get to know them personally if it makes sense. They are at least as impt as a key client. Remember no ego, only business.

Is a good IPO on the cards for Carro?

Carro latest fy ended March 2023 numbers.. Essentially they are now a car dealer + car marketplace + financing company. With some extras thrown in like selling ads, insurance etc. it’s a nice synergistic business on the financing & marketplace side where 1+1 can be 3 or 4. 

The marketplace product has a high gross margin but can be at odds with in house dealer side as no sharp long term competitor dealer will want to work significantly with a marketplace that also owns one of their biggest competitor. It will be interesting to see how they navigate this issue. ASEAN Job portals mostly have up running employment agencies. Likewise property portals generally don’t run real estate agencies on the side. 

The car dealer side is lower margin as have to buy and sell the cars but it generates great gmv which  matters if revenue is the main goal.  Finally, the last product is financing side which has always been a good but not super scalable business as it requires access to cheap capital access. It’s telling how the older school financing companies in SG level out at certain loan book size. Only banks are different as they have access to deposits.

And based on the dealadvantage screen shots,  the financial numbers so far are showing it’s not strong synergies. I am not sure how well they run each component but the sum is loss making still even though each business by right should be profitable. I suspect it’s because they raised a lot of money and so hired aggressively and now their cost structure is not right sized for profit.

One recent quote substantiates my point, TIA article has their CFO saying that employee benefits as % of gross profit has fallen from 110% to 89% in 2023. To me 89% still ridiculously high! Profitable pure software tech companies have it at 30-50% for comparison. Also I see  revaluation of of investment assets affecting P&L. Investors evaluating must be careful here, non cash revaluation gains are usually once off and can also be written down in future if need to revalue. Moreover it does not help with cash generation.

Mgmt is saying ebitda in fy2023 is 5m and probably will be 30-40m in fy2024 and that’s a projection and off 1-3 mth annualized. And overall basis probably still loss making since they were down -98m  in fy 2023. It’s not quite possible to bring that to positive in one short year.

The saving grace is they raised at perfect timing and so still have 160+m cash. By the way 160m put in fd is already 8m profit there.

The other big saving grace is carvana stock has rebounded. One big difference is carvana is profitable and trading at 15-20 times ebitda. So carro if valued at 10-15 times ebitda (smaller size and loss making discount), then it’s probably worth $300m-600m at best? Still a lot of money but small for nasdaq. And it’s about right compared to how public markets have cut down asean tech stories. All about 60-80% off richly priced last round.

Let’s see what happens next 2 years as they try to get more money in. If I am a long term backer… I would back only if serious smart new money coming in to lead and to validate a new mark to market valuation. If as an earlier investor I paid a high valuation, I would be careful not to overpay another time.  Remember the lesson of grab, buka, Pgru, ipo! Latest few Investors all likely lose money including ipo investors.

The other smart thing the founder has done is it looks like he cashed out via secondary. It’s less said but quite a few of later stage tech founders have deftly navigated the bubble and cashed out for themselves anything from 1-5m to 20m usd. Willing buyer willing seller of course. And they don’t just buy a home but reinvest some as angels! Now that’s good for ecosystem and I think it’s fair up to 10m as it helps them derisk and at least provide for family. 

Nb: disclosure we are angel investors in motorist which is a car ecosystem platform competing with parts of carro. Previously were one shift investors too which is now owned by carousell. That’s why I am sure this space is fine but need great execution to create the synergies. 

Year of reckoning for later stage startups

( Read my older post for more context and detail but it looks like my prediction of cash crunch for middle to bigger startups is coming true.

http://limdershing.blogspot.com/2024/01/outlook-for-late-stage-asean-tech.html?m=1) 

What a week for our portfolio with both high and lowlights.

First the good side, 4 startups updated doing well. One refused to die and kept so lean and now finally seem to have some product market fit. The leanness and hence super low burn is key. Similarly, another one we thought in danger of dying as no product market fit, got a reprieve as a new investor came in on higher valuation no less.

Third one, continue growing well at scale but this time turning solidly profitable with 10% PAT on 8 digit revenues for 2023. Last one only small loss last year with this year breakeven on 8-10m revenue.

On the down side, two startups running out of funds. First due to product market fit problem. Not founders fault just too early on the product and market not moving to adopt.

Second one is a scaled up startup that is in bad situation due to overspending in spite of repeated warnings that’s it’s not a given new or existing investors will back.

Key learnings?

1) seed or preseed can always raise more money so long as tech and story interesting and costs are very lean. Lean means less than $20k per month. Also if lean enough can pivot until find a good fit.

2) it’s not normal to can’t turn profitable on 5-10m gross profit. Many any other unfunded entrepreneurs across various industries have done it. You may sacrifice growth for now but at least your firm is alive and you are not beholden to new or existing investors.

If you find you can’t breakeven, either you have a broken pricing/business model and/or your mindset is not hungry enough. Rightsize in terms of manpower, geography , product lines. Many non tech businesses with 5m gross profit are already generating 0.5-2m net profit for their founders. 

3) money is not in until it’s in your bank. Stop trusting investors. I already know of several pulled term sheets and even pulled tranches. So don’t be so trusting and optimistic for something so critical.

Very disappointed with the minority of founders who clearly intellectually understand there is funding winter but feel it doesn’t apply to them or their company. Their internal risk reward assessment is very poor. So their actions don’t show real drive to take pain to get profitable. There are continued expenses, slow to cut, continued illogical pursuit of bad revenue.

Likewise the investors who string founders along but leave them hanging last minute should examine their own communication and policies so that they don’t make things worse. Not willing to back say not willing, don’t create a distressed situation by your inability to decide or communicate. 

4) I will venture to project there will be many more distressed failures or sales this year. Shoikmeats is one recent distressed m&a, many many many more of that scale and much larger coming. 

It’s generally not a sustainable business if you make 50m revenues and lose even more than 10m annually.  And there are too many financials I see like this or worse even in 2022/3. Many famous names.

5) As an investor, we are continuing our go slow for angel and new investment. Half of peak sum allocated. we want to see good exits next 2 years first before changing our minds. The  down cases I share validate the key tenets of correct bite sizing and making sure we invest diversely in many startups. Also overall allocation into this space must be something you are very comfortable with.

Let’s see what happens in the year ahead. Good case is some major failures happen but at same time quality stories emerges and they get funding and IPO going. That will change things for 2025 onwards. Bad case will be many failures but no big successes. 

My base case is for the former as we have some startups at scale that are doing good stuff. Sea and Grab are examples. These need their ability to turn a profit to shine thru and will deserve to IPO and get more funding if they so require.  

But there will be much learning, much pain and what ifs all around as we get thru the process.