Here is a summary:

• “Venture builders”: 80 percent of our companies start as seeds. “Venture banking” (large checks into already-scaling companies) can be a good strategy, but it isn’t ours
• We have money: only two of us invest, and we manage nearly $200 million in capital across two funds
• We have time: each of us is on a handful of boards. Many VCs are on many boards (read “The Early Stage Financing Digestion Problem”)
• Values-based: the only VC firm of which we know with Operating Principles. Here is a screen shot from our web site:

• Partners only: 55 years of operating experience and 35 years in venture capital. No Associates. So, the entrepreneur has one sales cycle at our firm
• Equal economics and voting for the investors: an entrepreneur gets the entire team’s contacts and resources, not just one person’s. For more on why this is important, read “How Are VCs Paid?”
• Motivated: we invest large checks of our own money into our companies. So, we try to be helpful. We are particularly active with customer introductions, recruiting and strategic partners. Introductions to our company OwnerIQ have generated over $2MM in revenues. Recently, we sourced a VP Sales for Survey on the Spot. No head hunter. It is someone my partner Eric has known for over 10 years. Azuki connected quickly to senior people at Yahoo! and Facebook. More examples here
• “Low volume, high commitment” strategy: we invest in only a few new companies a year. Other firms invest in 20 plus a year. Two of them told us that they support only 10 pct. of these companies after the seed (read “Seed Companies Are Not Lottery Tickets”). We invest in equity, not convertible notes
• Invest in each financing for our companies: we budget up to $10MM per company just from us, although a founder can always choose to exit early. We are well funded. Most seed funds invest in only one or two rounds
• Focus: we invest in Digital Media and IT. All of our investments thus far are within a 30 min. drive of our office. Open to other areas and geographies, but only if we can make a difference for the entrepreneur. We like themes. One we like very much right now is “mass customization,” or the Internet’s ability to offer hyper-targeting (OwnerIQ and Linkable Networks are some investments in this theme)
• The entrepreneur guides syndication: we work well with others. In seed rounds, we have syndicated with angels, Common Angels, Founder Collective, SV Angel, and Next View. We work well with other VC firms in the Series A and beyond. We have syndicated in our careers with Accel, Bain, Bessemer, Egan, Flybridge, Greylock, Kleiner Perkins, Longworth, Matrix, Sigma and Venrock
• Compelling entrepreneurs have chosen Kepha: some serial entrepreneurs, who have worked with many prominent VC firms, have chosen to work with us. We feel fortunate when some younger entrepreneurs, who are being chased by many VCs, pick us. Our entrepreneurs include Cheng Wu ($6 billion of value created, Arrowpoint/Cisco, Acopia/F5, Arris/Cascade), Mike Stonebraker ($1 billion of value created, Ingres/IPO, Postgres, Vertica/HP, Cohera/Peoplesoft, Illustra/Informix, Goby/NAVTEQ, StreamBase, VoltDB, Paradigm4), Tom Burgess (Third Screen Media/AOL, Linkable), Geoff Palmer (Where/eBay, Survey on the Spot), Jay Meattle (Shareaholic), Jay Habegger (BitPipe/TechTarget, OwnerIQ), and Boundless’ Ariel Diaz, Aaron White and Brian Balfour

So, that’s what we do.

How many investments a VC Partner makes a year is critical to know. It greatly drives a firm’s strategy–and, the “kill rate” in a VC portfolio.

That’s because many VCs are already on many boards (read “The Early-Stage Financing Digestion Problem”) and need to ration time.

At Kepha, we believe in being highly selective. Each of us makes one or two investments a year (BTW, 80% of our investments start as seeds). That decision drives our strategy:

• With fewer “shots on goal,” we have an incentive to do our best to assist each company. This means we have a high-commitment strategy. We join Boards. We want to help our entrepreneurs and be their “first call” when they need advice, introductions and recruits
• We set aside funds to invest in each company’s subsequent financing rounds
• We expect losses in the portfolio, but hopefully, less than the industry average

If we instead wanted to make a lot of investments, we would be very different:

• We would try to do 20+ seed investments a year to get statistical validity. We would be hard pressed to take seed-stage board seats–we just wouldn’t have the time
• Since we’re making more investments, we wouldn’t have the capital to invest in each round for each company
• We would budget for a high portfolio abandonment rate–we couldn’t continue to re-invest in all of the companies. We would assume a resulting high “kill rate”

I want to note that there is no one way to do do well in venture capital. Both styles work. There are great examples of fantastic results for each approach. But, each model has a different implication for the entrepreneur.

So, an important question an entrepreneur should ask a VC is this one: “How many investments, including seeds, do you make a year?” The answer will say a lot about a VC firm’s strategy.

This is a hard post to write. Today is May 12. It is the day of my mother’s birthday. She also died, at age 60, on May 12. That day also happened to be Mother’s Day. It was a difficult day with too many coincidences.

Soon after she passed away, I was at the funeral home. My mom kept in shoe boxes every greeting card my sister and I had ever given her. She had asked my sister that the boxes be placed in her casket after her death. I didn’t know about either the boxes or her request, until after my mother died.

And so, there I was, waiting for the funeral director, going through card after card as I relived past decades. There were hand-drawn cards from our youth, with unsteady writing and crayon pictures. There were also the polished store-bought cards I had sent as an adult. Birthdays, anniversaries, holidays. Too many memories. In shoe boxes.

The director came up to me. I stood up and handed the boxes to him. Giving away those cards was hard.

Afterwards, I drove back from the funeral home, and I thought about many things. In the silence, I thought about how my mother didn’t want to emigrate to the U.S. and leave her family, friends and culture. I remembered the very hard life we had when we first moved here with just $1,500. I remembered well our dilapidated apartment in a beaten-down part of Brooklyn. But, in the end, my mother persevered. She wanted a better life for her children.

As I drove, I regretted that I had never thanked my mother for moving to the U.S. It was a long drive.

Growing up, my mother used to say to me: “Please work hard at whatever you do for a living.” It was her polite way of saying: “I’ve given up a lot so that you might have more–so, don’t waste my sacrifice.”

Why do I write this? First, I think many VCs like what they do because we really identify with people who want to chase the American Dream. I definitely do.

To me, being a VC is not just a job. It’s personal.

Second, I find that many entrepreneurs can point to a person, who unwittingly planted the seeds of entrepreneurship in them early in life. I have met with probably over 5,000 founders in my venture capital career. They come from many backgrounds and areas of life. Not everyone shares why they are starting a new company, but when they do, the stories are fascinating. I find that these intensely personal “drivers of drive” are very inspiring.

I’d like to close with two last items. First, if you’re an entrepreneur, I’d love to hear about why you are one. You can always get a job working for someone else, but yet, you’ve decided to start something new. Why?

Second, to my mother, I hope this somehow gets to you: a very belated and deeply-felt thank you….

Foundry’s Seth Levine recently had a great blog post about what can happen when VCs do too many seeds (more here):

I’m seeing an increasing number of Series A pitches where a company has at least one venture investor in its seed, the business is very clearly doing well and where the entrepreneur is simply not pursuing their existing institutional investors for money…

You could call this the VC seed signaling problem.

I think Seth is identifying an important second order effect on what happens when already-busy VCs engage heavily in “low-commitment” seeds.

I’ve written previously about the indigestion problem that exists in the early-stage ecosystem (more here), where at many firms each partner is on 10 to 15 (or more) start-up board seats. I know a few amazing VCs who can handle this work load, but my fear and suspicion is that the entrepreneur is not being well-served in most other situations.

I think we’ve reached a tipping point, however. First, the dollar volume of VC-funded seeds is down 33% (more here). I think people are putting on the brakes because they’re busy.

Second, we know of one prominent VC firm who will no longer seed companies because they’re too busy. Another known firm which invested in over 20 seeds last year is re-thinking its strategy. Of last year’s 20+ seeds, they did NOT win the right to lead the Series A for the “hottest” companies. Thus, they now have money in companies where they had an “option” to invest in the Series A–and, another firm flat-out beat them. So, the seed program has been a negative signal to that VC’s investors.

I sound like a cranky old man for writing this so early this morning, but here are my 2 cents:

• I don’t think that VC is an “asset class.” It is a “service provider business” that involves insane amounts of passion and commitment to entrepreneurs. Attempts to “scale” it have generally failed miserably, and many firms tried to do so in the Web 1.0 Bubble. At Kepha, we say that our assets walk out our door every day. There is no “franchise value” to the firm except for the personal brands of its partners. That’s why we’ve assigned zero value to our management company (more here). We have no junior staff. We are a partners-only firm because we believe VC is a hard business that takes a long time to learn. We want to field the most experienced and driven team we can to support the entrepreneur.
• Investing in a high number of seeds is a mixed strategy for a VC firm. Yes, it creates flow and activity. But, being spread too thin can dilute a VC’s effectiveness, and ultimately, damage personal reputations.
• All entrepreneurs talk to each other. When the news about a VC is good, it creates great in-bound flow. For example, we feel incredibly lucky to be investors in OwnerIQ. My partner Eric Hjerpe seeded it and has nurtured it through lows and highs. The company is now “killing it.” And, we’re also happy that we’ve made customer introductions that have generated $1.5 million of revenue. Time will tell if Kepha succeeds. But, we do have this: focus.
• Seed companies are not lottery tickets where you buy dozens a year and hope one “hits.” They are nascent teams and strategies that need a lot of support, and usually, some major pivots. At Kepha, each of us invests in only two companies a year. We join the Boards and reserve capital on Day 1 for that company’s future rounds. We are emotionally committed to the entrepreneur.

Of course, many strategies in VC can work. Eric and I, though, have a strategy we believe in. We love going to work each day, and we hope our energy and sense of mission can create good things for entrepreneurs.

I wrote a little bit ago about how VCs get paid (more here).

In particular, I wrote about the “management company” that exists at venture firms and which controls the money and power at those firms. A management company is essentially a “firm within a firm” and it’s details are often kept secret from partners at that very same venture firm.

Entrepreneurs need to know about management companies, as it can affect a venture firm’s behavior and stability, as well as how you may want to think about your fundraising efforts with that firm (more in the above hyperlink).

Well, many VC firms now have to register with the SEC, and the details of who is in the management company are available at this part of the SEC site. Just click on the Investment Adviser search button on the left. You can then search by firm name or individual. You have to scroll a few pages before you get to the good stuff. Keep hitting “next” at the bottom of the pages until you arrive at “Schedule A: Direct Owners and Executive Officers.”

The site also shows who has “control” of their management companies. These are the Chief Partners.

I am shocked as I look at how tightly-controlled these entities are, and how many great VCs are excluded from the inner circles of their firms.

Many thanks to Bijan Salehizadeh for tweeting about this SEC site. This site is a huge step forward in transparency.

I entered the business in 1998, just as the Web 1.0 Bubble started to take hold. So, I don’t have the decades of VC experience many other VCs do, but I have seen quite a few macro and VC cycles. Also, at Kepha, we are laser-focused on early-stage VC, which we call “venture building.” Early stage is all we do.

So, it’s with those two perspectives in mind that I share this: the early-stage financing industry has indigestion.

We went to the web sites of some well-known venture firms, tallied the number of companies they have, and counted the number of experienced investors on their teams. We excluded investments from which they’ve already exited. We also excluded retired partners and junior staff. We then did the same for some micro-VC and super-angel funds. We looked only at those funds with institutional funding.

We thus got a sense of the “per investor portfolio company load.” They’re shockingly high numbers, as the charts below show. One world-famous VC firm has 17 companies per investor. A prominent super-angel fund averages 59 investments per investor.

Moreover, we think these numbers are conservative, as most firms do not announce the seed investments they do. Counting those would make the numbers worse; e.g., at one recent conference panel, two VCs mentioned that their respective firms each invested in over 20 seeds in just a year. This is in addition to the 100+ companies they already have in the portfolios.

Some VCs are clearly able to manage such high workloads.  But, my guess is they’re in the minority.

At Kepha, we are three folks with 30 years of venture capital experience who have started a new firm.  So, we have the luxury of being on only a few boards thus far.  But, if we don’t have exits, we too will have to decide whether going to 15 boards per investor makes sense for us.

IMO, it doesn’t.  We have a purposefully-focused model: we each only make one to two investments a year and we very much enjoy working with entrepreneurs.  Having an overwhelming number of companies breaks our investment model.

I don’t know if the above charts matter in the end, but my gut says that the entrepreneur isn’t being well-served in most situations. With more and more young entrepreneurs eager to start companies, I wonder if there are enough experienced investors around to help them?

Frankly, I think the crowd-funding element of the JOBS Bill will only make matters worst. Entrepreneurship is about mentoring and learning as you go. It is not about getting checks. That’s just the beginning of the journey.

I write about this because I’m increasingly running into entrepreneurs who raised seed money and are not getting further support from their current investors. I think this is by design. Let me explain.

We recently spoke with two different and respected venture firms. They are doing more and more seeding through convertible notes. The VCs don’t get a board seat, the entrepreneur doesn’t have to set a price for his company, and the funding comes quickly in the form of a loan. Sounds perfect, right? Well, no.

We asked VCs at those firms what percentage of these seed companies they expect to back in the next round. Their answers were identical: only 10%.

All this reminds me of the old saying: “there is no free lunch.” Convertible notes have been around for decades. They’re not new. At this point in the financing cycle, they’re a great way for busy investors to seed-fund companies.  Notes seem like a perfect financing form, but I think the entrepreneur should be fully aware of their down-side.

I think there’s a reason why nearly all of the experienced entrepreneurs I know shun convertible notes.

This is the second post in a series on “raising VC money.”  For the list of topics we are covering, click here.  This post will cover “how to get the VC meeting.”

So, after doing all of your homework (more on that here), you now have a short list of VCs with whom you’d like to meet.  What now?

Unfortunately, the more senior and experienced a VC becomes, the busier he gets.  I wrote last week about how slammed senior VCs are.  I thought I’d expound on that.

First, an experienced VC is usually on 10 to 15 Boards (I have some data here).  This involves: attending Board meetings, having interim calls and meetings with management teams, interviewing candidates, handling in-bound press calls, approving compensation proposals, making introductions to key partners and customers, updates to the VC partnership on key events, and helping management raise its next round of financing.  Moreover, in a group of 15 companies, two or three are likely to be in “crisis mode,” and these companies will absorb huge amounts of time.

The VC firm may have broad scope.  If a firm invests nationally or abroad, tack on a lot of airport and flight time, both for Board meetings and evaluating new investments.  Then, add the recovery time needed from jet lag, and the crush of to-do items that awaits the VC when he returns.

In addition, the VC has firm-wide responsibilities.  These usually include a weekly partners’ meeting at which investment decisions are made, multiple meetings to help partners screen potential investments, quarterly report-writing to the investors, preparing for a very important in-person Annual Meeting with all of the firm’s investors, review of the firm’s marketing activities, and any and all HR issues.

A VC is also taking meetings with potential new investments, and doing due diligence on the most promising ones.  A VC at any point in time usually will be conducting research on six or more new investments at the same time.

VCs are often at outreach events, speaking on panels and going to networking events.  Also, many blog and Tweet.

Moreover, VCs are often approached to join non-profit boards.  Many of these charities are extremely worthwhile, and so, many VCs sit on two or three non-profit boards.  A private school to which the VC sends his children is often on that list.

Last, if a VC firm is fundraising, it is enormously stressful.  Once fundraising starts, there is a huge incentive to finish quickly, so that the new fund is not perceived as stale by the market.  A large VC firm will divide into sub-groups and the teams will travel around the globe giving their pitch.

Partners are often “on call” during this effort, which means they drop everything if a potential investor wants a meeting or a call.  Prospective investors often have data requests that need attention.

Also, there is a prolonged and complicated internal negotiation on the economic splits in the new fund.  Who gets what percentage of the fund’s carried interest and the management company’s cash flow (for more on how VCs are paid, click here)?  Who is fired?

Another complication to VC fundraising is that many institutional investors do not want to be more than 10% of a VC fund.  So, the VC usually needs at least 10 major investors for a fund.  Some of the large funds have over 50 investors!  Unlike an entrepreneur, who only needs one or two major investors in a financing, a VC fund needs a lot more.

Once (and if) a critical mass of interested investors develops, the VC then needs to negotiate the new fund’s legal documents and terms.  This can be complex, as the VC is negotiating with what may be dozens of investors at the same time.  It is common for the VC’s legal bill at this point to run $500,000 or more!

So, you get the idea.  They’re busy.  You have a great business plan.  How do you get a VC’s attention?

The most important thing for an entrepreneur to know is this: a VC is in the business of managing capital, but more important, his time.

There are three major implications from this point of view.

First, it is imperative to get a warm intro to the VC.  The odds of a cold call or a blind email resulting in a meeting are extremely low.  Simply put, every entrepreneur who contacts the VC has a great idea, is in a big market and is an honest and hard-working person.  Imagine if every day you had to watch TV commercials for a living.  Quickly, some of the ads will start to sound the same.  Similarly, a VC almost becomes immune to sales pitches.

So, this information overload forces VCs to use “proxy screens”.  They hope to leverage other people’s assessments at the top of the funnel to triage the flow.

Second, be very efficient with your approach.  When introduced to a VC via email, many entrepreneurs will “seize the moment” and email a very long presentation or very long write-up on their company.  Some even submit a well-written and very long business plan.  Don’t do this!  In the email, your goal is not to sell stock in your company.  It is to get a meeting.

Third, the VC’s Executive Assistant can make or break your meeting.  The EA is the VC’s chief of staff.  He/she will schedule the day, arrange for logistics, and most important to the entrepreneur, will prioritize what the VC does.

You want to be incredibly polite and efficient with the EA.  You want to be on that person’s good side.  If an entrepreneur isn’t organized, polite and respectful to a member of the VC’s team, it’s unlikely he/she will be that way with future employees and customers.  In fact, I go out of my way to know what my EA-colleague thinks of a prospective entrepreneur.

EAs cover the logistics for multiple VCs, and so, you can imagine how many balls they juggle in a single day.  Phones are ringing off the hook, the details of trips and meetings need to be arranged, and there’s usually controlled chaos every day.

So, given this reality, here are the three pieces of advice I’d like to offer.

Advice #1: find someone with street cred.  Since you don’t know the VC, you need an intro.  Ideally, that person has some “street cred” and will encourage the VC to meet with you.

I think first on the list is the founder with whom the VC has previously built a successful company.  There’s a lot of built-in trust in that relationship.  Also, nothing brings up warm feelings like the memory of cash hitting the bank!  This person is your Yoda.  He/she will show you “the way” to the VC.

Next up is a founder in a current portfolio company that is doing well; the company isn’t liquid yet, but things are rocking.  Further down the list are angels, attorneys, recruiters and personal contacts.  The hit rate from these sources, though, is mixed.

One nuance to consider is this.  Entrepreneur X wants to introduce you to a VC with whom he has never worked.  Should you do this?  I think it’s a mixed bag if other VCs previously have backed that entrepreneur.  That’s because the VC you’re targeting knows that he is on the “B list” of prospects.  You’ve probably met those other VCs already, and they’ve already passed on your idea.  No one wants to be second fiddle.

Advice #2: a short email that shows you mean business.  I think the email should include: a clear description of your business idea; cool and relevant parts of your background; any evidence of traction (more on this below); asking for a 30 minute meeting; and a request to be connected with that VC’s EA to coordinate logistics.

Now, you may be at a stage where you don’t have product, but you can still show “traction” by sharing some market research findings you’ve done or list the prominent experts who have agreed to advise you.  You can articulate the pain point you’re solving with a dramatic example.  Show something that indicates some form of validation.  The best sales pitches, like the best writing, don’t just “tell”—they “show”.

Last, I know that a request for 30 minutes feels short.  But, wow, you will impress the VC if you only ask for that.  Everyone wants an hour, and you’ll differentiate yourself more if you ask for less.  If a VC is interested, you’ll find that the meeting will go for longer.

Advice #3: assume everything you say to the EA gets back to the VC.  I don’t have any advice here other than to make your interactions with the EA as painless as possible, and perhaps, write a thank you email to the EA at some point.  It’s probably all the stuff our parents taught us, but seems to get lost in the shuffle of busy days.

So, that’s it for now.

In our next post, we’ll cover “how to handle the 1^st VC meeting.”

This is the first post in a Friday series on “raising VC money”.  For the list of topics we are covering, click here.

In this post, we’ll focus on the first topic: which VCs to target?  I think it’s a critical step in the fundraising process.  You have a new business idea, you’ve spent a ton of time on a presentation, and you already know that random spam-email to VCs won’t get you anywhere.

So, what should you do?

This sounds obvious, but you should raise money from people who can and want to give you money.  There are a few implications to this.

First, understand if a VC firm can or cannot invest.  A VC fund contractually lasts 10 years, but there’s a very important legal term called “the investment period.”  This is the time period during which a VC fund can invest in new companies.  After that period ends, a VC cannot.  A VC can invest in follow-on rounds in companies that already exist in the portfolio, but he/she cannot invest in a new project once the investment period expires.

Investment periods are almost never longer than five years long.  Moreover, most firms “fully commit” a fund in about three years (more below).  After that, they have to raise a new fund to invest in new companies.

Second, an entrepreneur should target a “Goldilocks” VC who knows your space–but isn’t jaded by it.  VC firms encourage their partners to specialize.  It is simply better for the firm if one partner focused on Consumer Internet, another looked at Clean Tech, a different one evaluated Big Data, etc.  Divide and conquer.

So, you definitely want a VC that is up to speed on your space and has the contacts to help.  But, here’s the key: VCs often get jaded.  For example, in the Internet advertising space, some VCs have made so many investments in that sector, that they feel pretty full already.

On the other hand, if a VC has never made an investment in your space, you then have two sales cycles to manage.  You have to sell them on the sector, and you then have to sell them on your company.  That’s a lot to do.

Ultimately, you want the “Goldilocks” VC.  Someone who is expert, but still has the capacity to make more investments in your space.  You want that golden median.

Third, an entrepreneur should target a VC who has power and time.  Working with a junior VC can be very rewarding, but tricky.  That’s because someone new to the business, even if he has the “partner” title, will be given a very short leash by his partners.  So, ultimately, there’s a decision-maker in the background who has to sign off, which can complicate the dynamic.  A senior partner who has power within the partnership can get your idea funded much more quickly, and if you hit a bump, can shepherd through a follow-on financing when you need it most (for more on how VCs get paid, and how power is distributed at VC firms, click here).

Unfortunately, as a start-up’s time-to-exit has increased over the years (and as VC funds grew dramatically), many VCs are on many Boards.  Moreover, with rising VC turnover as partners switch firms or start new ones, the remaining partners inherit the Board seats, which makes the Board seat load even more acute.

In addition, the workload may be particularly severe for the most senior partners.  First, they normally handle the fundraising and communication with their investors (which is a huge amount of time), and second, those partners’ roles may have changed.  They may have gone from being VCs to a general manager of other VCs.

Regarding the latter point, if a firm is very large, the senior partner is keeping tabs on his partners’ decisions.  Moreover, if that firm has an extension fund (e.g., an India fund, a China fund, or a growth equity fund), a senior partner manages that one, too.  So, the most experienced VCs often have the busiest schedules.  As a result, some senior partners rarely make investments.

Given this reality, there are three pieces of advice I’d offer to entrepreneurs.

Advice #1: find out that VC firm’s last fund closing date.  New funds are announced and it’s easy to search for the old announcements.  If a VC’s last fund closed more than four years ago, just “be aware.”  If you can, ask the VC what percentage of the fund they have invested and what percentage is reserved for existing companies.

Each quarter or so, most venture firms engage in a “reserves management” exercise.  They look at each company one at a time and put in an estimate as to how much future capital may be needed for the company, which they then “reserve” or set aside.

Knowing this total number is important.  For example, let’s say that a firm has invested about 30% of its fund in companies.  In addition, they have reserved an additional 60% of the fund for future financings in those companies.  In total, that fund is now 90% “committed.”  It means that they have only 10% of the fund available for new companies.  That’s critical to know.

Also, a fund nearing the end of its investment period may be less open to a very early stage investment.  Since a fund’s life (and fee stream) is 10 years, a VC has an incentive to both invest and exit from its companies in that 10-year period.  A VC can get extensions from investors, but this requires a legal vote that takes time and effort.

If a company these days takes seven years or so from inception to exit, then investing in a seed project in year five of a fund’s life is possible.  But, this company is likely to bump up against the 10-year window.  So, a seed-stage company should just be aware of this.  I don’t think it is a major issue, but again, like with many long-term relationships, an open dialogue is important.

Advice #2: focus on individual VCs, not the firm.  Based on what someone blogs about, or on which panels they appear, you can get a sense for the spaces an individual VC targets.  Moreover, if you look at which Boards they sit on already, you can get a sense for their capacity utilization.  If that person is already on 10 Internet advertising Boards, will you be able to be the 11^th?  It is possible, but just be aware.

Advice #3: target the most senior partner possible, but be prepared to be very efficient with your communication style.  Let’s face it: the senior partners have the power to get things done for you.  Also, in venture capital, experience really counts for a lot and there’s no substitute for someone who has worked with many companies.  You want an experienced VC on your Board, and VC is a difficult business to learn.  It’s a common data point among VCs (and the savviest institutional investors in venture funds) that it takes five years in the business before you really know what you’re doing.

Now, if the senior partner really likes your idea, but doesn’t have time to be on your Board, he will “pass you on” to another partner in his firm.  That’s still a good outcome.  The senior partner has “signed off” on your idea as a starting point, and that’s a great champion to have in the background.  Now, you will still have to convince this other and less-senior partner, but you are on your way: you’re now meeting with a partner who has power and time.

The complication about this advice is that VCs are busy.  You have a short list of VCs, but how do you get the meeting?  We’ll talk more about this in next Friday’s blog post. We’ll cover “how to get the VC meeting.”

I recently connected with one of the founders in our portfolio.  A company where he worked two start-ups ago was sold.  He got his check last year.  His personal take, which he humbly whispered to me, was $5 million.  I asked him what he did with the money.  I expected to hear about a new car, a vacation, or a new house.

His answer: “Not much.  I invested it and have forgotten about it.”  Wow.

I’ve thought a lot about his response.  I know many people who would have spent at least some of the money right away.  I then realized that his behavior was the norm, not the exception, among founders we know.  In fact, the more I thought about it, the more I realized that most founders share some common traits.

So, in this post, I’d like to address the question: what are the traits of successful founders?

First, let me say up front that a “founder” is someone who can create a company from scratch.  They need great “executives” to join them along the journey, but the “founder” has the mojo to come up with a great idea and rally resources around it.  He/she starts with a blank sheet of paper and goes from there.

So, these are generalizations, and I could be wrong, but I think the best founders share three traits, which are part of what I call an immigrant’s mindset.  They may not be immigrants, but they certainly act like one.  Here’s why:

They come from nothing.  Start-ups require persistence and drive.  I’ve found the people with the most drive come from very humble backgrounds.  For example, Cheng Wu, our co-founder at Azuki Systems, emigrated from Taiwan.  Another founder we’ve backed, Mike Stonebraker, is from a very small town in NH.  Together, those two have started multiple companies that have generated $7 billion of value.

The magic of a humble background is that everything in your life is upside.

They have low cash burn.  People with great ideas often cannot quit their high-paying jobs.  Why?  Their personal burn rates are high.  They cannot afford to leave their jobs.  If they do, they may have only a few months to work on a business plan, but then, they have to go find a job.  The flip side is true.  Successful founders allow themselves a long runway to test an idea.  They dip into savings or do consulting work on the side.  A low personal burn rate allows for that.  I recently caught up with Katie Rae of TechStars Boston.  Early in their marriage, she and her husband set a budget and crafted their lives around it.  It freed them from having to chase ever-larger cash comp, and instead, let them pursue careers with equity upside.

In my opinion, the #1 reason why more people don’t start a business is this: a big mortgage.

They have “streamlined” lives.  Successful founders tend to live life with few distractions.  For example, Steve Jobs after his initial success at Apple didn’t build grand houses,  join countless non-profit boards or buy sports teams.  He continued to focus on product creation.  Our founders at Boundless Learning have a young company, but I’m impressed with how they have “made simple” many personal decisions.  For example, co-founder Ariel Diaz buys one style of dress shirt, in varying colors, from one vendor (all of which match the one style of sweater, in a variety of colors, he buys from another vendor).  He does this so the “what do I wear today?” decision isn’t one.  It’s automatic.  Possessions can create complexity.

As a priest in my parish asks, “Do you own your possessions—or, do your possessions own you?”

So, those are my two cents.  Would be interested in what others think about this.

[4.7.12 Addendum: Many of the management company details are now available on a SEC web site. More details here.]

Here’s how VC firms are paid.

When VCs raise funds, they are paid in two ways. First, they get a commission on gains they produce for the fund, which is usually 20 percent and is called “carried interest.” Second, VCs receive a set fee, to run the business, while they and their investors await a future good payday from investment gains. Usually, a VC firm collects annual fees that amount to 2% to 2.5% of every dollar it manages (after 10 years, those funds end and the fees stop).

What many don’t know (including many VCs) is that these fees are transferred to a separate legal entity, called a management company. This is the entity that pays out expenses (salaries, rent, travel, legal, etc.), hires and fires employees, and owns “the franchise.” It is where the power is.

What is left over after expenses is the management company’s profit. The “franchise owners” of the firm divide this up among themselves. Usually, a small group of partners are the franchise owners, and often, it is just one or two individuals (usually, the founders). Very important to know is that usually one person has voting control of the management company; that person is truly the “Chief Partner”. This person usually owns the firm’s trademark.

The management company financials are a closely guarded secret. Very few partners get to see it. Most are kept in the dark. It sounds odd, but there is a top-secret “firm within the firm.”

The existence of the management company has a few implications. First, the Chief Partner cannot be fired without his/her consent. Every other partner at a VC firm can be, including the ones who have worked hard to earn pieces of the management company. So, a partner at a venture firm is usually an employee-at-will. They can be fired at any time.

So, why does this all matter to entrepreneurs? Well, we’re living in a time when it is very hard to raise new funds, unless a VC is in Facebook or another very exciting and already-large company. And, that fact affects start-ups in two ways.

First, if a firm cannot raise more money, then that firm obviously will not be able to make new investments. So, entrepreneurs should try to understand where VCs are in their current fund. Ask the VC how much of their current fund has been invested and reserved for existing investments.

Second, the lack of a fresh fund can complicate life for start-ups already backed by a VC firm. An entrepreneur’s Board member may leave his/her VC firm, or get fired. Here’s why. Without a new fund, fees to the management company decline as old funds’ fees expire. So, a Chief Partner may want to trim expenses. The most expensive cost? Partners. So, a firm may lay off partners. In other situations, the next-gen partners may leave and start a new firm, knowing that it is nearly impossible to restructure the management company since the Chief Partner doesn’t have to comply.

So, an entrepreneur can suddenly find that his/her sponsor at a VC firm is no longer there.

Entrepreneurs can overcome this reality in two main ways. They can out-perform, so that even if their champion is no longer on their Board, they can point to clear metrics. Another way is to build good relationships with other partners at that VC firm, particularly the Chief Partner.

Now, a VC firm’s culture varies from one to another. The Chief Partner may delegate authority so that all partners have a voice in an investment decision–or, he may allow input from others, but in reality, is the one making the decisions. Entrepreneurs need to know that when they pitch a firm. Who is the Chief Partner and do the other partners have power? The best way to find about both is to speak with other entrepreneurs who have pitched that firm. In my opinion, 80% of venture firms have a collegial decision-making process.

I want to point out that this type of ownership structure is usually the norm in other asset classes. LBO firms, hedge funds and funds-of-funds (firms that raise a fund to invest in other funds) nearly always are structured like this, too. So, founders at VC firms haven’t come up with a new structure. This is the standard which their lawyers tell them to adopt.

Last, I want to share why we at Kepha have tried to simplify our system. This is admittedly self-serving, but I think it’s important for entrepreneurs to know about it. Eric and I are equal partners on the carried interest, the management company profit, and the management company votes. We’ve assigned zero economic value to the management company, and so, when Eric joined the management company, he received his shares for free. So, we are equal partners and equal owners.

Why did we decide on equality? First, we believe the entrepreneur is our customer. It is one of our Operating Principles. We think the best way to serve entrepreneurs is with the best people possible. The best people, in turn, demand and deserve great economics. So, we want to offer a great compensation package to field the best team we can for our entrepreneurs and investors.

Second, we believe early stage investing is best practiced as a team sport. By having shared economics, we together have a strong incentive to have all of our companies succeed. So, an entrepreneur doesn’t get just one person’s set of contacts and energy–he/she gets the entire partnership.

Note that our CFO is a Partner–he receives a piece of the carried interest and management company profit. Among VC firms, a small number of CFOs get the former and only a select handful get the latter. So, he too very much wants our companies and Kepha to succeed.

We certainly don’t have a perfect system, and only time will tell if ours works. But, we like how our compensation helps us focus as a team on the entrepreneur. It also makes for a very collegial firm culture.

Last, if you’re an entrepreneur or a VC who would like to engage further on this off-line, just give me a shout. Always happy to try and help.