The 4M Dollars of Money Gone
Yesterday I was listening to my favorite pod, “The All-In Podcast.” This week the first topic discussed was the trial of Elizabeth Holmes, CEO of Theranos (Raised $900M with a $10B valuation). She was infamous for creating fraudulent claims of the company’s technological abilities and its financial forecasts. At my last firm, we had a Theranos-like scenario that cost us $4M in 2-years. Much less than $900M but it still hurt.
The first check was $2M into a B2B SaaS company that serviced a very large TAM. Before financing, the founder showed us an incredibly robust and aggressive pipeline and forecast. Unfortunately, after funding and 12 months of runway, we missed budget big time, and several vital employees quit.
The board of directors at the time decided to fire the founder and bring in a hired gun. The new CEO hired several $150k+ salary executives to “clean up” the company. In came another $2M dollar raise and another aggressive plan. At the end of the year, we still had the same customers in implementation with minimal top-line growth. We found out later that only one customer was using the software.
How is this like Theranos? Well, I guess we got sold on a rapid growth plan on scalable technology platform. But, unfortunately, the founder’s representation of current and future performance failed.
Was the founder considered too optimistic, or is this just fraud? Being overly optimistic and lying is a pretty gray area in startups. Regardless our 4M loss was our fuck up. Just like it was the investors and board members of Theranos to ensure transparency.
We did a terrible job performing due diligence on the company. For example, we did not do a thorough technology review before financing, nor did we stress-test the financial pro forma to any reality.
The worst part about the whole thing is that we made the same mistake with the second financing round. We just listened to the new CEO’s strategy and PowerPoint and did not dig deeper to validate. The result was $4M of total capital wasted.
I felt stupid. I was not on the board of this particular company, but I am by no way skirting responsibility. It is easy to say that we “got played”, but the truth is we were lazy and didn’t do the fucking work.
Now I try to do things a little differently. I do my due diligence, and I sit on the boards myself. I cannot rely on other people to do the work for me.
I would say that I perform better due diligence today. However, I still find things I miss after I finance my portfolio companies. I guess it’s easy to Monday morning quarterback. But, I am trying to get comfortable with being wrong and learning from it.
Is misrepresentation of financial forecasts really fraud or is it just over promoting? It is a gray area in the startup world. I will most likely revisit it in another blog post.
