Or thereabouts. For those of you who have been following this blog, you may wonder why I’ve gone quiet. Well, an interesting opportunity arose and my wife and I moved to Europe for six months or so. Slovakia to be precise. While we’re abroad, I’m a bit removed from the startup game, though I’ve got a few things cooking in the background. If you’d like a taste of the other side of my life, feel free to visit my travel-blog: “Lost in Transylvania“.
The topic of software patents has been getting a lot of coverage lately, and I think it is one that angel investors need to take note of, as it can — and invariably will — impact software companies in their portfolios. In the interest of full disclosure, I have been on both sides of the patent issue in my software career: as the sponsor of patent filings; co-inventor on patent applications (one still undergoing review); deponent for defense in litigation; and admittedly as an investor asking the question: “what sort of IP protection do you have?”
With the exception of the one instance being sued by a patent troll, I never gave the topic a lot of thought. When in small companies, I thought of patents as a fair way to provide some added defense in the ongoing battle against competitors large and small. When in larger companies, I accepted patents as part of the larger armory of legal tools that kept big competitors from suing each other into oblivion – a form of mutual assured destruction for the business world.
But that once instance with the troll was really, REALLY annoying. It taught me that there is a special class of company – typically small and unsuccessful at their core business – that doesn’t really value innovation, but instead sees the opportunity to use a legal instrument to build a business around. They are the bottom feeders of the technology world, and unfortunately their numbers are growing.
As an investor today, I often catch myself asking companies if they have any IP protection. In truth, I’m not all that biased by the answer, but want to know if the company has thought about it and how deep their innovations go. Essentially, the existence of a patent or patents tells me how the entrepreneur is looking at the market: a “better mousetrap” entrepreneur starts with IP, but a “change the world” entrepreneur starts with the customer and the business opportunity.
The reality is that for small companies – startups and even established SMBs – patents are an ugly trap. In a post earlier this week, Brad Feld talked about the various types of software patent plaintiffs, and referenced a previous post by his secret lawyer friend, Sawyer, entitled Why the Decks are Stacked Against Software Startups in Patent Litigation. I suggest that entrepreneurs give both of these a good read to understand the dynamics of the patent litigation process. Those who have been through patent litigation know that the answer is never as simple as did or did not infringe, because so many software patents are vague and over-reaching.
So litigation is the key, because without litigation a patent doesn’t have a lot of value. If a company wants to defend its patent, it will have to sue – or be sued. And therein lurks the struggle for the entrepreneur: many believe that a patent will help them attract funding and protect them from evil competitors – a magic talisman for startups. In practice, it often becomes a useless time- and money-sucking exercise that never comes into play, because to defend it costs more than the startup can afford. Entrepreneurs have to ask themselves if chasing alleged patent infringer is in their business plan, or even in their DNA. If you want to build great products and solve hard problems, you typically don’t start by hiring lawyers (apologies to my lawyerly friends).
Thinking about this issue, I tried to fit the dynamics into the ubiquitous 2×2 matrix, with company size (big and small) on one dimension, and patent strategy (defensive or offensive) on the other. The result left a void: large companies pursuing an offensive patent strategy (“offensive” meant here in the “aggressive” and not necessarily the “odious” sense). None came immediately to mind, but a recent NY Times article on Intellectual Ventures (IV) in the Seattle area provided a possible candidate. Admittedly, the IV strategy isn’t perfectly transparent, but they are very well funded and are attracting lots of customers and impressive revenues. For now, I take them at their word that they are trying to improve the marketplace for patent cross-licensing, and providing value to companies both large and small.
So we have a complete picture of the world:
On examination, I ask myself which of these strategies we (as an industry and body politic) really want to encourage through the issuance of software patents. With the exception of providing the software startup with some kind of short-term defensive tool during their earliest stages, I can’t see that any of these are more than manifestations of the inefficiencies inherent in the market today. And for the software startup, copyright and trade secrets should provide adequate protection while they raise money and enter the market.
A few weeks ago, I had the pleasure of joining a dinner conversation with Deb Parsons, co-director of Investor’s Circle (IC). The purpose of the get-together was to determine interest among a representative group of local investors in building a presence for their group (short answer:YES). I was pleasantly surprised by what I heard from the mechanical perspective. I’ve been aware of IC for a number of years through my research and efforts in the “social entrepreneurship” sector, so I had already considered them a leader in the category of socially responsible investing. What I had not be aware of is how well-run they are as an angel organization.
Like many angel groups, they have chosen to focus on a specific industry sector or theme. The Investor’s Circle theme is “socially responsible investing”, which generally means investing in companies that not only have a profit motive but which also seek to create social and/or environmental betterment. Not surprisingly, this creates some self-selection of industry sectors (no military startups or oil lease deals here, folks). Specifically, they note that their members tend to invest in:
- Energy & Environment
- Food & Organics
- Education & Media
- Health & Wellness
- Community & International Development
They have a well-run screening and investment process that I can’t do justice to here, and present a strong bi-annual conference in Boston and San Francisco that includes not just pitch sessions, but good learning opportunities. The next event is coming up April 19-20 in San Francisco. They have also done a great job incubating new investment vehicles so investors can better diversify their portfolios.
One of the cool things they have done is prepare a multi-faceted rating on the companies from their history of investments, and have created a top-twenty list called IC20 that reflect the best outcomes on all three bottom-lines (financial, social, environmental) that they are tracking. It’s an impressive group of companies, and a great reminder that successful investing doesn’t have to come at the expense of other principles.
Or, in this case, creating problems that didn’t exist before… Robert Litan of the Kauffman Foundation calls out a section of a reform bill passing through the Senate Banking Committee in the Huffington Post: Proposed ‘Protections’ for Angel Investors are Unnecessary and Will Hurt America’s Job Creators. It’s a fine example of legislators being horribly disconnected from the issues on the ground. Let’s hope this dies fast.
One might not expect rural burgs like Mankato, Minnesota, Mason City, Iowa, and Fargo, North Dakota to be hotbeds of angel investing activity. Nor might one expect really good innovation around the challenges of angel investing in small groups to come from the same areas. Think again!
The RAIN Source Capital network has put together a really interesting program for small angel groups to form funds, and provides these funds with “a process for due diligence, legal templates, management support, access to deal flow and other resources.” Bravo! This is a great way to help angels organize effectively without a lot of overhead. So far they have 23 affiliated funds in six states. These also host annual get-togethers for networking and educational purposes.
One thing I like about this approach is the focus on local interests: unlike a number of the high-profile emerging angel activities which are centered only on sexy Web 2.0-ish technology plays, RAINs investors have supported medical devices, enterprise software, industrial fabricators, and a woodworking tools company. These companies may not have the stratospheric exit potentials of a SaaS developer, but they are the companies that fuel the local economies.
One concern I have (as I do with all angel funds) is the process for selecting investments. I don’t know anything about the specifics of the RAIN model, but having looked at fund structures over the past few years, there is the inevitable potential for political stalemate trying to make selections; i.e., if a majority or super-majority vote is required for a GO decision, it can stall pretty easily. I’d be interested in hearing from entrepreneurs or investors with direct experience.
On a related note, I’ve heard rumblings that one of the angel groups I really respect from the Northeast is putting together a sidecar fund. I’m convinced that groups driven by individual decision-making but supported by a sidecar fund that diversifies risk and increases upside potential for the members are going to become the norm. Among other things, the fund structure helps with long-term sustainability. More on that later.
Have been bad about posting lately as life got typically randomized. Ever since my first days managing software development projects, I’ve used a favorite phrase for organizing complex processes: herding cats. I used it a lot while running an angel group – no offense to any of the felines involved. I ran across this old EDS commercial by Bob Wendt recently, and thought it was perfect.
Back soon with more relevant content.
One of the worst-inspired ideas for entrepreneurs to connect with investors is the “pay to meet” event, where some organization charges a fee to allow companies who are seeking capital to spend time with a VC or an angel, and get some feedback on their business concept. The latest one of these to pass through my inbox is from the Environmental Business Cluster in San Jose, a non-profit organization formed in 1994 that “assists start-up companies that make environmental products or provide environmental services.” Their recent announcement is part of a series enabling entrepreneurs to hear from and talk to top-tier venture firms like Khosla Ventures, Mohr Davidow and Rockport Ventures.
While I’m completely in favor of these types of meetups, and can even begrudgingly accept that the EBC – as a non-profit — may need to cover incremental costs, the impression created by this program is less than flattering. Unflattering to the EBC because they appear to be pimping out the investors; unflattering to the EBC’s sponsors who are not an insignificant group; and unflattering to the VCs because it appears they are the ones demanding cash for face time. C’mon folks, the limited partners for these VCs are paying them thousands of dollars an hour just to breathe: they ought to be doing this as a public service, and even paying for a sponsorship themselves.
My advice to entrepreneurs: pay for the informational sessions but skip the one-on-ones. You can get the same kind of feedback for free at an Open Coffee session, and will feel better about yourself the next morning.