CloudHealth was an eight year journey for me, starting with me quitting my job in 2012 and continuing through to today, two years on the other side of an acquisition. I’ve been doing a bit of reflecting on the things I did right and wrong over the years, and thought I’d turn my introspection to my experiences raising capital. For anyone not familiar with CloudHealth Technologies, myself and my CEO raised four rounds of venture capital over five years, starting with a $4.5M series A and ending with a $46M series D. Here are the things I think we got right and wrong in that journey.
Right: Straight to a Series A
In November of 2012, I convened my board of advisors around the North Bridge Venture Partners’ boardroom. My advisors included two CEOs, two entrepreneurs, a venture capitalist, and a startup executive - all of whom were willing to commit personal time helping me on my entrepreneurial journey. I’d been working out of North Bridge offices informally as an Entrepreneur in Residence (EIR), mainly to have a cubicle and a partner to advise me (thank you Jeff McCarthy). I’d ordered dinner and drinks, which I am sure raised more than a few eyebrows from partners as they left the office that evening. I had two questions: (1) do I continue bootstrapping the business or raise venture capital, and (2) am I the CEO or do I need to hire one? Over the next 2+ hours, we reviewed the progress of the business to date and had a spirited debate. In the end, the advice was clear: (1) stop bootstrapping and go straight to raising a series A, and (2) go hire a real CEO. I followed this advice. Within three weeks I had a CEO on the team, and within ten weeks we signed a term sheet for our series A. When you surround yourself with good people, sometimes all you have to do is listen.
Right: Going Boston for the Series A
A little known fact about the CloudHealth series A investment is that it had little to no interest among venture investors. I like to joke that I’ve been turned down by almost every venture investor in Boston - which unfortunately for me, is not really a joke. I don’t blame them: it took me 15+ minutes to deliver my elevator pitch, after which the most common reaction was confusion (hey, it’s hard building a new product category). In the end we had only two firms willing to back us: Sigma Prime and .406 Ventures. Both our partners turned out to be our strongest and most consistent backers through our life as a private company. This is not a knock in any way against our later West Coast investors, which also added value. But for all the talk that West Coast investors “get it” and “move fast,” we would have been a small fish in a big pond if we went west for our A round. We chose our hometown for the series A and never regretted it.
Right: Previewing the Series B
Like many startups, we struggled to get to what investors like to call product market fit. I like to define product market fit as the ability to repeatedly sell and deliver a value proposition into a target market. Achieving this requires figuring out almost everything about your business - from how to target prospective customers, to how to bring them through a sales process that ensures you win your fair share of deals, to delivering the features that matter. Our first two customers - both closed by me - were $50K in Annual Recurring Revenue (ARR). We then spent the next 18 months being lucky to close small $5K ARR deals. But in the spring of 2014, all the elements of product market fit finally came together and we started to hit our stride. Many entrepreneurs would have rushed out to raise a B round on this early trend. Fortunately we decided to not do this (thank you Dan Phillips), and instead held a series of informal coffee meetings with potential investors to preview the round. To our surprise, investors almost universally told us we lacked the traction to justify a B round. While the trend was clear, there were too few data points to give investors the confidence we had really achieved a growth phase. While this was hard news to hear, we were fortunate we did it via coffee meetings instead of failing to raise a round. In raising venture capital, perception is sometimes reality, and no one wants to be seen as a distressed asset. Six months later, when the trend was undeniable, we successfully raised our B round, led by one of the investors we met over coffee.
Right: Converging the Timing
The hardest answer to get from a venture investor is: a yes. The second hardest answer is: an answer. In their desire to keep all options open, many investors will ask for more data or delay meetings rather than give you a straight up no. My CEO, Dan Phillips, was always masterful at converging all the prospective investors to our decision timeline. As every sales person knows: a prospective customer without any compelling event for making a decision will rarely close. Owning the timeline is critical for any fundraising process. It’s better to delay the start of a process to be fully ready than to let it drag on without a clearly defined end.
Right: Ignoring the No’s
While we had investors reject us in every round we raised, the hardest no’s to hear were the A and B rounds when we were still in the formative stages. I heard every possible push back - e.g. enterprises will never go to the public cloud, cloud management is too small of a market, the problem lacks sufficient complexity. A real low point for me was when I wasn’t even able to get in front of the partners for the firm for which I was an EIR. Creating a company - especially one that is building a new product category - is never easy and requires overcoming a lot of adversity. While it was hard to hear the lack of confidence from investors, we always persevered. As an entrepreneur raising capital, you have the law of small numbers on your side: one or two yes’s in a sea of no's still gets the job done.
Wrong: Extending our A Round
In the summer 2014, we were running out of cash. Our company, however, had turned a corner. We’d figured out product market fit and were beginning to acquire customers with consistency. Unfortunately for us, there were too few data points to prove the trend we could instinctively feel as entrepreneurs. We went back to our A round investors with the hope of raising a small round at a slightly higher valuation. They were willing to provide us the additional capital, but as an extension of our A round, and thus with a high dilutive impact on our cap table. We knew there were other options - e.g. debt, convertible notes. In the end, we took the fast path to getting money, giving up high dilution for capital we ended up not needing. I still wake up in the middle of the night replaying this one in my head.
Wrong: Raising a D Round
If I could get one do-over at CloudHealth, I’d like another shot at our D round. At the time we raised this round, we had plenty of cash in the bank. But we were growing fast, looking to position ourselves for a future IPO, and needed to attract a public company CEO to take us forward. Unfortunately, we made some mistakes in execution that resulted in us having our new lead investor insist on only doing the deal with participating preferred structure in it (something we had avoided in all previous rounds). But we had two viable alternatives: (1) have one of our existing investors lead the round, or (2) don’t raise the round. With hindsight, we should have chosen one of the alternatives. The capital we raised and the terms on which we raised it did not advance our business enough to offset the downsides. Unfortunately for me there are no do-overs in raising venture capital.
As an entrepreneur, your job is to make the best decisions you can on behalf of your company. There are fewer high profile decisions to make in your business than raising capital. My experiences at CloudHealth are proof that while these decisions are impactful, you don’t have to get them 100% right to build a successful company. But if you find yourself facing an A-round extension, you might want to give me a call before you sign that deal. 😉
Note: Since we raised our rounds, terminology has changed a bit. What we raised as a series A is sometimes called a seed round today, and what was once a seed round is often called pre-seed.