I never thought I would walk away from a term sheet. I’ve seen investors do it before — I’ve been on the board of the company on the receiving end of a pulled term sheet — and it’s never pretty. Even with a bulletproof line of logic, it’s a move that can seriously damage an investor’s reputation. While not legally binding, I’ve always firmly believed that, especially at the seed stage where we invest at Primary, a term sheet is effectively a moral commitment to a partnership.
The founder-investor dynamic is a sacred and tenuous one, akin to a marriage. These relationships typically last five-plus years and, like real-world marriages, must be built on a foundation of trust and respect. When that foundation isn’t there, it’s better to endure the pain of separation upfront — even the morning of the wedding — than go through with a marriage you don’t believe in.
I recently faced such a scenario with a company we’ll call Acme for purposes of this post Acme had a supremely talented but complicated team, both organizationally and personality-wise. There were dynamics that emerged in my very first meeting with them that, with the benefit of hindsight, were clear indicators of what our relationship might become. But the business was incredibly compelling, and I really thought the CEO was special. So we dug in hard.
Deep in our diligence process, we found ourselves embroiled in a set of conversations that were the VC-founder equivalent of Men are from Mars, Women are from Venus. The Acme team was talented and had been quite successful in the past. But they had been a purely bootstrapped, founder-owned and -controlled business, which meant they’d always had free reign to do things entirely their way. Where their first services business had been profitable from the beginning, they were now venturing into SaaS territory — something totally different. They were looking forward to relying on their emerging VC syndicate for its unique experiences and relationships that would be critical to success. In many ways, it was to be a perfectly complementary partnership, and our mutual enthusiasm led to a signed term sheet.
That term sheet didn’t eliminate the Mars-Venus dynamic, however. In fact, as we worked through the process of finalizing the deal and filling out the syndicate, that tension grew more pronounced. In conversations ranging from bringing in outside board members to refining cash flow forecasts to recruiting key senior team members, it became clear that we were consistently approaching things from completely different (and seemingly incompatible) directions. As we trudged on, the team grew resentful of our opinions, and we began to question their motives.
We were at a crossroads. We’d invested many weeks and countless hours of diligence on the deal, and suddenly the writing on the wall was quite legible: Moving forward would be a mistake.
I had felt this way once before on the eve of a deal much earlier in my career, in a far more extreme case, where the founder displayed some truly inappropriate behavior that made me want to walk. At the time, I couldn’t muster the courage to make the hard choice. Instead, I held my nose, focused on my enthusiasm for product and market, and moved ahead. Not surprisingly, it didn’t end well. That initial questionable behavior was merely the first in a pattern that culminated in a management change two years later, and a distressed sale another year after that. I vowed then that if a similar situation arose, I would make a different decision.
At Primary, we are uncompromising in our deal decision-making. We back only those teams that we can imagine working for ourselves. If we don’t see the intersection of compelling vision and aligned sense of partnership, we know the deal’s not right for us. Having weathered many successes and failures at this point in my career, and as our fund has matured, these investment criteria have become even more central to our investment thesis. In the case of Acme, these factors weren’t there, which is why the decision to pull the plug on it was, in the end, actually fairly easy. It was a well-intentioned engagement, but one that was failing the test of time and likely would have resulted in insurmountable resentment on both ends.
There are no guarantees in early-stage investing; ultimately, you’re left with your instincts and your investment principles to help you pick winners. I don’t yet know if I’ll regret this outcome, but I’m proud to have made the hard choice this time. We may feel some blowback from somewhere in the entrepreneurial community for having made this choice, and Acme may very well turn out to be the success we felt it could be. In fact, I fully expect it to achieve some level of success. But the cracks that emerged in our developing partnership made it clear that we would not be the right partner. I certainly wish the team at Acme every success — they are excellent people and passionate entrepreneurs. I know they will find a partner better suited to them than we would have been.
When we had the discussion with the Acme founders and agreed to part as friends, I promised the CEO that I would buy him a beer in a couple months when the dust had settled. I genuinely look forward to that beer and to watching this one from the sidelines.
