One of the continuing problems in the startup and venture market today is the issue of exit opportunities for companies, and in particular the problem of liquidity for founders. One company, Startup Exchange (www.startupexchange.com) is taking an interesting angle on the problem, with a financial fund which allows startup founders to put some of their stock into a pool of other companies--providing them with more opportunities for some liquidity, and a little bit of diversification. The firm has relationships with DFJ Gotham, Idealab, and others. We spoke with Michael Barton, Managing Director and CEO of the fund.
What is Startup Exchange?
Michael Barton: Startup Exchange is an exchange fund, where founders, executives, anyone who owns shares outright in a company. They can take their shares and contribute them into the fund. In exchange, they get a limited partner interest in the fund. That basically gives them an interest in all of the other company stock that have contributed to the fund. It's a non-fund--there's no cash contributed by any of the founders or executives.
How are founders allowed into the fund, and how do you select them?
Michael Barton: It's really a personal interview. I meet these founders one-on-one, and I'm introduced to them through our own personal network -- Mike Paolucci, John Waller, and myself have been in the startup game on and off, in New York and Southern California for a lot of years between us. We've got lots of contacts. Idealab has invested in the fund, and is a great partner, and has been introducing us to their companies, as well as lots of companies that aren't in the Idealab structure but where they know the founders and executives. It's also through venture capital funds we talk with--there are no formal partnerships yet--but certainly referrals to their relationships. We work fairly closer with venture firms in New York, here in Southern California, and network in a number of different ways with companies.
Can you talk a little bit about your founding team?
Michael Barton: Mike Paolucci who is our guy in New York, I'd call him the ultimate startup junkie. Mike has multiple startups at any one time--right now I think he has three going on. Mike was one of the founding members of 24/7 Media, which he took public, and was taken over by WPP Group. He has done fairly well, and is now an angel and startup CEO himself. Mike is also on the board of directors of DFJ Gotham, and is one of the limited partners in that fund, and is very plugged into the startup community on the East Coast. John Waller met him 10 years ago at 24/7 Media as well. John is now at Idealab, and was the managing director of the New Ventures Group, which is the internal consulting group for their operating companies. He recently became CEO of X1, an Idealab company. John is not as actively involved in managing startups, but has been a very very active angel--I think he's invested in something like 30 companies as an angel. It was their idea that created Startup Exchange. They saw similar exchange funds offered to them when they took their companies public, and they thought -- that would be an even better idea for startups. As founders in that quandry of having your financial future all in one basket, they were interested in finding a way to solve that problem. I came out of Boston Consulting, doing technology and new media consulting, then I went to Citysearch, where I was one of the early executives running bizdev and international. We merged with Ticketmaster, took it public before selling it to IAC. Mike and John found me through Idealab.
I was talking with Idealab about a couple of different jobs, and also was a consultant on various things at the time. I have a background in financial services. Many years ago I was at Wells Fargo and First Interstate Bank doing banking, then ended up doing startup stuff after many years. I brought the combination of financial services and founder startup experience which is so important to this fund.
How far along are you in the fund and companies being involved?
Michael Barton: We have about 20 LPs, limited partners who have signed up already to join the fund. We haven't done the initial close yet, we think we'll do our initial close at the end of this year. So that 18-20 founders right now represents about a dozen different companies. You'll remember the fund does not have a relationship with the companies, but has a relationship with the individuals. So, one company might have two or three individuals who want to be in the fund. We've got some very, very strong companies across different industry sectors, including defense, technology, hardware development, consumer goods, and retail. We go through a very rigorous review process, just like a venture capital fund would do in selecting the companies. We're also looking at the individuals and the role they play at the company, their history as serial entrepreneurs, and the exit potential of the companies--the most important factor. We really spend a lot of time going through the due diligence process.
You mention VCs. You'd think the VCs might want to founders to not diversify, and have as much vested interest in their companies as possible. How have they reacted to this?
Michael Barton: It's interesting. Most of the VC firms I talk to just get it immediately. They like the idea. Ross Goldstein, at DFJ Gotham, said it's a good release valve for companies. In this market, founders are panicked about exits, and because of the market may be looking at exits which aren't optimal for the company, and a little worried about how long it will take to exit. And, while this is not a cash for shares fund, it allows the founders to feel like they're managing their money the smart way, that they're taking a few eggs out of that single basket and spreading it around a bit. Most of the VC funds get to that viewpoint pretty quickly. There are a few who have some reservations because they think it's taking the founder's eye off the ball--and that's the last thing that VC wants to see. We've actually structured things in ways so that doesn't happen. Such as, we only allow founder/executive to put up to ten percent of their shares.
Is there a lifetime to the fund?
Michael Barton: It's a 10 year fund, with an option to extend beyond that for a couple of short periods--much like a standard venture capital fund. Let me be clear, we're not taking early, early stage companies, or angel backed companies--we're taking companies funded by major, top tier venture capital funds, Series A and everywhere up to late stage companies that are maybe within a year or two of exit. Most of these companies will exit through M&A or IPO, with M&A more likely than an IPO, of course.
Another reason we want VC participation in these companies, is those VC funds are on their own ten year path. If we're taking companies already funded by VCs, those VCs are going to be dealing with those companies and encouraging them to exit within their own 10 year calendar, which will all fall within our own 10 years. The theory is that we'll be able to get through our 10 year fund and not have a lot of companies left over in the fund.