Someone told me, this is how VCs usually operate:

10 investments

6 die

3 are doing ok, but not steller

1 is going to be a unicorn, returning the fund

So, yes, VCs have been running around with "rotten apples" for ever. They just need 1 of the startups to succeed. And, due to the complex reasons of start-up failure and success (people, timing, execution, etc.) they can't really know before hand, which of the 10 is going to work.

So they place 10 bets and wait and see. The other 9? F-them...

> Practically every single VC seed round story I've heard from new/young founders is that the process is nothing short of a colonoscopy into not only their business, but also their professional network, and even their personal lives!

I’ve seen two groups of founders here. One knows how to say the right things, spin data the right way, have the right credentials, and know the right people, to avoid substantive due diligence. The others don’t, and end up getting a colonoscopy and then likely a “you’re too early” or “you’re too far along”.

> So the real question is, how many more proverbial rotten apples are in the basket of VC?

I don’t have a bird’s eye view, but my few data point me towards most VCs convincing themselves that they’re rigorous, when they ultimately rely on subjective criteria and so are quite vulnerable to con artist founders who know how to make them feel good.

This is why standardized processes and adherence to them is absolutely critical for risk management.

There is always going to be a situation where there's substantial political / personal pressure to skip checks, sometimes from the CEO themselves.

Good processes are built to hold the line even when literally everyone is urging everyone else to bypass them. Which is really hard.

VCs with rigorous process get out-competed by the ones that jumped at garbage companies that racked up huge valuations and then cashed out. VC isn't about making good companies, it's about cashing out. There's no value in the business actually being good, only in it being hyped up.

When I sold my smallish venture a year back I got around 400 due diligence questions. I answered them, put the material together.

From questions later on it became pretty obvious not one person, not the legal or operations team of the acquirer had look at anything I'd handed over.

I think this is a mixture of laziness and also that these due diligences are done for legal liability reasons, i.e. you can look at the materials if there ever is a lawsuit, not before.

But this is just an anecdote, this obviously depends on the acquirer, I'm sure plenty of companies do it properly.

There is enough due diligence to cover ass. I think what surprises people is that peoples asses were actually covered. What exactly did e.g. Sequoia see to give them confidence that there would not be significant cost if things went sideways? I guess you can always say its not illegal to invest poorly. But is it illegal to fund a house of cards where your position is to get a good deal on the inside of a potentially lucrative ponzi scheme? I think the whole thing is a good lesson for common (especially young) investors... care about and think in the longterm ... what is your nest-egg invested in? If things go sideways there's not great guarantees of which groups receive a prop-up and which are allowed to fall.

How many of these VCs used their reputations to pump shit coins (which they got along with equity when they invested in these Ponzis) then sold the shit coins to retail investors?

Seems like they sold unregulated securities

As you suggest, I'm not sure how typical that is, and it would very much depend on the acquirer. We've made quite a few acquisitions over the years, and there have been other potential acquisitions where we've chosen not to proceed due to something that's come out during DD. That's not to say we've never had any mess to clean up post-acqusition, but it's always been mess that we were aware of either through early conversations or through the DD process.

Acquisition due diligence is not the same as funding due diligence. There are definitely differences in the two and different reasons for doing it. For acquisition, due diligence is part of the legal and compliance requirements. For VC, due diligence is supposed to be part of the deal vetting process, but it's usually a headache for everyone, and goes out the window when they want to move fast.

Bacon & eggs. The chicken is involved but the pig is committed.

https://en.wikipedia.org/wiki/The_Chicken_and_the_Pig

Yeah, in the case of an acquisition, the acquirer can acquire all sorts of unsavory things – liability, debt, contractual obligations, lawsuits, etc that could potentially harm the acquirer.

In the case of funding, the worst possible outcome is that they write off the investment, like in the case of Sequoia and FTX.

Doesn’t collecting the material but not looking at it actually create risk and liability rather than reducing? For example, take the extreme that you answered one of the questions with admitting to selling to a sanctioned country. Well, they knew about it and have record of knowing about it but acquired anyway because they never looked at the materials.

Yes. If you get sued as a company for e.g. negligence, and it's pretty clear you're not going to win by attacking the point directly, the two go-to arguments are:

1. I did not know, and whilst I have a duty to know, in this case I was intentionally misled by others and couldn't have possibly known: I _did_ do my DD on asking for this information, however, I was lied to.

2. Okay, you got me, you win your case. Now I go sue the seller for having failed to disclose and making them pay me the same amount as I have to pay you.

Both of which are severely hampered by not reading the DD. At best you could say that by not doing the DD at all, you insta-lose on the first point (you have a duty to ask, if you can't show that you asked, you lose immediately). However, given that you now received it, it seems like a significant misunderstanding of the situation if you then don't get some intern to read it and highlight dubious lines and cross check a few things.

It's possible this is just the same shit moneyball is about: Lawyers putting a lot of stock in looking around and seeing what the rest of the lawyer clan does, and not using the brain whatsoever, trusting _entirely_ on the gut instinct of 'yes, this feels familiar and it is what we all always do, therefore, surely it must be fine'.

Case in point: Email footers claiming 'if you aren't the intended recipient, you must delete it; all this stuff is confidential' are fucking retarded. Obviously it's not legally binding (if it was, I can wrap a note 'you indemnify me by receiving this object' around a brick and throw it through your window!), it looks stupid if it's at the bottom of e.g. a press release you mailed to a newspaper, 'not the intended recipient' is not something you could possibly prove (hey, you mailed it to me, therefore I am the intended recipient), and by not suing those in evident breach of your clause, you establish that you don't enforce it. If you then attempt to sue somebody for disclosing actually private information that was clearly under NDA or whatnot, they can make a plausible defense in court that you never sue anybody for it and that therefore this is just picking and choosing, which has some legal legs.

And yet _every lawyer office and almost all businesses with a legal team_ does this, as do many companies with nothing like it (presumably, those'd be cargo culting, the legal companies / companies with legal teams are actively lemmings jumping off the cliff to follow their pals).

Possibly they do it because they know others expect them to, but I find it dubious that it's a good idea to actively do stupid shit just because people _think_ it's smart. It's not like having a footer makes you stand out these days. On the contrary.

) Yes, disney movie, lemmings don't actually do that. Which makes these companies even dumber, no?

> Obviously it’s not legally binding

Obvious to you, but not quite factually correct. This is, of course, not an attempt to form a contract or NDA (which would be ridiculous) but instead, an attempt to put a certain kind of recipient in notice.

Lawyers operate under ethical rules which differ slightly state-to-state but are largely based on the ABA model rules of professional conduct. Check out Rule 4.4:

“A lawyer who receives a document… and knows or reasonably should know that the document… was inadvertently sent shall promptly notify the sender.”

The standard footer is part of making sure the recipient “reasonably should know” that a document not intended for him is not intended for him.

Now, obviously, this warning is not binding on you in any significant way, but it likely has some effect on your lawyer, assuming he is licensed in a state that puts such a responsibility on him.

Your conclusion about the legal effect of the brick thrown through a window is probably correct, however.

My friend had his funding rejected because during the DD the cto did not pickup the phone from a strange number. they wanted to speak privatly to him.

I once had an investor who I thought was a great fit for both me and the business. We clicked on every level. We shared the same goals, philosophy, way of thinking about things. I loved him.

A few days before making his decision, he called me at 11pm. I knew exactly what was happening. If I didn't pick up, he probably would think I'm a 9-5'er (which I'm not).

If I did, I would probably be getting into a long-term relationship with a guy who considered him more important than my family. He'd probably want me jumping on planes at the last second to show him slides, mentoring his other founders, etc.

This wasn't my first deal. I was successful. I decided to not pick up.

The deal fell through, predictably. But I couldn't be happier with my decision.

It appears that the infamous due diligence process is mostly theatre.

- for the LPs to believe that their money is handled by serious/smart/accountable people - for the founders to bend over

There is a lot of "storytelling" in the VC business that should be more thoroughly and critically explored by journalists.

at least part of the answer is that SBF consciously designed his fundraising process (entering ratcheting commitments with an extremely short time frame) to cause FOMO and waive due diligence

the other is the emperor's new clothes effect

I share the nagging question! The only thing I can think of is that he was "making money" quickly, showing his skills as a trader. This...greed...might have been blinding to the investors.

Where angel Investors or VC will gamble with an unknown founder and their untried product, SBF was making money and the product seemed too good to fail?

Due diligence is for the founders and startups that the VCs aren't that excited about. When the VCs really want something, due diligence, especially the sort you mention, and any sort of business plan / model / etc goes out the window. They'll fall over themselves to get a piece of the action in some hot company in some hot market, even if the founders are total jerks, the company has no real business plan or model, and the long term plans are vague. The startup funding game is all about investing in startups as a financial asset, not in startups as a sustainable business. VCs will put you through the "you need traction" "you need a business plan" "we need lots of due diligence" if they aren't that into you or you're an option vs. an opportunity. Venture capital is a hustle, and you have to know how to play the game. Most startup founders play VC as if they're going to a bank and getting a loan and have to justify everything, when VC investing is really about pattern matching and lots of gut reactions, and VCs are investing in what they believe is a chunk of something that will be worth more in the future. The actual business and startup founders are only the side part of that hustle.

> When the VCs really want something, due diligence, especially the sort you mention, and any sort of business plan / model / etc goes out the window.

Indeed. Post FTX, Sequoia not only scrubbed the hagiography of SBF from their site, they also scrubbed a story about how they went from meeting to funding company in 48 hours. Not sure how much due diligence you can do in that time frame.

Oh Sequoia. The company that put $41M in a single seed round into a company that did... nothing: https://www.businessinsider.com/how-the--did-color-raise-a-c...

Hmm, the article seems to suggest that perhaps Bain put up the majority of that round.

The update in that article said:

"Update: CNET's Caroline McCarthy tweets at us: "Sounds like a good theory, except that a Color exec told me Sequoia's $$ was nearly triple Bain's." So we're back to: HOW DID THIS HAPPEN?"

So Sequoia put in nearly triple what Bain put in. The article was just guessing before the update.

This sounds right. Theranos is a case example - if the investors had hired any independent experts in the technology sector, micro-fluidics for biochemical analysis, they'd have immediately told them that quantitative measurements (i.e. getting blood metabolite levels) at that scale were essentially impossible, although +/- testing (i.e. detection of a virus, or a gene sequence) was more plausible.

Restricting Theranos to +/1 testing (STDs and other infectious diseases, maybe some cancer genes) would be FAR less profitable than taking over the blood testing industry, which is probably why Theranos didn't go in that direction. Regardless, even cursory due diligence would have revealed all that.

> if the investors had hired any independent experts

Maybe they did? The ones that actually did invest are the ones that also are waiting for a Nigerian prince to finally do his bank transfer.

That would be like the opposite of survivor bias. We never hear the boring stories of the diligent people who avoided disaster.

I've read a lot about the Theranos situation, and it sounds like CVS might be the "survivor" in this case. There are a few references to CVS in Bad Blood and other reports, but CVS wisely didn't say much about what caused them to pass on the offer that Walgreens accepted.

That's a perfect example.

I can think of two incentives for the vigilant to stay silent in the face of a scam.

One, in the case of a company especially, they may want their competitors to walk into the trap.

Two, the risk of accusing somebody of being a scammer (that you haven't fallen for) is too great, you get nothing out of it, and risk being sued.

Although, in this case, where peoples' health was put at risk, it would be especially awful to not speak up.

Can you suggest things I can read to understand this phenomena better?

This video probably sums it up best: https://piped.video/watch?v=N6Zz-Nkkaxc

Lmao, thank you for making my Saturday morning!

This was a rich and well-connected jew so he could just play League of Legends while falling upward.

Whoa - casual racism much? This is cool on HN?

Thankfully the voting suggests not.

Antisemitism is disgusting in any context, but doubly so on HN.

When people are greedy they forgo due diligence. It is how Ponzi scheme always seem to work.

And if any one of you here think you are not greedy, please, take a deeper and more honest look at yourself.

The answer is probably that VCs aren't looking for what you think they should be looking for.

And technically you could say FTX was a good investment if you got out before the collapse.

The only way to get out of your investment with FTX in time would be if you had negotiated some clause to that effect in your funding round (like warrants/put options on the shares), which no one seems to have done, and which SBF is unlikely to have accepted.

There’s a difference: no seed investors. Alameda was already operating, funded by cash (supposedly?) made from a kind of carry trade on some restricted cryptocurrencies. So ppl were putting money into an already operating business.

There’s still no excuse for zero diligence, much less zero oversight (they couldn’t even produce a balance sheet??). But the situations aren’t parallel.

VCs were already bullish on crypto, and Alameda was already printing money. They thought there was less risk than there was and any delay would let other VCs get in on their spot.

Go read the infamous Sequoia Capital article and despair at the fact that these wildly wealthy people who comprise the investor class and wield inordinate, unimaginable amounts of unilateral power are just as stupid as the rest of us.

SBF article? It made me wonder if they're stupider, they were too eager to buy into the 'Genius Great Man' trope.

> Practically every single VC seed round story I've heard from new/young founders is that the process is nothing short of a colonoscopy into not only their business, but also their professional network, and even their personal lives!

Really? Y Combinator is famous for its lack of due diligence, and making decisions based on a web form submitted to get to inperson interviews and then a 10 minute meeting to make an investment.

And the biggest VC's of the past few years, Tiger Global and SoftBank did almost no diligence.

The other big VC's in AZ and Sequoia are also known for moving very quickly and not being very onerous with their due diligence.

I guess it could be that most of the VC stories you have heard are from 2nd and 3rd tier VC's who have to be far more thorough?

The lack of DD in YC I believe is due to them being Angel/A series basically (not sure if the classification even stands here, they're an incubator)

You do want more DD to invest in bigger companies

Check out the NS8 story. They were audited by one of the big firms and still passed and got funding when it was a fraud. Lightspeed was the lead VC. Maybe they are moving a little too fast.

The part of the story I am curious about is that I know in some cases VCs got issues some tokens along with their shares. There is the possibility that they knew they would get enough tokens and be able to dump them to make the deal make sense because the tokens could be instant profit. They say, we lost $x m investment. (PS: the fund is up, we sold $x+y coins)

Or it could have just been FOMO.

I feel sorry for the Ontario Teacher's Unions. Keep in mind with these frauds the money is coming from insurance company, your school endowment, etc. It's not other people's money.

Well this is part of what creates the conspiracy theory that some state actors were behind FTX. At the very least, the fact that SBF's mom was fixer for the Democrats, means he was likely Epstein level connected with political insiders.

More conspiratorily, while SBF's mom worked for a Democrat-aligned dark-money PAC, Sam Bankman-Fried himself is rumored to have donated more than a $100 million to Republican dark-money PACs during the general election, and multiple Republican sources confirm that a person in the crypto industry was their "white knight donor" for a number of Senate GOP campaigns.

Hope there was a future pardon promise in those handshakes...

Not sure if that rises to the level of sexual blackmail with minors but okay!

In my experience it's a class thing. If you have the type of pedigree where you parents, friends or family can put in $100k plus to allow a founder or two to pay their living expenses while they get it running and secure seed or round A funding. It's always a catch 22, serious investors want one or more of the founders to be full time dedicated to invest, and that founder needs to pay their living expenses while doing so. In my experience the founders that get funded are either people with the pedigree that comes with money, or people that are experts on their field, have worked whole careers in industry and have some money socked away to float themselves for a year or two while they get it going. There is a third category of consultants/freelancers that create products as a thing to work on when consulting is slow, but these are often bootstrapping type things that don't really go looking for money.