Interest Alignment - Entrepreneur & Investor

What the greatest technology investors say about Interest Alignment between Entrepreneur & Investor

Tranching Can Create Misalignment of Interests

Chris Dixon General Partner Andreessen Horowitz, angel investor and former entrepreneur

 Dixon says that tranching can create a misalignment of investors’ and entrepreneurs’ interests.  “[] tranching  refers to investments where portions of the money are released over time when certain pre-negotiated milestones are hit. [] In theory, tranching gives the VCs a way to mitigate risk and the entrepreneur the comfort of not having to do a roadshow for the next round of financing.  In practice, [Dixon has] found tranching to be a really bad idea.

[][Tranching] encourages the entrepreneur to “manage” the investors [hurting VC-entrepreneur relations, among other things].  One of the great things about properly financed early stage startups is that everyone involved has the same incentives – to help the company succeed. [] When the deal is tranched, the entrepreneurs ha[ve] a strong incentive to control the information that goes to the investors and make things appear rosy.  The VC in turn usually recognizes this and feels manipulated. [] There are better ways for investors to mitigate risk – e.g. lower the valuation, smaller round size.  But don’t tranche.”  Chris Dixon, The problem with tranched VC investments, August 15, 2009; http://cdixon.org/2009/08/15/the-problem-with-tranched-vc-investments