A few people have questioned my assertion that no-shop agreements make sense. I'd like to clarify my position. I do agree that in some cases, they don't make sense, but here's where they make sense.

Basically, my point is that if you decide that you like each other and REALLY want to work together but that it will take a lot of work before the actual transaction happens, a no-shop allows both parties to focus on building the business. It's like an agreement that after two people are engaged, you both don't date anymore. Obviously, if you're not sure you have the right partner, you shouldn't sign a no-shop. As a VC, if we have a no-shop we feel much more comfortable putting a lot of work on helping the formation of the business plan, introducing the company to partners, other investors, advisors, possible employees, paying for their legal fees, etc.

Another situation where I have found no-shops to make sense are in cases where you can just SEE how an auction could end up taking A LONG TIME. I am not at liberty to disclose the actual transaction, but I once had a buyer for a company where I had a no-shop. The investment banker broke my no-shop and shopped the company around after I made my offer. I didn't want to deal with the auction so I dropped out. The auction took months and they ended up getting LESS money for the company because they didn't find a better buyer and I didn't want the company any more because the value of the company degraded during the process because everyone was spending all of their time "being shopped around."

I've also signed a no-shop as an entrepreneur. I was talking to a variety of VC's. They were all pitching me on why I should work with them. I ended up choosing one VC, signed a no-shop and we were able to close and fund in 1 month. Without the no-shop I think it would have taken much longer.

I think that in the "clubby" Silicon Valley VC community where everyone's friendly with everyone else, maybe no-shops are not very common. Also, where you are quite confident about your business and don't need much help, just money, maybe shopping it around and raising money from the highest bidder makes sense.

A no-shop doesn't mean that other investors can't come in. It just means that other investors should talk to the lead investor. It just means you stop taking cold-calls from random investors who hear that a deal is happening. It also means that you don't go looking for another investor for the sake of negotiation.

A no shop is sometimes called an exploding term sheet. It means that the company must either accept the deal on the spot or it won't get funded at all. The theory is, we don't want you going around to other VCs trying to get a better deal. It's common among the second-tier VCs, but the best VCs are usually willing to stand on their own merits.
Our no-shops are not about forcing people to take the deal on the spot. It's so that we can invest a lot of time adding value before we finalize the deal. I guess the best VC's say, "Come back when you have a real business. Don't look to us for help." ;-) (Half kidding here. Many top tier VC's have Entrepreneur in Residence systems and other ways to help entrpreneurs before they invest, but you definitely have to be in the club before they'll lift a finger for you.)

Andrew over at VentureBlog also disagrees with my position on no-shops.

14 Comments

Jo, i do understand your point of view, basically because when you sit down with some VC it means you´ve made some research.... well... that´s if youre serious about who will put money and effort helping you out to build the next Big-Idea.

However, the view of Joel is not totally wrong; imagine yourself as an entreperneur after seeing some VC´s, with almost no more credit to fund your start-up.. you dont expect this kind of agreement/clause from a VC; because it looks just like joel said "dont go there looking for a better deal".

I´ve already put my opinion.. but it´s in spanish.. sorry ;)

BTW, when pinging to you i get this:"Ping 'http://joi.ito.com/cgi-bin/mt-tb.cgi/3269' failed: HTTP error: 500 read timeout"

Mariano. I think that there are many cases and it really depends on the leverage you have, the amount of work that needs to go into putting the deal together, the personality of the entrepreneur and the VC, etc. I think that Joel's case is one way to think about it, and is a valid position. However, I think there are cases where it does make sense. My point is just that it's not clear and simple. Every deal is different and in some cases no-shops will make sense and in some cases they won't.

Sure; everything is a matter of perception... but one of the biggest problems is that some part of the entreperneurs see the VC´s just as a big pocket people and you must search for something else besides that.

That point of view is (IMHO) what made Joel wrote that part of the post.

Talking about my experience.. i´d be willing to change the VC that funded my start-up for other whith a better understanding of the business (and in that case i dont give a damn about no-shops)

Not to beat a dead horse here, but what if you had a product idea, but no money, no business plan and no access to the market you need to get into. What if I came to you and said, I'll introduce you to a bunch of people who can help you with the business plan, I'll get some distributors on board and find some possible clients who might be interested in your product. Oh, and I'll let you use my office and I'll even agree to pay your legal bills if we decide not to do a deal together. I'm still not sure I want to invest, but after the business plan is done and you've met my consultants, possible clients and distributors, we can figure out if there is a deal here. What I want from you is an agreement that for the next two months while we work on your business together, you agree not to approach other VC's and let us know if you are approached by other VC's. If at the end of 2 months who don't have a deal, we'll part ways. If you're approached by a VC or investor that adds value, we'd be happy to let them in.

Would you sign an LOI with us? Again, it does assume that we are your best choice after a search of other alternatives first.

Dont you think that that speech sounds a little bit too "good to be true"?

I mean, its a matter of perception, if i hear that proposition i either think that youre my angel and invite you to come to argentina and watch our ideas.. or i discard you for not being trustable.

However.. i repeat, if you are seeking for a VC and get to the point where you get an offer i think youre intrested in this VC.

The dating analogy is a little flawed ... my understanding of no-shop agreements is that they limit only the venture seeker, and not the VC.

The music industry has a similar practice - they get new talent to sign a no-shop to cover the negotiation period, and then let the talent stew and go broke, making them desperate to accept whatever deal is offered by the agent. It's a negotiation tactic, and one rightly hated by the talent.

Eric. As always, it depends. We sign bilateral no-shops. Again, we're talking about a period of a few months. There is always an end. There is often a "breakup fee" which covers some costs during this period.

Generally speaking, "negotiating tactics" that make an entrepreneur unhappy don't make sense in early stage venture capital where you need to incentivize the entrepreneurs and make them feel that you're adding value. If you don't have a good relationship with the entrepreneur you will never be able to build the business or maintain your reputation in the market. The only time I use "negotiating tactics" is when I'm negotiating with people who are using such tactics against me. Usually, it is during buyout transactions or investment banks where there is low likelyhood of a relationship afterwards or where such tactics are accepted practices.

When you are dealing with an inexperienced entrepreneur who needs your help, you should never do anything that might make them question your honesty, even after the investment since building trust is so important.

Other VC's may have different methods, but I find that my methods works for me. I think part of it comes from being an entrepreneur for 10 years dealing with investors and remembering how it felt. My trust and relationship with my investors always influenced my behavior. In early stage investments, the behavior of the entrepreneur is the most important key to success. If you're talking about a pile of assets or a balance sheet, that's totally another game.


Jo, you said it all. What you're talking about is not the same as what Joel is talking about. In this simple phrase you're stating that the entrepreneur has the opportunity to look around and come back and say Sure. What Joel is refering to (and I've had this experience before), is a VC meeting with you and after the initial presentation/etc calls on you and says something like 'well, it's a good idea. I like it, and my offer is to do x, but here is a no-shop and if you don't sign right now, then my offer is no longer on the table'.
And that, my friend, is wrong.

Just to jump in, my experience in the last couple of years parallels the VentureBlog guys. The only no-shop I've seen was given by an East Coast firm, and in a situation where the company in question was under a lot of pressure. We haven't used them, but our model doesn't include as much 'incubation' or in-kind investment as Joi's - I can see his reasoning.

BTW, Joel's quote on ''exploding term sheets" is a bit off. As I've heard it, an exploding sheet is simply one that expires in fairly short order if not accepted, say 24 - 72 hours. It may or may not include a "no shop" with penalties for taking another lead's offer, and that "no shop" might or might not have to be accepted immediately for the term sheet offer to be valid. The occurence of these may well be correlated - they can all be used to put pressure on the company - but they aren't the same thing.

I have worked with Joi and I feel that I know where he is coming from. As you can see by his blog, Joi is not commercial in the "button down" conservative sense of the word and his use of the "no-shop" is defintely not a tool to screw the desperate entrepreneur. Joi is a giver not a taker and the "no-shop" is just one of many commercial tool that he has learned to protect himself in a tough world from the downside of his own generosity. (i.e an entrepreneur goes and shops the deal to another VC who then walks away after Joi has invested time, energy, money, trust and relationships on the deal)

It seems to me that if a no-shop agreement was indeed intended to be used in the way in which Joi has indicated, that a non-disclosure agreement should be in turn signed by the VC. While it is true the VC should be concerned about losing the investment of its resources, the entrepreneur is concerned about losing their idea. I wouldn't think no-shops would be a problem if the entrepreneur knew that their idea wouldn't be shopped or stolen either.

Mariano, we only invest in companies which are almost "too good to be true" and we offer support that is amost "too good to be true." We don't like doing average business with average companies. ;-) Joking aside, we actually do A LOT of work for the companies we invest in. Although this may not be standard practive, I know other VC's who do a great deal of work helping companies. The other thing is, I have to make up in hard work and "good naturedness" what we lack in brand and history. If you're a brand name Silicon Valley VC, you can afford to be a bit arrogant because just having the brand in your investor list adds value to the company. If you some guy from Tokyo with VC brand, a good entrpeneur will say, "what are you going to do for me?"

I have also seen term sheets like the one injuredWabbit mentions. They exist and their purpose is not the same as what I'm talking about.

As for non-disclosures.... That's another HUGE discussion. It's an important one. We get SO many proposals and SO many of them are similar that if we signed non-disclosures with everyone, we would get sued by a dozen people every time we did a deal. Most entrepreneurs over-estimate the uniqueness of their ideas. The most important thing is the people. 95% of the difficulty in anything is the execution. I don't want to downplay the important of ideas, but the person pitching the idea to me is much more important than the idea. Personally, I have a TON of ideas that I just need people to execute for me. ;-) Also, "ideas" are different from intellectual property. To me, an "idea" would be "wouldn't it be cool to have a wireless device that did moblogging with location information and voice annotation of photos?" Everyone has this idea. As this idea develop from just and idea to a plan, costs, list of partners, code, patents, etc., it becomes IP and trade secrets. These are owned by the company and is less about non-disclosure and more about copyright and patent management. Having said that if there are trade secrets involved which would be easy to transfer to another company, I could see the company wanting the VC to sign an NDA and I could see the VC signing it if it was necessary, but as a VC, I'd be hesitant.

The NDA and no-shop issue (or rather, the reason that these ARE issues in the first place) goes to the trust relationship between VC and entrepreneur. That's generally somewhere between poor and non-existent, and I'm surprised that anyone is surprised that it's not otherwise; as it's presently formulated, the VC/entrepreneur relationship is utterly pathological, totally unlike how the rest of business, and human society as a whole, functions.

Trust isn't built in meetings, in fancy lunches, or over endless powerpoint presentations. In the real world, at least, it's built over an escalating series of (initially quite trivial) real business transactions. So you want the contract to sell me paper towels for the restrooms in my fast-food empire? I'm not gonna sign a $10M/annum cheque, no matter how much powerpoint you've got. I'll let you second-source a single metropolis. Then maybe first-source it. Then you can supply all my operations in Alaska. Add some overseas operations, some specialty stuff. By this point I know whether your trucks show up on time, whether the bill is accurate, whether the product is okay, whether any problems I have are addressed in a reasonable way. You know whether I pay on time, whether I whine about every last details, whether my business really does look like it's on a firm footing, whether I keep my word. All the way through this process I've been making money, and so have you. Maybe at the end of this you get the contract for the whole chain, and maybe you don't.

Dating analogies work well for ordinary business, but they fall apart for the VC/entrepreneur relationship. That would be more like a couple meeting on a blind date in a bar, showing one another polariods of themselves naked, exchanging affadavits written my satisfied ex-lovers, and then immediately jumping into bed together. Doesn't happen, does it - and you'd run screaming from the room were someone to suggest it.

Presently, the "granularity" of deals between VC and entrepreneur is so huge - both parties have to make a major commitment, and so both are very wary - a "cold war" mentality can easily develop.

So how to fix this? VCs have quite a fine-grained portfolio of offerings - a few thousand dollars seed money can make a big difference, as can a few hours of marketing consulting or a few relevant introductions. How the entrepreneur can make a small, self-contained contribution is a harder matter. Entrepreneurs have time, experience, and relevant skills. Later startups have parts of products (or deals, teams, etc.) they can't yet sell themselves, but can be of use to some other company ("say, we own some of a company that could really use this battery charge technology"). Does this distract the entrepreneur from his monomanical plunge to be first-to-market? "Sure", I say, and moreover "good".

Is not a "no shop" agreement something that's requested by a VC only AFTER he has presented a term sheet to an entrepreneur?

I don't think a VC asks for a no shop before presenting an offer in a term sheet.

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