Brad Feld | Crain's Denver

In this ongoing series, we ask executives, entrepreneurs and business leaders about mistakes that have shaped their business philosophy.

Brad Feld

Background:  

Foundry Group is a venture capital firm that invests in companies and funds across North America. Founded in 2007, the Boulder, Colorado-based firm is focused on making early-stage technology investments, participating in growth rounds, and supporting the next generation of venture fund managers.

The Mistake:

I misunderstood my capital structure.

Back in 1996, I started a business with three other co-founders. We bought a number of web hosting companies between 1996 and 1999, right around the time when web hosting was becoming a thing. One was called Interliant, and that’s how we took on that name.

Basically, we built a very large, international web hosting company and we took it public in 1999.

Along the way, we helped create a category that was a precursor to software-as-a-service. It was called ASP, or application service providers. The idea was that instead of running applications locally, you would run them in an ASP – now you would say you were running them in the cloud.

About a year after we went public – I think the IPO started at $10 per share – we were doing about $50 million per quarter, meaning we were about a $200-million business.

Still, we had mastered the art of losing $5 million per month.

We were burning a lot of capital, as many companies around that time were. The market was rewarding growth and capital was relatively inexpensive. The idea was that if you were growing fast, you could raise more money.

In the beginning of 2001, things got a little shaky. We had raised $77 million in the IPO and another $40 million in strategic money from companies like Dell and Microsoft. We realized we would need more money, so we thought about doing another round.

Our investment bankers at the time were at Merrill Lynch. At the time, they had started a type of public offering where you issued convertible debt, then you went to public markets and sold it. When the stock price went up 15 percent, the debt converted into equity.

The nice thing about this type of offering was that you didn’t have to go through the SEC to do it. You could get through it all in about three days.

So, we did this offering and raised $160 million in a week. This happened to be the week our stock price peaked at $55 per share. Because we never saw the stock price go up after that, the debt never converted to equity, which none of us had ever really considered as a possibility.

I think Merrill Lynch did about 30 of these convertible debt offerings. I’m only aware of one company in that mix that didn’t go bankrupt, and it wasn’t ours.

We went bankrupt and our equity was wiped out.

We had mastered the art of losing $5 million per month.

The Lesson:

Understanding and having control of your capital structure is key. Don’t let your investment bankers hand-wave over that, even if you’re moving quickly.

Once we realized what was happening, we worked very quickly to shift our gears to become profitable. We sold things off. We did a round of layoffs. It was a brutal time because we really weren’t in a position to get to profitability and we had this looming debt.

As a side note: Our debt was trading at pennies on the dollar at this time. The smartest thing for us to do would have been to buy it and retire it, but we didn’t see that option and our investment bankers were of no help. I think everyone in that industry was worrying about their own issues.

There were a handful of chances for us to sell along the way, from anywhere between a half-billion to a couple billion dollars. If we would have put energy into that, I think we would have been successful, but we never prioritized it. Our view was to build for the long term, and we didn’t recognize that we built a valuable asset only in the context of this very fast-rising market.

Also, the equity of the founders was linked to the private equity firm who was our investor. We couldn’t sell until they did, and they never sold a single share.

Brad Feld is on Twitter at @bfeld and Foundry Group is at @foundrygroup.

Photo courtesy of the Foundry Group.

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