Uber and the Death of the “Founder Friendly” Investor

Keith Pulling
Law and Business Association

For years, Travis Kalanick, Uber’s former CEO, seemed to be the personal embodiment of one of Ayn Rand’s fictional heroes: a hard-charging hyper-capitalist who ignored inconvenient laws in the pursuit of vast wealth. But Kalanick now serves as a cautionary tale: after reports of rampant sexual harassment, corporate espionage, and regulatory fraud surfaced, Benchmark Capital forced Kalanick out of his position as CEO earlier this summer, and then sued him for fraud shortly thereafter.

Kalanick’s downfall marks a setback for founder control of start-ups. For years, venture capitalists sought to be founder friendly, and in doing so may have been actively ignoring transgressions (as the fiasco at Zenefits illustrates). The basic reason was that founders would not want to work with investors that had a reputation for treating entrepreneurs poorly. While it might make sense to push a founder out of a company in any one instance, the reputational damage simply was not worth the potential gain on any one investment. This is especially true because venture capital returns are driven overwhelmingly by a handful of companies in a fund—one or two home runs more than make up for dozens of strikeouts. In a system where a single company drives returns for an entire fund, the risk of alienating even a single founder isn’t worth taking. Squeezing a couple dollars out of a failing start-up—by pushing a founder out or pressuring them to change course— is not worth ruining your shot at the next billion-dollar company.

A founder friendly approach is best exemplified by Facebook and Snapchat, both of which have shareholder structures that give Mark Zuckerberg and Evan Spiegel, their respective founders, near total control of their companies. Uber had a similar structure: Kalanick and two close allies held shares that carried extra votes, giving them effective control of the company. For this very reason, shortly before his departure, Vox ran an article arguing that Kalanick could, if he wanted, remain at the company, “no matter how bad things get.”

Kalanick’s departure thus raises two questions. First, if Kalanick maintained control of the company, how was Benchmark Capital able to force him out? And second, even if they could dispose of Kalanick, why was Benchmark willing to ruin its founder-friendly reputation?

The first question has no easy answer. As a legal matter, so long as Kalanick retained control of the Board, he could remain CEO. And yet, he left, so there must have been some non-legal forces at work. Kalanick was likely motivated by a mix of greed and shame. Greed because if he thought the continued bad press from his presence was harming the company, then Kalanick’s own shares were worth less so long as he stayed on. Shame because no one likes to see their name associated with national scandal for weeks on end. One upshot of this is that in addition to more formal legal mechanisms such as shareholder voting and lawsuits, the market and social norms have a role to play in corporate governance.

The second puzzle is easier to solve: Benchmark sued Kalanick in order to salvage their investment. Venture capitalists seek to preserve their reputation as founder friendly in order to maintain access to the next generation of founders, to preserve their shot at the next Facebook. But Uber is the next Facebook; it was a once-in-a-generation investment, and protecting its value at this point is worth the potential reputational damage. And, given the extent of Kalanick’s misdeeds, there’s a chance that reputational damage will be minimal: the next generation of founders may blame Kalanick, not Benchmark, for the entire ordeal.

The question for founders and investors going forward is whether the Uber debacle marks a reversal in decades of Silicon Valley practice, or whether Kalanick’s behavior was so egregious—and generated so much media pressure—that the case remains an anomaly. The S&P 500’s recent decision to exclude Snap, because of their voting structure, suggests that there is a broader movement in the markets to exert pressure on founders. If that is so, Uber is not an exception, but rather the most high profile instance of investors slowly taking back control from founders.

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