Any general partner thinking about raising a fund has faced the seemingly insurmountable challenge of the dreaded Due Diligence Questionnaire.
The DDQ is always presented by limited partners with a certain smug confidence, derived no doubt from the self satisfaction of having painstakingly assembled a rack fit for the Tower of London during its most insidious period as the European capital of medieval torture. These medieval torture devices, delivered now in daring contemporary fashion by email, are clearly the work of sophisticated minds who relish the competition and sport of crafting the most advanced, pitiless torture devices to render all prior devices irrelevant and amateurish.
Every LP on the verge of sharing their DDQ with a prospective GP takes a moment to outline the utter superiority of their torture device. Their DDQ goes beyond all others previously known in eliciting confessions at the swiftest rate.
It is believed among the creative geniuses behind these devices (because they openly share their dreams and aspirations) that at the mere sighting of their DDQ, GPs will begin to quiver in their penny loafers and begin a hasty retreat from the foolish notion of even trying to scale the impenetrable medieval fortress of the DDQ. That, they are quick to admit, would be the greatest accomplishment of the 10-page questionnaire they worked so feverishly to produce.
Without poking too much fun at the glee these authors enjoy, it is important to appreciate the intention of their work: At the center of the private equity offering memorandums (aka “the marketing materials”) and their assorted documents lies a confluence of, to borrow a phrase, lies, damn lies and statistics.
It is the proper job of the sophisticated LP to dig deep inside these marketing materials and understand what and who is precisely at the center of the attribution, success and strategy of each firm. The DDQ, like the medieval rack, is designed to pose the “tough questions” that can, when properly structured, force the confessions of truths and half-truths from even the least-forthcoming GPs.
LPs are not shy about stating their intentions in formulating these devices. They are trying to understand specifically who is doing what in each partnership.
Who is working really hard for their money and who isn’t? Who is planning to work even harder in the next fund and who isn’t? Who is coasting on the waves of their prior success and who wakes up every morning more hungry then ever to take names and generate returns? Who, on the other hand, has taken their eye off the ball and placed it instead on the latest property in Montana?
Who is really hands-on and who isn’t? Who is the real activist on the startup board and who just shows up to get some quiet time with his Blackberry? Who is working hard between board meetings to add value and who is silently ignoring CEO e-mails? Who has put their name on the line to fire a CEO and who just goes with the flow and prays for the best outcome?
To get to the bottom of these worthwhile questions, most DDQs will ask some important questions about attribution and deal history. They will try hard to make sure general partners have “skin in the game.” They will ask about the decision-making process and so on. But at the risk of taunting our torturers, it is conceivable that these DDQs don’t go far enough.
LPs must ask really tough questions to cut through the marketing spiel and get to the core of a partnership seeking to raise its next fund. So again, at the risk of creating ideas for the next Tower of London, we propose that limited partners add the following 10 directives to their DDQs:
1. List the board meeting schedules for the prior 12 months for each of your partners’ current boards. Highlight in italics any in-person board meetings and annotate telephonic attendance or absences.
2. Provide three examples of each partner’s involvement in extending and negotiating offer letters to new CEOs. Provide offer letters signed and dated by the partner.
3. Provide names and contact information for three CEOs that each of your partners was responsible for replacing or firing. State the names of other board members in each case and their role in the CEO change.
4. Provide an itemized budget for your firm for the next five years. On the revenue line, provide aggregate annual revenue based on management fees including the proposed fund.
5. Describe your firm’s vacation policy. If the policy differs from partner to partner, describe the policy by person or level (that is, managing partners, partners, principals, associates, administrative staff). Also explain the sabbatical policies of the firm, where sabbaticals reflect absences greater than four weeks. Name partners who have taken such sabbaticals over the last two years.
6. List the number of vacation days each of your partners took during the last 12 months, ignoring public holidays.
7. State the amount of each partner’s cash commitment to the overall GP commitment in your next fund as a percentage of that partner’s total net worth (including securities, real estate, boats, planes, etc.) Do not include management fees applied toward GP commitment.
8. Provide the street address, city, state and country of all real estate holdings, including primary residence, secondary residence and all vacation homes for each of your partners. Describe the percentage of time each partner spends at each residence.
9. Describe the ownership structure of the management company of your general partnership. List the percentage ownership by partner. List the vesting schedule for the management company and for each partner (if they differ).
10. Describe your firm’s exit policy for investments and the process for making decisions regarding exits. Provide examples of portfolio companies that received acquisition offers (since 2001) that were turned down by the board. Describe the decision-making around your partnership and your co-investors. What lessons were learned?
The previous 10 issues are worth checking into for those LPs truly seeking to peel back the venture capital partnership onion. It is hard to conceive that in the torture museum endowed with so many well-composed DDQs that any new ideas may exist, especially coming from a GP who may well be subjected to the DDQ. Such, however, is the price of transparency. If we all provide it, there is a good chance that we’ll all escape the Tower of London.
Bart Schachter and George Hoyem are managing partners with Blueprint Ventures, which makes seed-stage and early stage investments. Bart focuses on communications and IT infrastructure, wireless technologies, nanoelectronics, software and communications semiconductors. He sits on the boards of AirTight Networks, KeyEye Communications, LANDesk and wiSpry. Bart may be reached at