ROTW: Y Combinator's Handshake Deal Protocol

Reading time: ~5 min.

The Handshake Deal Protocol

I’m using this protocol as a case study and noticed a few things. The linked article mentions that the protocol purposefully prevents certain behaviors. Which is an attribute of all protocols. The other benefit mentioned is how the protocol establishes an audit trail.

Because the steps of the Handshake Deal cannot occur in parallel, it’s possible to figure out who bailed on a deal.

My question is: what’s the relationship between protocols and the concept of path dependence? Is it a universal trait of protocols, like behavioral constraint is? Or do protocols regularly take advantage of both establishing and removing necessary sequences?

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It’s interesting that the article mentions Diamond dealers in passing. The diamond trade runs on the sight holder system developed by De Beers which is roughly similar to qualified investors invited to Demo Day and bidding on deals on young rough-Diamond companies. But the system does not actually work well and is apparently in trouble with the sight holders out for blood now that De Beers is weak ( I assume due to the Diamond crash from artificial diamonds)

I’m also reminded on Wild West handshake deals involving spitting on hands first, and the movie trope of cutting your palm to make bloody handshake deals. In both cases, the extra step is a bit awkward or painful and is a minor proof-of-commitment ex-ante. Of course there’s also ex-ante reputation loss for reneging.

Reposting from Bluesky:

Oh man, I have opinions and experiences:

  1. I’m glad that YC is helping establish something like this. It’s effectively a mini term-sheet.

  2. I’m surprised every time I talk to a founder and they take a no as a yes cause of weasel words. Weasel words are bad social protocol which founders should actually be trained to notice. Perhaps they need to play more Mafia/Werewolf during undergrad.

  3. The fact that this protocol hasn’t really spread is actually an indication that fouders are at best Clueless if not Loser class.

  4. People still back out after very clear email confirmation I now adopt a “signed termsheet/LOI or it’s not a yes” policy.

Even something non-binding like an LOI requires some level of paperwork and dealing with higher-ups. The willingness to deal with that friction is a stronger indicator of a “yes” than anything else I’ve seen.

New stuff for here:
The power of investors being able to control things like protocols and telling founders “how things are done” is highly damaging to founders. I’ve seen investors give mentoring talks to first time founders in accelerators where they sow seeds for founder behaviors which would give the investor an unfair advantage. Everything from setting expectations around valuation caps to how to negotiate.

So, controlling the protocol controls the process. For first time founders especially this can be poison to healthy growth.

The YC protocol is better than nothing and helps founders not sign really bad deals but it’s far from sufficient. Not only do founders have far more options than they recognize, they can also be in total control if they position correctly. All this assumes you have a good product that people actually want, like diamonds.

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To use the “hardness” idea from @0xstark there is hardness scarcity in venture deal-making, so there may be a limit to how well such protocols can work. The more powerful party will always try to allocate minimize hardness to themselves, or equivalently, maximize benefit of doubt/optionality for themselves.

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Interesting question about the relationship between protocols and path dependence. I think we can reasonably extend the statement “all models are wrong” to also apply to frameworks and protocols:

All models are false; all frameworks and protocols are provisional.

Protocols often emerge from and contribute to path dependence. They are both a product and a perpetuator of the historical and contextual pathways that have shaped them. This dynamic can result in cultural and technological lock-in, even when more advanced alternatives are available.

In other instances, protocols are deliberately designed or revised to break away from inefficient or outdated path dependencies, thereby introducing new pathways or possibilities. This aspect of protocols aligns with the idea that all frameworks and protocols are provisional and subject to change based on new information, insights, or changing conditions.

Protocolization represents an attempt to codify current shared knowledge, best practices, and procedural standards. Recognising the contingency and fallibility inherent in any such process acknowledges that today’s protocols may require future revision, updates, or even replacement as understanding evolves.

Similarly, deprotocolization shows a willingness to adapt and reform protocols in response to changing conditions and new evidence. Thus, both protocolization and deprotocolization demand epistemic humility to be pursued responsibly and effectively.

Love this.

If I had more time would explore how this could work on chain. But we still need a lot of foundational tech to be built before we reach that milestone.

On chain Capital formation is incredibly promising but we need better tooling to ensure accountability.