Last week, my mentor/friend asked me if I knew anyone who’s stellar at storytelling and would be willing to hold a 1-hour workshop about it with his mentorship group. I connected with my buddy who earned his chops podcasting and being a brilliant customer-oriented founder, specifically on the user journey.
And it got me thinking. Hmmmm, I wonder how long people take to prep for a workshop or talk designed to inform and educate. Which eventually led me to the question… How much time allocation might many event hosts underestimate when asking a speaker to speak at their event?
Well, outside of travel, set up, rehearsal time, and of course, the length of the talk/workshop itself.
So, over the last few days, I reached out to 68 friends, mentors, and colleagues who have been on the stage before, including:
VCs – who invest out of vehicles that range from $5M to $1B (sample-specific)
Angels – investing individuals, who have over $1M in net worth
Founders – both venture-backed and bootstrapped
Executives – Fortune 500 and startup
Journalists
Influencers – YouTubers and podcasters
Consultants/Advisors
Professors
And, those who’ve been on public stages with 1000+ in live viewership.
… and asked them 2 questions:
How long, in hours, do you take to prepare for a 1-hour talk?
For the purpose of slightly limiting the scope to this question, let’s say it’s on a topic you’re extremely passionate and well-versed in, and the audience is as, if not more, passionate than you are.
And if I said this was for a high-stakes event, that may change your career trajectory, would your answer change? If so, how long would you spend prepping?
50 responded, with numerical answers, by the time I’m writing this post, with a few results I found to be quite surprising. *pushing my nerd glasses*
As a result of my commitment to provide feedback for every founder who wants a second (or third) pair of eyes on their pitch deck, I’ve been jumping on 30-minute to 1-hour calls with folks. Although I’ve had this internal commitment ever since I started in venture, I didn’t vocalize it until earlier this year. And you know, realistically, this is not gonna scale well… at all. But hey, I’ll worry about that bridge when I cross it.
Something I noticed fairly recently, which admittedly may partly be confirmation bias ever since I became cognizant of it, is that there have been a significant number of founders currently fundraising who complain to me about:
Many VCs don’t have their investment thesis online/public.
Of those that are, VCs have “too broad” of a thesis.
So, it got me thinking and asking some colleagues. And I will be the first to admit this is all anecdotal, limited by the scope of my network. But it makes sense. That said, if you think I missed, overlooked, over- or underestimated anything, let me know.
The Exclusionary Biases
By virtue of specificity, you are, by definition, excluding some population out there. For example, in focusing only on potential investments in the Bay, you are excluding everyone else outside or can’t reach the Bay in one way or another. Here’s another. Let’s say you look for founders that are graduates from X, Y, or Z university. You are, in effect, excluding graduates from other schools, but also, those who haven’t graduated or did not have the opportunity to graduate at all.
The seed market example
Here’s one last one. This is more of an implicit specificity around the market. The (pre-) seed market is designed for largely two populations of founders:
Serial entrepreneurs, who’ve had at least one exit;
And, single-digit (or low double) employees of wildly successful ventures.
Why? You, as a founder, are at a stage where you have yet to prove product-market fit. Sometimes, not even traction to back it up. And when you’re unable to play the numbers game (like during the stages at the A and up), VCs are betting on the you and your team. So, to start off, we (and I say that because I’ve been guilty of overemphasizing this before) look into your background.
What did your professional career look like before this?
Do you have the entrepreneurial bone in your body?
Here’s some context of what the idea maze might look like in another post I wrote.
The delta between a good investor and a great investor
Let’s say an investor were to be approached by two founders with the exact same product, almost identical team, same amount of traction, same years of experience, and let’s, for argument’s sake, have spent the same number of years contemplating the problem, but the only difference is where they came from. One is a first-time founder from [insert corporate America]. The other is the 5th employee of X amazing startup. Many VCs I’ve talked with would and have defaulted on the latter. And the answer is reinforced if the latter is a founder with an exit.
The question wasn’t made to be fair. And, it’s not fair. To the VCs’ credit, their job is to de-risk each of their investments. Or else, it’d be gambling. One way to do so is to check the founder’s professional track record. But the delta here that differentiates the good from the great investor is that great investors pause after given this information and right before they make a conclusion. That pause that gives them time to ask and weigh in on:
What is this founder(s)’ narrative beyond the LinkedIn resume?
Shifting the scope
It’s not about the quantitative, but about the qualitative. It’s not about the batting average, but about the number and distance of the home runs. So instead of the earlier question:
How long have you spent in the idea maze?
And instead…
What have you learned in your time in the idea maze?
Similarly, from what I’ve gathered from my friends in deep/frontier tech, instead of:
How many publications have you published?
And instead…
Where are you listed in the authorship of that research? The first? The second? The 20th?
For context of those outside of the industry, where one is listed defines how much that person has contributed towards the research.
As a slight nuance, there are some publications, where the “most important” individual is listed last. Usually a professor who mentored the researchers, but not always.
And, how many times has your research been cited?
Some more context onto specificity
Some other touch points on why (public) investment theses are broad:
FOMO. Investors are scared of the ‘whats if’s’. The market opportunity in aggregate is always smaller than the opportunity in the non-aggregate.
Hyper-specific theses self-selects founders out who think they’re not a ‘perfect fit’. Very similar to job posts and their respective ‘requirements’.
Some keep their thesis broad in the beginning before refining it over time. This is more of a trend with generalist funds.
Theses are broad by firm, but more specific by partner. The latter of which isn’t always public, but can generally be tracked by tracking their previous investments, Twitter (or other social media) posts, and what makes them say no. Or simply, by asking them.
The pros of specificity
Up to this point, it may seem like specificity isn’t necessarily a good thing for an investor. At least to put out publicly.
But in many cases, it is. It helps with funneling out noise, which makes it easier to find the signals. It may mean less deal flow, which means less ‘busy’ work. But you get to focus more time on the ones you really care about. And hopefully lead to better capital and resource allocation. The important part is to check your biases when honing the thesis. Also, happens to be the reason why LPs (limited partners – investors who invest in VCs) love multi-GP funds (ideally of different backgrounds). Since there are others who will check your blind side.
Specificity also works in targeting specific populations that may historically be underrepresented or underestimated. Like a fund dedicated to female founders or BIPOC founders or drop-outs or immigrant founders. Broad theses, in this case, often inversely impact the diversity of investments for a fund. When you’re not focusing on anyone, you’re focusing on no one. Then, the default goes back to your track record of investments. And your track record is often self-perpetuating. If you’ve previously backed Stanford grads, you’re most likely going to continue to attract Stanford grads. If you’ve previously backed white male founders, that’ll most likely continue to be the case. In effect, you’re alienating those who don’t fit the founder archetype you’ve previously invested in.
In closing
We are, naturally, seekers of homogeneity. We naturally form cliques in our social and professional circles. And the more we seek it – consciously and subconsciously, the more it perpetuates in our lives. Focus on heterogeneity. I’m always working to consider biases – implicit and explicit – in my life and seeing how I’m self-selecting myself out of many social circles.
Whether you, my friend, are an investor or not. Our inputs define our outputs. Much like the food we put in our body. So, if there’s anything I hope you can take away from this post, I want you to:
Take a step back,
And examine what personal time, effort, social, and capital biases are we using to set the parameters of our investment theses.
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Friday last week, I jumped on a phone call with a founder who reached out to me after checking out my blog. In my deep fascination on how she found and learns from her mentors, she shed some light as to why she feels safe to ask stupid questions. The TL;DR of her answer – implicit trust, blended with mutual respect and admiration. That her mentors know that when she does ask a question, it’s out of curiosity and not willing ignorance – or naivety.
But on a wider scope, our conversation got me thinking and reflecting. How can we build psychological safety around questions that may seem dumb at first glace? And sometimes, even unwittingly, may seem foolish to the person answering. The characteristics of which, include:
A question whose answer is easily Google-able;
A question that the person answering may have heard too many times (and subsequently, may feel fatigue from answering again);
And, a question whose answer may seem like common sense. But common sense, arguably, is subjective. Take, for example, selling losses and holding gains in the stock market may be common sense to practiced public market investors, but may feel counter-intuitive to the average amateur trader.
We’re Human
But, if you’re like me, every so often, I ask a ‘dumb’ question. Or I feel the urge to ask it ’cause either I think the person I’m asking would provide a perspective I can’t find elsewhere or, simply, purely by accident. The latter of which happens, though I try not to, when I’m droning through a conversation. When my mind regresses to “How are you doing?” or the like.
To fix the latter, the simple solution is to be more cognizant and aware during conversations. For the former, I play with contextualization and exaggeration. Now, I should note that this isn’t a foolproof strategy and neither is it guaranteed to not make you look like a fool. You may still seem like one. But hopefully, if you’re still dying to know (and for some reason, you haven’t done your homework), you’re more likely to get an answer.
Three moons ago, I jumped on a call with a founder who was in the throes of fundraising and had half of his round “committed”. And yes, he used air quotes. So, as any natural inquisitive, I got curious as to what he meant by “committed”. Turns out, he could only get those term sheets if he either found a lead or could raise the other half successfully first. Unfortunately, he’s not the only one out there. These kinds of conversations with investors have been the case, even before COVID. But it’s become more prevalent as many investors are more cautious with their cash. And frankly, a way of de-risking yourself is to not take the risk until someone else does.
I will say there are many funds out there where as part of the fund’s thesis, they just don’t lead rounds. But your first partner… you want them to have conviction.
Just like, no diet is going to stop me from having my mint chocolate chip with Girl Scout Thin Mints, served on a sugar cone. I’m salivating just thinking about it, as the heat wave is about to hit the Bay. An investor who has conviction will not let smaller discrepancies, including, but not limited to:
Crowded cap table,
No CTO,
College/high school dropout,
Lower than expected MRR or ARR,
No ex-[insert big tech company] team members,
Or, no senior/experienced team members,
… stop them from opening their checkbook. And just like I’ll find ways to hedge my diet outlier, through exercise or eating more veggies, an investor will find ways to hedge their bets, through their network (hiring, advisors, co-investors, downstream investors), resources, and experience.
So, what is that telltale sign of a lack of conviction?
I will preface by first saying, that the more you put yourself in front of investors, the more you’ll be able to develop an intuition of who’s likely to be onboard and who’s likely not to. For example, taking longer than 24 hours to respond to your thank you/next steps email after that pitch meeting. Or, on the other end, calling someone “you have to meet” mid-meeting and putting you on the line.
It seems obvious in retrospect, but once upon a time, when I was fundraising, I just didn’t let myself believe it was true. That investors just won’t have conviction when they ask:
Who else is interested?
A close cousin includes “Who else have you talked to?” (And what did they say?). If their decision is contingent – either consciously or subconsciously – with benchmarking their decision on who else is going to participate (or lead), you’re not talking to a lead (investor). And that initial hesitation, if allowed manifest further, won’t do you much good in the longer run, especially when things get bumpy for the company. Robert De Niro once said, in the 1998 Ronin film,
“Whenever there is any doubt, there is no doubt.”
You want investors who have conviction in your business – in you. Who’ll believe in you through thick and thin. After all, it’s a long-term marriage. Admittedly, it takes time and diligence to understand what kind of investor they are.
In closing
Like all matters, there are always other confounding and hidden variables. And though no “sign” is your silver bullet for understanding an investor’s conviction. Hopefully, this is another tool you can use from your multi-faceted toolkit.
From spending time with some of the smartest folks on both sides of the table and from personal observations, even if it’s anecdotal, the sample size should be significant enough to put weight behind the hypothesis. And, if I ever find myself wanting to ask that question, I aim to be candid, and tell founders that I’m not interested.
It’s been a trying time for founders to fundraise in these turbulent times. On one end, you have investors who took a U-turn on plans to invest this year. On the other, you have investors still deploying or looking to deploy capital. The latter further breaks down into: (a) investors who are taking more calculated bets – raising the bar for the kind of startup that gets the capital, and (b) investors who find the opportunity to invest in the down markets. The latter cohort of the latter cohort seems to hold truer at and prior to the pre-seed stages among microfunds and angel groups.
The Tightening of the Market
Disregarding the investors who aren’t deploying capital anymore, it’s been harder than ever to raise. Here’s why:
Anecdotally, more startups are looking to fundraise. Many have pushed up their fundraising schedules.
The standard is much higher now than before. And that includes a stronger consideration for the problem you’re addressing. Is it anti-fragile? Is it recession-proof? If your numbers are down now, will they eventually ‘flip’ back on track post-quarantine?
Valuations are taking a hit. Where before your startup may have been overvalued (especially in Silicon Valley), many startups are facing “more realistic” round sizes. And flat or down rounds are more prevalent.
When investors can’t meet founders in-person, they’re resorting to data, data, data. Investors no longer have the luxury to benchmark a gut check over Zoom/email, as they would have in noticing micro-gestures and other situational context clues. Anecdotally, investors are spending much more time and putting much more weight on diligence than before.
And, that’s why founders, more than ever, should (re)consider fundraising strategies. This was something that I learned when I was on the operating side and at one point, working on the fundraising front for Localwise.
Much like when high school students apply for college, founders should have a three-tiered list – SMR, as I like to call it:
Safety,
Meet,
And, reach.
Safety
Safety investors are those that are definitely going to take the meeting. And will most likely invest in you (i.e. at the idea stage, this mostly comprises of family, friends, and colleagues, maybe even early fans via crowdfunding). Admittedly, they can only contribute small sums of money. Each check also carry little to no strategic weight on the cap table.
Meet
Meet investors are investors that will most likely take the first meeting, but you’ll need to do a little leg work to get them to invest. Many of these will most likely stick to being participants than leads in any round. They carry some strategic weight on the cap table – in the capacity of their network, their brand, or advice.
Reach
Your reach investors will be your greatest sponsors. The people who have the highest potential to get you hitting the ground running. These folks usually have crowded inboxes already. And you’ll need to figure out how to best reach them. Unless they reach out to you, you will most likely fall just short of their gold standard. But once you stget these onboard, your relationship will set you up for reaching your next milestone better than any other individual partnership. At the same time, they will be the ones who are most likely going to have true conviction behind your product, your market insight, and your team. They typically lead rounds, and carry great strategic value to your startup (i.e. top tier investors, SMEs, product leaders in your respective vertical). For lack of better words, your ‘dream girl’ or ‘guy’.
Your Priorities
When pitching (and practicing your pitch), go for a bottom-up approach. Safety, then meet, then finally reach. And ideally, by the time you’re pitching to your ‘dream girl’ or ‘guy’, you’d have refined your pitch that best fits their palate.
When prioritizing time and effort, go top-down. Since you have limited bandwidth, spend the most time doing diligence on your reach investors. Then meet. And if you still have time, safety.
Diligence and Reaching Out
During your diligence process, look at their team, their individual and collective experience. Is their partnership, especially the checkwriters, diverse? Were they former operators? Or career VCs? And based on what they have, what do you, as a founder, need the most right now? Also, to better understand the marriage you’ll be getting in to, talk to their portfolio startups and investors that have worked with them before. Pay special attention to the the venture bets that didn’t work out. Was there a break up? If there was, what was it like? How did the investor help them navigate tough times?
It’s easy to be positive and cohesive when things are working out, but how does that investor react when things aren’t going as expected?
After talking to the (ex-)portfolio founders, if you feel like they have a good grasp on what you’re working on and are excited for you, ask them for an intro. Focus on those founders who have gone through the idea maze in your respective vertical, or an adjacent one. If you’re defining a new vertical, or that investor has just never invested in your vertical, but has expressed public interest of pursuing investments in yours, ask founders who have the same or a similar business model to yours. After all, that’s going to be the kind of solid warm intro you want.
In Closing
Though there are other ways to get in front of investors (some more questionable and/or gutsy than others), including, but not limited to:
Warm intros from friend/mutualLinkedIn connection,
Cold email/DM,
Reaching out to a more junior team member (scout/analyst/associate/principal),
Presenting at accelerator/incubator Demo Days,
Presenting at a hot conference, like TC Disrupt or SXSW,
Volunteering at the same non-profit as them,
Auditing their lecture at Stanford,
Or, squeezing into their elevator (although most VC offices are pretty lateral)…
… anecdotally, it seems many founders overlook the means of getting an intro from a VC’s portfolio.
I jumped on a call with my good buddy, incredible founder and one of the most magnanimous people that I know, Mike, not too long ago. And no, he did not pay me to say that. As always, we nerded about everything on the face of this planet, but one thing in particular stood out to me. And inevitably manifested into the foundation of this #unfiltered post. He said, just 3 words:
“Words are food.”
The more we delved into this rabbit hole, the more robust the metaphor began. But for the sake of not running your ear off, I’ll cover just one facet of our parallel.
Compliments are sweets. They’re great in moderation, but too many give you cavities. They wrap up a great meal, but you cannot live your life only indulging in compliments. On the other hand, constructive criticism are your vegetables. They may not taste the best, but they’re healthy for you. And a healthy diet should consist of mostly fruits and veggies. Yes, brussel sprouts and eggplants too. Of course, it’s important to note that blatant criticism, like “You suck” or “You’re dumb” is garbage. They neither taste good nor are they healthy for you. You can smell it from miles away. So just steer clear.
After all, you are what you eat. 😀
Empathy in Words
In the past 4 months, we are all going through a transitory stage in our lives – some more drastic than others. Some of us have experienced the deaths of loved ones. Some, a test of relationship integrity. Others, career shifts and a change in household income. For those of you who have been affected by the job market, my friend passed me this resource which I hope you’ll find use in honing your job search. Anecdotally, it seems pretty accurate.
And almost everyone, a dietary change and restriction, due to the market’s supply and demand. And it’s more important a time than any (not that you shouldn’t when the curve flattens and the markets recover), be empathetic.
Be kind – with your actions and your words. In these times, it’s so easy to be caught up in what’s not going right in your life, but you’re not alone. You never are.
Empathy in Business Now
Although this applies to so many different aspects of our lives, I’ve found its pertinence on the business front recently. When the focus of businesses now is on cash preservation rather than growth, which I’ve alluded to in previous posts (1. cash in private markets, 2. heeding advice , 3. brand as a moat), aggressive decisions can be tough. As the saying goes, measure twice, cut once.
Here are some examples of said (preemptive) decisions I’ve seen from founders so far:
Reallocating 30% of the company budget to the core business from expansion and venture bets (70-20-10 rule of thumb to 100-0-0)
50% cut to CEO salary, 10% cut to management, 5% from everyone else, to try to minimize layoffs
100% cut to founder(s)’ salary, 35% cut to management, everyone else keeps theirs the same, while offering healthcare benefits for temporary workers/contractors
The conclusion for some founders may reach the point of laying off people who followed you believing in your dream. You can check out Mark Suster‘s, Managing Partner at Upfront Ventures, rubric for questions you need to consider in empathetic moments of business decisiveness.
Empathy won’t change decisions. The tough, but true remarks are your vegetables. People will still have to eat them, but be understanding of where the people eating the food you cooked up are coming from. Rather than boil your brussel sprouts, offer crispy ones with a soy glaze, a little heat, and a layer of bonito flakes.
Perspectives Forward
Recently, I had the fortune of connecting with a founder whose parents were refugee who found sanctuary in the states. She put things wonderfully into perspective, when comparing the current situation to the one she was familiar with as a child.
“There are 2 camps of refugees: (1) those who want things to go back to the way they were before, and (2) those who move forward knowing that life will never return to the ‘normal’ they once knew.
“And those who progress forward are those who believe in the latter.”
When the dust settles after all of this, life won’t ever be the same as it was 4 months ago. The hospitality, transportation, travel, and service industries, just to name a few, will irrevocably change. You friends and family may have lost dear ones.
Alas, I’m an optimist. And I know that we’re going to come out stronger than we were when we went in. We’re going to have to get used to a new diet. I dare say, even a new vernacular.
#unfiltered is a series where I share my raw thoughts and unfiltered commentary about anything and everything. It’s not designed to go down smoothly like the best cup of cappuccino you’ve ever had (although here‘s where I found mine), more like the lonely coffee bean still struggling to find its identity (which also may one day find its way into a more thesis-driven blogpost).Who knows? The possibilities are endless.
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My friend, Rouhin, sent me this post by a rather angry fellow, which he and I both had a good chuckle out of, yesterday about how VC is a scam. In one part about startup growth, the author writes that VCs only care about businesses that double its customer base.
The author’s argument isn’t completely unfounded. And it’s something that’s given the industry as a whole a bad rap. True, growth and scalability are vital to us. That’s how funds make back their capital and then some. With the changing landscape making it harder to discern the signal from the noise, VCs are looking for moonshots. The earlier the stage, the more this ROI multiple matters. Ranging from 100x in capital allocation before the seed stage to 10x when growth capital is involved. But in a more nuanced manner, investors care not just about “doubling”, unilaterally, but the last time a business doubles. We care less if a lemonade stand doubles from 2 to 4 customers, than when a lemonade corporation doubles from 200 to 400 million customers, or rather bottles, for a more accurate metric.
After early startup growth
Of course, in a utopia, no businesses ever plateau in its logistical curve – best described as it nears its total TAM. That’s why businesses past Series B, into growth, start looking into adjacent markets to capitalize on. For example, Reid Hoffman‘s, co-founder of LinkedIn, now investor at Greylock, rule of thumb for breaking down your budget (arguably effort as well) once you reach that stage is:
70% core business
20% business expansion – adjacent markets that your team can tackle with your existing resources/product
10% venture bets – product offerings/features that will benefit your core product in the longer run
And, the goal is to convert venture bets into expansionary projects, and expansionary projects to your core business.
Simply put, as VCs, we care about growth rates after a certain threshold. That threshold varies per firm, per individual. If it’s a consumer app, it could be 1,000 users or 10,000 users. And only after that threshold, do we entertain the Rule of 40, or the minimum growth of 30% MoM. Realistically, most scalable businesses won’t be growing astronomically from D1. (Though if you are, we need to talk!) The J-curve, or hockey stick curve, is what we find most of the time.
The Metrics
In a broader scope, at the early stage, before the critical point, I’m less concerned with you doubling your user base or revenue, but the time it takes for your business to double every single time.
From a strictly acquisition perspective, take day 1 (D1) of your launch as the principal number. Run on a logarithmic base 2 regression, how much time does it take for your users (or revenue) to double? Is your growth factor nearing 1.0, meaning your growth is slowing and your adoption curve is potentially going to plateau?
Growth Factor = Δ(# of new users today)/Δ(# of new users yesterday) > 1.0
Why 1.0? It suggests that you could be nearing an inflection point when your exponential graph start flattening out. Or if you’re already at 1.0 or less, you’re not growing as “exponentially” as you would like, unless you change strategies. Similarly, investors are looking for:
ΔGrowth Factor > 0
Feel to replace the base log function with any other base, as the fundamentals still hold. For example, base 10, if you’re calculating how long it takes you to 10x. Under the same assumptions, you can track your early interest pre-traction, via a waitlist signup, similarly.
While in this new pandemic climate (which we can admittedly also evaluate from a growth standpoint), juggernauts are forced to take a step back and reevaluate their options, including their workforce, providing new opportunities and fresh eyes on the gig economy, future of work, delivery services, telehealth, and more. Stay safe, and stay cracking!
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Over the past decade, stretching its roots to the dot-com boom, there have been more dialogue and literature around entrepreneurship. In a sense, founding a business is easier than it’s ever been. But like all things in life, there’s a bit more nuance to it. So, what’s the state of startups right now?
Lower Barriers to Entry
A number of factors have promoted such a trend:
There are an increasing number of resources online and offline. Online courses and ed-tech platforms. Fellowships and acceleration/incubation programs. Investor office hours and founder talks. YouTube videos, online newsletters, and podcasts.
The low-code/no-code movement is also helping bridge that knowledge gap for the average person. Moreover, making it easier for non-experts to be experts.
The gig economy have created a fascinating space for solopreneurship to be more accessible to more geographies.
Demand (by consumers and investors) fuels supply of startups, through knowledge and resource sharing. Likewise, the supply of startups, especially in nascent markets, fuels demand in new verticals. So, the ecosystem becomes self-perpetuating on a positive feedback loop. As Jim Barksdale, former Netscape CEO, once said:
“There are only two ways I know of to make money – bundling and unbundling.”
Bundling
Unbundling
Market Maturity
Market Nascency
Horizontalization
Verticalization
Breadth
Depth
Execution Risk Bias
Market/Tech Risk Bias
Right now, we’re at a stage of startup market nascency, unbundling the knowledge gap between the great and the average founder. This might seem counter-intuitive. After all, there’s so much discourse on the subject. There’s a good chance that you know someone who is or have thought about starting a business. But, I don’t believe we’re even close to a global maximum in entrepreneurship. Why?
Valuations are still on the rise. Six years back, $250K was enough runway for our business to last until product-market fit. Now, a typical seed round ranges from $500K-$2M. A decade ago, $500M was enough to IPO with; now it only warrants a late-stage funding round. By capitalistic economic theory, when a market reaches saturation, aka perfect competition, profit margins regress to zero. Not only are there still profits to be made, but more people are jumping into the investing side of the business.
Yes, increasing valuations are also a function of FOMO (fear of missing out), discovery checks (<0.5% of VC fund size), super duper low interest rates (causing massive sums of capital to surge in chase yields), and non-traditional venture investors entering as players in the game (PE, hedge funds, other accredited investors, (equity) crowdfunding platforms). It would be one thing if they came and left as a result of a (near) zero sum game. But they’re here to stay. Here’s a mini case study. Even after the 2018 drop in Bitcoin, venture investors are still bullish on its potential. In fact, there are now more and more specialized funds to invest in cryptocurrency and blockchain technology. Last year, a16z, one of the largest and trendsetting VC players, switched from a VC to an RIA (registered investment advisor), to broaden its scope into crypto/blockchain.
Great founders are scarce
“The only uncrowded market is great. There’s always a fucking market for great.”
– Tim Ferriss, podcaster, author, but also notably, an investor and advisor for companies, like Facebook, Uber, Automattic and more
Even if founders now have the tools to do so, it doesn’t mean they’ll hit their ambitious milestones. For VCs, it only gets harder to discern the signal from the noise. Fundamentally, there’s a significant knowledge delta – a permutation of misinformation and resource misallocation – in the market between founders and investors, and between average founders and great founders.
The Culinary Analogy
Here’s an analogy. 30 years prior, food media was still nascent. Food Network had yet to be founded in 1993. The average cook resorted to grandma’s recipe (and maybe also Cory’s from across the street). There was quite a bit of variability into the quality of most home-cooked dishes. And most professional chefs were characteristically male. Fast forward to now, food media has become more prevalent in society. I can jump on to Food Network or YouTube any time to learn recipes and cooking tips. Recipes are easily searchable online. Pro chefs, like Gordon Ramsay, Thomas Keller, and Alice Waters, teach full courses on Masterclass, covering every range of the culinary arts.
Has it made the average cook more knowledgeable? Yes. I have friends who are talking about how long a meat should sous vide for before searing or the ratio of egg whites to egg yolks in pasta. Not gonna lie; I love it! I’ll probably end up posting a post soon on what I learned from culinary mentors, friends, and myself soon.
Is there still a disparity between the average cook and a world-class chef? Hell ya! Realistically I won’t ever amount to Wolfgang Puck or Grant Achatz, but I do know that I shouldn’t deep fry with extra virgin olive oil (EVOO) ’cause of its low smoke point.
Great businesses are scarcer
The same is true for entrepreneurship. There are definitely more startups out there, but there hasn’t been a significant shift in the number of great startups. And the increase in business tools has arguably increased the difficulty to find business/product defensibility. It’s leveled the playing field and, simultaneously, raised the bar. So yes, it’s easier to start a business; it’s much harder to retain and scale a business.
It’s no longer enough to have an open/closed beta with just an MVP. What startups need now is an MLP (minimum lovable product). Let’s take the consumer app market as an example.
The Consumer App Conundrum
Acquiring consumers has gotten comparatively easier. Paid growth, virality, and SEO tactics are scalable with capital. More and more of the population have been conditioned to notice and try new products and trends, partly as a function of the influencer economy. But retaining them is a different story.
So, consumers have become:
More expensive to acquire than ever before. Not only are customer acquisition costs (CAC) increasing, with smaller lifetime values (LTV), but your biggest competitors are often not directly in your sector. Netflix and YouTube has created a culture of binge-watching that previously never existed. And since every person has a finite 24 hours in a day, your startup growth is directly cutting into another business’s market share on a consumer’s time.
And, harder to retain. It’s great that there’s a wide range of consumer apps out there right now. The App Store and Play Store are more populated than they’ve ever been. But churn has also higher now than I’ve seen before. Although adoption curves have been climbing, reactivation and engagement curves often fall short of expectations, while inactive curves in most startups climb sooner than anticipated. Many early stage ventures I see have decent total account numbers (10-30K, depending on the stage), but a mere 10-15% DAU/MAU (assuming this is a core metric). In fact, many consumers don’t even use the app they downloaded on Day 2.
Luckily, this whole startup battlefield works in favor of consumers. More competition, better features, better prices. 🙂
So… what happens now?
It comes down to two main questions for early-stage founders:
Do you have a predictable/sensible plan to your next milestone? To scalability?
Are you optimizing for adoption, as well as retention and engagement?
With so many tools for acquisition hacks, growth is relatively easy to capture. Retention and engagement aren’t. And in engagement, outside of purely measuring for frequency (i.e. DAU/MAU), are you also measuring on time spent with each product interaction?
How are you going to capture network effects? What’s sticky?
Viral loops occur when there’s already a baseline of engagement. So how do you meaningfully optimize for engagement?
From a bottom-up approach (rather than top-down by taking percentages of the larger market), how are you going to convert your customers?
How do you measure product-market fit?
What meaningful metric are you measuring/optimizing?
Why is it important?
What do you know (that makes money) that everyone else is either overlooking or severely underestimating?
What are you optimizing for that others’ (especially your biggest competitors) cannot?
Every business optimizes for certain metrics. That have a set budget used to optimize for those metrics. And because of that, they are unable to prioritize optimizing others. So, can you measure it better in a way that’ll hold off competition until you reach network effects/virality?
Building a scalable business is definitely harder. And to become the 10 startups a year that really matter is even more so. By the numbers, less likely than lightning striking you. In my opinion, that just makes trying to find your secret sauce all the more exciting!
If you think you got it or are close to getting it, I’d love to chat!
Over the weekend, my friend and I were chatting about the next steps in her career. After spending quite some time ironing out a startup idea she wants to pursue, she was at a crossroads. Should she leave her 9-to-5 and pursue this idea full-time, or should she continue to test out her idea and keep her full-time job?
Due to my involvement with the 1517 Fund and since some of my good friends happen to be college dropouts, I spend quite a bit of time with folks who have or are thinking about pursuing their startup business after dropping out. This is no less true with 9-to-5ers. And some who are still the sole breadwinner of their family. Don’t get me wrong. I love the attention, social passion, literature and discourse around entrepreneurship. But I think many people are jumping the gun.
Ten years back, admittedly off of the 2008 crisis, the conversations were entirely different. When I ask my younger cousins or my friends’ younger siblings, “what do you want to be when you grow up?” They say things like “run my own business”, “be a YouTuber”, and most surprisingly, “be a freelancer”. From 12-yr olds, it’s impressive that freelancing is already part of their vocabulary. It’s an astounding heuristic for how far the gig economy has come.
Moreover, media has also built this narrative championing the college dropout. Steve Jobs and Apple. Bill Gates and Microsoft. And, Mark Zuckerberg and Facebook. There’s nothing wrong in leaving your former occupation or education to start something new. But not before you have a solid proof of concept, or at least external validation beyond your friends, family and co-workers. After all, Mark Zuckerberg left Harvard not to start Facebook, but because Facebook was already taking off.
Honing the Idea
The inherent nature of entrepreneurship is risk. As an entrepreneur (and as an investor), the goal should always be to de-risk your venture – to make calculated bets. To cap your downside.
Marc Benioff started his idea of a platform-as-a-service in March 1999. Before Marc Benioff took his idea of SaaS full-time, he spent time at Oracle with his mentor, Larry Ellison, honing this thesis and business idea. When he was finally ready 4 months later, he left on good terms. Those terms were put to the test, when in Salesforce’s early days, VCs were shy to put in their dollar on the cap table. But, his relationship he had built with Larry ended up giving him the runway he needed to build his team and product.
Something that’s, unfortunately, rarely talked about in Silicon Valley and the world of startups is patience. We’ve gotten used to hearing “move fast and break things”. Many founders are taught to give themselves a 10-20% margin of error. What started off as a valuable heuristic grew into an increase in quantity of experiments, but decrease in quality of experiments. Founders were throwing a barrage of punches, where many carried no weight behind them. No time spent contemplating why the punch didn’t hit its mark. And subsequently, founders building on the frontlines of revolution fight to be the first to market, but not first to product-market fit. Founders fight hell or high water to launch their MVP, but not an MLP, as Jiaona Zhang of WeWork puts it.
In the words of the one who pioneered the idea of platform-as-a-service,
The more transformative your idea is, the more patience you’ll need to make it happen.”
– Marc Benioff
As one who sits on the other side of the table, our job is to help founders ask more precise questions – and often, the tough questions. We act more as godmothers and godfathers of you and your babies, but we can’t do the job for you.
The “Tough” Questions
To early founders, aspiring founders, and my friends at the crossroads, here is my playbook:
What partnerships can/will make it easier for you to go-to-market? To product-market fit? To scalability?
What questions can you ask to better test product feasibility?
How can you partner with people to ask (and test) better questions?
What is your calculus that’ll help you systematically test your assumptions?
Do you have enough cash flow to sustain you (and your dependents) for the next 2 years to test these assumptions?
Simultaneously, it’s also to important to consider the flip side:
What partnerships (or lack thereof) make your bets more risky?
How can you limit them? Eliminate them?
And in sum, these questions will help you map out:
At this point in your career, does part-time or full-time help you better optimize yourself for reaching my next milestone?
Founders take on many different types of risk when creating a business. Subsequently, investors constantly put founders and their businesses under scrutiny using risk as a benchmark. In broad terms, in my experience, they largely fall under two categories: execution risk and market risk.
Where I first introduced the dichotomy of market and execution risk in the frame of idea-market fit.
Some Background
Contrary to popular belief, VCs are some of the most risk-averse people that I know. As an investor, the two goals are to:
Take calculated bets, via an investment thesis and diligence;
And de-risk each investment as much as possible.
From private equity to growth equity to venture capital, more and more investors are writing ‘discovery checks.’ Typically, funds write checks that are 2-4% of their fund size. For example, $100M fund usually write $2-4M initial checks. Yet, more and more investors are writing increasingly smaller check sizes (0.1-0.5% fund size). In the $100M fund example, that’s $100-500K checks. This result is a function of FOMO (fear of missing out), as well as a proving grounds for founders before the fund’s partners put in their core dollar. Admittedly, this upstream effect does lead to:
Less diligence before checks are written (closing within 48-72 hours on the extreme end, and inevitably, more buyer’s remorse);
Less bandwidth allotted per portfolio startup (even less for startups given discovery checks);
The risks for a startup investor are fairly obvious, and so are the rewards. Effectively, an early-stage investor is betting millions of dollars on a stranger’s claim. But not all risks are the same.
In the eyes of a VC, an execution risk is categorically less risky than a market risk. Furthermore, even within the category of execution, a product risk is usually less risky than a team risk.
Execution Risk
Why are more and more early-stage investors defaulting to enterprise over consumer startups?
Two reasons.
Enterprise startups often run on a SaaS (software-as-service) subscription business model. There will always be recurring revenue, assuming the product makes sense. For an investor, that’s foreseeable ROI.
It’s an execution risk, not a market risk. Often times, an enterprise tech startup is the culmination of existing frustrations prevalent in the respective industry already. And therefore, have reasonably stable distribution channels and go-to-market strategies.
Using discovery checks, and playing pre-core business, VCs can evaluate team risk. Between the discovery check and their usual ‘core checks’, VCs can also test their initial hypotheses on their founders.
As a startup grows, especially after realizing product-market fit, market risk becomes more of a product risk. Best illustrated by market share, product risk is when a product fails to meet the expectations of their (target) customers. It can be evaluated via a permutation of key metrics, like unit economics, NPS, retention and churn rate. There is an element of technological risk early on in the startup lifecycle for deep tech ventures, but admittedly, it’s not a vertical I have my finger on the pulse for and can share insight into.
Given that VCs are either ex-operators or have seen a breadth of startup life-cycles, VCs can best use their experience to mitigate a startup’s execution risk.
Market Risk
Market risk requires a prediction of human/market behavior. And unfortunately, the vast majority of investors can predict about the constant evolution of human behavior as well as a founder can. What does that mean? Founders and VCs are walking hand-in-hand to gain market experience. It, quite excitingly, is an innovator’s Rubrik’s cube to solve.
Market risk is frequently attributed to consumer tech products. In an increasing proliferation of consumer startups, consumers have become more expensive to acquire and harder to retain. Distribution channels change frequently and are determined by political, economic, technological, and social trends.
In Closing
Every VC specializes in tackling a certain kind of risk. But founders must quickly adapt, prioritize, and tackle all the above risks at some point in the founding journey. As Reid Hoffman, co-founder of LinkedIn, famously said:
“An entrepreneur is someone who will jump off a cliff and assemble an airplane on the way down.”
