OK I admit it. I’m reposting and expanding upon a comment I left on Paul Kedrosky’s blog post The Coming Super-Seed Crash. But whenever I write a lot, it just seems like such a shame to leave it hidden in somebody else’s post, somewhere else on the web…
Paul talked about how there was going to be a crash of super seed funds. I’m not sure I agree with that. There simply aren’t enough of them to characterize some sort of bubble. I think the issue is more about what they’re investing in, which at the moment is mostly internet startups.
To recap my comment, which was in response to Chris Sacca’s comment, and also to continue this post and to add to my thinking:
…But somehow, perhaps this discussion shouldn’t be about the super seed funds. To me, they are employing the correct strategy in the climate of (mostly) internet startups that they are investing in, which is there are too damn many of them and how does one pick the right one(s)?
To me, the issue is not the super seed funds but rather the looming bubble that I believe is forming in the internet only startup space. To give some data, which Sacca asked for!, some thoughts:
1. Too many me-too startups, and they are getting funded too! it’s been super hard to find those gems of unique ideas. It’s so easy to just launch something and everyone thinks they can just build something and it will grow huge.
2. Sacca’s comment about undisciplined angels is very true. At the last YC, I knew practically no one at the first session of YC whereas in years past I knew over half the room. There are many angels newly jumping into the fray and with not enough experience.
3. When the new angels start investing, they can only invest in whatever is available at that moment; they’ve already missed the Groupons, Gilts, Foursquares, etc of the world, so they must pick from what is available. In their excitement, they fund them but without realizing that there are so many me-toos out there, with the exception of those rare unique gems.
4. People who shouldn’t be entrepreneurs are becoming entrepreneurs. One of the first things I do when I meet entrepreneurs is try to talk them out of it. Many can’t take it and it’s good we found out now before we fund them and realize they didn’t have the right attitude and/or staying power. But too many are jumping in and can only see the good parts (ie. I’m building the next Google and I’m gonna be rich!) but don’t realize how much effort it takes to get there.
5. So much froth is being stirred up about becoming entrepreneurs. Every university is starting incubators, everybody wants to be an entrepreneur. Your friends make you feel like an idiot if you’re not starting a new biz. This is bad. Social pressure for you to become something you’re not, or under the wrong circumstances (ie. your life stage may be beyond this, or you have an idea that won’t grow big enough) is really bad and is making some do things they shouldn’t.
6. Major confusion exists on small businesses versus the game changing, world dominating startups. Steve Blank wrote a great post about this recently. Starting businesses is great and should be done, but we’re treating all the startups we encounter as if they were going for the gold when in fact a lot of them will never get there. The crappy economy drives us creative Americans to start a biz to support ourselves and then we get confused when we go out and try to figure out how to grow it. Banks won’t lend to them, and probably never will lend to a small biz internet startup. So they try to raise money as a game changing, world dominating company and actually get funded, but their idea and their personality will never get there.
7. All these startups who blur together in their ideas, and only differentiate in consumers’ minds by just a little bit, means that they only gain a tiny slice of the entire internet userbase. Pretty soon, we will cut the userbase up into ever smaller chunks until we’re left each with something that is barely or not monetizable.
8. Oh by the way, we as users are getting tired of opening up yet another invite email. We’ve already got flickr to share photos; we don’t need another photo sharing service! Entrepreneurs don’t appreciate the high switching costs and our familiarity and comfort with our old services which are working pretty damn well thank you very much. And also, our time is getting occupied more and more fully; we don’t have time to use another service unless it can bring exponential value over and above the ones we’re using now, and not just incremental.
9. On another note, because of these tough competitive conditions, startups aren’t thinking long term enough. One year is not enough time to gain traction and/or pivot a few times to figure out where they should be going. But yet pretty much every startup I encounter only thinks about raising enough money, with respect to their burn, to last only a year. It’s not enough time in today’s climate. At the end of the year, you’ll have launched, gained some early usage, only to figure out you need to pivot and you aren’t making enough money to break even. Then you go out to raise more and you can’t because the probability is high that getting a follow on round to companies with mediocre or crappy metrics is near impossible. So many startups will hit the end of their bank accounts and then just…die….
[NEW] 10. The lack of resources in hiring is a big problem. Before, we could find engineers who were willing to put up with the uncertainties of entrepreneurial life and because there were fewer startups, we could get all of them concentrated into those fewer startups and be able to execute. Now engineers are starting their own thing and finding that they can’t get further unless they hire…and they can’t. This means a lot more of these startups will die because they can’t execute as fast as others, and burn through cash to find this out.
I think all these point to a big internet startup bubble forming, in which angels whose limited resources will get them caught in a bad place where the majority will find it hard to even make their money back. The super seed funds will do well and be profitable because they can bet widely. A sizeable portion of their portfolios will either die or reach small biz status, but they will find their Google(s) to win back all they’ve bet and then some.
Remember also that my viewpoint is that of an angel investor whose spent the last 4 years investing in consumer internet, and then the economic crash hit, at which time I started switching to internet B2B startups, and now I’m very much souring on internet only startups (I’ll explain “only” in a moment). I don’t have the resources of a super angel and certainly not that of a super seed fund. I must deploy my limited resources much more carefully since I’m aiming for cash return in addition to investing for entertainment value. So to be more careful, I must choose wisely.
But choosing wisely among the plethora of internet startups who want users to check-in, share, chat, social network, connect, real time blah blah blah – it’s all becoming a blur to me. I can’t tell what’s really going to become big or not. And I’m not sure all those customers surfing the internet can either.
So with respect to internet only startups, I’m starting to sit on the sidelines. Occasionally some gems will pop up and I will try my best to get in those rounds; these are startups who:
…have almost no competitors
…are making money from the very beginning
…are making something so powerful/unique/cool relative to what’s out there
…are disrupting some old business that everyone else has missed
Sound familiar? Old style VC looked for these businesses and bet big on them because of these attributes and more. But most of the internet startups I see today are just rehashes of the same old. That’s OK – given the intense variability of the startup world, I’ve seen stuff that I never thought would work go big, and stuff that had the best laid plans and apparent opportunity go down the tubes. Still, it’s not something I want to dabble in any more like I did so I’m sitting on the sidelines unless something comes along which really satisfies metrics like those above.
I do have a new emerging thesis though. Remember I said “internet ONLY startups”? I believe there is something unique and emerging in the hardware plus software plus internet space. Once I get my thoughts more ordered on that topic I will post on that for sure.

Just recently, the concept of social proof as a reason for investing has come up again. It first came up when I was giving the Angellist guys some feedback on their referral system. In their emails, there is a prominent section dedicated to social proof and details the other usually-prominent investors and advisors who are investing and have endorsed the startup. But I complained back that in my experience, social proof can be a dangerous reason to invest in a startup, as much as it can lend support to an idea.
Here are some reasons why social proof can be a great thing:
1. Presumably, if a smart investor has committed funds to a venture, then he has researched it and think it is something he can make money with, or else why would he toss away his funds on something that won’t?
2. Previously mentioned smart investor might be someone who has more experience than you, so you rely on someone else’s expertise to help you decide. Or it may be an area where you may have no experience in, but you want someone who does have experience to endorse it.
3. If a lot of smart people invest in something, then the additive effect of a lot of smart people agreeing can lend support to a particular venture.
Now here are some reasons why I hate social proof:
1. Investors like to invest with others that they like. So they tend to travel in packs and herds (ie. think “herd mentality”). Thus you may have a lot of smart investors, who hang with other smart investors normally, who just invite their friends into a venture. The only thing is, sometimes these smart investor friends just trust their other investor friends to bring them worthwhile ventures and they may not have thought through exactly how good or not good a venture is. Given this, it may mean that item 3 in the positive aspects of social proof is an illusion because the group of smart investors endorsing it may actually all be following one or two of them.
2. There are a lot of guys out there who are angel investing that are more rich than you or me. To them, $50K or even hundreds of thousands of dollars are mere blips in their wealth; it’s like if I pull out a $20 bill and give it to you and not really care if I get it back. When your mindset is driven by the fact that you can give out large amounts of money and not have it affect your lifestyle in the slightest, it can really alter your decision process on how you pick startups, and how rigorous you may be. It can very well mean that you’re just happy getting involved in some really cool thing and want to have bragging rights, more so than being really focused on monetary return. It can also mean that there is huge entertainment value realized from being involved, and that they just want to be a part of something cool. How do reasons like that match with your strategy of investing?
3. Following on 2, this can apply to venture funds even more so. They have tons of cash to deploy and are perfectly willing to take on risky ventures since it’s their core business. A fund does not have to have positive outcomes in many of its startups in order to have a sizeable turn for the fund itself. So they can and will take chances on ventures that could be hugely risky across a wide set of measures and be OK if it dies. But where will we be if the investment fails…?
4. If you follow someone’s investment, you really have to be wary of WHY THEY ARE INVESTING. I have encountered the case where I saw a prominent venture fund individual put his money into a startup. The entrepreneur touted that fact and it did seem to lend some credence to the venture. However, when I talked to the prominent venture fund individual about the investment, I found that he invested mostly because he knew the guy personally and wanted to support him so he invested mainly because of that…and also because that item 2 above enabled him to invest a seemingly large part of the small round and he was OK with that. Do you want to co-invest alongside someone who is in reality just supporting someone he is close to and not really thinking as deeply as he should about the business and the opportunity?
5. By the way, it can often seem like because there are smart investors in a round, that when the startup needs help they will jump in to lend a hand. However, I have also found that this is not necessarily true. Many smart investors are very busy people. They may have many companies in their portfolio. Their time is very tight and they may not have time to help in depth with all their startups. They may be forced to focus on only those that are the winners and everyone else doesn’t get much attention. Or worse, if a venture starts going downhill, I’ve also seen them just be left to die; after all, if this one dies, these guys still have many others who can benefit a lot more from their help versus trying to spend your time rescuing those who will die and for little return on their time investment. It is ruthless, but true; sacrificing the losers will mean that focus on the winners will mean they will make back their money and then some. However, if you haven’t invested in every startup that a smart investor has invested in, you may end up investing in a lot of losers and that sucks!
So while it may seem social proof can be beneficial, and in many cases it can be, it is also very bad to invest blindly using only social proof. My advice would be to do your own homework into those startups you want to invest in, and don’t just follow the herd. The herd you’re a part of may turn out to be a herd of wild, strong mustangs led by a dominant horse who can lead you to safety and success….or your herd could suddenly transform itself into a herd of lemmings about to follow the leader right off a cliff.