Recently in Pitching Me Category

"Can I get you to Series A?"


In my last trip to NYC, I had breakfast with my buddy Steve Schlafman of Lerer Ventures. I was talking about how many of our startups were going up for series A, and how it was filling my brain and time on how to get these guys there. He replied that they had always thought that way, at which time I thought about how slow I was on that uptake, that our job as seed investors was to help groom our startups for series A!

But as we talked, I also began to think heavily about the importance of series A and it's now becoming an investment criteria of mine, which is "can I get this startup to series A?".

The importance of the next round of funding is pretty clear; you need cash to grow and if you can't get it from some future funding source, it could kill you. However, in order to get your next round of funding, you better exhibit some key characteristics.

So I now look at startups with an eye towards these key characteristics, and I think heavily on whether or not they can with or without my help get to a point of exhibiting as many of those key characteristics as possible. If I decide they cannot, I think I would be less inclined for investment. But if I can see the creation of an environment where the some future investor would look favorably on this company sometime before their runway is over and invest in a series A, then I would be more inclined to invest.

Of course when I meet them at early stage, they rarely exhibit any of those key characteristics. How will I know if they ever will? Some would argue that it's nearly impossible to predict the future and that smart people will get there no matter what. Unfortunately, I am not sure that is enough any more. Smart people can succeed or fail either way. I am out there looking at startups with an eye to tilt the odds in favor of success and not just betting broadly on the crowd of smart people.

What would make me think that they can get there?

Without diving into the well trodden areas of what makes a great startup to invest in (ie. big markets, no competitors, unique IP, etc.), I think there are some additional things to consider:

1. Is there a larger investor in the round AND who is willing to support their startups after the first round?

All angel rounds used to be OK but I do not believe that is the case any more. This has to do with runway and the inevitable bridge round that comes after. We've pretty much bridged everyone of our startups of the most recent vintage. This is because we have been telling startups to raise and survive for at least 18-24 months. But I am not sure this is enough any more since a ton of my startups all need more runway. Thankfully many have had a large investor who was willing to lead a bridge and/or put in a large amount in to give them more runway.

However, it is unfortunate that not all larger funds are willing to do this. I am hopeful that perhaps they will change given the changes in the startup ecosystem. So I am actively searching for seed stage funds to work more closely with who have a true willingness to bridge after the first round.

2. We used to tell startups that they need to ensure their runway was 18-24 months, but now I do not think that is enough - it may actually be 24-30 months now. The evidence is in the bridges that we've had to do. Sure they all got to some level of traction by 12-18 months; but it didn't guarantee a series A. Either they needed to spend more time developing their startup, or developing their series A characteristics, or spending more time raising their round then they thought - or all of the above.

By my observations, there is a series A crunch. There are too many startups all clamoring for series A; it is impossible for everyone to get their next round done - there are many more seed stage startups being formed but the number of series A funding sources has not increased by the same amount.

However, the other issue is, how many series A characteristics are you exhibiting after you come near the end of your initial runway and are they worthy enough for a fund to invest in you?

The battle for attention is fierce; consumers and B2B customers are being deluged by tons of products and services. Traction is much harder to come by. Thus you need time to develop traction which early stage startups typically do not have. Yet another reason for the bridge, when they realize that their traction numbers aren't good enough for the series A and they need more time to develop traction (and everything else).

The other thing is that there are few startups who can raise a typical $1M round and last 24-30 months without additional funding. This is why I think that most categories for internet startups are moving far to the right on the famous "crossing the chasm" graph and it is getting too dangerous to play as an early stager in those rounds.

3. The round must be big enough. Too often I meet entrepreneurs who only want to raise $200K-400K. Sadly I have to turn them away. There are many reasons why they only seek to raise a relatively small amount. However, if you have a great idea with all the other prerequisites (ie. big market, no competition, great IP, Stanford/MIT grads, etc.) you should go out and raise at least a $1M if you have those attributes! What's stopping you?

In fact, if you don't you'll inevitably end up with not enough traction at the end of your $200K-400K and you could have a tough time raising on mediocre metrics - which means you could die even though you had a great idea to start. The fact remains that it is usually easier to raise money on the promise than afterwards on mediocre metrics.

The basic problem is, in the past, you may have been able to get to your next round with some level of confidence in the past with only that much. In today's world with the way the ecosystem is, your chance of getting near nowhere is uncomfortably high.

4. Looking at the startup plan itself, I think deeply about it and the ecosystem surrounding it. What will it take to get this startup to exhibit a decent amount of series A characteristics? This will be both subjective and objective; we analyze the plan and do our research as well as put our best guess and intuition against it. Can this startup make it to series A in a reasonable timeframe? Can they do it only with the money they raised? Or should we expect a bridge? Or, given what we know about the VCs who play at series A stage, will this startup get to a place where someone will step up to fund them? Eerily, revenue can play a big role yet again - this is very reminiscent of what happened to investors back in 2008 during the economic downturn; investors starting putting money into revenue generating startups for their survivabiity. I believe this factor will play a major role yet again in today's world because this lengthens their time to develop series A characteristics.

So if all these factors align positively, then I think the startup has a good chance of getting to the next step which is series A. Still, the world is changing very quickly now and I'm changing my thoughts and strategy in near real-time. In the near term, the ability to create a condition where series A is achievable in the timeframe that a startup has, has now come to forefront of my investment criteria.

Frequency of Product Usage in Startup Strategy


I just read Mark Hendrickson's post-mortem for Plancast on Techcrunch and the section on sharing frequency hit a chord.

When I meet startups, I mentally run their product or service through this test, which is the test of frequency of product usage by their customers. Simply put, if the frequency is high, then their product idea stands a greater chance of surviving in the marketplace. If the frequency is low, then the probability of dying is much much higher.

What do I mean by frequency of product usage?

When a user uses a product tens or hundreds of times a day, this is the dream - to work on a product that is so necessary by a large customer base that they need to use it that much! An example of this would be email - too bad it was created and set free to the world because someone could have made a lot of money on that, or at least in the early days.

Once a day is not bad either. Once every few days still OK. I read the New York Times email digest and website once a day generally, so I can remember to go there. What about the other news sites? Hard for me to remember which ones I do read when I visit them so infrequently.

Once a week - hmmm - getting to that limit. Once every 2 or more weeks and I think you're in trouble.

That's because people forget very easily what services and products they use, especially in this crowded world of me-too products. When your memory is sketchy, it's easy for someone else to hop in there and supplant you.

Take travel services for example. How often do people really go on vacation? Normals tend to go maybe once a year, if that. If I find your site, use it to plan a vacation, and don't worry about going on vacation until next year, do you think I would remember to come back to you? If you're a startup, the odds are against you that you'll even be alive by then.

This goes for both consumers or enterprise customers - if a business customer doesn't find a daily or constant use for your product, then how can it find some justification for buying your service?

That doesn't mean that what you're working on shouldn't exist, or couldn't become a big business. The big problem is that you're a startup with limited resources and survivability and some lower frequency services should really be done by more established companies. You, on the other hand, need traction and revenue as fast as possible before you run out of money. This is why frequency of usage is critical at early stage; if you have a product that people only occasionally want or want at special situations, you'll never be able to build enough customers before you die.

So you have three choices. Either you must work on something that has a high frequency of usage, enough to attract users who find you useful enough to use often enough to keep coming back; OR you must find a way to buckle down and exist long enough for enough customers to sign up and generate enough traction and revenue for you to survive as a company. There is one other possibility and that is to add some high frequency elements to your low frequency of usage service to keep interest in and around your main service, despite the fact they may actually use the main service only intermittently.

Any of these could work and convince me to invest but working only on a low frequency of usage service in today's super crowded marketplace definitely will not.

Building the "Apple of [fill in the blank]"


Yesterday afternoon, I reconnected with an entrepreneur on his project. He reminded me of something we discussed a while back and it re-rang a chord. That something was the fact that when we discussed vision for his company, that he really was driving towards building "The Apple for XYZ".

Today, we see the transcendance of Apple and the amazing things that Steve Jobs has done for the worlds of computing and mobile. He took two very slow innovating, mediocre to bad UX, nearly commoditized industries and transformed them into new engines of growth for creativity, innovation, and monetization. His rabid focus on what's crappy for users before and creating the ultimate solution has served him and Apple well. Thus, I think for those of us in this generation, we like to ask, "what would Steve Jobs do?"

What would Steve Jobs do?

Jobs is not with us any more, but his methods are well discussed and documented. To oversimplify dramatically, he simply takes something that exists today, looks at what is frustrating and crappy about it, and makes it into the ultimate whatever from a user experience standpoint AND makes it delightful and desirable on top of that.

This is now my new favorite thing to ask startups that pitch me.

Are you creating the Apple of [fill in the blank]?

I think this is worthwhile to apply to anything that a startup works on. Startups are the perfect place to envision, create, and execute the ultimate product or solution to anything. Big organizations have so many barriers to doing that; being small and nimble gives you a lot of advantages.

In today's startup ecosystem, I am beginning to think that now you have no choice but to create the Apple of [fill in the blank]. Why? It's because there is SO much competition that being great isn't good enough. You have to do better than even that to get noticed by consumers who are getting way too many things that are great and to rise above the noise of all the crap that is preventing us from discovering the right thing. If you want to win, the bar has risen so frickin' high that you have no choice but to pull off the hardest feat possible, which is to build something that eliminates all frustration and crap in the user experience and is the ultimate solution for that product or service and, oh by the way, it needs to be something so desirable that people want it for what it is, what it can do, how it makes them feel, and elevates their personal status by having it.

So you, the entrepreneur, should be asking yourself:

Why am I not creating the Apple of [fill in the blank]?

Do Not Let History's Mistakes Repeat Themselves


Charlie O'Donnell of First Round's NYC team recently wrote a very important post entitled, Ignore startup history at your peril. It was so good and relevant to today that I'm adding it to my list in my post, If We Meet, I Will Ask You....

To summarize his post, he basically loves to ask startup founders why haven't the previous entrepreneurs in his space succeeded and how did they fail. Given today's proliferation of clones of every idea out there, or even near clones, it is hard not to be able to find competitors in the near past who have tried your idea and failed. Also, given founders posting a lot about their mistakes, and Techcrunch, et. al. documenting the closure of all these startups, it would seem relatively straightforward to dig up reasons why a lot of similar startups failed. Or, our entrepreneur networks are pretty darn small now; it would not be hard to go and simply ask around and thus find out about any startup out there.

Why would you want to do this? Well, it's to not repeat the mistakes of the past. And if you don't go figure out why someone else failed at what you're working on now, the likelihood of you flailing through mistakes made by someone else is pretty high. I totally agree with Charlie wanting entrepreneurs to not only be experts in their respective spaces, but also students of the history of past startups who have tried and failed, and, by the way, also succeeded.

Many thanks to Charlie for bringing this up and I'm adding it to my list to ask entrepreneurs during pitches.

What's the Real Problem with Your Startup?


After I wrote my post Talk About the Problem, Not Just the Solution, I've had a series of pitches all characterized by the same thing: a singular focus on how wonderful the product is.

Unfortunately, I've got news for you all you MIT/Stanford/super-genius engineers and hot shot designers:

Product development is a commodity.

In today's day and age, you can build just about anything. There are very few things out there being worked on that really require rocket scientists. But most of them don't. Most products and services have plenty of models to copy from. Or if you don't have something to copy, we have all these well defined processes to find solutions such as customer development by Steve Blank, as documented in his classes and in his book The Four Steps to the Epiphany, or Eric Ries's Lean Startup principles.

So if that's true, building product is not the problem. In fact, anything that is under your direct control is not a problem for your startup. And that's why I'm not interested in seeing your product just yet; I want to hear about how you're going to solve all those problems that you have no control over.

Every startup has approximately 1-3 things that will make or break their business at early stage and very, very rarely is one of them the ability to build the product (by the way, if it is and if it's something that doesn't require rocket scientists, you've got bigger problems than you can imagine, if you can't even get your product built).

For example, I've recently met some local startups. They all showed nice product design but the real problem lay in how the heck where they going to scale customer acquisition, if there customer was every local merchant down the block, in every city, in every state in the US?

Now that's worth talking about! Because if you can give me a convincing scenario where you may have a novel solution to this problem where so many have failed, your startup actually has a chance. But if you don't have a great answer to that problem, your beautiful product is not going to magically leap into the hands of local merchants, and certainly not fast enough to get you enough revenue to survive as a company.

Usually it's pretty straightforward to figure out what those 1-3 key problems are. If we can get past those, then we should take a look at what you're building. Assuming you're doing all the right things, I'm guessing that whatever you build is probably going to be good enough to start, or to get there after you launch.

But until we get past those 1-3 key problems, I'm probably going to keep interrupting you, derailing your pitch, until we do. Or if we can't get past those key problems, I think you need to go back and figure those out or else it is unlikely that I will invest.

What I Really Mean By "Souring on Internet-Only Startups"


People who know me have heard me say in the last several months that I’ve “soured on internet deals.” Unfortunately, this has been misinterpreted as “Dave has stopped doing internet deals completely.” But this is untrue.

Internet is in my blood. I’ve been working on internet businesses since 1995 - that’s nearly 16 years of thinking, designing, launching, breathing, living internet. I can’t escape it and don’t want to.

I *will* do internet-only startup deals. But the problem is that the current environment makes it difficult for me to justify investing in internet-only startups. This is because:

  1. Competition for internet-only startups is created too easily. Too often I meet an entrepreneur who already has competitors; how do I know that he will be the one who wins?
  2. Competition stifles growth potential which can be deadly to an early stage startup who is watching their bank account grow less by the day while revenue and customer growth is slowed by the other similar startups attempting to sign up the same customers.
  3. Competition creates confusion in the customer base as much of the company's differentiation is very incremental or small. To a customer who is inundated with so many similar services, how do they tell who to buy services from? This limits the growth of startups which again can be deadly at early stage.
  4. Extending on 3, not enough startups are working hard enough to differentiate exponentially versus incrementally. In today's crowded marketplace, it is not enough to be just a little better; you have to be exponentially better.
  5. New angel investors entering the market are inexperienced but also they have no choice but to invest in what is out there today. This fuels the existence and survival of competition in the marketplace when these startups should have been pushed harder to develop exponential differentiation instead of simply incremental.
  6. Valuations are inching upward, while the quality of the startups is dropping relative to the conditions of the marketplace. When valuations rise above what I think the risk potential of a startup's idea, it's time I know that I should not play in the internet-only space. Now we are seeing notes without caps, which is the beginning of the end for why angels should be putting up early risk capital and getting little in return later when the note converts into a large up round with a venture capitalist.
  7. Hiring is a nightmare across the board. Lack of resources limits a startup's ability to scale. I have seen many startups who want to do more but simply cannot hire fast enough to do more.
  8. SEO and viral don’t work any more. I’ve seen too high a dependence on trying to drive traffic in these ways, but too many people are SEO-ing in the same way, and consumers have way too much stuff to be viral about.

However, that does not mean I won't invest in internet-only startups. It just means that they have to pass harder conditions. These are conditions like:

  1. Little or no competition.
  2. Understand what it takes to compete in today's world and have some sort of advantage. Arguably, in 2011 now, people are competing now with competitive advantages in design/user experience and customer acquisition. This may also mean that you must raise a ton of money to: a) outlast your competitors, who will die because they couldn’t; b) out-market everyone else by spending money to buy customers since free methods aren’t as effective (ie. SEO) or too difficult (ie. viral). The world moves fast; potentially in a few short months, these factors could change.
  3. The idea must be *totally* unique. That means if I search around Google or iTunes app store, I won't even find near competitors of yours. If it is improvement over a previous product, the improvement must be exponential, not incremental.
  4. Disruption of an old world industry is always attractive.
  5. Some kind of technical advantage is also always attractive.
  6. I must have an affinity, interest, and/or expertise in the area. If I'm going to spend time on your startup for a long time, it might as well be something that I think is cool.
  7. They must have a world dominating vision and show unwavering determination to take over the world. We must both agree that their vision is a world domination vision. I want the entrepreneur to aim for a lofty goal that is game changing, and not just some tiny goal.
  8. Another lofty goal: I want to them to figure out how to make $100MM revenue per year...or more.
  9. Ideally, I see valuation at exit for the company in excess of $100MM. Otherwise, it will be hard to make money for my overall portfolio and not just on this one deal, given that many others in my portfolio will fail.
  10. The entrepreneur must exhibit great entrepreneurial qualities, be tenacious, adaptable and not quit, because yes it is freakin’ hard to win in today’s internet-only startup world and I don't want them to give up but instead it energizes them and ramps their creativity further.

I may, therefore, say no to investing in internet-only startups a lot more, maybe even 99.99% of the time now as I adjust my bar so high for an internet-only startup to pass. But I am simply reacting and strategizing to the realities and demands of today’s marketplace, AND the fact that I invest to make money, versus other non-money making reasons.

Who knows where the world will be in another year or two? Perhaps my bar will shift again. But if you have an internet-only startup which satisfies my new super-hard critieria, I would love to meet you.

The $100,000,000 Question


I've got a new favorite question to ask entrepreneurs during their pitches. The question is:

"How do you get to $100,000,000 in revenue per year?"

After they go through their entire pitch, I zing them with this question. I hear their plans, their projections, and what they want from me; then I take all that they just said and ask them if they were to take everything they were doing, how can they get to $100MM/year?

More than anything else, this is an interesting thought exercise.

Let's say nothing substantially changes from their plans, which is highly unlikely given what we know about startups, but just for now let's hold it all somewhat constant. We take that and generate some revenue assumptions per customer. Then we take $100MM and divide it by that number to figure out how many customers we need in a year.

This is where the interesting part begins.

Sometimes we'll look at the number of customers per year and melt at the impossibility (ie. "We need every person on the internet to be on our service to get to $100MM/year"). Then we have to adjust something. It may even point to potential inevitable pivots.

Or we may adjust that number to some realistic number of customers per year (ie. "Well, we can't the number of users that visit Facebook every year, so let's say that it's some percentage of that, and then we'll take a percentage of that which we can monetize.") Then we adjust upward the amount of money we need to generate per customer. We take a look at that number and see if that is achievable.

We continue to adjust a bunch of variables and see if somewhere there is some believable outcome from our fiddling.

With one entrepreneur I recently met, he had never done this thought exercise before. And the result actually surprised us; we came up with a number that didn't look insurmountable at all! Wow!

Most of the time, though, we come up with some maximum potential revenue number that is less than $100MM. Sometimes it's not bad, like above $10MM but less than $100MM. Sometimes, we just are struggling, trying to get to even $5-$10MM.

I think more entrepreneurs should go through this thought exercise with their projects. I believe that this is essential to creating a fundable startup and eventually a world dominating business. While there are many investors who are OK with someone working on experimental or feature level projects, or those that aim for smaller outcomes, I just don't have the right resources to support a whole bunch of them, knowing that a ton of them will fail for me as an investor (by failure here, I mean that it will not give me a substantial return on my money; certainly success of the startup can mean a ton of other outcomes, like even a talent acquisition). So I must work with those startups which can get to some large size, like targeting $100MM/year in revenue.

So adding another item to my post, If We Meet, I Will Ask You..., I will begin asking each entrepreneur to go through the thought exercise with me on how they can take their projects and build a $100MM/year business.

If you go through the thought exercise, you maycome up with some seemingly impossible looking outcomes which can be discouraging. But sometimes, you may even surprise yourself in that it may even be in the realm of the achievable.

Talk About the Problem, Not Just the Solution


When I meet with entrepreneurs, the conversation often goes like this:

We start by talking about the startup idea or problem they are trying to solve.  We spend about a minute on that and then we dive into a product demo.  He starts showing me the product, all the cool widgets, flash effects and interactivity and then I raise my hand and call a (hopefully polite) halt.  I pull him back to the problem definition and often have to drag him back to talking about it because he often wants to go back to showing me how cool the website or product he built is.

Here is the problem with this.  I have not bought into the problem statement yet, but the entrepreneur assumes I have.  And it very much seems like he wants to sell me on the beauty of the execution alone, which I may agree looks really elegant and well done.  However, creating a startup is not just about building the product, it's about why we're doing it in the first place. If I don't agree with that yet, then it doesn't matter how we execute or what we're building.

To me, building the product is the most straightforward (out of a potentially chaotic customer discovery process) part of a startup; building the right problem statement is much more important and difficult.  After all, how do you know that you're building the product to solve the right problem?

By right problem, I mean all those things that are so important to contributing to the success of the startup: big enough market, do users have a big enough want or need, can you monetize, are there competitiors or none, etc. etc.  If, in that first few minutes of problem definition, I don't believe your problem statement is worth building for, then it's pointless to keep showing me how great your product is executed.

After I call a halt to the product demo and I explain why, often the entrepreneur looks at me incredulously and tells me you're the first investor to want to stop looking at the product.  This is frightening to me; are there a crew of investors out there who care more about how cool the product is than why they are building the product in the first place?

My favorite pitches tend to follow a form which I learned in high school about writing compositions.  

With the introductory paragraph, you start broad and then work down to your problem statement which generally is the last sentence in the introduction.  Then the next 3 or 4 paragraphs offer proof of your problem statement.  The last paragraph is the concluding paragraph, which summarizes the key points in defense of your problem statement and usually tries to end with a broader concept.

In a pitch, this starts with a lot of time talking about the problem statement, why we're doing this and why it's a great idea to be working on this venture. Once we establish this, we can talk about what they've accomplished from a product standpoint.  After we go through that, we go back to the company and widen the discussion to what they're going to do in the future, and talking about where this company can go from here (and hopefully see the opportunity to grow huge).

These entrepreneurs' pitches look more like this:

We start broad for about a minute and then we narrow quickly into a deep dive into the product itself.  At the end of the discussion, assuming I haven't stopped them first, they just ask me how much money I want to contribute and that's that.

No discussion about the future, no talk about company vision, no assurance that there is a real big opportunity here; just a cool product and someone who wants money to develop it further.

Here's are the issues:

1. Talking about vision and potential future of the company is important.  It gives you a defining vehicle in which to drive the company forward.  It provides direction internally, and external understanding about what your company is all about.  If you don't have this, you could be really stuck at some point if your current product isn't getting traction and you won't have some sort of map to follow; you'll be forced to define one on the fly and you might not be able to.

2. If you never talk about the vision, I will never know if you will ever get one.  I have found some people don't ever get the vision. They can't ever get their heads out of what they're doing at that moment. They somehow are missing the strategic gene, and only have the tactical - so they are great sergeants but not generals. But it's the generals that will build the Googles, not sergeants who can't advance beyond their rank. That doesn't mean that sergeants aren't important; it's just a problem if they are trying to build a startup which requires someone to think like a general to know if they are working on the right problem.

3. If we never talk about the vision, then I won't know if you're aiming for the right opportunity. If all I see is an incremental improvement on what's out there, or something small like a feature (how ever nifty it is), it's just not going to get me excited because I need to bet on the next big thing not just another little thing.

4. Here's another way to look at it. The world contains a whole bunch of problems that you could work on, and a whole bunch of solutions:

So you lightly define a problem, and then you start building and coding because that's what you're good at and you want to get cranking. So you crank.

Now, starting with this solution, you're aiming for some problem:

But your problem definition isn't complete. It's nebulous. The problem with this is, if you had a great problem definition, you might actually be spending time on the wrong solution. If you started with a great problem definition, you might actually end up with a better solution than the one you worked on now:

This is because the set of possible solutions can be enormous and unless you define the problem well, you might be wasting time building something which may not be the optimal solution from the right problem! So why not show me that you understand and have defined the problem fully, and then show me that you're working towards an optimal solution to this problem, versus me feeling unsure that you're working for the optimal solution to some problem which I'm not sure yet whether you should be working on!

So are we headed for a small business, or the next Google? Talking about your product in detail is nice and important, but I want to hear about why you're building it in the first place as much as how much you want to demo what you've built.

[UPDATED] If We Meet, I Will Ask You...


After blogging about a variety of topics, I find that they form the core nucleus of the things I care about before investing in a startup. Yes, I also care about the usual stuff like smart entrepreneurs, great idea, etc. But I think there are things that I've been focusing on assuming we get past the basic stuff.

So if I meet with you, you can expect discussions on:

1. What's your world domination plan (and more on why it's important to have one)? How can you avoid just becoming another small business which is not a reason for not existing, but does bring danger to us investors?

2. I'm most likely going to try to talk you out of being an entrepreneur.

3. Most startups I meet are working on me-too products, even if they don't think so. How can you not be about just developing a me-too product?

4. Are you planning on lasting two years? If you aren't and you need time and money to pivot, you won't be able to raise money in this climate because second chances are impossible to come by.

5. How are you going to make money? Please, no more projects that are just going to gain lots of users...

6. If I were to envision the The Ultimate Product (and Part 1.5), would what you're building be that product, or on the path to that product?

7. How are you going to gain customers - distribution is by far the number one problem facing internet startups today (see me-too post and my combining startup investing and distribution post).

8. [UPDATED: 2/4/11] How will you get to $100,000,000 in revenue per year?

9. [UPDATED: 6/14/11] Study past startups and competitors and learn from their mistakes and successes. Tell me how and why you're not going to let history's mistakes repeat themselves.

My hope is that not only you will have great answers to all these questions, but you will also internalize and truly believe in those answers yourself, and that your answers aren't just lip service. Hope to see you soon at a cafe near you!

The Ultimate Product Part 1.5


OK I should build IKEA furniture more often. Spending the last 2 hours building a new dresser from IKEA meant that my mind kept drifting back to The Ultimate Product and why it makes me feel uncomfortable when the Ultimate Product doesn't match what the entrepreneur is actually building.

I think it means the probability is high that they will need to pivot at some point because they are off target from the Ultimate Product. While pivots are a fact of life for entrepreneurs, the problem for me is at early stage where I invest.

Most entrepreneurs only plan to last for a year on their current fund raise to my chagrin. If only they had planned to last 2 years, it would mean that they have time and money to pivot. But they will die before they can because they will run out of money and begging for more isn't going to work in today's funding climate.

So if they are, in my mind, off target from their initial mission and the resulting Ultimate Product, the chance of pivot is very high and they will be out of funds by the time they realize that what they are building isn't going to be widely accepted by consumers and can't pivot. Thus, if they don't plan on lasting two years, it makes me not too confident that they will last long enough to get somewhere stable and growing. As an investor, this doesn't make me want to invest...!

Do I believe this is a certainty, that if they aren't quite on target to what I think is the Ultimate Product that they will surely pivot? Of course not. I recognize that I could be wrong, and that a better product than the imagined Ultimate Product could arise which also satisfied the consumer/market need. I think this is all a probability game and I'm just trying to increase the odds of success. This is definitely something the entrepreneur needs to weigh as well, especially if they are off target from the known Ultimate Product.

The Ultimate Product


The other day, I met with an entrepreneur and we talked about his project.

He first stated his mission, and then dived into his product and service and how it worked. As he talked about the various features his site had, how users would interact with the product, and what would happen when they did, my brain was actually split. Half my brain was following what he was saying, and the other half thought about his initial mission statement. As his talk went on, my brain halves began to diverge.

The second half of my brain was constructing the ultimate product to his initial mission statement. The ultimate product is the product that completely satisfies the users' problem as defined by the mission statement.

When my brain halves diverged, I was unfortunately very uncomfortable at this point. This is because what the entrepreneur was describing was not the ultimate product, but in fact something different. At this point, I stopped the entrepreneur in his description about the product and we talked about the ultimate product.

I detailed it out and walked through in the ideal case, what that was, and how it would work. But it was unfortunately different than what he was describing. It was one of the reasons why I felt uncomfortable in supporting him in his project, because his product seemed to be enough off the path to the ultimate product that there were more than necessary barriers to getting there, when it seemed to me that there were more direct paths to the ultimate product.

I think it's a worthwhile exercise to construct the ultimate product for a given need, and then see if you can get there via your startup's evolution. If you can imagine the ultimate product in your mind, I think it can give you guidance on how to build it. But if you don't know what that is, how can you know if you're on the right path to get there?

More on the Rise of Small Business on the Net


I saw this great post by Steve Blank: Make No Little Plans - Defining the Scalable Startup the other day and tweeted out a quote that I thought was very important to me:

A lot of entrepreneurs think that their startup is the next big thing when in reality they’re just building a small business.

His post talks about the fact that many entrepreneurs that create web businesses want to be big, but in fact only create something that is small. There is nothing wrong with this; the world needs lots of small businesses, and even those on the internet. The post also offers some hints and tips as to how to create something that grows large.

When I tweeted, the tweet also showed up on my newsfeed where some of my Facebook friends commented. I thought that the comments there were a nice addition to my previous post, The Rise of Small Business on the Net, and thought I'd post them here:

Me: "A lot of entrepreneurs think their startup is next big thing when in reality they’re just building a small business."

Friend 1: Depends what you call small. A lot of room between a hardware store and Google. :)

Me: a small biz is one that makes a decent amount of revenue for its employees and is a nice sustainable business, but not much more than that. there is not hyper growth but just nice, recurring revenue. there can be a big spread of revenue that could qualify for this, like from a few 100Ks to even low millions.

The issue is that it is unfortunately a dangerous place for angel investors to be, because the biz is too small to be acquired at a large multiple of its value, or even to be noticed by the big guys. We can't easily get our return on investment from companies like these.

However, that is not to say that these biz shouldn't exist. I think it's a healthy evolution from the storefronts we see on our streets to the virtual storefronts of the internet. not all biz need to go IPO or make a billion bucks from an acquisition for them to have a reason to exist.

Friend 2: Do angels build in other means of acheiving ROI? For instance share of revenue+ebitda over time after a certain agreed to time horizon?

Me: not traditionally, but i have been thinking about applying something like this to startup investing. it's almost like investing in a restaurant or some other kind of cash business.

however, another problem exists where the entrepreneur is batting for the moon and of course they always think their idea will be the next google, even when we can see ... See Morethat it will only grow so big. thus, they are unwilling to accept terms that are not the usual startup investing type terms for investing.

i do think about this every day though, and hope that a solution does present itself. or we just suck it up and try to only pick the ones we think have the best chance for being google-like, or near-google-like, and we just write off the others that we can't get our money out of, even if they are nice small businesses.

Friend 3: For some reason I think there must be a sweet spot for investors that focus on smaller tech businesses or even projects. I'm thinking about investments in tech analogous to those made by restaurateurs, real estate developers, etc. Where capital requirements are low and return is performance based not exit based.

Me: I call this the Rise of Small Business on the Net and think that there is something here, but just not quite clear yet. in the old days, banks would be the lenders to such businesses, but banks are way too conservative to invest in internet businesses, and with the economy the way it is, they are even less so.

While Steve's post (and many others) focus on encouraging the entrepreneur to think bigger (even I ask about the world domination plan and more on why), I have not heard much about the plight of investors who end up involved in a startup which becomes more like a small business than the scalable, world dominating startup we all would love to find. Steve does mention those who are OK with flipping startups, but some are simply too small to even flip.

I'd love to hear more about this from others who are thinking about this.

Lasting Two Years


An interesting observation I've seen amongst early stage internet startups is that more and more of them are requiring closer to two years to get to breakeven. This is because of many factors, one big one being the fact that there are too many me-too products and that distribution is the number one problem facing entrepreneurs today. But also, many startups end up in someplace different than where they started. They may find that their initial theses is wrong and need to twist/turn/adapt into some other product to be successful. This also takes time.

I talked with an early stage VC and she mentioned that she had seen the same thing, which was a large percentage of them coming back for bridge rounds after working for about a year. We talked about the fact that they always seem to raise money for about a year or runway, but yet most of them just need a few months more to get to breakeven.

Even in my own startups, there are a number of them that "just need a bit more time." If only they had a bit more runway, if only they had a bit more cash, if only they could raise more....we are seeing that startups with mediocre metrics aren't finding it easy to raise cash so they are dead in the water, and soon to die in totality.

I talked with another investor about whether or not we should get more of our startups to raise more cash at the beginning. He actually was less of the opinion that we should demand startups find a way to last 2 years from the get-go. It was an interesting conversation and I think the difference in perspectives comes from the fact that I'm an angel investor with limited resources, and that this investor had far more resources to bring to bear on successful versus mediocre or dying startups. Also, given that this was my own money I'm investing, it was far more important to me than investing someone else's money. Strategically, it makes sense for them not to care as much. We already know startups will die; it's a ruthless culling process that startups experience. A professional investor can just move on and invest in the next big one, or invest in the winners in his portfolio. But given that my personal money is at stake, I care more about startups lasting long enough to make something with their businesses.

I've been tooting the "last 2 years" horn ever since the economy tanked. But universally I have been ignored. Remember that there are two levers to apply here: one is how much money to raise, the second is the burn. However, I never see anybody produce a 2 year plan ever. A host of reasons why not:

1. Entrepreneurs are unwilling to reduce their burn. There are a number of reasons for this, ranging from families that need support to those unwilling to reduce their lifestyles, to inability to hire people at low salaries.

2. Entrepreneurs are unwilling to go out and raise more. Yes, begging for money sucks and takes too much time and is not fun. Entrepreneurs just want to get back to work building.

3. Entrepreneurs are unwilling to take the dilution. They already have sold part of the company and don't want to sell more.

4. An investor assures an entrepreneur that they will give them more money if they need it. Entrepreneur decides to trust investor.

Great reasons all, but the reality is that a huge majority of startups are all taking 2 years to get to a good place. The marketplace for products and for investment is not like it was 2-3 years ago before the economy tanked. In previous years, you could go raise money on no revenue but a ton of users. Now it's near impossible. Second chances are hard to come by. Raising money on mediocre metrics is near impossible.

One last appeal: Entrepreneurs, do what you can to last 2 years. Expect it. Raise enough money and/or adjust burn assuming no revenue. It's become unfortunately the norm.

Talking People Out of Being Entrepreneurs


In the last few months, there have been a number of people whom I've tried to talk out of being entrepreneurs. I tell them it's really a test to see if, after hearing about how hard it is, whether or not they actually still want to do it.

There are many who are newcomers to entrepreneurism. I think this is great. But I think most of the newcomers underestimate what it takes to start a company and make it successful.

So I let it all out. I tell them how it requires some serious soul searching about what kind of person they are. You have to be natural risk taker. You must be willing to throw all caution to the wind, because you never know what's going to happen. You must be willing to throw away all levels of comfort in hopes of some huge gain later on. Are you OK with leaving your current job and its consistent pay, health insurance, and sense of direction in your life for a lot lower pay and the chaos that accompanies typical startups?

I talk about the time commitment. I talk about my early Yahoo days when there were just a bunch of us, and we worked our tail off for years. I talk about the long hours we spent building Yahoo back in the day, the stress, the do-everything-yourself mentality and the chaos of not knowing what's coming next. I tell them about the fact that relationships have broken up due to training for Ironman, which even at its peak, doesn't equate to time commitment spent at a startup and for a longer period of time. I go through the inevitable ups and downs that come with relationships and families of entrepreneurs; it's not an easy place to be when your work and family demands collide.

I make them take a hard look at themselves, and I also gauge their reaction to what I say. I can see it in their eyes and in their replies if they are unwilling to give it up. My intuition is running high in sensitivity as I sense whether or not they have what it takes to go the extra distance to be a successful entrepreneur.

Don't get me wrong; I am not judging what's good or bad, but only what's appropriate. I am not making a judgement call on whether you're a good or bad person if you have or do not have what it takes to be an entrepreneur. For some people, it's just not the right path to take. Yes it's disappointing, but I think we need to be realistic that entrepreneurism isn't for everyone. Or perhaps your life stage is now not the right time for a startup - for example, having a family and/or dependents, and/or a lifestyle which requires steady income may not make it appropriate for you to jump into a startup.

This is really important. We investors are betting on you to take our money and build something big with it. We are looking for those who are willing to do anything it takes to make something successful so that we all win, and that means sometimes driving yourself into the dirt and dealing with the stress of knowing that your bank account is about to run out and that if you don't do something fast/creative/better, you'll not be able to feed yourself or have a roof over your head anymore. This kind of passion/adaptability/drive for building a great company is what we're looking for.

If you're going to quit as soon as the risk is too high for your own personal livelihood, then it's best that we just don't start. It's not positive for either of us. Find an occupation that allows you to live the life you want, at the stage you're at now and be happy about that. Don't try to start a company on the assumption that you're going to just have the same kind of life you did when you worked at a bigger company.

One of the big problems I've seen over the last 3 years of angel investing and with entrepreneurs is that they will raise money and then compensation goes to near market levels for the people in the startup. They think that they can be in a startup and have their old lifestyle not be threatened. The reality is that startups are not a place where lifestyle can be guaranteed. This ranges from the "working lean and mean" philosophy (how can you pay yourselves market rates and still be lean?) to execution speed (you can't work at speeds seen in large organizations; you'll get crushed by other startups) to just the simple fact that the risk of failure is tremendous (you don't get the comfort of stability in a startup that you would get at a larger more established company; that's the price you pay for constant salary versus the chaos of a startup).

So if you pass my test, which is, after my whole tirade about the risks of startups and the downsides of what it's like to be an entrepreneur, you are still fired up about being one, then more power to you. Let's take this conversation further. But I am getting better at spotting hesitation, fear, and reluctance after hearing my speech. So let's not kid ourselves in being somebody we're not.

It's sexy being an entrepreneur. The rewards are great. The upsides are what everyone sees, and nobody sees the downsides. Dealing with the downsides is where the rubber meets the road and where you'll be tested sorely on whether or not you are a great entrepreneur. But if you're not entrepreneur material, you're not and that's that, whether it's your personality, life stage, or otherwise. You're not a bad person; it's just not for you and we should all just realize this, and not fool ourselves into thinking otherwise.

The Rise of Small Business on the Net


A few years back I worked on a tiny startup that was attempting to jump on the affiliate marketing/blogging bandwagon. It was all the rage that people were making $100Ks per year just writing articles and doing a good job on driving traffic and purchases to marketers. It was a site about how geeks were cool because they were buying cool products, and so we would write about these really cool products and then drive affiliate traffic to places where you could buy them.

Our venture didn't get that far, but so many others' did. And the list is growing.

As everyone working on projects on the Net knows, the cost of building a business has dropped dramatically over the years. It started with blogging software which would could install on our own servers or use the hosted versions. Now, you can go out and find shareware for just about anything; stuff that would have cost a big company millions of dollars and a team of 100 to build in the past could now be found and deployed for a tiny fraction of that cost.

It's also easier to deploy web applications now. Previously you had to be a computer scientist to do so; now just about anyone can figure out how to deploy it, or using hosted versions just fill out a signup form and point your domain at it and you're off and running.

So now, just about anyone can throw up a website which has some advanced functionality. And people are doing it too. In the startup world, we see the internet has gotten super crowded over the last few years. Very few truly unique business/product ideas have emerged, and many are just clones of each other. Or once someone puts up a good idea, the clones emerge quickly because it's so easy and fast to put up a website. Thus, it's now less about the idea but rather how many customers you can grab and whether you can monetize that traffic to balance out your burn.

Thankfully, the internet crowd is enormous. Grabbing a small slice of that traffic and monetizing it effectively can mean a sustainable business that pays its employees a decent salary. In the past, we called these businesses microbusinesses or lifestyle businesses where a single person could make a decent living managing a website. However, in today's world, I call this phenomenon the rise of small business on the net.

Many startups we encounter have plans that we know can reach this stage. With great execution and effort, we can easily see many businesses growing to great small businesses. They will have revenue from several $100Ks a year to small millions. They have a small teams and all of them are well compensated for their work. All the employees will have great lives supported by this business.

The effort is comparable to opening up a storefront on your favorite street. In the old days, you'd go find a great physical location with lots of foot traffic. You go get a small business loan from your local bank and open up shop. Then you go and acquire customers and build your business from there. In today's world, you can do it on the internet without a physical location and tap into customers from around the globe.

From an investor's standpoint, we're finding that this creates a number of problems. Our model is dependent on finding those startups which will go big, much bigger than small business size, and find a way to return our investment with large gain through some mechanism like M&A or IPO. However, the ease at which startups can reach small business stage makes our job harder; we're seeing many businesses reach a certain level of growth and then breaking through that level is tough due to how easy it is for competitors to enter your market, and how hard it is to acquire the attention of users.

Some of us are thinking about change in the way we support some startups. I find parallels in the area of restaurant investing, where the investment is all about cash return and not ownership. What kind of restaurant would go IPO? Highly unlikely. But could we make 10-20% on our investment? Infinitely possible.

I wonder about how the structure of deals we do for internet startups might mimic restaurant investing. Instead of caring so much about ownership, perhaps we should find a way to get a healthy return on capital invested through cash flow, if the startup monetizes efficiently and does it well.

The problem with traditional investing in startups here is that these small businesses may never attract an acquirer and certainly the chance of an IPO is even more remote. Driving these small businesses to activities to return an investors' capital in that manner may take a healthy sustainable operation and turn it into something unsustainable and problematic as it reinvents itself to attract an M&A event or IPO. That seems dumb; the business is thriving and its employees well paid and happy - why destroy this?

I think the world of investing should think more about the rise of small business on the net. Many more businesses each day are showing up that are great sustainable operations supporting employees and their customers. They are never going to be superstar Googlesque success stories and we should not attempt to turn them into one. In today's crappy economy, the world needs more small businesses to show up to employ the masses and make them money. We as investors should find a way to invest in and help these companies to grow, and just be comfortable in the fact that they will never be Google but still can help us make a healthy return on our money.

Second Chances


I was just reading 10 Huge Successes Built On Second Ideas and it motivated me to write this post, as I've been thinking a lot about the fact that entrepreneurs often end up in a place very different from where they started. It's gonna be a bit random, but here's what I've been thinking about:

1. How we pick startups to fund.

Time and time again I hear seasoned investors talk about betting on smart people because smart people will adapt and twist and turn to make their journey worthwhile. It is less about what they're building, although that is what brought them to the investor in the first place. Rather, the bet is that the person is good enough to figure something big out of whatever it is they pitched you.

I guess it's just me, but I place more emphasis on the idea than others, as there are many smart people working on stuff that doesn't have a chance, and is almost certain to require...a second chance.

The problem I see is that money only goes so far, and second chances don't come by easily. Most people don't raise enough money to allow them to twist and turn later; they only have enough to get them to barely a market trial of their initial idea. That's why I push entrepreneurs to raise at least 2 years of capital now, while their attraction is hot. Trying to raise more money later on mediocre to poor metrics is next to impossible in today's market. Otherwise, the entrepreneur will have to (usually painfully) adjust burn to last them further into the future or...just die.

2. Helping startups change/enhance what they're doing now.

I was talking to a venture capitalist the other day who said that you had to bet on entrepreneurs who knew what to do whatever the situation, and that if you had to help them then this was a sign of trouble. I find this to be somewhat not true, as I've built my business on sitting with entrepreneurs and helping them shape their products. I've found out that even smart entrepreneurs appreciate you throwing them ideas and opportunities that they can use, especially when they are in a bind. Finding smart people is fine, but everyone needs help once in a while and it's the smart ones that know they need help and accept it.

It's happened a few times now, where startups are now figuring out what to do next. One has changed completely, and others are in the process of reinventing/rethinking what they started working on because it hasn't worked out as well as they thought it would. I find the more I insert myself in this process, whether I ply coach-like skills to help give them some process in reinvention, or I'm throwing a constant stream of ideas at them until something sticks, the faster they will get on a new and potentially better path before their money runs out.

3. Raising money is a tough process for second chances.

This is tough for a variety of reasons.

a. Dealing with existing investors can be difficult. Already you have some invested in your company. But yet, now you're out there raising more money to continue - if your metrics are mediocre, then this could mean a sideways or down round to keep working on your current idea, and you must take into account the fact that your investors already own a piece of your company, and now more money is coming in and ownership and control issues arise. They best condition would have been if they invested into a note without a cap, which I would never do, because then you have total control over what happens to them.

b. Raising money on mediocre metrics is next to impossible. If you've gotten to a point a year in and your growth is not so great with little or no revenue, it's next to impossible to get another set of investors to bet on your idea in today's economic climate. They often assume that your idea and/or team isn't right.

c. If you're working on a totally new idea that may be great, but you and new investors still have to account for the fact that there are existing investors already, and what kinds of ownership and control issues exist and how they will change. Potentially it could also mean some questions will arise as to why your previous idea tanked and if whatever those reasons were make you look bad, then it will be hard to raise more money.

4. Mentally it's hard.

Yeah it's tough as hell. You're all gung-ho on your initial idea, you've got your investors and everyone around you excited about where you started and now you gotta change. That sucks! And you often beat your head on the table trying to figure out how and where to go next.

As many smart people I've met, they have often shown that they are often not equipped to continue on these projects in the face of adversity. This is both situational and internal.

Situational means that they may have real life needs for capital, like a family to support. I say situational because dependent on their life stage, the situational needs may be completely different like, for example, during when the time they were just coming out of college.

Internal refers to elements of one's psyche to enable them to deal with the harsh realities of entrepreneurism and what it often takes to build a business. So being smart is one great metric, but it's not enough by itself. You need to be creative, adaptable, able to withstand change and adversity and find solutions in chaos. Many people can't do this. Over the last few years, I've noticed that many people think they can just start a company and it'll be an easy ride to Google style riches. Time and time again it's proven wrong to me, having been through it at Yahoo and watching countless startups now.

All I can say is second chances (or twisting/turning/adapting from their initial idea) are tough. I am one for doing a little upfront planning for having enough time to twist/turn/adapt as far as second or maybe even a third chance, since it happens very often. Raise enough money early in the process and create a plan to go for 2 years, assuming no revenue or progress. Be prepared for it mentally, celebrate when your initial plan pans out, and buckle down the hatches when you have to shift.

More About the World Domination Plan


In the last few meetings with entrepreneurs, I've noticed I've been consistently asking about whether they have a world domination plan. But I think my request is being misinterpreted; of course, I have not helped since I haven't clarified what I'm looking for either.

I am reminded of when I ran User Experience at Yahoo and when we interviewed people, we would give them a test. This usually was an hour to create a new design for Yahoo Profiles. We would give them some paper, pencils or pens, and then leave them alone for an hour. After an hour, we'd come back and see what they came up with.

It's pretty amazing the variance of output that we'd see. Some people would have maybe one piece of paper done. Others would have a whole tornado of paper and sketches on them and on the white boards on the walls. The way people "fail" this test if they came up with just one answer and were adamant about that being the only perfect answer. That's not the point; the point is that it's pretty impossible to come up with a fantastic solution in one hour. We gave them the test to illustrate their design process. If they had a great process and could walk us through their thinking, then we knew they could get a fantastic solution if given enough time. Those with a poor process would typically come up with just one answer and settle on that, thinking it was final.

This is the same for when I ask for the world domination plan. It would be nice to get "the answer" but I think it's pretty unrealistic given the twists and turns that startups go through. Some give me "the answer", which is fine if it's in the context of something they're thinking about. Sometimes, though, there is a certainty in their belief that is scary to me; it almost shows an inflexibility in their thinking that they are shooting for this solution and you sense that they're going to bulldog their way to this answer even if it is the wrong answer.

It's also pretty amazing to see how many entrepreneurs don't even think about it. I ask them and there is a blank look on their faces. This is a problem. While that doesn't mean a decent business couldn't be built out of their idea, it could mean that it only grows to a certain point and then...that's it. Great for the employees of the company who get paid every day, great for the founders who work at the company and own lots of it and also get paid, but not so great for us investors whose money is locked in the equity of the company.

As an investor, I would much prefer that you have the frame of mind that you WILL take over the world in whatever area you're operating in and you're always thinking about how that would happen. I don't want to see a blank face like it was a new concept. I just want to hear that you are thinking about it either all the time or at least it's floating in the back of your brain most of the time.

Because it's then that us investors know that we have the best chance of getting our money back and hopefully making some on top of it. Smaller companies can be great companies, but many reach some midpoint where they may not be acquired because their potential seems limited and acquirers are also looking for big opportunities. Thus, our exit potential is also limited. When you're on a trajectory through luck and planning to world domination, then your options are much greater because everyone chases you and wants your world dominating characteristics added to their own. You could even go IPO - but not if you're not big enough.

World dominating companies are the ones we want to be involved in and it starts with the right mindset. Remember it's not "the answer" that I'm looking for, but rather that right frame of mind and that you're noodling on it day and night as you're building your company.

The Problem with Early Stage Me-Too Product Startups


I believe the universe of internet businesses has become extremely crowded in the last few years. In the early days, you could come out easily with something new because there weren't that many competitors out there. Now, it's hard to find somebody who isn't working on something similar to what you're thinking about. So competition is fierce and many times you'll find entrenched competitors with a lot of product inertia and a great head start.

The other huge problem is on the consumer side. Consumers are deluged by new products and services all the time. They have overload and just keep to the products they know best, and need to have a really good reason to change and move from another service to a new entrant. We saw this first in the past with email addresses; Yahoo Mail users were hesitant to move because the cost of changing your email address was super high and thus user retention was very high. Now add what makes up our digital lives on services like flickr (all our pictures that we've uploaded for half a decade now), or facebook (our friends are all here, plus their interconnections), or linkedin (our business connections are all here, plus all their historical connections). The cost of moving has become so high because we've invested so much time and effort into those services and we don't want to redo that, let alone adding the cost of learning a new service.

As an early stage investor, I've found that this makes picking companies exponentially harder and it's a shame. I meet a lot of smart entrepreneurs with some really great ideas, but then I do some research online and find that there are others who are working on something similar or in a close enough space to be competitive. Then I start to get worried about their prospects.

You can find tons of books on the subject of competition and winning despite having entrenched competitors. In general, I have found that entrepreneurs are doing what they should be doing to attack a crowded market. These are things like (my thanks to Andrew Chen for helping me with this list):

1. Innovate on the product experience (ie. Posterous vs. Wordpress).

2. Business model changes, where you are going free (or freemium) for a product that's usually subscription (or fixed charge).

3. Changing the market where you're going long tail instead of hitting the larger market (ie. casual games versus hardcore games).

4. Change in distribution model, where you are delivering something as a service rather than a download, or bundled into an existing thing (ie. Facebook app) instead of a standalone thing.

5. Change in branding. An example is where you cater to an upscale prestige market or niche market instead of a mass brand, or vice versa like taking a niche product and making it available to the masses.

6. Create a business that is better, out of a larger part of another business (ie. Lefora created a message board hosting product for those who don't want all the bells and whistles of a full social networking product).

7. Innovate on design, which appeals to those who want a similar product but one that looks/feels better.

8. Offering more features on a product, or customization on product.

And the big, traditional way of taking a new entrant into a crowded market:

9. Mass advertising to gain broad awareness and induce trial and adoption of new product in face of existing competitors.

So I am not saying it's not possible to win against a crowded marketplace. My issue is with early stage startups: in order to win in a crowded marketplace, early stage startups often don't have enough resources to last long enough to compete effectively and win. While a lot of the above can be implemented, growth time is limited by whether or not you have enough capital and revenue to survive until you run out.

To me, if you're developing a me-too product, it's ultimately going to boil down to a marketing game more than in any other situation. You can develop the best product or service, but if nobody knows about it because they're busy using something else, then you're still dead.

So distribution for a me-too product is critical. In the past and present, large corporations could do this because they had lots of money to launch large advertising campaigns. They knew distribution channels and could insert their new product there. They had contacts in their market and it was straightforward to get word out that they had a new product even if it was similar to existing products.

As a new startup, you may not have those channels and contacts established, and certainly you don't have money to spend on advertising plastered on the Superbowl, magazines, online, and elsewhere.

However, once you finish your product using one or more of the strategies above, you need to jump to strategy number 9 as soon as possible and get it out to consumers. You don't have time to wait until people notice you; you need to get noticed.

Some possible ways of doing this:

1. Buy advertising. As an early stage startup, this is the least viable unless you somehow have enough money to do this. Lead gen advertising can be better than CPM based advertising as you'll be able to pay only on a referral, but still this costs money. Let's move onto cheaper alternatives.

2. Marketing that involves barter space. You trade something of value for advertising space on their side. Something of value can be advertising space on your site, or donation to their cause for charities.

3. Word of Mouth Marketing. Contact bloggers, magazines, users and get them to try and talk about your product. Getting in the NYTimes is a big traffic driver, as well as many other national circulation magazines. Online publications like C|Net and The Huffington Post can also be great. Twitter is also a great up and coming means for getting your word out.

4. Get distribution partners. Existing companies can add your product on their sites and can help you promote it. This is usually in deeper partnership such that it goes beyond just buying ad space. You look for exclusivity in contracts and features that your product has that enhance an existing company's product and prestige.

5. Viral marketing. This is a very hard avenue to execute, which is to start with a few users and then it blossoms outward to many. Determining how your product can be viral can be an elusive game and if you don't hit on it early, you could waste a lot of time tweaking and hoping that something you create will be virally popular and spread.

In working with a few startups, I am disheartened by the fact that the importance of distribution is still not well understood. The leading thought is that "if I build something great, then everyone will come find me." Unfortunately, that is rarely the case in this crowded marketplace, and most early stage companies don't have enough time to let people just wander around until they find out about the product.

They did not do enough work to go out and contact bloggers. They didn't go out and try to woo corporate partners to see if they would help them get their message out. They just waited for users to come and they didn't come in great enough quantity to support their business by the time their money ran out.

So don't let your product fail simply because you can't induce trial. Remember, you have developed a me-too product, one that users already have a solution for and switching costs and barriers may be too high for them to take action to look for a better solution. You need to get them to know that your solution exists, and attract them to try it out - and since you're an early stage startup, you need to do this ASAP to give yourself enough time to let consumer adoption grab hold and ultimately take off, all before your money runs out.

World Domination Plan


I love it when I hear entrepreneurs are working on a world domination plan.

I see a lot of entrepreneurs arrive with pitches that are limited in scope. They talk about how the world needs this function, how great it is, and how current products don't have these features. Usually, they really are great ideas. When we get to revenue, sometimes there is a plan and sometimes there isn't. But many of these revenue plans only seem to get to a few million a year at most. This may be a great small business, but for an investor, we need to ply our limited resources into those opportunities that will grow into huge businesses, and not just a million a year.

The need for a world domination plan is important to me. I want to invest in businesses that will grow into huge businesses, which will maximize my return on investment. I don't want to invest in businesses that will grow into small businesses, even if they are great small businesses. I only have time and resources to work on so many projects and need to maximize my efforts.

The plan needs to be believable to both me and the entrepreneur. It's not enough that I just believe it's possible; the entrepreneur must also believe the plan since he is executing it. If only I believe in the possibility, that's not good enough. To me, it's a form of personal deception; I see the idea, I see its potential, and it doesn't matter who works on it - it must build into a big business as I believe, right? It's not that simple even if I wish it was. I'm not the one executing the idea and doing all the ground work. The entrepreneur must believe in the idea and be able to do all that. If he does not believe in the idea and/or cannot execute it, it's going to fail.

Some people have enough resources to invest in experimental projects, meaning that there is no clear path to success at the beginning. I unfortunately don't have enough resources to deploy like that. Thus, I need to at least have some comfort that both the entrepreneur and I believe there is a world domination plan (and yes I know there is a great probability that this will change).

What is your world domination plan?

The Importance of Revenue at Early Stage, Now More Than Ever


Revenue is important. DUH.

It seems as though we forgot about that through the internet years. People were willing to put money into startups to build up a user base and put revenue generation second before that. They didn't have to deal with revenue because they knew that they could raise their next round based on tremendous usage and on the assumption that if you had a gazillion users, then you must be able to monetize them somehow.

That did work for many startups through the dotcom boom years, and even after the internet bust it still worked for many years, right up until the economy took a nose dive.

The world changed, and now that second round is just about non-existent.

So I, along with just about every other experienced investor out there, have started to demand revenue as soon as possible (better) or want to see it at the outset (best). We have turned away just about every early stage company that has no revenue or no firm revenue plan.

While we'd love to be optimistic and place a bet on a startup that only has user building potential, but no clear revenue plan, it's just too risky right now. Or, if the entrepreneur has not created a firm revenue plan, or does not plan to turn on revenue generation as soon as possible. Any of those are too risky for me right now.

Why? In the economic climate of today, 99% of the funding sources won't even touch a startup that doesn't have revenue showing, when they hit their next round. I've seen it happen multiple times for companies trying to raise money today. Thus, if you don't have your own source of cash (a.k.a. revenue), then you'll end up dying when you burn through your initial cash that you've raised. You just can't count on that next tranche of cash to appear when you need it most.

So in investing in you, I want you to survive. I want you to build a great business. I DO NOT WANT YOU TO DIE a few months or a year from now when you run out of cash, just simply because you put off revenue generation until the very end and it's too late to generate enough cash to support yourself. To me, that's a waste of not only my money, but of everyone else's money as well. Think about that if you're going to take your friends' and family's money. In today's funding environment, you might as well be tossing it out the door if you don't start revenue generation from day one.

Before the internet, startups were always created to make money. Entrepreneurs always thought about building businesses to make money from day one. And many of them would drive themselves into the hungriest state, risking their homes on additional mortgages and their relationships with divorce. Their unwavering belief in their business idea coupled by their need for cash to sustain their lives kept them going until some of the biggest businesses of today were built.

Somehow we lost that when funding sources were willing to bet on ideas that didn't have obvious monetization early on. It took the economy to dive into recession to bring this "create a business to make money" philosophy back into the forefront.

Perhaps it never should have gone away.

I'm only looking at startups with revenue or will turn on revenue from day one now, but I also wonder about what I will do when the economy recovers. Would I go back to placing bets on some ideas that may not have obvious revenue plans, or are generating revenue immediately? I think that we'll have to take a look at the funding environment and the startup ecosystem to see if we'll ever go back to supporting businesses like that.

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