Category Archives: Entrepreneurism and Startups

Angelgate: Much ado about nothing

It seems that the hullabaloo over Angelgate is finally dying down but I’ve been in Austin the last couple of days and I was surprised to hear how curious people here are about all that has gone on in the echo chamber of the Valley. I’ve been sharing my not particularly unique perspectives (Mark Suster wrote a super post on the topic) with folks here and elsewhere so I thought I would publish them for a broader audience as well.

1)      If you think that some of the smartest angels in the industry were simple-minded enough to get together and attempt to collude in any real way, you just don’t understand how the angel and venture capital investing industries work. The reality is that it would be impossible to collude in a market where the supply of capital is so fragmented, especially for the best investment opportunities. Further, all it would take is one investor to break from the too large group of potential colluders to make it all fall apart. There is nothing unusual about investors getting together to talk about investment trends and overall market dynamics. That happens regularly, just as entrepreneurs regularly trade notes on the fundraising environment, firms, partners, etc. Move along, because there is nothing to see here.

2)      I agree with Ron Conway and Matt Cohler. There are professionals who invest mainly other people’s money, called venture capitalists, and there are professionals who invest their own money, called angels. These two groups have always existed, but historically there have been more similarities than differences. What has happened is that many of the “old school” VCs have gotten bigger and moved to writing larger checks in mainly growth and later stage companies or to investing only in businesses that have the potential to change industries and produce outsized returns. At the same time, the cost of starting companies has fallen and the exit environment for startups has increasingly shifted to outcomes of less than $100 million. All of this created a larger funding gap in the market than existed previously, opening the door for an entirely new generation of angels and venture capitalists (now called micro-VCs for some inexplicable reason). Markets have a natural tendency to fill gaps and that is exactly what has happened in the venture capital industry.

3)      The not newsworthy truth of the venture market is that there is far more cooperation and camaraderie than some would have us believe. As an example, we at Battery have made over 20 seed investments in the past 2.5 years and in nearly every case those investments were made in partnership with angels, “micro-VCs” and/or “old school” VCs. As long as expectations are aligned at each step in a company’s development, there is no reason that this type of cooperation won’t continue even as the market adjusts to its realities.

4)      Raising money is not for everyone. I always tell entrepreneurs that one of your primary goals in any financing should be to maintain optionality. If you want to build a business that will generate great cash flow but not necessarily grow at an incredible rate (a so called lifestyle business….a pretty good one if you ask me) or that you can bootstrap to profitability, I would highly encourage you to do so. But if you’re going to raise money, know that there are consequences to doing so. All investors, angels and VCs alike, want to help entrepreneurs but they also want to make money. So know what the expectations of your investors are when you agree to take their money. Josh Kopelman likes to say that when considering financing, entrepreneurs have the choice of taking the local train (smaller amounts of money typically associated with angels) or the express train (larger amounts of money typically associated with VCs). If you choose the local train, you can likely get off (sell the company) at any stop along the way. But if you choose the express train, you’re on board for the entire ride. And that long, tumultuous ride isn’t for everyone. Be honest about your ambitions, both to yourself and to your investors. You’ll find that the differences between angels and VCs are truly merely about expectations and not whatever nonsense that many with selfish motives and grudges like to spew.

4 sources of long term differentiation and competitive advantage

Despite the slowdown in venture investing during most of last year, it seems like venture activity picked up significantly in Q4. The data is consistent with my own experience during the quarter, where I saw a huge increase in companies seeking financing, the return of multiple competitors for every investment opportunity and incredibly compressed fundraising processes. I fear that we’re returning to an investing and startup environment much like the one prior to October 2008. One impact of this behavior is that we’ll likely see, as before, the funding of many companies in the same market or with similar offerings (many people point to location-based social networking companies such as Foursquare, Gowalla, Booyah, etc. as a good example). That’s led me to try to outline what I think are the only ways for web technology companies to truly have long term differentiation. Clearly, with time and money, talented people render most software and user experiences alone indefensible. So how do Internet and digital media companies create sustainable competitive advantage? 

Network effects: Businesses with network effects have products or services that increase in value as more customers use them. When a network effects business achieves scale, it can have incredibly lasting differentiation because recreating that network poses significant challenges to competitors. Microsoft Office, eBay and Yelp are good examples of these types of products and services. Some network effects businesses can have both positive and negative network effects. For example, as many social media businesses grow in use, the volume of content to filter and absorb can become overwhelming.

Switching costs: Products or services that make it difficult or expensive to use an alternative product or service have switching costs. Creating this kind of lock-in is a true barrier for competition. DoubleClick’s DFA product is a great example of a product that had tremendous value because it was embedded in the agency online media buying process and was used by many people within agencies.

Scale: For a product or service, differentiation can be derived from scale in customer usage, capital expenditure or data. As an example, Google enjoys incredible differentiation and competitive advantage from all three sources. Hundreds of millions of people conduct billions of searches on Google each day, leading websites that want to integrate search to turn to the de facto standard in the industry. Google has spent untold sums of money on hundreds of thousands of machines in datacenters around the world to deliver the fastest, freshest and most relevant search results to its users. The hundreds of millions of clicks generated each day on search results provide Google with a vast quantity of data and insights that help improve search quality. Any new search competitor not only has to deliver a superior consumer search experience, but it also has to spend enormous amounts of money recreating the underlying infrastructure and data that makes Google such a powerful competitive force.

Culture/People: Given that web technology itself is largely indefensible, the greatest source of differentiation and competitive advantage is often execution, and that is predicated on people and the culture in which they operate. Whether it’s the culture of innovation at Google, the culture of customer happiness at Zappos or the culture of freedom and responsibility at Netflix, I’m certain that the management teams from those companies would point to the employees and the DNA of the organizations as the primary reasons for their success. I find that when the culture of a company is well-defined, it is usually a direct reflection of the founder(s) and their conscious decision to establish a well-defined company culture from the start. I only know of a few instances where the culture of an organization was either instilled in the organization at a later point in the company’s development or successfully recast by new leadership.

When choosing what investments to make, I try to keep these sources of differentiation top of mind. It’s easy to get caught up in the appeal of a sexy new consumer application or a seemingly novel approach to a business problem. But lasting, significant equity value is often only created when one or more of these differentiating factors are at play. Are there other sources of differentiation that you would add to the list?

11 tips for the VC pitch

A couple of weeks ago, I gave the presentation below to the companies participating in First Growth Venture Network. The focus of the day was how to pitch investors and while every investor has his or her preferences, I find that there is 80%-90% overlap in what most investors are hoping to see and hear. Given that there are so many great resources on this topic available on the web for entrepreneurs, I wanted to focus on a few key things that seem to get overlooked in advance of and during many pitches. This presentation is a bit incomplete without the accompanying commentary but hopefully you can get the key points and be somewhat entertained in the process (lots of cartoons!).


 
Here are a few, brief clarifying points:

Pursue feedback: Get feedback on the pitch from people that you trust and make sure you practice it in front of an actual audience. Use this opportunity to test all of your assumptions.

Don’t talk to strangers: Research the partner that you are meeting with, but more importantly, understand why that partner might be interested in what you are doing. Investors see hundreds of businesses each year and they say no to 99.5% of them. Investors are prolific “daters” but they need to feel chemistry to get “married”. I refer to this feeling as emotional resonance and I see very few investments made where that is missing.

Small bites, big appetite: All investors ask themselves whether the business they are seeing is a feature, a product or a company. As an entrepreneur, you need to be able to sell a vision while focusing on near term milestones. Start small and focused but have a plan to get big.

Any and all questions and feedback are more than welcome!