5 ms·

This is the crux of the argument: "If you raise funding, however, it cuts out a number of the middle options. VCs will definitely want an exit, and if the exit

by pg 13y ago

This is the crux of the argument: "If you raise funding, however, it cuts out a number of the middle options. VCs will definitely want an exit, and if the exit is too low, this can turn a fairly decent success into a relative failure for the entrepreneur." However, in my experience (which is now fairly extensive), this scenario is a vanishingly rare one. Raising a lot of money can certainly be dangerous, but not for the reason Daniel thinks. The big danger in raising lots of money is that you'll spend it-- that you'll let this pseudo-success (with investors rather than customers) go to your head, ramp up your spending before the company is ready, and then put yourself into an impossible position later where you've burned through the money and need to raise more but haven't achieved the results you'd need to do so. In other words, venture funding is dangerous in the same way any power tool is.

tptacek 13y ago
My (recent) experience with friends at startups suggests that in accepting venture capital and giving investors board seats, you're going to be pulled hard towards ramping spending: your board will want to see things like a formalized marketing team led by an experienced VP/marketing, and you'll quickly find yourself having to argue against spending more money. It's not just that funding goes to your head. Also, while I defer to your experience, maybe the vanishingly rare "marginal exit" scenario Daniel talks about was once more common; the two companies I was at prior to this one both faced it. Or is it possible that it only appears rare because nobody entertains the idea of a marginal cash exit for a VC-funded startup anymore, knowing what a headache it'll be?
- mathattack 13y ago
  My (limited) experience with funding is the opposite. Rather than request an experienced head of marketing, they wanted an experienced CFO to be the adult in the room. I think the question of funding comes down to, "Would you put this on a credit card with a 30% interest rate?" If the answer is yes, and you don't have the credit card available, then funding is ok. The reason is that you're expecting a return much better than 30%. If funding can give you a product edge so that you're winning 5 enterprise deals out of 10, rather than 2 out of 10, the numbers will probably make sense. If funding allows you to do a marketing campaign with real analytics and AB testing that will change your growth rate from 10%/month to 20%/month, it will probably be worth it.
- pg 13y ago
  Yes, it's true a lot of VCs will encourage you to spend faster than you should. I warn about this in essays and in a lot of individual conversations with founders. But fortunately they can never do more than encourage, because founders almost never give up board control in funding rounds nowadays, at least not in the US. As for marginal exits, I think the biggest reason they're rare is that there is not that much demand on the buyer side. There's lots of demand for HR acquisitions of failed companies, and there's demand for high fliers, but Facebook and Google et al are not looking for small, moneymaking businesses.
  - tomasien 13y ago
    This is something I've wondered about - I hear people warning about investors pushing them toward an end they don't want, but what leverage do they have?
    - pg 13y ago
      They don't have the same kind of board power they used to, but they're still very influential. They are often more experienced than founders, and also, being older, more authoritative. And much of their advice is good. Especially the best investors, some of whom are really smart. So founders rightly start to rely on their advice. The catch is that founders' and investors' interests are not always aligned, and when they aren't you can't trust investors' advice quite as much. But the two types of cases aren't sharply differentiated. Which means to avoid being misled by investors you have to be able to judge precisely how misaligned your interests are in each situation, and discount their advice by exactly that amount. It's a subtle problem.
      - kops 13y ago
        > but what leverage do they have I thought he meant "what leverage do the founders have?". Not sure though.... However, assuming that he did mean "what leverage do the founders have?", I would say that they are the boots on the ground and can very much scuttle anything that the investor wants them to do. The moment founder's interests are not aligned with the startup, it is doomed. I guess an investor can help them succeed but can't stop them from ruining it. Disclaimer: pure speculation, I have no experience of being on either side of the table.
solve 13y ago
Instead of financial loss, I'm more afraid of losing the IP, company, everything I've made prior to my investors even joining, because the investors or their successors suddenly feel like kicking me out someday.
- tptacek 13y ago
  Losing IP used to bother me, but in hindsight turns out not to have mattered. The fully integrated system you built failed in the market; its value is illusory (if you got to keep it and redeploy it, you'd probably lose in the long run). The components of that system probably aren't lost to you at all. First, nobody cares about them anyways (VCs aren't going to chase you down for repurposing some scheduling library you built for your restaurant app). Second, while you operate the company you always have the ability to open-source them as you go. Third, once you know how to build a component, it's pretty easy to rebuild it.
  - solve 13y ago
    You're probably right about the IP and databases not being completely trapped, in practice. What about non-competes though? Could I really start a directly-competing company immediately afterwards? After all, not all startups fail just due to having completely worthless products, there could be many other reasons.
    - tptacek 13y ago
      What non-compete? Are those common on VC deals? There weren't any when I took funding, but that was awhile ago.
      - mrkurt 13y ago
        Non-competes would likely come either when you left the company in exchange for some unvested options, or after an acquisition.
    - argonaut 13y ago
      Non-competes are largely unenforceable in California.
thatthatis 13y ago
Thanks for sharing the view from where you sit, that's insight that's hard for most of us to pick up on our own. Do you know of or have any shareable data on venture backed founder returns? What's your take on if funding shuts down a "pivot to a lifestyle business"? I've always looked at the outcome venture most strongly closes down as "$300k a year pseudo annuity." Basically the kind of business returns profiled in the $100 Startup book.
3pt14159 13y ago
I think your experience is too biased to be useful for people outside of YC/Palo Alto/California/America. Even besides the caliber of people that get into YC, the immense network and support system as well as caliber of investors probably makes your advice less relevant to most startups.
- tptacek 13y ago
  YC/Palo Alto/California/America/Continental North America/Western Hemisphere/Terrestrial Earth/&c
  - 3pt14159 13y ago
    Well yeah, I put them in that order for a reason. It shows how pronounced his bias is. There is a world of difference starting a startup in Greenland than in Virginia, and a world of difference from Virginia to California. Most people reading pg's advice are going to take the wrong thing away from it.
davidw 13y ago
> However, in my experience (which is now fairly extensive), this scenario is a vanishingly rare one. Your experience mostly corresponds to Boston and Silicon Valley, though, correct? I do not have your experience, but I read a lot and keep my ear to the ground, and, not living in those areas myself, got interested in the "micropreneur" idea - stuff like what patio11, Rob Walling, Peldi (Balsamiq) and company are doing. The numbers - at least those I've seen - don't generally seem like they would be a win for investors looking to put millions into something and get multiples of that back. However, at a personal level they seem to be doing very well for themselves. It strikes me as a model that is perhaps more applicable to "the rest of the world" where the ecosystem is not, nor likely ever going to equal that of Silicon Valley. Of course, I do not think there are any recipes or hard rules for any of this: some companies need VC and need lots of it to be able to do anything, because they've got grand schemes that change the world. Others don't and would be better off without the distraction.
edanm 13y ago
One thing which might skew your statistics, is that taking VC funding or going to YC is itself the result of wanting a large success being your mindset in the first place. In other words, it's true that investors don't necessarily have leverage over founders, and I'm sure the scenario that Daniel describes is just as rare in YC as you say it is. But the reason this is true might be that the kind of people who go to YC are also the kind of people who want to take a 1-in-a-million shot at big money, rather than taking more conservative odds for less money. And one of the reasons this is true, is that founders don't understand the statistics and the risk profiles of their options, or in many cases don't recognise that they even have options in the first place when choosing what type of business to build. Daniel's meta-point about founders being able to choose which kind of business they will build, including choosing it's risk profile, is something I hope more and more founders get exposed to.
- pg 13y ago
  That could be. At least at YC there are comparatively few misunderstandings about what's expected of companies that take various kinds of investment. But if there are people out there who are unclear about what kind of company they want to create, or take money from investors without understanding what the investors expect in return, I could imagine there would be trouble down the line.
mcguire 13y ago
"However, in my experience (which is now fairly extensive), this scenario is a vanishingly rare one." Wasn't there just recently a link[1] on HN about a startup that was bailing (and returning the remainder of it's VC) because it was only growing at 20-30% per month? [1] http://blog.ridejoy.com/from-carpool-to-deadpool-ridejoys-startup-journey/ http://blog.ridejoy.com/from-carpool-to-deadpool-ridejoys-st...
- pg 13y ago
  If they were truly growing consistently at 20-30%/mo they should never have quit. 20%/mo is almost 9x a year. That's a fabulous growth rate. I'm guessing they meant they grew at 20-30%/mo for a while and then things slowed down.
sridharvembu 13y ago
I think of most VCs as "money brokers" or "money salesmen" rather than as capitalists or investors. A company taking in $100 million in venture capital is basically enabling the VC partner(s) to earn $2 million a year annuity until an exit. That 2% annual commission (that's what I call it) on every invested dollar is a substantial incentive on the part of the VC to push more and more money on companies that a) may not need it b) would be unwise to spend it. I don't see any justification for the 2% on ever-larger rounds of investment. The work VCs do on a $100 million investment is not 100x more than the work they do on a $1 million investment. I hope that model gets disrupted!
- pg 13y ago
  That's true of mediocre VCs, but it's not true of top firms like Andreessen-Horowitz or Union Square Ventures. Those guys do a lot more than write checks.
grinich 13y ago
Do you know of any hacks to minimize spending? I ask because given the funding climate right now, it seems foolish not to raise more capital on great terms. It's especially true for first-time founders, who don't have an intuitive sense of how much the startup will need. (Or personal assets to float the company, if needed.) It's also not clear how to maintain a sense of urgency or frugality when other startups are paying crazy salaries and throwing huge parties. Perhaps this is less about spending money, and more about staying focused.
- pg 13y ago
  Don't hire people. That is where startups spend all their money. Hiring too fast is doubly constraining. It increases your costs, and it also makes it harder to change direction.
- fblp 13y ago
  Outsource tasks that cost human resources but are repetitive and easy to systemise. For example, you can outsource market lead generation, social media posting and other data entry for a few dollars an hour. Or get interns (be careful about the management cost of interns that will only stay for a short time).

by pg 13y ago

tptacek 13y ago

My (recent) experience with friends at startups suggests that in accepting venture capital and giving investors board seats, you're going to be pulled hard towards ramping spending: your board will want to see things like a formalized marketing team led by an experienced VP/marketing, and you'll quickly find yourself having to argue against spending more money. It's not just that funding goes to your head. Also, while I defer to your experience, maybe the vanishingly rare "marginal exit" scenario Daniel talks about was once more common; the two companies I was at prior to this one both faced it. Or is it possible that it only appears rare because nobody entertains the idea of a marginal cash exit for a VC-funded startup anymore, knowing what a headache it'll be?

mathattack 13y ago
My (limited) experience with funding is the opposite. Rather than request an experienced head of marketing, they wanted an experienced CFO to be the adult in the room. I think the question of funding comes down to, "Would you put this on a credit card with a 30% interest rate?" If the answer is yes, and you don't have the credit card available, then funding is ok. The reason is that you're expecting a return much better than 30%. If funding can give you a product edge so that you're winning 5 enterprise deals out of 10, rather than 2 out of 10, the numbers will probably make sense. If funding allows you to do a marketing campaign with real analytics and AB testing that will change your growth rate from 10%/month to 20%/month, it will probably be worth it.
pg 13y ago
Yes, it's true a lot of VCs will encourage you to spend faster than you should. I warn about this in essays and in a lot of individual conversations with founders. But fortunately they can never do more than encourage, because founders almost never give up board control in funding rounds nowadays, at least not in the US. As for marginal exits, I think the biggest reason they're rare is that there is not that much demand on the buyer side. There's lots of demand for HR acquisitions of failed companies, and there's demand for high fliers, but Facebook and Google et al are not looking for small, moneymaking businesses.
- tomasien 13y ago
  This is something I've wondered about - I hear people warning about investors pushing them toward an end they don't want, but what leverage do they have?
  - pg 13y ago
    They don't have the same kind of board power they used to, but they're still very influential. They are often more experienced than founders, and also, being older, more authoritative. And much of their advice is good. Especially the best investors, some of whom are really smart. So founders rightly start to rely on their advice. The catch is that founders' and investors' interests are not always aligned, and when they aren't you can't trust investors' advice quite as much. But the two types of cases aren't sharply differentiated. Which means to avoid being misled by investors you have to be able to judge precisely how misaligned your interests are in each situation, and discount their advice by exactly that amount. It's a subtle problem.
    - kops 13y ago
      > but what leverage do they have I thought he meant "what leverage do the founders have?". Not sure though.... However, assuming that he did mean "what leverage do the founders have?", I would say that they are the boots on the ground and can very much scuttle anything that the investor wants them to do. The moment founder's interests are not aligned with the startup, it is doomed. I guess an investor can help them succeed but can't stop them from ruining it. Disclaimer: pure speculation, I have no experience of being on either side of the table.

solve 13y ago

Instead of financial loss, I'm more afraid of losing the IP, company, everything I've made prior to my investors even joining, because the investors or their successors suddenly feel like kicking me out someday.

tptacek 13y ago
Losing IP used to bother me, but in hindsight turns out not to have mattered. The fully integrated system you built failed in the market; its value is illusory (if you got to keep it and redeploy it, you'd probably lose in the long run). The components of that system probably aren't lost to you at all. First, nobody cares about them anyways (VCs aren't going to chase you down for repurposing some scheduling library you built for your restaurant app). Second, while you operate the company you always have the ability to open-source them as you go. Third, once you know how to build a component, it's pretty easy to rebuild it.
- solve 13y ago
  You're probably right about the IP and databases not being completely trapped, in practice. What about non-competes though? Could I really start a directly-competing company immediately afterwards? After all, not all startups fail just due to having completely worthless products, there could be many other reasons.
  - tptacek 13y ago
    What non-compete? Are those common on VC deals? There weren't any when I took funding, but that was awhile ago.
    - mrkurt 13y ago
      Non-competes would likely come either when you left the company in exchange for some unvested options, or after an acquisition.
  - argonaut 13y ago
    Non-competes are largely unenforceable in California.

thatthatis 13y ago

Thanks for sharing the view from where you sit, that's insight that's hard for most of us to pick up on our own. Do you know of or have any shareable data on venture backed founder returns? What's your take on if funding shuts down a "pivot to a lifestyle business"? I've always looked at the outcome venture most strongly closes down as "$300k a year pseudo annuity." Basically the kind of business returns profiled in the $100 Startup book.

3pt14159 13y ago

I think your experience is too biased to be useful for people outside of YC/Palo Alto/California/America. Even besides the caliber of people that get into YC, the immense network and support system as well as caliber of investors probably makes your advice less relevant to most startups.

tptacek 13y ago
YC/Palo Alto/California/America/Continental North America/Western Hemisphere/Terrestrial Earth/&c
- 3pt14159 13y ago
  Well yeah, I put them in that order for a reason. It shows how pronounced his bias is. There is a world of difference starting a startup in Greenland than in Virginia, and a world of difference from Virginia to California. Most people reading pg's advice are going to take the wrong thing away from it.

davidw 13y ago

> However, in my experience (which is now fairly extensive), this scenario is a vanishingly rare one. Your experience mostly corresponds to Boston and Silicon Valley, though, correct? I do not have your experience, but I read a lot and keep my ear to the ground, and, not living in those areas myself, got interested in the "micropreneur" idea - stuff like what patio11, Rob Walling, Peldi (Balsamiq) and company are doing. The numbers - at least those I've seen - don't generally seem like they would be a win for investors looking to put millions into something and get multiples of that back. However, at a personal level they seem to be doing very well for themselves. It strikes me as a model that is perhaps more applicable to "the rest of the world" where the ecosystem is not, nor likely ever going to equal that of Silicon Valley. Of course, I do not think there are any recipes or hard rules for any of this: some companies need VC and need lots of it to be able to do anything, because they've got grand schemes that change the world. Others don't and would be better off without the distraction.

edanm 13y ago

One thing which might skew your statistics, is that taking VC funding or going to YC is itself the result of wanting a large success being your mindset in the first place. In other words, it's true that investors don't necessarily have leverage over founders, and I'm sure the scenario that Daniel describes is just as rare in YC as you say it is. But the reason this is true might be that the kind of people who go to YC are also the kind of people who want to take a 1-in-a-million shot at big money, rather than taking more conservative odds for less money. And one of the reasons this is true, is that founders don't understand the statistics and the risk profiles of their options, or in many cases don't recognise that they even have options in the first place when choosing what type of business to build. Daniel's meta-point about founders being able to choose which kind of business they will build, including choosing it's risk profile, is something I hope more and more founders get exposed to.

pg 13y ago
That could be. At least at YC there are comparatively few misunderstandings about what's expected of companies that take various kinds of investment. But if there are people out there who are unclear about what kind of company they want to create, or take money from investors without understanding what the investors expect in return, I could imagine there would be trouble down the line.

mcguire 13y ago

"However, in my experience (which is now fairly extensive), this scenario is a vanishingly rare one." Wasn't there just recently a link[1] on HN about a startup that was bailing (and returning the remainder of it's VC) because it was only growing at 20-30% per month? [1] http://blog.ridejoy.com/from-carpool-to-deadpool-ridejoys-startup-journey/ http://blog.ridejoy.com/from-carpool-to-deadpool-ridejoys-st...

pg 13y ago
If they were truly growing consistently at 20-30%/mo they should never have quit. 20%/mo is almost 9x a year. That's a fabulous growth rate. I'm guessing they meant they grew at 20-30%/mo for a while and then things slowed down.

sridharvembu 13y ago

I think of most VCs as "money brokers" or "money salesmen" rather than as capitalists or investors. A company taking in $100 million in venture capital is basically enabling the VC partner(s) to earn $2 million a year annuity until an exit. That 2% annual commission (that's what I call it) on every invested dollar is a substantial incentive on the part of the VC to push more and more money on companies that a) may not need it b) would be unwise to spend it. I don't see any justification for the 2% on ever-larger rounds of investment. The work VCs do on a $100 million investment is not 100x more than the work they do on a $1 million investment. I hope that model gets disrupted!

pg 13y ago
That's true of mediocre VCs, but it's not true of top firms like Andreessen-Horowitz or Union Square Ventures. Those guys do a lot more than write checks.

grinich 13y ago

Do you know of any hacks to minimize spending? I ask because given the funding climate right now, it seems foolish not to raise more capital on great terms. It's especially true for first-time founders, who don't have an intuitive sense of how much the startup will need. (Or personal assets to float the company, if needed.) It's also not clear how to maintain a sense of urgency or frugality when other startups are paying crazy salaries and throwing huge parties. Perhaps this is less about spending money, and more about staying focused.

pg 13y ago
Don't hire people. That is where startups spend all their money. Hiring too fast is doubly constraining. It increases your costs, and it also makes it harder to change direction.
fblp 13y ago
Outsource tasks that cost human resources but are repetitive and easy to systemise. For example, you can outsource market lead generation, social media posting and other data entry for a few dollars an hour. Or get interns (be careful about the management cost of interns that will only stay for a short time).