This is the key point: "This is all how you probably should be running this business anyway--with a sense of urgency about cash, that is, until you start making enough of it to pay for your overhead."
And it is exactly spot on. Raising an equity round is tough, and its very "expensive" money in that it gives so much of your future success away to someone else. So when you go into your business thinking "This is the product, these are the customers, this is the market, and this is how I make money." Your need for funding is limited to getting you to cash-flow break even. Then when you have traction you may find that you want to grow quickly to capitalize on that rather than let someone else get in on the market.
So your two times you ask for money? To get to the point where you've proved the product and to get the company into self sustaining growth. And in the ideal world your seed round gets you to the first one, and your series A gets you to the second. Of course there are almost as many paths to success or failure as there are grains of sand on a beach, so there are no hard and fast "rules" about these things.
There is a great set of books for new parents, one called "What to expect when expecting" and the other "what to expect your first year" which have general sorts of guidelines about how kids develop and grow. We don't have those two equivalents for startups but they would be best sellers if we did. These books approach the problem of providing solid advice for an infinitely variable set of possibilities.
Having never founded a startup myself, I always find advice like this to be slightly surreal. Surely everyone who starts a startup is intent on selling product? It kind of sounds obvious, and yet it comes up on HN again and again.
I'm sure these are intelligent people doing this, with all the correct entrepenurial traits, so can someone explain how people get to a state where they aren't worried that "amount of money spent" > "amount of money earnt"?
On a seperate note - I've always wondered how you work out how much to pay yourself if you've not actually made any money yet and you are only using your investor's cash.
Surely everyone who starts a startup is intent on selling product?
You'd be surprised! There are too many well funded companies to name whose offerings are aimed at exciting investors (by being needlessly novel, tying together trendy but impractical concepts, and so forth) rather than focusing on what end users actually want. But this is the VC game - if only one stupid bet out of fifty works out ridiculously well, everyone's happy, right? (Except the end users, of course.)
So does that mean it's possible to make a living from exciting VCs about latest / trendy / tech whatever, without really needing to sell product?
Like I could pitch a new social, HTML5, WebGL, mobile, NodeJS platform framework API that links to Twitter, Facebook, blah, blah, blah and these VCs would fund it if I make the PowerPoint presentation sexy enough?
Do people really make a living from not actually making any money?
They can for a short time. Pitching is a bit of a game, and if and if you are a compelling technical person, you can probably get money a few times from non-savvy investors. The problem is that most founders have this feeling of relief when they take VC money. Really, though, the fuse has been lit and the real pressure has just started. At the same time, it is sometimes easier to sell to VCs than it is to hear from a customer that your idea isn't compelling. They both have money, it is easy to ignore that fundraising over and over isn't sustainable. TechCrunch doesn't write about your first 10k per month in recurring revenue, but you get a heck of a publicity bump when you raise your first round from Andreessen. If raising VC money is the Silicon Valley dream (many people see it that way), selling to customers can feel like a necessary evil.
So to answer your question directly: is it a sustainable model? No. Do people try to do it and start and crater companies on the way? Yes.
It is all about negotiation, but there are 2 rules of thumb:
1. Don't break 6 digits, stay below $100k. Anything more is a "good" salary where you might not be hungry enough -- or at least this is the perception.
2. Make sure you pay yourself enough that you can live frugally and not worry about money -- the last thing a VC wants to see is a founder waiting tables at night
Every investment is case-by-case, and the less you can pay yourself, the better. My understanding (and I only have a few datapoints) is that somewhere between $60-90k annually is a fine salary for a founder. There are caveats of course, but I think these are numbers that most VCs would not balk at.
In my experience with VC, though, if you are not the hypothetical scammer we have been talking about here and you have the right investors, it should be a conversation you can have. "You: I think I need $75k a year to be effective, is that ridiculous? VC: No. Sounds good to me. You: Okay!"
Note: this is for founders. It is totally different for employees.
There are, but I'm not in the scene enough to give you a number. I just wanted to point out, however, there are plenty of companies that made no/little revenue that sold for millions (or even a billion in Instagram's case). To be fair, Instagram did click with users and wasn't an investor play IMHO, but it's certainly possible to become personally wealthy without ever making serious revenue.
Truth, but they did a good job convincing people of the present value of their current assets (users) and future revenue. In B2C, users are value, even if they are not revenue. It is still a challenge to monetize, but it is easier to think about monetizing users when you have them than when you don't.
Instagram is a bit of a special case, I think. Facebook was about to IPO and had no real mobile presence. The risk that they faced that they might not be able to capture mobile market share was in their S-1 and every 10-K and 10-Q since they went public. Mobile was a big deal, and Mark knew it. If you look at how it went down, it was largely that Mark just went in and bought them, because he knew he needed to. This is not a repeatable business model.
These are SEC forms. The S-1 is the form that a company files when they are ready to have an IPO. It is several thousand pages long and has everything from several years of financial statements to market analyses by third parties so investors know what they are buying when they invest in the company.
10-K and 10-Q are the annual and quarterly reports that public companies have to file by law with the SEC.
These documents are the baseline of all investment activity. They are not enough for really hardcore investors, but they are a good subset of the material you need to make informed investment decisions.
An aside: Typically equity rounds are referred to as Seed (<1 million), Series A, Series B...etc.
Part of the problem is that pitching VCs and investors is a well documented process these days. It feels easier. Plus, you're selling a dream/spin/hope/promise... and that you believe in. Taking money for a product means you believe the product is worth it--and often times entrepreneurs see how bad the product might be in the early stages, and feel hesitant to ask for money for it. They might just assume it's at a state where no one one would actually pay. Also, asking for revenue and getting a no means it's just not working--and that's scarier than asking for investor money, getting a no, and just assuming that guy just "didn't get it".
There's a comment in the article that describes it as "land-grab mode". How long did Facebook operate with zero revenue? Twitter? For some businesses, their top priority is to grow the userbase as huge as possible so that when they start trying to generate revenue they have enough users that the tiny numbers they get from each user payout in huge quantities in total.
Would Facebook have taken over social networking if it had been slathered with ads during its growth phase? I don't know. Zuckerberg didn't think so.
I always thought that the percentage of "land-grab" companies was very small, and that most companies would need a better business plan than that. Wouldn't it be a warning to any potential VC that a company's intent was "we're going to get big and then we'll work out how to make money".
I think VCs and Angels work based on a set of rules similar to Wall street. They take risks most of the time blindly to gain more. Who can test every aspect of the idea? Who can analyze and predict all the outcomes? They make money like middlemen. They don’t make money because of production. Here are the rules:
- If one of many ideas works, it makes big and it compensates for all those failed
- Create hype through journalism, this is performed by using big numbers, which are not necessarily always correct numbers. Who can prove the numbers are not correct?
- Ideas funded by previously successful investors are more likely to get higher valuations and then being sold. That is why on the front end of every new company you would see the name of investors. Does the consumer care about the investor’s name? Obviously no.
It's so dangerous to look at the exceptions to the rule and extrapolate out strategy. How much money did they raise before revenue? Is it a good strategy to start a business by saying "Step 1, raise $100mm in VC money." That's not realistic for most people, so probably not a good strategy to apply to your business.
Not every startup is in a retail product space. Some are doing things that only make sense in the context of a larger company and their only realistic exit is acquisition or having one or a very few 'partner' customers. These startups might talk game about being big enough to be viable on their own but that's probably more a negotiating tactic than an actual plan.
Posts like this, which are very common leave me with the impression of a false dichotomy based on a very narrow point of view based on the author's limited experience in a small part of a large field.
I don't mean this as an attack or insult. It just seems to me that people in this sort of situation are very prone to knee-jerk reactions and generalizations that certainly sound good based on their accounts -- and often have some merit -- but that don't quite cover what ought to be the underlying lessons, or take into account larger views that might not fit their argument.
Is it wrong to sell equity? Is it unsustainable, is it fundamentally flawed, is it stupid? No, it's none of these things. It's a specific choice made in specific circumstances that can be good, bad, or (more usually and over the course of time) some combination of degrees between those two virtually worthless extremes.
Is it right to sell products/services? Is it superior, morally, ethically, financially? No. It depends on your business model, your goals, your resources, and a million other things that even themselves vary from situation to situation.
The article isn't bad or wrong. It's just taking a very small view of a very large topic.
Shoot for a bank loan! <-- what you'll never hear from startup advisors but is exactly the type of mental framework you should adopt if you're bootstrapping or working on limited seed round funds.
But banks don't lend to startups! <-- they sure don't
But you know who they do consider lending to? Companies with minimum 3 years of tax returns, breakeven cashflow and realistic projections and payback window.
This is of course difficult to do and the dreaded chasm where most startups die. In the process you may even be categorized as gasp a small business- but some of the most successful people I know started small businesses, retained ownership, methodically grew sales to medium to large business scale, and along the way established long standing non-dilutive lending sources aka banks.
Look for Venture Debt (not Venture Capital), which is a cross between a bank loan and a VC. The main advantage is that it is a loan that is paid back over time, albeit at high interest rates, but it doesn't eat equity. If you have the cash flow, and wish to retain control, venture debt is the way to go.
> pure "startup" where your real product is more likely to be the company itself
What? How do you possibly consider built-to-flip companies to be the "pure" startups? Wikipedia defines a startup as "a company, a partnership or temporary organization designed to search for a repeatable and scalable business model" (emphasis mine)
The "pure" startups are companies that will last for decades or more and will actually change the world, such as SpaceX and Tesla. These companies live or die on the revenue they bring in. They are real companies, not some shell built on hype like you describe (barely better than a Ponzi scheme).
Besides, even a built-to-flip company would be better off getting revenue than not. If the revenue numbers aren't high enough, keep building them higher, and don't tell them to potential acquirers until they are high enough to be impressive.
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EDIT: The now-deleted parent comment said:
So much depends on what your goals are/how speculative your venture is.
If you're in business to make a living and build up some sort of business in the traditional sense, selling your product at a profit is probably your top priority.
Alternatively, if you've got the backing and you're just going pure "startup" where your real product is more likely to be the company itself, there is some hazard in making the upside of your efforts tangible. With actual numbers, you risk your valuation being objectively quantified rather than via hype, pro-forma speculation or traffic. Far fewer of these projects succeed, but when they do, they are likely to be the ones making the news.
Reminder: wikipedia is an authoritative source of nothing. That's a very Blank-ian startup definition. A lot of startups are built to flip from their inception. They just have to make sure their funding doesn't run out before someone offers them $2M per employee (which goes mostly to the founders of course, not to the employees valued at $2M/each).
VC money should be for scaling, not initial build. This is where the lean startup is a great philosophy (I have other issues with it) but making sure that people want -- and are willing to pay for -- what you are making is the way to build a company.
And it is exactly spot on. Raising an equity round is tough, and its very "expensive" money in that it gives so much of your future success away to someone else. So when you go into your business thinking "This is the product, these are the customers, this is the market, and this is how I make money." Your need for funding is limited to getting you to cash-flow break even. Then when you have traction you may find that you want to grow quickly to capitalize on that rather than let someone else get in on the market.
So your two times you ask for money? To get to the point where you've proved the product and to get the company into self sustaining growth. And in the ideal world your seed round gets you to the first one, and your series A gets you to the second. Of course there are almost as many paths to success or failure as there are grains of sand on a beach, so there are no hard and fast "rules" about these things.
There is a great set of books for new parents, one called "What to expect when expecting" and the other "what to expect your first year" which have general sorts of guidelines about how kids develop and grow. We don't have those two equivalents for startups but they would be best sellers if we did. These books approach the problem of providing solid advice for an infinitely variable set of possibilities.