On this special segment of the Full Ratchet, the following
investors are featured:
Each investor highlights a situation with a startup that
they decided not to invest in and why it was that they
Nick: On today’s special segment, we have #Semil Shah of the Haystack fund. Semil, can you tell us about a startup that you were very interested in but choose not to invest in not to invest and why it was that you passed?
Semil: Yeah, I think… Yeah, there’s a start up in New York where I actually wrote. So the start up now is valued like well over five hundred million dollars by legitimate V.C. funds, that’s a consumer brand company and it was painful for me because I had actually written a post that I wanted to see a company in this space with this model which I never do, so that was rare and then the intro was just thrown to me because I wrote this post by friend and he was investing and I had kind of a bad phone call like in the sense it didn’t allow me and I just kind of decided based on that like, “Hey, I don’t… I don’t know if I buy that” and that it’s kind of frustrating in the sense that even though I didn’t get to meet the person face to face and if they were local I probably would have, that investment could have probably more than return my fund, just one phone call.
Semil: Yeah, so you know because I have a few stories like that. Every investor does, you know. How much time do you have?
Nick: Maybe pick out a key one where you learned a big lesson and maybe it’s changed the way that you approach things now.
Semil: Yeah, I think that I had known #Gagan from #Sprig for a long time and when he started a company in the seed round. I could have easily just texted him and said, “Hey, can I put in some money?” and they probably would have said “Sure!” and I remember thinking to myself, “I just don’t think that idea works.” I kind of just dismissed it without just sitting down and taking a minute and you know, that was a mistake of… Especially because I knew Gagan and he’s very, very special in terms of being a founder. He’s a very special person. So I used the reptilian part of my brain around thinking about the idea and categorizing it and dismissing it before or really thinking about ingredients on the other side of my brain. That also may end up being a costly oversight.
Nick: On today’s special segment, we have #Peter Wilkins of Hyde Park Angels. Peter, can you tell us about a startup that you were very interested in but ultimately chose not to invest and can you talk about why it was that you passed?
Peter: You know, it’s funny because we probably… You know, we see a lot of stuff that’s really promising and so this across many passes that we have, we will see a strong in the market, strong management team but we don’t have the domain expertise to really validate it and that’s why we pass, you know promising but we just can’t add value and we have to learn about that market in a way that we won’t be a good partner. Some pass on opportunities like that. That’s why we pass on a pretty consistent basis. I only have one to give you where I was like, “Oh my God. We shouldn’t have passed on that.” I think there’s a lot of ones that are really questionable but at the end the day, we know what the formula that we have and our formula is to match who make capital with entrepreneurs to help them drive success in our financial capital follows that. So, if we can’t make that match, we pass but sometimes it’s tough to pass because we think there is a really promising entrepreneur that we should support him but we need to stay focused on what we do well.
Nick: What about situations where you do have domain expertise but you find this variable coming up more often than not; strong start up maybe the idea is great but this one seems to come up frequently were ultimately you have to pass even assuming you do have to domain expertise?
Peter: The thing that would most likely come up is, “Can we determine if it can become a pattern for the desired consumer of the product whether it’s B-B or B-C?” So the market is starting to show that it’s somewhat validated or There’s enough evidence to the sense that, “Hey, this is really intriguing” but we can’t get comfortable with the fact that it will really start to develop a pattern that’s recurring and so it’s like that traction element of how much evidence to you need that there’s a value prop, that we can really get the traction we need to be able to validated to that next stop? and I think that’s where the grayest area, you know it’s just tough to tell sometimes and that’s also… Sometimes we should not pass and then sometimes we should a past., Right?
Peter: I think… You know we got couple that are like that right now.
Nick: On today’s special segment, we have #Andrew Parker of #Spark Capital. Andrew, can you tell us about a startup that you were very interested in but chose not to invest in and why it was that you passed?
Andrew: Yeah. You know, I take the confidentiality of a pitch very seriously. I just think for a given entrepreneur it really matters that they trust the V.C. crossable not to disclose any information’s happened there so, don’t feel at liberty to talk about modern examples but if there was one example that was published publicly by #Paul Graham and also by #Brian Chesky, this was the case Airbnb. So, this was back when I was at #Union Square Ventures. I was an associate in the room so it’s not like I’m trying to take credit for sources steal by any means. This is Paul Graham showing directly to #Fred Wilson. This was me and Fred taking the pitch and it was the three Airbnb founder on the other side of table and at the time the company is called #Air Bed and Breakfast and they were articulating what the Bed and Breakfast market was; why they thought they kind of more distributed version that leveraged people’s homes, apartments or even just couches could actually be a means of competing. You know, kind of coming in from the bottom up with like a cheaper solution.
Andrew: And we thought the idea is super interesting intellectually but because the company literally had the word bed and breakfasts in its name, we couldn’t help but just do like kind of a back of the envelope market sizing analysis to try and figure out you know, like what is the market for bed and breakfasts and then what is the low end of that market and how much could Airbnb reasonably grab of that market share and so then how big would this company be in roughly three to four years. You know, just that’s was kind of exercise we went through and we managed to get to, you know maybe one hundred million dollars’ worth of gross transaction value of which we thought Airbnb state rate could reasonably be somewhere in the neighborhood of ten percent. I think at the time they’re operating at like eleven percent or something that and so we thought you know, “Okay, they can get to like eleven million dollars and maybe it’s even more like twenty million dollars because perhaps you’re too conservative in this case or that case or whatever” but we couldn’t reasonably stretch ourselves beyond a twenty-million-dollar recurring revenue run rate and realize, “Well that’s not really venture scale. So there’s something super interesting in here but probably isn’t for us” and like it was just idiotic. You know, we were like so, so wrong, right? Like instead, what we should have been thinking about is the market that they’re creating that you know, that they are creating a totally new way in which someone might travel; a way that might be completely preferable. You know, I think of this very similar to the way that I think of #Uber where, you know people think we were a replacement for the taxi market and I think that’s actually the least interesting part of Uber and instead it’s you know, the replacement for car ownership where we were Uber gets super interesting and you know, we should have been thinking about Airbnb this way but we weren’t and so we were idiots.
Nick: It’s hard to know when consumer’s ideology is going to switch right from, “I need a hotel when I’m on vacation” to “Well, there’s this whole supply side that’s untapped and I could stay at an even better place with even better amenities and even better services”.
Andrew: Yeah, I think knowing that in the aggregate level, knowing that you know the dentist from Des Moines is going to prefer an Airbnb when it is going on his Florida vacation. That’s really hard to know but what is easier to know when you’re thinking about kind of seed stage or series A stage investing is looking at people that are directly in the target market that have already use the product and just interviewing them and try not to be leading with it but just ask them, “Hey, how did you like it, you know? What was it like?” and you know, for the most part most the time you’re going to get fairly mixed feedback and then you’ve got to figure out what to do with it and you know because you know in V.C. you just see so many opportunities the top of the funnel and you’re only going to investing in you know one to two companies per year something like that, you know most of that mixed data is going to end up mix enough that you’ll probably end up not investing in that Company but once in a while you’re going to do these customer interviews and people are just going to shake you. They’re going to grab you by the nut and go, “You don’t understand. This is like the best experience ever. This is changing the way that I either do business or enjoy my leisure or whatever the. you know the thing that is being solved” and that’s a really great leading indicator that you have a good early stage of investment on your hand.
Nick: You know, when #Steve Blank was on the program I asked him about how one can determine if the innovators or early adopters are actually going to be representative of the early majority, late majority and etc. Do you have any thoughts about how you can parse out or ferret out if some of those early evangelists are really going to represent the ideology of the mass market?
Andrew: Yeah, you know it’s a great question. It’s heartening. I think you should get conviction that the folks that are giving you really positive feedback are people whose opinion you trust- that’s important. Whether or not they’re representative of a larger audience or not, I think he’s just going to take judgment on behalf of the investor, right? There’s some research you can do there in comparison like, let’s say it’s a B – B service and you happen to be talking to a company that’s raving about the product that has like two employees but really the target market for this company for this product is more like twenty or thirty employees or something like that, then you haven’t found a representative set but outside of that kind of analysis I mean, this is one place where you can probably take the plunge and find yourself there.
Nick: That will wrap up this installment of investor stories. Head over to the full wretched. NET to leave a comment. Sign up for the newsletter or find resources discussed on any of the episodes. Until next time, remember to over prepare, choose carefully and invest confidently. Thanks for listening.