The Venture World

One Simple Way You Can Make an Actual Difference in Somebody’s Life

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Fresno State students receive supplies for school with help from Renaissance Scholars staff John Hunt, Jr. (left) and Kizzy Lopez (right).

We’re all bombarded with social media campaigns asking for us to Tweet, share, like, change our badge, use a hashtag or generally show outrage at a topic du jour. We jump in when we feel compelled or want to support the person who enlisted us.

Today I’d like to ask you to consider a small additional gesture that will make a tangible impact on the life of an 18-year-old in need of some love and assistance. Please consider watching this very short 2-minute video that talks about a program called the Renaissance Scholars program that helps children who are going into their freshman year of college and are either homeless or graduating from the foster care system. My small ask is below the video.

https://medium.com/media/531c648289f768f38118221c4f79ceae/href

I learned about the Renaissance Program from my wife, Tania, who has been working on a few causes related to helping children who graduate from foster care.

It never occurred to us that there would be this large group of ambitious people entering college with literally no support system. Of course it makes sense once it’s brought to your attention and once you know about it, it’s hard to do nothing.

So my wife sprung into action and contacted our nearest university, UCLA, to see whether they had a need for “care packages” for incoming students who had no parents or support system. Her goal was to donate mattresses, pillows, sheets, bedspreads, soap, laundry detergent and other basic necessities most of our parents provided lovingly as we entered our first year of college.

It turned out that UCLA had a Guardian Scholar program set up since they have around 100 students entering every year out of foster care / homelessness.

The Ask

Tania set up a few ways people who may feel moved can donate — and truly any amount would be meaningful — from $25 — $1,000. Every dollar given goes directly to the students and my wife is so focused on that that she set up multiple ways of donating with no fees (crowdfunding sites take up to 9%).

So there’s a Paypal page, a Venmo page or you can buy gift cards directly from Bed, Bath & Beyond (if you do the latter please don’t buy items directly because they started mailing each package individually to us so we want to limit this and get one bulk order — thus gift cards).

We need to raise at least $35,000 to get the children the most basic resources they need for college. And since today is my wife’s birthday I thought the best present I could possibly offer is my assistance in the work she’s truly passionate about. So I plan to match every contribution given dollar-for-dollar up to the first $10,000.

If you feel moved to donate — thank you! If you’ve given to other causes and are tapped out, don’t worry. But I’d at least appreciate your help in spreading this message to other people. You can start by clicking on the heart below so more people on Medium see and and then share across Twitter, Facebook, etc.

Tania, I love you for caring. I love you even more for doing something about it. Happy Birthday.

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  • Every day in the US there are around 428,000 children in foster care. The average age is 9 year’s old.
  • On average they stay for 2 years but many stay 5+ years
  • More than half of the children are people of color
  • Every year > 20,000 foster children “age out” and these are some of our most vulnerable youth. One of the greatest organizations making an impact in helping people graduating is LA Kitchen, where my wife also donates her time. If you want to know more about this great program watch this 60-second video.
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If you know companies that want to donate, UCLA is a public, nonprofit institution exempt under section 501(c)(3) of the IRS code under the Regents of the University of California. IRS Tax ID (TIN) 956006143

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Photo courtesy of Kleenex Brand video ad campaign. You’ll need one if you dare watch that amazing video above ;)

One Simple Way You Can Make an Actual Difference in Somebody’s Life was originally published in Both Sides of the Table on Medium, where people are continuing the conversation by highlighting and responding to this story.

Doing The Heavy Lifting

AVC - Musings of a VC in NYC -

Most venture capital investments are made, over time, by syndicates. This means a group of venture capital firms develops around a company, usually built over multiples rounds. Some of the firms in the syndicate agree to (or require) having a partner from their firm join the Board of the company.

If you look at the roughly dozen boards I am on, most of them have multiple venture capitalists on them. Some also have independent directors, something I believe strongly in and have written about frequently.

Not all venture capital firms in your syndicate will be the same. Not all of the VCs on your board will be the same. Some will be challenging to deal with. Some will be unproductive and distracting. Some will be nice to have around but won’t do much. A few will roll up the sleeves and do the “heavy lifting.”

It is this latter group that is super valuable. You saw it in action last week when the partners of Benchmark apparently negotiated a change in leadership at Uber. That is hard, painful work. But someone has to do it. And I have seen the partners at Benchmark do it before. They don’t shy from the tough stuff. Nobody enjoys doing things like that, but they know when it is needed and they step up and do it.

I was talking to another VC I work with yesterday about a completely different situation. The company is doing great. We have some important decisions to make, all good decisions to have to make, but making the right ones will matter a lot. This VC has been deeply engaged in the process, providing a lot of super valuable advice, and saying things that need to be said, even if they are not popular. I feel incredibly lucky to have someone like that in a syndicate with me. And I told him that yesterday.

You can put together a list of the top VCs by returns. That is done annually. It’s all nonsense. There are a ton of shitty VCs on that list. Returns matter, for sure. But what really matters is who shows up when the hard conversation has to be had. What really matters is who provides the right advice at a critical time. What really matters is who puts aside their own personal interests and does what is in the best interests of the company. What really matters is who steps into a vacuum and provides leadership when it is badly needed.

When you are picking investors, you should call around and check references. Ask about this stuff. Find out who does the heavy lifting and who goes along for the ride. Pick the one who does the heavy lifting. Because you will need it, frequently.


USV TEAM POSTS:

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Open Source Funding Documents

AVC - Musings of a VC in NYC -

Cooley, one of the top startup law firms, has open sourced the legal documents required to do a Series Seed or Convertible Note financing.

They are available on Cooley’s CooleyGo document generation platform and also on GitHub.

Kudos to Cooley for doing this. We need to make the transaction costs of getting a financing done as low as possible and putting the legal docs into the public domain is a great step forward in doing that.


USV TEAM POSTS:

Albert Wenger — June 20, 2017
MongoDB Stitch: A Fresh Take on Backend As A Service

What is the Right Burn Rate for your Startup?

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One of the hardest decisions entrepreneurs make when they start a company and raise outside capital is figuring out what an acceptable “burn rate” is. That is, how much should your company be willing to lose in cash every month as you make investments in staff and equipment that funds technology, sales, marketing and management.

Of course there is no right answer but it’s a function of how much capital you have raised, your prospects for raising more capital in the future, your growth rate and your company’s risk tolerance.

As a VC, burn rate is one of the most discussed topics I have with teams who are pitching me for raising capital and it is one of the most common discussions points I have with founders in companies that I’ve backed. So let me walk you through the discussion points I have with founders.

The Basics

The starting point — the 101 — is knowing the difference between gross burn and net burn. Gross burn is your cost base and net burn is the difference between your revenue and costs. In short, it’s the amount of cash you’re burning every month (vs. GAAP Net Income, which at times isn’t a good reflection of cash burn).

The main reason to know your burn is to arrive at a quick calculation of how many months cash you have before you run out of cash. Usually when an investor is asking you your burn rate he or she is referring to net burn — what cash are you consuming.

Growth vs. Profits

Yesterday I wrote about the trade-off between growth and profits. I wasn’t advocating for any specific actions because sometimes the right action is for companies to accept short-term losses in exchange for faster growth and capturing market share and many times it makes sense to grow more pragmatically or even profitably.

In the article I made the point that VC investors seldom value profitability if it comes with slow growth so forcing yourself to be profitable is wise in three specific scenarios:

  1. You have a business that never wants to raise (more) venture capital
  2. You can be profitable and growing at a steady enough clip to attract (more) venture capital
  3. You don’t believe you can raise venture capital so your best strategy is to become profitable so you can “control your own destiny”

But a certain amount of burn rate in startups is often desirable if it comes with commensurate growth and if ones prospects for either raising capital or failing that cutting costs and hitting profitability seem achievable.

How Much Capital You Have Raised / Your Runway

In general I recommend that in early-stage startups you try to raise at least 15-18 months of runway.

In general you should allow yourself 4–6 months of time to fund raise (longer if you’re later stage and require a much bigger round) so calculating anticipated burn rate is pretty easy. You start from the basics, which is if you raise $2.5 million you should have a burn rate of about $140–165k / month on average. If your revenue grows you can afford to increase your cost base. If you burn $200k / month you’ll be out of cash in a year.

If you assume 4–6 months to raise your next round then with a year of runway you really only have 6–8 months to show progress on your previous round of financing, which is why I prefer an 18-month runway.

Equally, when a company that is burning $175,000 / month tells me they’re raising $10–15 million it sets off alarm bells because even if I assume you’ll double your burn rate it still implies 2.5–3.5 years of cash runway, which is too much for a startup.

So either you will massively increase your cost base (nobody ever seems to raise a big round and then still spend like you raised a small round) or you will have such a long runway that it takes the urgency out of your daily actions because you feel like you have tons of time to show progress.

I know as an entrepreneur you prefer as long of a runway as possible — I’ve never heard an entrepreneur argue for the opposite. But in my experience having a healthy tension of NEEDING to show progress / hit milestones has a forcing function of getting companies hyper-focused on results.

Your Prospect for Future Fund Raising

The simplest answer I give to companies in which I’m an investor in is that if your company is growing very fast and if your inbound interest in funding your company is sufficiently large then you “earn the right” to have a slightly higher burn rate. If at any point we have a hard fund raising event or a blip in our growth or a sense that perhaps our last round valuation may have been too high and we need time to “grow into our valuation” then I swing very quickly towards reducing burn.

Sometimes, of course, reducing burn means cutting costs which usually means cutting staff. Sometimes it means spending less on marketing or not adding new bodies so that revenue can catch up with expenses and thus reduce burn through revenue growth.

But here’s also a good rule of thumb for you. Understand your existing investor base very well and their ability to fund you internally if capital markets change or of the external markets simply aren’t able to fund you.

If a group of 3 VCs have each written $6 million into a company ($18 million total) and the company is showing strong prospects and good growth but isn’t an obvious “home run” success and external funding becomes hard then the question of internal financings may come up. If you are burning $250k / month then you need $3 million to fund a year or $4.5 million for 18 months. Each investor would need to write $1–1.5 million to “turn over more cards” and see if you make enough progress. This is just 16.67–25% of their initial check. Equally, an outside investor could fund you with a relatively small check of $3–5 million.

If on the other hand you let your burn rate go up to $600k / month now it’s $7.2 million for 12 months and nearly $11 million for 18. That’s $2.4–3.6 million per investor or 40–60% of their original investments.

In my experience often investors will try to preserve value in scenario 1 above and often won’t in scenario 2. So understanding whether the follow-on check would be a lot or a little for your existing investors is very important.

Your Company’s Risk Tolerance

Finally, I should mention that burn rate is also a function of “risk tolerance” or how willing you are to let your company hit a brick wall if you’re not able to raise.

Some teams are very conservative and would rather keep an artificially low burn rate and 2+ years cash to avoid that dreadful feeling of the ticking time bomb that is that “cash out” date. Others spend willfully at high levels and seeing rapid growth results and just assume it will all work out.

So burn rate at times comes down to one’s risk tolerance but you should also be mindful to check the risk tolerance of your existing shareholders before making final decisions yourself. After all, the results affect the ownership for all parties involved.

But Wait, There’s More …

If you want to read more on the topic of burn rate from me I’ve written about it before.

There also were excellent posts by other VCs this week on the topic including

  1. Fred Wilson — Should Your Company be Profitable
  2. Brad Feld — Lessons from the Internet Bubble and importantly The Rule of 40% for a SaaS Startup (this influenced my thinking a great deal)

Photo via Visual Hunt

What is the Right Burn Rate for your Startup? was originally published in Both Sides of the Table on Medium, where people are continuing the conversation by highlighting and responding to this story.

Should Startups Care About Profitability?

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There are certain topics that even some of the smartest people I talk with who aren’t startup oriented can’t fully grok. One of them is whether profitability matters.

It’s common cocktail party chatter to hear people confidently pronounce that some well known startup is sure to blow up because, “How could they succeed when they’re not even profitable!”

Or you know the other one — the one where Snapchat lost $2 billion in just one quarter. Two-fucking-billion! What a disaster! Except that they didn’t actually lose $2 billion in cash. It was a stock option incentive related “expense” but I bet you didn’t know that because in an era where we only read the headlines — they must be a train wreck losing billions. (They actually lost about $175 million in cash in that quarter, FWIW. See appendix if you want to know more on this.)

In any tech startup there is a healthy tension between profits & growth. To grow faster businesses need resources in today to fund growth that may not come for 6 months to a year. The most obvious way to explain this is with sales people.

If you hire 6 senior sales reps in January at $120,000 / year salary then you’ve taken on an extra $60,000 per month in costs yet these sales people might not close new business 6 months. Your profitability will go down for 2 quarters while your growth may increase dramatically in quarters 3–12.

I know this seems obvious but I promise you that even smart people forget this when talking about profitability. 70–80% of the costs of most startups are employee costs so what you’re really talking about when a company is unprofitable is that they are growing their staff ahead of their revenue.

If you don’t have a strong balance sheet and can’t hire more people that’s fine — but understand this may lead to slower growth. Thus the trade off between profits & growth.

I often ask entrepreneurs to consider, “What’s your objective? Are you looking to potentially sell the company in the next year or two? Do you plan to run this as a smaller business but maintain healthy profits? Do you imagine eventually raising VC and trying to build a faster growing company?”

Venture capital isn’t right for many business but if you do want to raise from a VC at some point you need to understand that often investors care more about growth than profits. They don’t want high burn rates but they will never fund slow growth.

Revenue

When I look at an income statement I start by focusing on the revenue line. I want to understand how many units the company is selling, whether this is increasing over time and how well they’re doing at retaining the customers that they do acquire. My first priority is to understand “growth drivers.”

If you had two companies each with $10 million in revenue today they might have vastly different prospects for the future. One company might be growing its revenue at 50% per year and the other might be growing at 5% per year.

Of course when you think about it it’s kind of obvious but when people make snap judgments about information they hear about companies or read about in the press they often don’t take the time to start to consider the details.

The Nature of Revenue Matters

Of course revenue alone won’t tell you enough. You need to understand the “quality” of the revenue.

  • Is it one product line or multiple?
  • Do 20% of the customers make 80% of the revenue or do the top 3 customers represent 80% of the revenue. (This is called “revenue concentration” and the more concentrated your revenue the higher the risk that your revenue could decline in the future.
  • Is the revenue dependent on a concentrated set of distribution partners or platforms that put future revenue at risk?
  • etc
Revenue is Not Revenue is Not Revenue

It’s also not as simple as just looking at revenue growth in dollar terms. For example, look at the following graph. You’ll notice that although both companies have the same revenue every year, Company 1 has much higher gross margins than Company 2 because the cost of sales (COGS) is much lower.

“COGS” represents the amount that each sale costs you. For example, if you sell your product through a third-party reseller who charges 30% of any sale then your COGS will be 30% of revenue (assuming no other costs of sales).

The example chart is not actually atypical. The first company represents a normal software company that sells its products directly (either via sales staff or directly off of the internet). Many software companies have 85–90% gross margins, which is why it has historically been a very attractive industry.

Company 2 might represent an “ad mediation company” where the company gets paid by ad networks for running ads on publisher websites and the company in turn must pay the publisher 85% of the revenue it collects. This is not atypical for “middle men” who often take 15–30% of the value of the sale

If you’re shaking your head and thinking, “duh” I promise you that even some of the most sophisticated people I know get off track on this issue of “gross revenue” versus “net revenue.”

We get the revenue argument, but shouldn’t all companies want to be profitable?

Not necessarily.

Let’s consider the following two competing software companies, both of which have 66% gross margins and they decide to run their company exactly the same in year one.

They both raised angel / seed money of $1.5 million to fund operations in their first year of operations. Both companies lost $1 million in their first year and thus finished the year with $500,000 in the bank. Company A lost $2 million in Year 2 while Company B broke even.

So which company is better run?

The answer is that you have no way of knowing. On quick glance a person might lament the fact that Company A is “not profitable” or is being a typical Internet startup. After all, they doubled their operating costs when they weren’t even profitable.

What did they actually do? They raised $5 million in venture capital to fund growth. They used the money to hire a bigger tech team so they could roll out their second product line. They hired a marketing team to promote their products more broadly.

They hired a biz dev team to work on deals where their product could be embedded in other people’s products as a way to increase customer demand. They got a bigger office space so their employees would feel comfortable and they could improve employee retention.

If there was strong market demand for their product then this investment might pay off handsomely.

I also wouldn’t be so quick to say that Company B is run worse than Company A. That management team might have decided that they wanted to maintain more control of their company, didn’t want new board members and didn’t want to take dilution.

The answer may not be known for many years. If the market they are targeting is very large and fast growing then the venture-backed businesses often make it harder for the non-venture-backed businesses to compete in the long-term. If the markets aren’t large then the company who managed its costs may be able to get a modest exit at a fair price and make the team wealthy precisely because they didn’t take on venture capital. The VC-backed businesses sometimes “blow up.”

As is often the case — there are no obvious or right answers.

Let’s look at years 3–5 of these two companies.

In this scenario even though Company B initially looked prudent, it turns out that the investment that Company A made in people led to a higher annual growth rate. At the end of year 5 Company A had earned $19 million in cumulative profits (gains — investment years) while Company B had made only $6 million.

You could actually argue that both companies may have good futures and often this is true. But in other cases Company A uses its growth rate to attract more capital, innovate more on its products, do more marketing, capture more customers, lure away employees and often drive down profits for its competitors over time.

This is precisely why large Internet categories often produce “winner takes most” outcomes.

So let’s consider an even more aggressive “super high growth” Internet company. You know, the kind that unknowing commentators would be quick to lambaste as being wasteful because they’re not profitable.

The company would have had to raise at least $35 million in venture capital to have funded operations like this. More likely they raised $50 million or more.

Crazy? Stupid? Should they have slowed down operating costs in order to “make a profit.”

Again, it depends. If the growth is as spectacular as it is here and if they have access to cheap capital then they’d be crazy not to have raised VC money. Most likely after year 4 they began filing for their IPO to go public and journalists would be lining up to write stories in year 5 about how “they had never turned a profit in their 5 years of operations” and how “they were going public but still losing money.”

This is the trade-off between profits & growth!

The next time somebody wants to slam Amazon for not being more profitable please explain this. Amazon is continuing to grow at such a rapid pace that of course it should take some of today’s profits and reinvest them in growth (or acquisitions).

If there is a company that can’t grow fast enough then they should do other things with their profits, like return it to shareholders.

Appendix:

Early I discussed why stock option incentive expenses are not really cash losses and how people often misunderstand this leading to people proclaiming that Snap lost $2 billion! when they didn’t actually lose that in cash.

I don’t want to pretend that stock-option grants have zero impact on you as a shareholder. Stock option grants dilute your ownership in the company. They work a little bit like inflation. Inflation doesn’t “feel” like you’re losing value because if you have $10,000 in the bank you still have $10,000 after a year of 20% inflation but it actually buys you less when you want to spend it. Stock-option incentives are similar in that they dilute your ownership but you still own the same number of shares. It may impact you in ways you don’t understand because the institutions who drive the price of your shares may push down the share price but you probably won’t understand the correlation.

Executives explain these incentives as necessary to motivate top talent to stay at the company, innovate and in turn drive the value in your stock and of course this is true to an extent. Like all things of course there is a trade-off between payout out rewards to owners and paying out rewards to management. In some public tech stocks the size of the payout to top executives — even when they don’t perform well and eventually get acquired — the payouts are ridiculous.

Photo credit: -Snugg- via Visual Hunt / CC BY-NC

Should Startups Care About Profitability? was originally published in Both Sides of the Table on Medium, where people are continuing the conversation by highlighting and responding to this story.

ICOs and VCs

AVC - Musings of a VC in NYC -

The Brave browser team concluded an ICO for their Basic Attention Token yesterday in about thirty seconds. This led to this tweet:

The Basic Attention Token (BAT) ICO just raised 30 million dollars in 24 seconds. VC’s didn’t even have time to put on a sweater vest.

— briantobal (@briantobal) May 31, 2017

Of course folks will see ICOs as the end of the hated VC era of startup funding. And there is some truth to that.

But I see it a bit differently:

  1. Brave was VC funded prior to doing their ICO. We talked to Brendan when he was doing his seed round. He’s a great entrepreneur and technologist and he has assembled a terrific team. Although we are not investors in the company, we are sympathetic to the cause they are addressing. VC has had role in the Brave story. It helped them launch a product and get to the point where they could do a highly anticipated ICO.
  2. USV has a number of portfolio companies that will do ICOs. I have mentioned Kin and Filecoin in a previous blog post.  There will be others. Like Brave, it often makes sense for a company to raise VC to build the team and tech and get to a place where it can do an ICO.
  3. Not every company can do an ICO. Contrary to the hype machine working on ICOs right now, they are not simply a funding mechanism. They are about an entirely different business model. The token that you sell in your ICO is the atomic unit of your business model. You are selling some of it to raise capital but the main purpose of the token is to monetize your product or service.
  4. The investors who bought your token, like public market investors, may be gone tomorrow, next month, or next year, having moved on to the next big thing, leaving you with little to show for it other than the money you raised. VCs, at leas the best ones, are there for your company in good times and bad. There is a difference, trust me.

So, while ICOs represent a new and exciting way to build (and finance) a tech company, and are a legitimate disruptive threat to the venture capital business, they are not something I am nervous about and they are not something USV is nervous about. We are excited about them when they are the right thing for our portfolio companies and we are encouraging those companies to use this new approach. We are also investing in tokens, through token funds, and directly on or own.

Now I need to go put on my sweater vest.


USV TEAM POSTS:

Albert Wenger — May 31, 2017
Uncertainty Wednesday: Entropy

Nick Grossman — May 31, 2017
Mechanics of the token sale

Albert Wenger — May 30, 2017
Basic Income: The Potential of Cryptocurrency

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