the cornice

I care less about product everyday. I care more about people and markets everyday.

With seed stage companies, most everything is mutable. The founders are forever The Founders but the team will grow. The product will morph. And the name will probably change too. That this all happens is a good thing. It should be encouraged amongst both founders and company advisors. The best seed stage companies are creatures of learning. I’ve written about this before in a post on pivoting.

At First Round Capital, this is something we talk about a great deal. Every year, we review more than 2500 plans and presentations on ideas for new businesses. We typically invest in 20 new companies every year, but we continue to follow the development of many companies that we have chosen not to fund. While doing so is often humbling, this has allowed us to develop a tremendous amount of institutional knowledge on business building.

We recently carved out some time to review and discuss some of the data we have collected. This involved checking our old notes from company meetings and revisiting their original pitch decks. It’s a staggering exercise actually. Seed stage companies become successful through paths that nobody can imagine. Many of the companies which grew to be most successful, identified their initial market correctly but missed on the specifics. Often, they knew to target a certain type of user or community, but were off in identifying the growth engine of their business.

The currency of an early stage business isn’t revenue or profit, it’s learning. Products and features are tactics employed to test and reach a market vision. After our data review, I’m more convinced of this than ever. When product roadmaps are spec’d and fundraising is planned, they need to be done so with the intent of discovering what is and what is not working in a business. Every feature / pixel / byte is a chance to take another step to a market vision. When they don’t another tactic is needed.

The best entrepreneurs know this. I’ve seen the data.

Malcolm Gladwell has written another though provoking piece for the New Yorker. The article is available for a limited time outside of the New Yorker’s pay wall and you can find it here. Although the article was inspired by the fall of Bear Stearns, it’s relevant to all aspects of business which involve a high number of variables and possible outcomes. Worthwhile reading for entrepreneurs and VCs alike. My favorite excerpts follow below:

As novices, we don’t trust our judgment. Then we have some success, and begin to feel a little surer of ourselves. Finally, we get to the top of our game and succumb to the trap of thinking that there’s nothing we can’t master. As we get older and more experienced, we overestimate the accuracy of our judgments, especially when the task before us is difficult and when we’re involved with something of great personal importance

*****

Perhaps this is part of why we play games: there is something intoxicating about pure expertise, and the real mastery we can attain around a card table or behind the wheel of a racecar emboldens us when we move into the more complex realms. “I’m good at that. I must be good at this, too,” we tell ourselves, forgetting that in wars and on Wall Street [or any business] there is no such thing as absolute expertise, that every step taken toward mastery brings with it an increased risk of mastery’s curse.

At a web services conference a few weeks back, I remarked that the story behind the show was really that fixed costs will become variable / “flexible” costs costs. This is better than capital efficiency, this is capital alchemy. Only allocate capital the instant it can marry customer demand. In the start-up world the trend is hard to ignore.

It used to be that start-up needed $5 million just to build the infrastructure that was needed to launch a website. That’s $5 million just to test whether or not an idea had any legs. That’s $5 million whether just one person who visited your website or millions did. But today, Amazon Web Services has turned this “fixed” infrastructure costs into variable expense. Get your credit card, sign up for an AWS account, and pay as you go. Tough to imagine companies were once launched any other way.

Another example is CPC advertising. It’s only been in the past decade that we’ve seen widespread adoption of pay-for-performance advertising. Instead of doing a fixed $X0,000 media buy, businesses can bid on keywords knowing that they will only pay if someone clicks their ad. A fixed marketing expense is now variable.

Capital alchemy is a trend that has already revolutionized both the advertising worlds and the web infrastructure worlds. Undoubtedly, it will impact many more sectors of the economy. I’d love to meet with entrepreneurs who have some ideas on where the magic of capital alchemy might strike next.