Why Venture Capital Investors Are Usually Wrong About Startups
And the intangibles that will get you on the right side
If an investor has passed on investing in your startup, it’s probably for one of these reasons:
- Your startup isn’t investable.
- Your business doesn’t fit their investment thesis.
- There’s only so much room in their portfolio.
But often, the reasons they pass are less clear. And sometimes, they’re making a mistake.
Let’s take a look at where Venture Capital investors sometimes get it wrong.
Why investors make mistakes
According to basic VC math, investors have about a 1 in 10 success rate.
They make mistakes. They dump millions of dollars into companies that don’t make money, and in some cases never will never be profitable. They pass on early opportunities to invest in the next Google, Amazon, or Facebook. They sign up for one thing, then immediately expect another.
Investors aren’t stupid. Despite what reality television might lead you to believe, it’s hard to be stupid and get rich. It’s even harder to be stupid and remain rich.
No investor is immune to making mistakes. Successful entrepreneurs-turned-investors make the same mistakes as their former counterparts. Grizzled old managing partners make the same mistakes as fresh-out-of-MBA-school associates. Investors with sterling track records can hit a losing streak, a dry spell, a rut.
How is any of that possible in an industry filled with so much advanced technology, quantifiable history, and so many metrics?
It’s because success in startup has never been directly correlated to the kinds of data used to make investments in startups. As a 20-year entrepreneur, mostly working on solutions born out of data collection and analysis, I can tell you that any time the data isn’t an accurate predictor of results, it’s because we don’t know what we don’t know.
For lack of a better term, it’s the intangibles.
When you try to quantify intangibles, you open up a Pandora’s box of misinformation. When you use this misinformation to predict results, you will be dead-center accurate when you’re right, but you’ll be wrong way more often. Maybe even nine times out of 10.
I’m not pretending to have the answer as to what makes up a winning set of intangibles for a guaranteed successful investment. If that were the case, I’d just be investing in sure things, not writing posts trying to make you a better, more investable entrepreneur.
But my track record with startups, as a founder, as an investor (and to be clear, I no longer invest), as an advisor, and just for fun, is a lot better than one out of 10.
There is indeed actionable insight into what a potentially successful startup company looks like. Here are the intangibles I’ve seen investors repeatedly miss.
The company knows everything there is to know about their industry
One of the reasons older entrepreneurs have a better track record than younger entrepreneurs is that they’ve spent more time living with the pain of the problem they’re trying to solve. So usually investors look to check the industry experience box at a high level and score that startup based on its industry connections.
But wisdom and connections aren’t everything.
The best startup companies I know are wall-to-wall experts in their fields. For example, when I was at Spiffy, everyone there knew almost everything there was to know about car washes, for which we developed a mobile on-demand solution.
I’m not just talking about the teams executing the car washes. For example, the CTO knew the best ways to wash a car, the best car wash products available and why they were preferred, also why and how and when and where customers liked to have their car washed. All this learning was baked into the tech.
By the time I launched our pilot for mobile on-demand tire service, I knew not only everything there was to know about tires, but how they were sold, distributed, installed, balanced, and repaired. I can look at your tires and not only tell you when they’ll need to be replaced, but why they’re wearing the way they are. All this learning helped me build a better product.
A lot of startups will try to deliver solutions that solve problems. The investable startups are the ones that solve the problem. The startups that return on that investment are the ones that are constantly examining the problem and evolving the solution over the scope of something as massive and shapeless as a market.
They know everything that’s going on within their company
If you ask anyone at my current startup, Precision Fermentation, how many fermentations were started last week using our technology, they will be able to tell you. If you ask them how much our marketing spend was last month and how many leads it produced, they might not remember, but they’ll know how to get that information.
I spent the last three months making sure that this kind of internal knowledge didn’t stop at the leadership level. Everyone at the company should know all the details the company’s goals, where the company is today, and how much progress is being made in real time. This information should be accurate, timely, honest, and be delivered with transparency.
Investors rarely talk to the rank and file at the company they’re looking to invest in, and this has always surprised me. To me, this is like shopping for a car, taking a magnifying glass to the exterior paint finish, and not lifting the hood, but just looking at a photograph of the engine.
I’ve seen and worked with companies where everyone was very good at what they did, but they were doing it in a vacuum. The aforementioned rank and file were not only unaware of what was going on with the company, they were blissfully unaware. Furthermore, this was not only tolerated by management, it was encouraged. Bad management calls this focus. Good management calls this stagnancy waiting to happen.
This is usually the reason why investors bypass talking to the low-level employees of a startup. It should be a warning sign, not an excuse.
They know everything that’s going on in their market
You know how to do a really good competitive analysis? Call the CEO of your primary competitor and spend an hour on the phone with her.
This is something I learned recently from an entrepreneur with more experience than myself — because you’re always learning. He’s an aficionado and educator to the rest of the company on eCommerce, the company’s market, the industry, and adjacent markets and industries.
He follows trends, studies public and private companies and any advancements and innovations that appear to be working. He reads and he writes, because the act of writing requires more understanding than just reading. He gains access to information and disseminates it across the entire company.
One time an investor raised an eyebrow that our company wasn’t subscribed to Gartner and other research reports. I’m proud of the fact that it was me who answered, “That’s because this dude is Gartner.”
Be your company’s Gartner. Show investors data they’re not going to find anywhere else.
They focus on improving their product, culture, and mission
Investors like companies who are seen and who sell, and that’s usually where it stops. They like press, awareness building, brand building, and when the cash register rings.
We all do, it’s why we’re entrepreneurs. But some investors will caution a company to spend less time focused on the product, the culture, and the mission. They don’t understand the exponential return on revenue that these initiatives can generate.
If and when you choose to step on the VC treadmill, you’re chasing growth with revenue as your metric, sure. But there needs to be a balance, a recharge of the body, so to speak, to be able to continue that chase over the long haul.
Product: If you’re not improving, you’re falling behind. There is no such thing as a static product line anymore.
Culture: The machine that’s on that treadmill with you needs to be engaged and motivated. If the company is not actively nurturing engagement with improvements in culture, motivation will fall away.
Mission: All the milestones in the world mean nothing if there’s no good reason to hit them.
In other words, a startup can’t show outsized performance on the outside if it’s rotting on the inside. Well, it can, but the plaster foundation that props a successful external facade usually crumbles quickly.
These intangibles don’t come quickly and they’re not easy to measure, which is why most of the time they’re overlooked. Don’t fake them, live them.
If you can pull your newest and lowest-level employee into a room with an investor for a knowledgable conversation on your company’s market, its goals, and how it’s going to get there, that investor will see your company in a different and much more investable light.
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