Monthly Archives

November 2016

Pre-seed investments work best when there’s a clear plan for short term value creation

By | Forward Partners, Startup general interest | One Comment

Most VCs will say that to evaluate deals they look at the market size, the product and the quality of the team. Different investors place different weights on the three elements but as a rule earlier stage investors place more emphasis on the team and later stage investors place more emphasis on the market. That’s because early stage companies find it easier to change their market than their team whilst later stage companies find it easier to change their team than their market.

Some very early stage investors go as far as to say that for them team is everything. If the founder is great that’s all they need to know to write a cheque. At Forward Partners we don’t go that far. We always say that the minimum requirement to back a company is a great founder AND a great idea, then for us a great idea encompasses an inspiring product vision in a large market.

Breaking that down a little further, what we’ve learned over the three and a half years we’ve been operating is that our pre-seed investments work best when the ‘great idea’ includes a clear plan for value progression in the first six months. In the sectors in which we invest that nearly always means building momentum with customers. Completing product development and hiring team members definitely helps, but it’s dangerous to assume that will be valued by new investors.

With seed stage investments and later it’s usually obvious how value will be created – by maintaining current growth in revenues or engagement. Hence spending time thinking hard about short term value creation is mostly a discipline for the pre-seed stage.

This week our thinking was put to the test by a highly competent serial entrepreneur with a great team who has a strong idea in a large market but who has yet to build out a clear plan for driving value in the short term. We compared his case with a couple of others in which we’ve invested where the short term plan was much clearer but the longer term thinking was hazier and decided we prefer the latter.

Here’s why.

Given time great entrepreneurs will find their way to big opportunities. The question then becomes “how do we give them the greatest chance of having enough time?”. The best answer to that is to generate the short term momentum which will allow them to raise more money and buy more time to navigate to the big upside. If the short term momentum doesn’t arrive then either the next round will be difficult or the company will fail – both outcomes we seek to avoid.

With most things in life, if you plan for it you are more likely to get it, and generating the momentum required to create value in the short term is no exception.


Fear of failure can be a good thing, absence of courage never is

By | Startup general interest | 3 Comments

Last night at FPLive I was chatting with an entrepreneur called Nick who has just closed his startup. He talked impressively about what he’d learnt and has an interesting idea for his next company which I am keen to investigate.

There’s an important point lurking in there. He has just failed with his first company but that isn’t putting us off looking at his second. In fact, the lessons he’s learned help his case.

It doesn’t happen as much as it used to but people still talk about the ‘fear of failure’ as being a much more acute problem here in the UK than it is in America, and how that dissuades people from starting companies and holds our startup ecosystem back. That talk gets my back up a bit, partly because fear of failure is rational (it hurts), but mostly because it becomes a self fulfilling prophecy – would be entrepreneurs hear that fear of failure holds our startup ecosystem back which makes them think that failure is more likely and deters them from starting their company.

Returning to my conversation with Nick. He has been working with a large corporate innovation lab and we were talking about what large companies can do to hold onto the entrepreneurs in their ranks and harness their creative power. Getting the incentives right is a big topic, covering 1) how much money they should be allowed to make, 2) how much control they should have and3) what should happen if they fail.

As an investor who’s worked with lots of entrepreneurs I know that if the aim is to retain the best talent the answer to the first two parts of this have to be 1) they can make an awful lot of money and 2) they need to be given control of their startup.

Prior to last night my view on the third point was that companies should make it easier for their employees to be internal entrepreneurs by guaranteeing their jobs in the event of failure. Now I’m not so sure. Nick pointed out that fear of failing is often highly motivating. When your back is up against the wall you are more likely to be out of bed at 6am fixing things, morel likely to burn the midnight oil, and generally more likely to keep battling when the odds start to look impossible. What he has seen is that when people can walk back to their old jobs they are less afraid of failing, that they work fewer hours, and that they give up on the startup idea more easily.

So my emerging view is that fear of failure is not really the problem here. Rather I think we should be working on the other side of the equation – courage. More specifically – how do we help people muster the courage to start companies, even when they understand that painful failure is a possibility.

Strong convictions, weakly held

By | Startup general interest | No Comments

I first came across the phrase “strong convictions, weakly held” through Marc Andreessen, but a bit of Googling showed me it was originally coined by Paul Saffo, then Director of the Palo Alto Institute for the Future. According to this post he advised his people to think this way for three reasons:

  • It is the only way to deal with an uncertain future and still move forward
  • Because weak opinions don’t inspire confidence or action, or even the energy required to test them
  • Because becoming too attached to opinions undermines your ability to see and hear evidence that clashes with your opinion (confirmation bias)

Saffo came up with this logic almost 15 years ago, and as change happens faster and faster it has become increasingly compelling, to the extent that the importance of having “strong convictions, weakly held” is starting to become somewhat of a cliche amongst many of the best investors I know.

However, it applies to the whole startup world, not just investing. In fact it applies to anyone who is (or should be) searching for the truth, or more properly the closest approximation we can get to it. Much of the time in startups we have to make decisions based on minimal information in an environment that is fast moving and where there is no objectively ‘right’ answer. The best we can do is form an opinion based on the facts in front of us and then have the courage to act on that opinion. Then, and this is often the most difficult bit, we must find the courage to change our opinion if new information suggests we were wrong.

When investing as a VC that means quickly deciding which companies make attractive prospects, having the courage to divert time from other prospects to dive in and investigate them thoroughly, then having the courage to advocate them to our partners, then continuing to be courageous by continuing to search for reasons why a deal might not make sense, and then (if necessary) having the courage to say “I was wrong about this, I don’t think we should invest in this company after all”. This last part is tricky because it requires us to park our ego on the side of the road at a time when we’re already feeling bad about our wasted work and the lost opportunity. What makes it particularly hard is that often the reasons we find for not investing are ones that in hindsight should have been obvious earlier on.

I chose investing as an example because that’s the world I know best, but I could equally have chosen startup product decisions, marketing strategy, choice of tech stack, or hiring decisions. These are all areas where the best people have an ability to form strong opinions quickly and then remain open minded.

Note how this process is about a disciplined search for the best truth that we can find. That search is undermined when ego gets in the way and opinions get entrenched, which is the more natural human behaviour. Our confirmation bias makes us look for supporting data and makes us blind to counter arguments. In the best case this path leads to poorer decisions and in the worst case it results in conflict where protagonists read different sources of information and quote orthogonal facts at each other.

Ultimately it’s the job of founders, CEOs and leaders at every level to build a culture where people have the self confidence and courage to put themselves out there by forming strong opinions quickly and where it’s ok to change your mind later. Leading by example is crucial (as ever) but it’s also important to foster an environment where everyone’s opinions are respected and given space. We make ourselves vulnerable when we express an opinion, especially a strong one, and if we get shut down or dismissed it’s harder to find the courage to do it again the next time.

Browsers, bots and unlocking mobile e-commerce

By | Ecommerce, Mobile | One Comment

As the world becomes increasingly mobile centric, we still don’t have a great solution for long tail e-commerce. Smartphones now work amazingly well for Amazon and categories where we buy regularly enough to be bothered to download an app – but that’s fairly limited. In my case it’s limited to Uber, Hailo, Netflix, Spotify, Fy (one of our partner companies) and an app that lets me pay for parking on the streets of Islington where I live. You could maybe include the British Airways app as well, although I use that for checking in rather than buying flights. The point is, that’s a short list, and two of them are subscription services rather than e-commerce apps.

That leaves huge categories that don’t yet have a mobile solution for the mass market – fashion, travel, homewares, non-supermarket food etc. There are apps in all these categories, but they don’t get downloaded that often because we don’t want to clutter our phones up with apps we only use occasionally.

So if native apps aren’t the solution for long tail mobile commerce then we are left with a few other possibilities:

  • mobile browsers
  • bots
  • an instant app experience which gives us app functionality without downloading anything

The second and third categories are where everybody is pinning their hopes right now (and it’s WeChat’s recent announcement about their small programmes that got me thinking about this again), but the challenge with these are search, discovery and UI. It’s long tail ecommerce we’re talking about here, so we need a search experience that’s open to any retailer in the way that Google is, and then when you get to their site the purchase experience must be smooth – it’s not clear how that will work. The promise of bots and WeChat’s small programmes is that they will hold our personal information enabling efficient checkout. That makes a lot of sense, but most of the solutions we have seen so far require the user to learn a set of commands and I can’t see that working for many people.

Meanwhile anecdotally it seems that mobile browsers are slowly offering a stronger buying experience. Retailers sites are increasingly better optimised for mobile and browsers’ auto-fill and credit card storage features are working better, and that’s before Apple pay really gets going.

Moreover, as you can see from the chart below, m-commerce is growing much faster than e-commerce. Much of that growth is within apps, but not all (I couldn’t find stats that broke out browser based m-commerce and app based m-commerce) and that suggests to me that the humble mobile browser might be the final answer for long tail ecommerce merchants after all.



In defence of liquidation preferences

By | Startup general interest | One Comment

I just read a New York Times article that led with the sentence “Deep inside a Silicon Valley unicorn lurks a time bomb”. It turns out that ‘time bomb’ is the much maligned and, I suspect, little understood, liquidation preference.
To be clear, liquidation preferences are sometimes used badly and founders should generally turn away from investors who ask for multiple liquidation preferences. Additionally, they introduce a small amount of complexity and an element of misalignment between the investor and the common stock holder (usually the founder).
For these reasons our investments at Forward Partners are always in ordinary shares.
However, most of the later rounds or companies raise feature simple 1x liquidation preferences and we’re fine with that. To explain why I’m going to look at the role liquidation preferences play in getting deals done.
In any negotiation it’s helpful to look for ways in which the counterparties see things differently to reach other. These differences create the space for win-win solutions and without them negotiations are a zero sum game.
Liquidation preferences are a useful tool because they exploit a difference in the way investors and management see the future. Generally speaking management teams have more confidence in their success than investors do. Not by much, but by enough that it makes sense for them to accept a liquidation preference in exchange for a higher valuation. That trade gives them less dilution and therefore more cash in upside scenarios but less cash (and potentially nothing) in extreme downside scenarios.
This trade off is now so entrenched that it’s become a market standard that most investors and founders make unconsciously, but they are all aware of the implications. Moreover, in the rare situation where investors offer a choice management almost always go for the higher valuation.
Furthermore, provided the instrument is kept simple (i.e. a 1x non-participating preference share) and the company is successful enough to raise a couple of million or more the complexity and misalignment are more than manageable. Then as companies get towards unicorn status management and investors get increasingly sophisticated and their ability to exploit more complex instruments increases.
None of this is to say that some companies haven’t been overvalued and that liquidation preferences haven’t contributed, but it doesn’t sound like a ‘time bomb’ to me.

Facebook, Google and their dominance of digital marketing

By | Advertising, Facebook, Google | No Comments

According to the IAB, US digital advertising revenues grew 19% from H1 2015 to H1 2016. That’s very healthy growth for what is now a $32.7bn market. However, when you look at the numbers in more detail it’s clear that this strong headline performance masks a tonne of turmoil underneath.

Display continues to crater and the growth areas are mobile and video, but the surprising thing to me is how much Facebook and Google are now dominating. As you can see in the embedded tweet below Jason Kint analysed Google and Facebook revenues in the context of this market and found that revenues for all the other digital ad players went down over the last year.

This bears out what we’re seeing in practice, which is that startup founders who want to pay to acquire customers on the internet do so on Facebook and Google. These are the channels that our partner companies have been using recently (in rough order of significance, results skewed towards the companies we know best):

  • Facebook – all properties
  • Google (paid)
  • Google (SEO)
  • Partnerships
  • Content
  • PR
  • Direct Mail
  • Flyering

There are a couple of obvious implications of all this. Firstly, evaluating whether a company can get off to a fast start means analysing whether these channels will work (especially the top two), and secondly startups with advertising based business models will increasingly need some super-special secret sauce.

Then there is the non-obvious implication which Benedict Evans of A16Z has been tweeting about recently, which is that as advertising becomes less effective (at least outside Facebook and Google), innovative companies will find new discovery models that reduce reliance on media spend. Amazon has pulled this trick off in a huge way for their core products and there will be big rewards for those that crack it in other areas.