One of the most important considerations for any entrepreneur is: How big of a company are you building?
I was asked this question by a top tier VC today regarding Fab.com. Before I discuss my answer, here first is some back-story on the importance of understanding, internalizing, and embracing the answer to this question.
This question particularly comes into play when you are raising capital from Venture Capitalists or Angels.
The simple math consideration is as follows:
VC’s expect a 10x return on their money.
Angels expect a 5 to 10x return on their money. For simplicity purposes let’s say 7.5x.
So, for example:
If you are raising say $500,000 on a pre-money valuation of $2M, that’s $2.5M post-money valuation, and you’re thus signing up to create a company worth 18.75M to 25M eventual company exit.
If you’re raising $2M on $6M, that’s $8M post-money, and expectations of $60M to $80M eventual company exit.
If you’re raising $5M on $20M, that’s $25M post-money, and expectations of $187.5M to $250M exit.
If you’re raising $10M on $30M, that’s $40M post-money, and expectations of $300M to $400M exit.
And, if you’re raising $20M on $100M, that’s $120M post, $900M to $1B exit.
The exit expectations in these examples are what educated early-stage investors consider to be wins. As an entrepreneur you — of course — want to be a winner. And, most importantly, you don’t want to be managing a company that’s not seen as a winner in your investors’ portfolio. Not fun.
As such, as an entrepreneur you need to consider carefully what you are signing up for when you raise capital with such valuations. There’s no sense in raising capital at an expectation of a larger outcome than you personally are hoping for and planning for.
Let me put this as clear as can be: It may be change-your-life-money for you to sell your company for $50M but if you signed up for building a $100M or $500M+ company, you better have your personal goals aligned with your investors’ goals. The minute you accept their money at such a high valuation and expected ultimate outcome, you are responsible for guiding your company towards such a lofty result. Which means that you better believe in it and you better be prepared for you investors to push you to go big, as that’s what you signed up for. That means board meetings focused on how to get big fast, not on how to stay lean. That means board meetings focused on efficient growth not just cash preservation. That means board meetings focused on aggressively capturing and winning the entire market, not just being a solid market player. And, needless to say, your team better be with you on this.
Are you prepared for that?
Not all companies are destined to be $100M, $200M, $500M, $1B exits, let alone $50M exits. Many (most) startups will not even come close to hitting such big valuations. As an entrepreneur here are 6 questions you must ask yourself before you raise venture capital:
What size company do I want to build?
What will my investors expect me to do with their capital?
Is it realistic that my company can achieve the expectations of my investors?
Am I prepared to do everything I can to achieve the return my investors expect?
Is my team on board?
Are my personal net wealth growth goals in sync with my investors’ goals?
My best guidance on this is to be as brutally honest with yourself as possible when confronting these questions. Don’t convince yourself that your company can be bigger than it can be just because you’ve convinced your potential investors it can. You have to really, really believe it and see a clear path to how it can happen. And, don’t allow yourself to be put in a situation where your investors want you to go bigger and faster than you do. Know what you are signing up for.
I implore you to also really think carefully about the answer to question #6 regarding your personal net worth goals. When it comes to developing your own wealth, building a bigger company doesn’t always equate to bigger personal gains. From my own personal experience, you can sometimes make more money selling your company for a few million than for tens of million. It all depends on how much of the company you own at the time of sale.
Here are three examples from my previous startup experiences worth sharing.
With my first company, Jobster, we raised $48M. We had a good idea, just too far ahead of its time (social recruiting back in 2004 before Facebook and LinkedIn took off). We never were able to live up to the 10x return expectation. To be honest, I and the team never really grasped what it meant to live up to such a lofty expectation. In hindsight we took too much money too quickly and set the wrong expectations before really understanding how the business model would work.
With my second company, socialmedian, I figured from the beginning that the Company might never be worth more than $10M. We actually never really had a revenue plan, just a product plan that we hoped to iterate into a business over time. As such, we raised less than $800k from angels and then sold (just 11 months into it) for 6x enterprise value + a potential earn-out for management. Management ended up netting 5x and investors 2.2x on a short term investment. Sure, it wasn’t a huge win, but it was a win in-line with my personal expectations and an acceptable/favorable outcome for most of our investors as the company chose to exit rather quickly and during the height of the financial crisis. Footnote: Such a quick and small exit was surely easier to manage with just angel investors than had we have taken VC money.
With one of the companies I have invested in, TweetDeck, I counseled the founder back in 2009 that I thought he had a $30M to $50M opportunity in front of him (don’t ask how I got to that #, I just had a hunch given my sense of the product and the market). I suggested that he run TweetDeck as if that was the goal, and not to take any more capital than would make such an outcome not a win for his investors.
So, how did I answer the question today?
We’re signing up to create a $500M+ company with Fab.com. I’m convinced today that the Fab.com opportunity is well north of $500M as I see a clear path to $150M in revenue very quickly at healthy margins. There are clear market examples of how our model can work and we’ve got good wind behind our sails from the get-go. It helps that our market, design, is a large ($70B+) horizontal market spanning multiple verticals, and that for millions of people design is a lifestyle choice (see Apple, Ikea, Target, and the likes of Jawbone as just some of the many companies/products that consumers actively choose because of design affinity).
Building a $500M company takes a go-big mindset from the beginning. You don’t (usually) get to $500M by thinking small. As such, we’re building for scale from the beginning, on all fronts of the business. There are a lot of considerations that enter when you are building for $500M vs. $10M or $50M, and we are embracing them head-on. It helps that I have the duel experiences of going big and coming up short as well as going small and coming up with a win behind me. Hopefully that will translate into the right blend of vision and realism this time around.
Could Fab.com be an even bigger opportunity? We’ll see. For now we’ve got a solid plan to get to $150M revenue. From there, we’ll see how it goes. But, we’re definitely not building for a $50M or even a $100M enterprise value.
One of the most challenging aspects of running a startup is managing the Board of Directors.
First time entrepreneurs tend to find this part of the job especially daunting as they are just learning how to run a company, let alone simultaneously how to manage a group of high powered investors and outsiders. Truth be told, most startup CEO’s are experts at managing product or sales, but not at managing a bunch of gray-hairs.
Managing your Board of Directors need not be scary though. In the end it all comes down to one thing: good communications.
The first step towards having great relations with your board of directors is selecting the right people to be on your board. Typically your investors will require a seat on your board as part of their investment. As such, be really careful about who you take money from! (see this previous post as reference on selecting your investors). Remember, you’re not just getting their money, you’re also typically getting a board member — someone who you’ll have to meet with regularly, report to, defend your decisions to, and debate with. If you don’t enjoy the interactions with your potential investor before they invest, don’t take their money! Seriously, I’ve learned this lesson the hard way with one of my previous companies. In the long run you’ll be better off choosing an investor who you want as a board member vs. an investor who offers a slightly better valuation but who you can’t see yourself enjoying meeting with and taking advice from regularly. In terms of non-investor board members, I’d recommend only choosing people who can truly bring a perspective to the table that you and your investors cannot. For such a non-investor board member I prefer someone who has either (a) successfully navigated a startup as CEO before (has walked in your shoes), or (b) someone who has invested in and worked with a number of startup CEO’s (has insight into both sides of the table).
Limit your board members to at most 5 people, including yourself. Anything more than 5 people is too many to manage. I get to the 5 number as follows: (a) Odd numbers are good in case there is ever a vote. (b) You’ll need to give 2 seats to your investors. 2 for Common (management) and 1 for an outside board member. (c) Anything more than 5 people is too many schedules to have to manage. (d) Think of it this way: If each board member is going to speak for about 15 minutes each board meeting (asking questions, providing advice, etc.), that’s 60 minutes of air time for the other 4 board members each meeting.
In terms of board composition, as noted, my preference is 2 + 2 + 1. A lot of entrepreneurs fall into the too-many-investors-on-the-board trap. This doesn’t have to happen. When raising money insist that the board will only have seats for the 2 largest investors. Some potential investors will not like this but ultimately if they want to invest in your company they will acquiesce since the logic is sound, especially since adding 1 board members actually means adding 2 to maintain balance.
Drive the Agenda & Set Expectations. As CEO you always want to be driving the agenda for the board, not vice versa. This means you need to take an active role in communicating to the board around what topics the board needs to weigh in on and when. You never want to be stuck in a situation where the board is coming to you to demand the BOD discuss something. It’s your job to be on top of things and to drive the board agenda.
This also means that you are responsible for setting expectations around types of communications.
I prefer to do this as follows:
I let my board know that I will send them informational updates / status reports regularly. These are just information only and do not require board action. No response expected or required. My current preference is to just forward my weekly internal “by the numbers” update to BOD members; sometimes I’ll slap some BOD-specific commentary on top of the update, but not always.
I’ll occasionally also send board members action items. These will be marked clearly as “BOD ACTION REQUIRED” in the subject of the email, and then the specific action required by the board members will be called out in bullet points in the body of the email. My expectation is that such action items (e.g. returning signatures) will be completed within 48 hours. I do not engage the board in debate via email. I may solicit some BOD opinions via email but I do not expect to have an email debate with the board.
I expect board members to make themselves available within 72 hours if I need to get on the phone with them one-on-one to get their advice. This is reasonable.
I expect all board members to attend all board meetings unless they are on vacation.
No surprises. A big key to cultivating good entrepreneur-BOD communications is consistency in communications. Don’t surprise your board. Tell them what you are going to do, repeat it, and then do it. One of the most painful boards I was ever on was when the CEO always had a different strategy each board meeting. The worst part was that we left each board meeting feeling like we had decided one thing and then the team always went off in a different direction. The only thing they were consistent about was at surprising the board.
Count on your board to do what you tell them to do. Don’t count on your board to do what you don’t tell them to do. Your board members are not executives of your company. As such, you cannot expect them to be working every day on behalf of your company. In fact, you don’t want them to be doing work on behalf of your company that is not directed by you. As such, you need to give you board members assignments and expect them to complete them, but also don’t have any expectations around your board members doing work for you outside those assignments.
Time your board meetings to coincide with key company milestones. There’s no reason to meet before there’s data to look at. Don’t have meetings just because it’s the designated date on the calendar, rather have meetings when there’s real business to review.
Establish a budget at the beginning of the year and measure progress towards it. Keep using that budget until the business changes so much that the numbers are dramatically wrong, and then do it again. The point is, you always need a baseline to measure against and don’t move the baseline each month.
Use telephonic board meetings for status updates in between in-person meetings. My current preference is to do quarterly in-person meetings and a telephonic board meeting once or twice in between, depending on what business needs to be attended to. This model seems to work really well for early stage companies. As the company matures it may make sense to move to every-other-month in-person meetings.
Always have the real board meeting before the board meeting, aka: Don’t debate big decisions in the room for the first time. Whenever there’s a big decision to be made, I strongly suggest having individual briefings and meetings with board members prior to the meeting. That way everyone is educated and able to ask you questions one-on-one without any board member to board member posturing, and you know where you stand going into the big decision. The worst way to make big decisions with your board is to spring a big topic on them in a board meeting that they haven’t had any time to prepare for. When we pivoted Fab.com earlier this year it went down like this: 4 individual 60 minute phone calls where I briefed board members on the proposal and then one 45 minute board call to agree, adopt the resolution, and move forward.
Your board member is not your friend. You may have friends on your board, but they are a board member first. Their fiduciary responsibility is to the company, not to you.
Length of board meetings: I prefer 3 hours for in person, 1 hour for phone calls. 3 hours in person gives you time for 90 minutes of management presentations, 60 minutes of board input (which might be during the 90 minutes) and then 30 minutes of board business. In an early-stage company, if you can’t fit the board meeting into 3 hours, then you’re sharing too much details with your board. In my first company we often had 5 hour board meetings which i found to be 2 hours too long in hindsight.
Board Observers: Yes, if they add value. Board observers should only be allowed if they are there for a specific reason and if they consistently provide valuable input on a specific topic or area. There’s no other reason for a non board member to hang out and just listen. They can get a report instead.
Independent Board Members: Yah, Sorta. I prefer to have an independent board member who is independent in his/her wealth, has an ownership position in your company, but is not a lead investor. He/she should be there because he/she has unique experience and perspective that he/she can lend to both you and to the other directors.
Board decks/metrics and dashboards/ prep for meetings. I used to do this all wrong and provide a detailed management report to the board. I realized after a while that this was getting board members too stuck in the weeds and resulting in really long and frustrating show+tell board meetings. What I was wrongly doing was having a staff meeting with the board. Instead, I suggest giving board members a very short (10 slides?) deck that you expect every board member to have read fully prior to the meeting. The materials should be a launching point for discussions on specific agenda items. You should let board members know that they need to read the materials and suggest additional agenda items based on the materials prior to the meeting.
For operational issues, focus the board on 5 key metrics / drivers of your business. No more.
Provide a product overview and roadmap summary in the board meeting, but don’t have a product meeting with the BOD. What I like to do is to dedicate at most 30 minutes during the meeting to review product metrics and to provide a glimpse into upcoming features. Then, invite interested board members to stay around after the board meeting for a product deeper-dive if they wish.
Invite key managers to provide updates at the board meeting. This is an important part of the board meeting from the standpoint that it shows the BOD that the company is more than just you, and it provides lift to members of management who get to present to someone more senior than you.
Don’t ask board members for advice on basic operational issues. It’s your job to figure those things out. Ask your board members for strategic advice and to help direct you to people they know who might be able to consult with you on operational matters.
DO: Share weekly or monthly KPI updates with your board. DO NOT: Share Google Analytics, Salesforce, etc with your board/advisors. Again, that puts them too much in the weeds and treats them like managers instead of board members.
Have dinner before or after board meetings. Talking shop outside the office can often be more valuable then the actual board meeting itself. Board members will also be more free to discuss wide ranging issues with each other when there’s not a specific time-limited board meeting agenda.
Reach out to individual board members in between board meetings for occasional one-on-one phone chats even when you have no specific business to discuss. They’ll appreciate it. —-
Send an email to non-board-member investors when the company hits key milestones. Again, they’ll appreciate it. You don’t have time to call them all, but you should proactively share some data with them when the company hits a major milestone or has big news. It’s always best for them to hear news from you before they read about it elsewhere.
What are your experiences? Agree or disagree? What points did I miss?
According to Arrington, SV Angel has crunched the numbers on their 500+ investments and the data will show whether age of founders is a determining factor in startup success.
In the same post, Arrington points to Y Combinator’s average founder age of 26 to back up his hypothesis.
"Y Combinator is one of the most data driven investors I’ve heard of. if older people did better, they’d be funding more of them."
Of course, there is extreme bias in the Y Combinator data. The Y Combinator program is designed for younger entrepreneurs:
In 2005, Y Combinator developed a new model of startup funding. Twice a year we invest a small amount of money (average $18k) in a large number of startups (currently 43). The startups move to Silicon Valley for 3 months, during which we work intensively with them to get the company into the best possible shape and refine their pitch to investors. Each cycle culminates in Demo Day, when the startups present to a large audience of investors. But YC doesn’t end on Demo Day. We and the YC alumni network continue to help founders for the life of their company, and beyond.
Such a program is geared towards young engineers itching to get some initial funding for their product idea. Not a lot of 30+ entrepreneurs quitting their day jobs for $18k of funding and 3 months at hacker camp.
Where first time entrepreneurs often struggle is when the product works so well that they have to quickly build a company to support the product. Most of the time, the first time founder has not spent anytime thinking about what kind of company they want to build, what kind of people they want to surround themselves with, what kind of culture they want to create, etc. The first time founder often has no experience recruiting, managing teams, and building organizations.
Serial entrepreneurs, on the other hand, often struggle with the founding idea and getting to product/market fit. They start the second and third and fourth company because they love startups and they don’t know any other way to work and be productive. But they often lack that passion around a singular idea that drives first time founders.
But when serial entrepreneurs do settle on the right idea and find product/market fit, they are usually terrific at building the company. They know when to step on the gas and where. They know how to recruit, manage, and structure organizations.
Here are my own thoughts as a 39 year old 4-time entrepreneur and startup investor:
It does take a kid’s mentality and ego to start a company. You must have unbridled confidence and faith in your ideas and in your ability to succeed. You’ve got to have irrational exuberance around your vision.
When I founded my first company, Jobster, I didn’t know half of what I know now about building a company.
The best entrepreneurs hate to lose, love to win, and hunger to prove their investors right.
The best time to invest in a good entrepreneur is after they just lost. As Don Valentine, founder of Sequoia Capital says: ”My favorite type of entrepreneur to invest in is the guy who just lost for two reasons. 1) he’s pissed off and out to prove something and 2) he’s learned on someone else’s dollar.” This is so true. After Jobster I was out to prove something to my investors and to myself, and I did so with socialmedian. Same today, after coming up short on the initial plan for fabulis, I’m more motivated than ever to make Fab.com a success.
There’s a big difference between building a product and building a company.
It’s probably true that the most interesting consumer internet product innovations will come from twenty-something Y Combinator types. They’re building products for their peers to use. I’d invest in them to build consumer internet products.
At the same time, none of those young guns have what guys/gals like me have: 10+ years of experience running Internet products and companies and the myriad of lessons learned from making mistakes and finding some successes along the way. I’d invest in a guys/gals like myself to build a company.
Every startup CEO, no matter how successful they are, is going to have good days and bad days. It’s how they handle both that matters in the long run.
The serial entrepreneur keeps at it because he/she wants to keep learning and applying lessons to do it better the next time then the time before.
Starting a company is like a game - a complex puzzle with thousands of variables and potential twists and turns. The decisions we make every day have direct impact on the outcome; sorta like those Choose Your Own Adventure Books I used to love as a kid.
At age 39, I’m learning more now and challenging myself more than ever before, and the puzzle keeps getting more and more complex, interesting, and potentially rewarding. That’s what keeps this stuff fun and exciting.
At the same time, I’m still a kid at heart, playing a really awesome game.