While many publications and bloggers have their list of top predictions for 2016 and beyond, I believe there is opportunity to also reflect on what went wrong in the prior year and explore why it occurred. As an early stage venture capitalist, you know that some degree of failure is inevitable. However, with the clarity of hindsight, there are mistakes that we can learn from and avoid in the future.
Founder Red Flags
The first and largest mistake in my venture capital experience as a whole happened again last year. It’s an easy mistake to identify in retrospect. Sometimes we get excited about the prospect of the problem being solved or the disruption that a particular start-up is promising and we do not listen to that nagging voice in the back of our heads raising concerns about the founder. If there are any doubts about the founder’s character, passion, or investment in the startup’s success, then my best advice is to give credence to that voice raising concerns and move on – do not invest. We had a couple of investments this past year where we invested in a management team that we had some concerns with, but we allowed ourselves to be persuaded because the technology was so impressive or the space was red hot.
Leading a startup is hard and requires the right team. Never settle for anything less than a strong properly focused management team from the start.
To borrow and adapt a philosophy from Warren Buffett, my New Year’s resolution is to employ a “20-slot rule”. His rule states that an investor has a 20-slot card for his/her investment lifetime. Every investment made should qualify as a founder and company I view as top 20 for my investment lifetime. Under this approach, you learn selectivity. Don’t invest because it’s a hot space or the technology seems impressive. If the founder/founding team isn’t top 20, then pass on the deal.
Investing in any technology company that does not have a shippable product is a mistake. Unless the founder is Mark Zuckerberg or Steve Jobs, you are investing too early with way too much risk. Don’t believe it when founder(s) say the product is “almost done”. I have seen “almost done” take anywhere from 3 months to 3 years. Wait.
In Warren Buffet’s words-
I’ve never swung at a ball while it’s still in the pitcher’s glove.
Unless the product is a cure for cancer or a self-charging iPhone, wait until the product is out in the market before investing. I can almost guarantee that you will have another chance to invest in the company at a very similar level after the product is out on the market.
Let me qualify this point by saying products are never “finished”. According to Reid Hoffman, founder of LinkedIn:
If you are not embarrassed by the first version of your product, you’ve launched too late.
Some founders acknowledge the Lean Startup principles of the minimum viable product yet find many reasons to prolong making their product available to the general market. Your product will not be perfect; there will be bugs, there will be dissatisfied customers – that’s a fact. But experience has shown that some early stage companies cannot ship a product that they don’t view as near perfect. In these situations, regardless of how much pressure you apply, they will not ship a product and iterate in rapid fashion.
Technology is a strategic tool that cannot be outsourced. Think of the situations where technology isn’t a core asset and you most likely have a business that is easily replicable.
Early on, I made the mistake of investing in a company who outsourced the development of key parts of their software product. The developers were top notch with a sterling record of working with many blue chip technology customers, many of whom were public. Their work product never had an issue, the problem(s) were that they were not employees of the firm. They were learning and building up skills for other clients while working on your product.
Regardless of how closely you work with outsourced developers, they are not your employees. Their number one priority is their company, not yours. They are working on your product because you are paying them. The knowledge base and experience they gain while working on the product should be an asset to your company. Rather, it becomes an asset to the development studio. Furthermore, when times are tough, which is quite often the norm in the early stage world, these developers will not be the ones that will persevere to bring your company through the challenges, they will likely move on to the next job with little regret.
Investing Outside Core Competency
At Sand Hill East our competency is technology with a particular focus on FinTech, software, and the enterprise. Technology is such a large and ambiguous term that it encompasses companies who are on the periphery of being labeled a “tech company”. We have made mistakes when we have reached outside of our core competency. We have also had our successes investing outside of our core competency. The problem arises when you invest in something outside your core competency and trouble sets in, there is little you can do to help.
When we invest in a company that is solving for issues and opportunities in business segments that we know well, we are well positioned to help them navigate when the startup hits the inevitable twist or turn. Our experience and knowledge of the opportunity they are pursuing allows us to quickly bring value and guidance to help them weather the storm. Whether it is the right person to talk to inside of a customer prospect, the right hire to fill an identified gap, or simply strategic advice on a product – we are in a position to provide grounded and helpful advice.
Outlook for 2016 and Beyond
At Sand Hill East, we are optimistic about opportunities for 2016. We will leverage the wisdom of evaluating mistakes of the past in order to learn from them and avoid repeating them. We understand that early stage investing is full of twists and turns and yes, often times failures. By being reflective and honest with ourselves as we review the past, we move forward with greater awareness of our blind spots and will not repeat the mistakes of the past.
Image credit: CC by Alan Levine