Tuesday, January 13, 2015

Hot Markets For 2015

Being in rapidly growing markets (or ones perceived as hot) increases likelihood of success of a company dramatically[1].  Being in a hot market increases the ability to hire great people, get press and awareness, raise money, and eventually exit via M&A or IPO.

The average startup exit takes 7 years.  Market hotness increases the likelihood of a fast exit dramatically.  In the late 1990's the average time to acquisition or IPO was just 2-3 years due to Internet mania.  The fastest exits usually come via M&A.  Markets with the most natural acquirers will lead to the most exits in a segment.

To successfully IPO you usually need ~$50 million in revenue and a few quarters of profitability behind you.  If you are in a hot market, the profitability constraint may lesson and you can even loose money for a while (see e.g. Hortonworks IPO and big data hotness).

Hot Market Sustainability.

Caveat emptor - about 50% of the markets that are considered hot at any given point turn out to be false alarms.   Examples of past hot markets that turned out to largely be duds include First Wave AI (in the 1980s),  Nanotech (as an industry in the early 2000s), CleanTech (early to mid 2000s) and Geo (smaller scale in late 2000s).

Hot markets that yielded huge companies and large exits include social networking (mid 2000s -Facebook, Twitter, LinkedIn), and mobile social (early 2010s - WhatsApp, Instagram).  Some large market trends are still playing themselves out as per below including big data, sharing economy and other segments.

Hot Markets For 2015

Below is my view of both what markets are hot in 2015, as well as the likelihood of these market segments being medium term duds[2].

1. Gold Rush.
Markets That Will Yield Large Stand Alone Companies and Many Acquisitions
Big Data.
"Big data" as termed in the press has 4 subsegments[3]:
(1) Dealing with large amounts of data (Hadoop, Spark, etc.)
(2) Smart data.  I.e. doing something intelligent with the data you have regardless of the number of petabytes.  This is more analytical tools or tools for data scientists.
(3) Data center infrastructure (sometimes this gets clustered into "big data", sometimes not).  Mesos (and Mesosphere) would be an example of this.
(4) Verticalized data apps (e.g. data store and analytics for medical insurance claims).

In general this market segment has a lot of legs and will continue to create both stand alone public companies, as well as has a large number of natural acquirers.  Potential acquirers include the traditional enterprise companies (HP, IBM, etc.) as well as the earliest companies in the space who support liquid public stock or large market caps (e.g. Cloudera, Hortonworks...).  Additionally, the verticalized data companies for healthcare (and 2-3 other key verticals) will see large of exits to more specialized acquirers (e.g. UnitedHealth for healthcare data companies).

SaaS [Software as a Service - including APIs/developer tools]
As recent players with explosive growth (e.g. Zenefits and Slack) have shown, SaaS still has a lot of legs for everything from enterprise collaboration tools to HR back office management.

I would not be surprised if there will be 1-2 very large companies (or exits) created here per year for the next few years.  The key will be to find differentiated organic distribution (Slack) or business model (Zenefits).

To prevent the listing of too many submarkets, I will toss APIs/developer tools into this bucket as well.  There are lots of services that make sense as an API that traditionally have been performed in a more cumbersome way.  Stripe and Twilio are canonical examples of this trend, Checkr.io a more recent one.

Genomics.
Genomics hasn't hit the mainstream hype cycle yet.  However I think in late 2015 or early 2016 it will emerge as a hot area of investment due to the fundamental underlying shifts in the market.  I think this will yield both a large area of future investment, but also exits ranging in the $100M to multi-billion dollar range.  The genomics wave will include both stand alone genomics software companies (lots of natural buyers including IBM, Oracle, Google, Illumina, and others) as well as more traditional biology centric genomics (with large natural buyers in the pharma and traditional biotech markets).  I think a small number of large, public companies will emerge in genomics.

2. Silver Mines.
Markets That Will Yield Lots of Acquisitions, Less Clear on Independent Stand-Alones
AI.
There are two types of AI companies:
(1) Companies trying to develop general purpose AI or are trying to build a "general AI platform".
(2) Companies applying AI to solve a very specific problem or customer need (e.g. machine translation of web pages or screening pathology samples).

The first group of companies will be small to large acquisitions by Google, Facebook and handful of other companies as talent buys.  The second class of companies may yield a small number of large, stand alone, independent businesses.  I am more bullish on the prospects of the second group as truly value creating.  However, if your primary interest is fast time to exit companies in group (1) will likely sell quickly and at a good valuation 1-4 years post founding as Google and others try to stock up on machine learning talent.

IoT [Internet of Things].
IoT is a sexy rebranding of "consumer electronics and appliances".  IoT is modernizing our clunky old school devices in the home and adding software and APIs to allow for seamless interoperability and broaden logging and use of data.

Today's traditional consumer electronics and appliances remind me of the Motorola Razr right before the iPhone - great industrial design but no real use of software.

From an exit perspective large companies like Google, Apple, Samsung, Philips, GE, and others all have an interest in acquiring companies that will accelerate their own efforts in this market. So there are a lot of natural acquirers in the space.  I expect more small to large $500M+ exits in this market, but it is unclear to me which of the new batch of companies will create a long term, sustainable public company of their own.

Now that Nest is gone, I would love to hear what others think are the likely long term stand-alone companies in IoT.

Security.
This is a tougher market to crack as a startup hoping to become a massive standalone company, but I expect more startups here in 2015.  On the enterprise side there will be ongoing high-profile hackings and the need to purchase security products.  Barriers to entry in this market are higher due to the need for both a strong sales channel as well as a differentiated product, which will temper overall market momentum.  Basically, a small number of startups will have ongoing small and medium (hundreds of millions of dollars) exits, but the total carrying capacity of this industry is more limited for startups due to sales channel bottlenecks (CIOs will only want to buy security software from a handful of vendors, and too many new startups will focus on a "feature" rather then comprehensive solution).

Recently public Palo Alto Networks and FireEye will likely be industry consolidators as will other traditional enterprise security companies.

3. Roulette.
Binary Markets - Create A Few Huge Stand-Alones, Lots of Failures
Sharing Economy & On Demand Economy.
Distributed labor and work forces, or the sharing of resources will continue be a hot market from a startup founding perspective.  I think the vast majority of the new startups will fail although a handful will still emerge as big hits.  Just as Facebook, Twitter, and LinkedIn where the first wave giants in social, AirBnB, Uber, Lyft, Instacart are the first giants of this wave (by market cap).

Similarly, just as there was a second social wave that yielded break out companies (WhatsApp, Pinterest, Instagram) as well as tons of duds, the shared economy/distributed labor trend will have a few more huge companies emerge.

In general this is an area that will be fraught with lots of failures offset by a handful or truly massive outcomes.  Too many entrepreneurs will do derivative "Uber for X" for tiny markets ("Uber for sports equipment delivery").  The key will be to figure out how to capture an existing large market (e.g. Uber and transportation) or expand an existing market dramatically (Uber again) with a simple use case and product.   The people who win here will win big a they upend entire markets.

4. Tough Short Term Markets For Tech Investors?
Bitcoin.
While I am bullish on the long term prospects of crypto currencies and blockchain, I wonder if many of the current crop of companies will succeed.  A number of larger structural events need to occur for truly widespread adoption of bitcoin to occur.  Existing bitcoin companies have a ticking clock (aka burning through fundraises) relative to this market timing.  Profitable (or cash rich) bitcoin companies may make it long enough to see this transition just as AOL did with the Interent[4], but any company burning rapidly through its cash will likely fail.  Once a company succeeds sufficiently there will be a large number of potential buyers for BTC companies (including Google, Apple, Microsoft, eBay, and the entire financial system).

I expect there to be an eventual culling of existing bitcoin companies followed in a few years by a massive expansion of cryptocurrency companies when the markets are more mature.  This may be a hard slog for a few years punctuated by one or two large, misleading, exits [5].  Then there will be an explosion in cryptocurrency companies that dwarfs the current trend.   So, I am extremely bullish on this area long term, but worry about the shorter term dynamics.

Biotech Investments By Software Investors.
Outside of genomics, I have increasingly seen technology investors invest in traditional biotech companies.  While genomics has a clear "why now" statement due to its rapidly dropping costs, old school biotech does not share this big shift in market dynamics.  In my opinion this market is going to be a fiasco for tech investors as they misunderstand the industry structure (regulatory issues, IP issues etc.) as well as don't have a good sense for the underlying markets.  While biotech investors may or may not do well in biotech over the next few years (I honestly don't know the market well enough to be certain) I think a subset tech investors may end up loosing big sums of money here (similar to the CleanTech fiasco of the early 2000s).

Other markets I missed?  Comments on existing ones?  Let me know on Twitter.

Thanks to Avichal Garg for comments on this post.

NOTES
[1] "Success" is defined for the purposes of this blog post as the creation of a large stand alone company or a as a large financial exit.  This is used as a proxy here for impact to the world, as "impact" is very hard to quantify.  How many lives were saved by Google?  Yet Google has transformed the world for the better by providing information access to billions of people.  It is hard to come up with a good metric for doing good for the world.

[2] Like all prognostication, I will undoubtedly get a bunch of this wrong.  This is just my current view of the world, and is obviously subject to change as more data gets generated by that wonderful physics simulation software that we call reality.

[3] From a founder perspective.

[4] AOL is a similar example for the Internet.  AOL was founded in the 1980s and managed to work out an existence until the early 90s, when the bigger Internet wave really hit.  By the late 90s AOL was one of the largest companies in the world by market capitalization.  The next wave of Internet companies were founded a decade later then AOL, when enough infrastructure (markup, browsers, more physical wiring upgrades) allowed for the real Internet boom to occur (Amazon, eBay, Yahoo!, Google, etc.)

[5] Big companies often make large, stupid buys for "strategic" reasons.

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Saturday, January 10, 2015

The 3 Types of "Platform" Companies

People use the word "platform" to describe products with fundamentally different characteristics.  OSs (e.g. Android), infrastructure products (e.g Twilio), and platforms (Facebook APIs e.g. Connect) may all be called "platform".  However, the distribution approaches and product strategy for each differs. Conflating what makes a platform work versus e.g. an infrastructure product can backfire and cause a team to have the wrong strategy for building a product or getting customers.  These startups tend to fail.

Below I attempt to define and differentiate between these different types of companies and their products.

1. Infrastructure.
Infrastructure products are ones that multiple companies have to build over and over again.  Eventually some smart entrepreneur realizes this and builds the common infrastructure product that other companies will pay to use.  An example of this is the founders of Mailgun, who built versions of the same email server for multiple employers until they realized they could build this as a general service for all developers.

Infrastructure products are often necessary for a product to function (every ecommerce site needs Stripe for payments) but are not often a "strategic" differentiating buy for their customer (although Stripe has managed to differentiate strategically based on its fast iteration on new features and its simplicity as a product).  Early on, many users of Twilio didn't care if they were using Twilio or another telephony provider - they just want it to work quickly, simply, at a good price (which ultimately meant using Twilio due to its ease of use).

The best infrastructure companies have clear economies of scale or network effects.  Twilio is probably able to negotiate better and better deals with carriers on pricing the more volume it aggregates from its customers.  Similarly, large amounts of payment data can provide scale effects for fraud or risk management.

An infrastructure company's success often boils down to a handful of factors:
-Ease of use and integration.
-Cost.
-Up time.
-Differentiated features or historical customer data.  This helps you lock in your customer base.
-Economies of scale.  This can lead to network effects on costs (pricing power of the infrastructure provider relative to its own suppliers) or features (fraud detection).
-Developers or sales channel.  In some cases a developer ecosystem emerges around an infrastructure product (note: this is different from developers using or adopting a product).  This is less common for infrastructure then people think, and is more common for a true "platform" (see below).

In rare cases, an infrastructure company can move up to become a "platform" in its own right.  This only works if the infrastructure company is able to collect and re-position unique end user data, or build direct brand recognition with its customer's customers.  Platforms typically have more lock-in and differentiation then infrastructure, so moving in this direction if possible can be a strong strategic move.

2. Platform.
A platform almost always grows out of an existing vertical product (e.g. Facebook, Twitter, etc.) and is ultimately a generalized extension of some aspects of that product (e.g. Facebook's internal user graph / identity and Facebook Connect.  The resulting platform allows third party developers to take advantage of the unique data, services, or userbase of the original vertical application.

A platform is not easily commoditizable.  Only Facebook has the social graph that underlies it, or the ability to drive distribution of certain types of content to a billion users.  If a developer tried to use another social product's API (e.g. Foursquare) instead of Facebook's, they would not get access to the right type of data or the same distribution.  Alternatively, their own customers would not want to use the "Login with Viddy" button.  In contrast, a company could probably swap one infrastructure product for another without a fundamental change to how its own application functions.

Almost always, a platform is valuable due to some unique characteristic of the original vertical product from which it grew.  For example, Facebook Connect worked in part because Facebook itself was a representation of a person's identity.  It was natural for consumers to feel comfortable logging into other sites with their personal identity.  Contrast this to federated approaches like OpenID, to which the user had no brand association.  These types of "build it and they will come" approaches to platforms tend to fail (in reality, you are building infrastructure in this case, but calling it a platform, but with no user recognition or branding for your product which comes from being an actual platform).

A platform usually has the following characteristics:
-The vertical app the platform is based off of owns the ultimate "end user" directly.
-The core functionality and key features of the platform are derived from the vertical app that spawned it.
-Provides proprietary, non-commodity data and/or distribution to applications using it.  The word proprietary here is key.
-In some cases, provides a monetization mechanism for apps on the platform and almost always takes a revenue share.  (Contrast this to infrastructure, where the infrastructure provider is paid for use of its product).

Many entrepreneurs I know set out to build a "platform" without any real vertical application underlying it.  In reality, they are building infrastructure.  Most companies that confuse these two things tend to fail.

The key way to tell if your "platform" product will fail is if you need to build the first "killer app" for the platform yourself for your platform to succeed.  In other words, you end up trying to build both a vertical application and a platform simultaneously.

3. Operating System (OS).
This is a pretty reasonable definition of an OS.  In general, adoption of an OS is driven by the following:
-The hardware the OS is typically bundled with gets a lot of distribution.
-There exist (or quickly emerge) a small number of killer apps that differentiate the OS causing more distribution and adoption (e.g. spreadsheets and the early PC market).
-An app ecosystem emerges around the OS, which creates a positive feedback loop.  The more users on an OS, the more people develop apps for it, the more valuable the OS becomes to users.

In general, OSs seem to follow two phases of adoption:
Phase 1: A combination of the hardware plus a small number of killer apps drive OS adoption.  For the early PC operating systems this was largely spreadsheet applications like 1-2-3 and Excel.

Phase 2: Once the OS has strong adoption, the longer tail of apps is created by the developer ecosystem who want access to paying users.  This locks in users or spreads OS use to a new set of consumers.  After the spreadsheet word processing / desktop publishing and gaming helped to spread adoption and value of PCs.

One could argue that a platform is its own killer app first and foremost.  For example, the killer app on the Facebook platform is really Facebook.  Once Facebook got adoption for itself, other non-Facebook applications followed.  This is the primary way a platform product has similarity to an OS.

Who Cares?
The reason these distinctions are important is that the strategy for building a successful Platform is different from building a successful Infrastructure company.  Many people confuse the two and pursue the wrong approach as a company.

Signs Your Infrastructure Company Is Off To A Bad Start
Many people call their infrastructure company a "platform" and decide that all they need to do is find a killer app as a customer to drive their own adoption (since the overall market they are gunning for is still hazy and unclear).  This type of company is usually started by a non-market driven technologist, who thinks a new technology is really cool.  Unfortunately, most of the companies that start off this way end up as small acquisitions at best.

The reason is three-fold:
1. The company is not starting off with a market problem.  In the case of a company like Stripe or Twilio, the founders were trying to solve a problem other developers such as themselves faced over and over again.

2. The market may be too small.

3. The "killer app" you are seeking is where all the value in the industry comes from.  If the killer app truly took off, it should be able to launch the true platform in the industry and drive you out of business.  Unless you are a piece of infrastructure.  In which case, where are your customers?

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Monday, December 29, 2014

Founders Should Divide and Conquer

A common mistake of first time founders is to try to do many tasks together as a small team that could be done just as quickly by having only one person take the lead.  Given how small founding teams often are it is typically wise to split up and delegate tasks to keep things moving quickly.  Otherwise building/selling a product may stall out as all founders are involved in all aspects of the company.

Examples where the entire team is usually not needed:
Basic decisions.  What sort of trash can should you buy?  Or refrigerator?  Although it is fun (and can be a great bonding event) to set up your office, do you really need to have your company come to a halt each time you add a new decoration?  Assign a lead for a task and then have other people weigh in to make the decision if needed.

Your Seed Round.
Fundraises can be really exciting.  You get to meet well known tech entrepreneurs and investors.  You get to sit in the Sequoia offices and watch the slide projector display picture of Larry & Sergey and other Silicon Valley Legends they backed.

You also get to watch 2-3 months of your entire startups time evaporate.

For your seed fundraise, either your CEO, or your most articulate founder should drive it and be the primary person meeting investors.  While smaller angels may write checks funding your company after a single meeting, larger investors may want to meet multiple time and ask for all sorts of follow ups.  This can be incredibly time intensive and having a single founder drive the process will keep your team from freezing up for many months.

The CEO can meet with the investors the first 1-2 times.  If the investor insists, you can have them meet the rest of the founding team as a one off.  Or, choose one other founder for the investor to meet, and rotate founders so that you do not use too much of the rest of the team's time.

Partnership/customer conversation.
A big partner says they may want to work with you.  It suddenly become an all hands on deck situation where you pull together the whole team to slog over to meet with a lowly middle manager.  This is often not the best use of team time.  Wait until an important meeting with multiple decision makers at the partner or customer before pulling in more then one person.

This also helps create an escalation path for a deal conversation.  E.g. if the full founding team is not present you can "take the deal back to the founders" to make a decision.  This stall time prevents on the spot decision making.

What about the other founders?
First time non-CEO co-founders (especially if they did not get the CEO gig, and they wanted it) may have a very strong Fear Of Missing Out (FOMO) or concerns about their own exposure and career.  The question in their mind may be "What about me?  What about my future career?" or "I want to meet important VCs.  I want to be recognized as a key person on the team".

As the non-CEO founder, you will need to learn to manage your own needs and ego to make the company successful.  Many early stage companies blow up due to co-founder conflicts.  Many co-founder conflicts are driven by founders battling about external exposure (investors, press, partners etc.).  As a founder, you will need to put the company first.  If your company is hugely successful, it does not matter whether you had an extra coffee with a random second tier VC.  All that will matter is that you were involved with a big success.

As the CEO-founder, you should be empathetic and aware that your co-founders have wants and needs around exposure.  You should have an explicit conversation with co-founders who express these needs about how it may impact the company and the trade offs implied.  If it is really important to the co-founders, you can try to create avenues for them to have some more limited exposure as long as it does not impact the company.

In general, all founders should keep in mind that there should be a separation of roles between founders (unless everyone is heads down coding).  In general, startups have too much work rather then too little.  Dividing and conquering is the only way to keep things moving.

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Thursday, December 11, 2014

Should Your Lead VC Veto Other Investors?

Fundraises tend to either have a lead investor, or be a party round.  If you have a lead investor, they will negotiate and set the overall financing terms with you (valuation, round structure, etc.), put in the bulk of the money, and sometimes take a board seat.

Some lead investors also ask to have veto rights on who else can invest in your round.  In general you should solicit their opinion, but not give them veto rights [1].

As an entrepreneur you only get to do a handful of fundraises, so VCs often have insights into which other investors to include (or exclude) and why.  However, the lead investor may also have a number of conflicts in terms of who else they want to invest in your company that have nothing to do with increasing the value and success of your company[2].

These conflicts include:
1. Blocking competitors.
Many funds view other funds as their competitors.  Sometimes they want to block one another out of a company so that they keep the upside (or branding of a hot company) for themselves.

2. Favors.
Some investors trade favors.  They will let someone invest in your round in exchange for a favor later.  E.g. "If I let you invest in this hot company now, I expect you to let me invest in the next hot company you work on".

This horse trading usually does nothing good for the entrepreneur.  It is simply currency for investors to gather and trade.

3. Voting blocks.
Sometimes a lead will bring in an investor who will always vote their way.  E.g. I know one VC that pulls a large University endowment in as an investor in companies it is funding.  This endowment always votes it shares the way the VC tells them too - increasing the %age of preferred the VC controls.

4. Ego.
Investors have different tiers.  Sometimes the investors are focused on the brand value of the other investors versus how helpful they are to the company.  E.g. "this other investor is beneath me, so they should not invest in the round I am leading".

As an entrepreneur, your primary selection criteria should be helpfulness & ethics of investor, not whether your lead investors views them as an equal.

5. Personal dislike.
Some investors just don't like each other.  They may have insulted each other on Twitter or at some industry event and now don't want to work together.

As you can tell, none of the reasons above should impact your company.  The focus in a fundraise should be on building the best possible investor team around your company.

Takeaway: Your lead investor should not have the right to block who else invests in your round.  You want to consult them and get their feedback on the round, but also need to make your own decisions.

Notes
[1] The nice way to do this is to tell the lead investor that you value their input and feedback on other investors and you will be soliciting it along the way.  However, it is ultimately up to the company to chose who the investors are.  All of you are aligned on trying to get the best possible people around the company to help it and that is the focus of how you will close the fundraise.

[2] There are also lots of genuinely helpful reasons a lead may want to help shape the round.  As investors in many other companies, they have grown to learn who is actually helpful versus not.  Similarly, they may have seen other investors act in an actively destructive manner.  So, your lead investor may have great input for you.

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Wednesday, December 10, 2014

Defensibility And Lock In: Uber & Lyft

One of the most common critiques an entrepreneur will hear is that their business is not defensible.  This was frequently stated about Google ("The switching cost is low - there are a dozen other search engines so you can just change web pages!").  Later, when I was at Google, a senior Google manager said the same thing to me about Facebook ("The switching cost is low!  First there was Friendster, then Myspace, now Facebook.  In 3 years everyone will be on something else!").

Many companies that appear to lack defensibility have strong lock in effects.  Others start off without a lock in strategy, and have one emerge over time.  Finally some businesses, such as marketplaces, inherently have lock-in due to their network effects.  The key is to think through how you can create a moat for your business.

Approaches To Defensibility
1. Scale Effects.
Scale gives you leverage when negotiating costs or special product features with suppliers or partners.  For some companies (e.g. steel, oil and gas etc.) this scale allows the company to outcompete and outprice its peers in the market.

2. Network Effects.
Marketplaces (AirBnB, Uber/Lyft, Instacart), social networks (Facebook, Twitter, LinkedIn, Pinterest), and even YC all have different network effects that help to lock in customers/users.  More on Uber/Lyft below.

3. IP.
Differentiated technology or technology leadership can lock in customers or customer cycles over time.  Intel was always one step ahead of AMD processor-wise, while some healthcare companies use IP litigation to prevent other entrants in certain markets.

4. Distribution and Sales.
Locking in sales or distribution channels is a classic form of defensibility.  Google gained searched market share in part via exclusive deals with Mozilla (back before Chrome became a dominant browser) and toolbar distribution deals.  Traditional enterprise companies like Cisco and Oracle have strategically locked in reseller and services focused channels to push their product and lock out competitors.

5. Data.
Google's mapping dataset, and Yelps business listings + reviews provide defensive barriers for each company over time.  Unique data can often help a business prevent its own commoditization.

6. Other.
There are a number of other ways to create lock-in.  Branding is one way to differentiate a commoditized service and cause people to use you over and over, even if you offer a commodity product.

Uber and Lyft As Examples
Uber and Lyft are examples of companies that have baseline defensibility due to the network effects inherent in their driver/consumer liquidity.  I.e. the more drivers they have, the more consumers want to use them and vice versa.  Lock-in by these companies could actually go quite a bit farther with specific features and products:

Driver Side Lock In
There are numerous services Uber and Lyft could potentially provide drivers who drive from them frequently enough to try to differentiate against each other.  Uber has already started some of these programs for things like car buying.  However, one can image offering discounts or other services to drivers who spend more then 50% of their time driving for Uber or Lyft.  If done quickly and correctly, this may create further lock-in for these services.

1. Bulk discounts (tires, gas, bodywork, etc.).  Uber should now have enough heft to negotiate differentiated bulk deals for tires, gas, bodywork, and other car maintenance & operations costs for their drivers.  These discounts could add up dramatically for a driver due to normal wear and tear while packing on the miles.

2. Driver insurance.  Since Uber and Lyft have driver specific data, they should be able to help price insurance differentially for the best drivers, driving down costs for the driver.

3. Loans.  Pay day or other short term loans based on past driver behavior/working hours.  Pay day loans can be onerous to people who get them, and Uber/Lyft could help their drivers decrease borrowing costs due to transparency on future cash flows coming from working for these services.

Consumer Side Lock In
While consumers are ultimately going to make decisions based on driver availability and price, there are added services that may help get consumers to stick with the service more.
1. Business services such as wifi.  Adding something like Karma wifi to cars may be a way to generate additional revenue for both the driver, and Uber or Lyft, while enhancing the experience for business passengers.  I know of a number of people who use Uber for long work-related drives.

2. Parental controls.
An increasing number of parents are using Uber or Lyft to deliver their kids to school, pick them up for afternoon activities and the like.  The ability to pre-set locations (e.g. "my child can only go to school at 9am or I get an alarm", or schedules for kids ("pick up every afternoon at 3:00pm") could help lock in parents to the service.

For every business there will be a set of features that help create defensibility.  The key is to think through what elements work best for your product, market, and business.

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Wednesday, September 3, 2014

YC Is A Network Effect Business

The best investors often look for network effect businesses - where each incremental addition of a user to the network increases the value of the network for the other users.  These types of business are typically very defensible (hard to break the network) and quite valuable (if in a large market).

In Y-Combinator's case, the "user" in the network is a startup.  YC creates a pretty amazing network effect for the companies who pass through.  This includes:

1. Peer based help.
Many YC founders will ask other batchmates for their advice, feedback, and recent learnings.  When I left Google to start my first company, there was similarly an invaluable network of ex-Google founders to tap into.  This allows you to learn who the helpful investors are, tips on hiring, and about new types of distribution or platforms.  These sorts of peer networks are invaluable and typically quite hard to come by quickly.  YC plugs you directly into this network of peers.

2. Early advice and mentoring.
Beyond peers, YC provides a series of role models and mentors just a few years ahead of the current batch.  YC founders can tap into founders at almost any stage of the startup lifecycle to get advice on what to expect next.  This is where the true network effect of YC kicks in.  By having more startups distributed throughout the lifecycle of a company, YC provides a broad based cross-mentoring network for all its companies.  Each new company helps advise and mentor later companies.

3. Customers & market validation.
One of the most powerful aspects of YC is its built in customer development.  Especially for B2B companies, YC provides an instant initial testing ground and potential user base for the startup's products.  These early customer wins helps with both product testing and iteration, but also provides the startup with fast market validation.  By having a number of early brand name customers (from prior YC batches) using the product, YC B2B companies can both get to revenue faster (helping with fundraising) as well as to some notion of product/market fit (due to fast and broad feedback).

4. Capital.
A number of YC founders have emerged as prominent angels.  They can provide early capital and validation for a startup, allowing it to bootstrap a seed round more effectively.  The first few dollars raised are always the hardest, so early investors are valuable in giving a seed round momentum.

Surprisingly, very few traditional venture firms have an ex-YC founder as a partner.  I would expect this to change and to follow the pattern of Google, where VCs hired a number of ex-Googlers into their firms to access that talented network.

5. Branding.
Each new startup increases its chance of success by going through YC and being associated with past YC successes.  The presence of AirBnB, DropBox and Stripe, as well as the next wave of YC startups (e.g. Optimizely, Zenefits, etc.) increase the chances of each incremental startup becoming more successful.  The brand of the winners feeds back to increase the brand value of the newbies.

PS. 500Startups, AngelPad, and Lemnos Labs are all other examples of programs that exhibit aspects of the network effects mentioned above.  Each program's network effects are modulated by its point of emphasis and focus (e.g. volume of startups, quality, specialization (e.g. hardware, international, etc.) stage and valuation of past participants, geographic location, etc.)  E.g. I know a number of companies who mention the 500Startups email list of other founders to be incredibly useful.  Similarly, with its emphasis on hardware Lemnos Labs startups can help each other with uniquely hardware-centric products.  And AngelPad is currently NYC-based.  A key consideration or lens to keep in mind when considering network effects is ultimately scale & quality of the users in the network.

PPS Just found another take on all this.

Wednesday, August 20, 2014

Building A Recruiting Org

The use of recruiters by a startup will shift dramatically over the lifetime of the company.
As a small startup (e.g. 3-10 people), using a recruiter is usually not as useful as direct founder or employee networking, using LinkedIn and other tools.  In contrast, when I was at Twitter, the company grew from ~90 to ~1500 people over a 2.5 year period.  As your company scales into the hundreds and thousands of people, you will want to bring specialized recruiters, sourcers, university programs managers etc. in-house and potentially use retained external recruiters for executive hires.

0. Early Days: Your Team As Recruiters.
Early on, the best approach to recruiting is to have people on your team actively refer in people from their network.  Similarly, many founders & early employees spend as much as 30-50% of their time early on (e.g. when scaling from 3 to 15 people) on recruiting.  There is no easy fix around it.  You need to just grind through large numbers of people (via networking, LinkedIn, friends etc.) to find the handful of people to join your team.

Some startups I know successfully hire someone who is a mix of office manager / social media manager / recruiting coordinator.   This person will often spend a lot of time scheduling referred candidates and reaching out to passive candidates via email and LinkedIn.  Once the candidate expresses interest they pass them off to a founder or hiring manager.

One hack I have seen a few companies adopt is to have the person doing the recruiting contact candidates from the founders email address so there is no perceived hand off.   This increase the response rate as many engineers may be willing to reply to a founder/fancy title but may not reply to more general recruiting pings.

1. Initial Scaling: Adding 15-20 People Per Year Or More: The In-House Recruiter.
Once a company hits a certain scale and is growing fast enough, hiring in house recruiters makes a lot of sense.  The recruiter initially plays a few different roles that in larger stage companies will get split up including (i) sourcing, (ii) running the recruiting process (scheduling, collating feedback, coordinating with hiring manager etc.), (iii) in some cases delivering offers (although I think often hiring managers or founders can do this).

Depending on the strength of the recruiter (and, importantly, the company branding with your candidates), the recruiter will be able to hire 1-4 engineers per month.  This shifts as the company scales and adds more differentiated roles (see below).

This means that if you are hiring less then 15 engineers a year, you may want to have a part-time or split-role recruiter, grow organically via company referrals, or find an alternate structure with external recruiters.

For non-engineering roles (e.g. sales) a single recruiter may be able to hire a larger number of people per month.  This is driven in part by the referral heavy nature of sales hiring as well as the fact that there are fewer high growth companies for sales, marketing, and business development people to go to.  In contrast, every startup is trying to hire engineers and designers.

Things that impact the ability of the recruiter to be effective includes:
-Brand of the startup with candidates.
-Strength of the hiring manager and executive team as recruiters.  If they are active and engaged, it makes recruiting run smoother and will help to source and close more candidates.
-Breadth of network of the employees at the company.

The importance of the hiring manager and other executives being involved in the recruiting process (informal conversations, extending offers, meeting for lunch, etc.) can not be under emphasized, no matter how strong a recruiting org you have.  The candidates will always want exposure to people in key roles in the company (Zuckerbeg at Facebook is famous for his "closing walks" with mid-level candidates).

2. High Growth: Multiple Recruiting Org Roles.
When a company is growing really fast, the set of roles on the recruiting team tend to fragment.  When I was at Twitter, the company grew from ~90 to ~1500 people over a 2.5 year period.  When growing this fast you need to start to specialize the types of people on your recruiting team.

A. Sourcers.  Sourcers research, cold call, email, and otherwise create a path to passive candidates.  In some cases they then transfer the candidates over to recruiters who will feed the candidate into a coordinated interview process.  Some sourcers manage candidates up through an onsite interview, but seldom beyond.

B. Recruiters.  Recruiters manage the process of coordination of the candidate through scheduling various interviews (phone screens, onsite, executive, etc.) and then circling with the team or hiring manager to determine whether an offer will be extended.  At some companies the recruiter may extend the offer, in others the hiring manager does so.

Your first few in-house recruiters should have experience sourcing as well.  This helps in a number of ways:
1. The recruiter will likely be more effective in sourcing and recruiting specialized engineering roles.
2. There will be less hand offs between people on the team (e.g. sourcer, recruiter, hiring manager, etc.) which means less friction to the candidate and fewer people fall through the cracks.

Splitting the recruiter and sourcer roles tends to work best when you are hiring large number of people of a specific type.  E.g. if you need to hire 50 backend engineers, 30 front end engineers, and 20 PMs, starting to segment recruiting roles makes a big difference.

Additional roles in a larger startup may include:
C. Candidate researchers.  These people may scrub LinkedIn for all the engineers at Google, prioritize them, put them into a spreadsheet, and then hand off the spreadsheet to the sourcers to actually do the outreach / pitch the candidates to interview.

These people usually only really get added to the team as it scales from 100+ to 1000+ people, and you are hiring large numbers of people in the same role.

D. Recruiting marketing.  The folks who develop marketing materials, run ads, organize recruiting events, hackathons, website content, etc. to create an inbound pipeline of candidates.  At a startup, this is usually driven by someone on the team you are recruiting for (e.g. an eng manager for engineering candidates).  Alternatively, the marketing team at the startup may be responsible for this as part of their overall marketing efforts.  Only as a company scales to e.g. a few hundred people or more does the possibility of a stand alone coordinating recruiting marketing role emerge.

E. University programs.  Given the specific timing and cadence of new graduate and intern hiring, some companies will specialize sourcers/recruiting marketing/recruiters specifically for new grads coordination and hiring.  When your startup is still small, instead of hiring dedicated university programs people, you can have your existing recruiting staff pivot to cover this area for the few months when it is most relevant.

4. Executive Hires: Retained Recruiter.
The main nuance for executive hires is the stage and brand of your startup.  For a later stage startup with a well known brand name you may be deflating titles.  I.e. your VP Eng may have been an SVP at another company prior.  But, for most smaller startups, or lesser known companies, you tend to inflate titles - e.g. your VP Eng may have been an engineer manager at Google or Facebook where they ran a team of the same (or larger) size.  If you are inflating titles, your existing recruiters may already have contacts at the Googles and Facebooks of the world.  If you are deflating titles, you may want to engage a retained search.

For a retained search, you may pay an external recruiter some up front fee or retainer to find candidates for you.  In general, these sorts of searches work best if you are hiring an executive for the company versus an individual contributor.  One reason is that executive hires may be outside of your core network, or that executives may be more willing to talk to recruiters from a brand name firm than to someone from a less well known startup.

There are a number of brand name executive recruiters your angels, VCs, or advisors can connect you to.

Tougher To Manage: (Non-Executive) Shared External Recruiter.
In some cases companies will hire an external recruiter to help them hire individual contributor candidates.  These recruiters will either get paid by hire (e.g. a flat fee, or %age of salary) or may ask for equity in exchange for recruiting help.

In general, if the recruiter is split between multiple companies at the same time, they will not yield the best candidates for your company:
a. They will push candidates to the company that either pays them the most per head, or the one they have provided the least attention to lately (to keep that company as a customer).
b. They won't always represent you well to candidates - but will rather pitch the candidate on multiple companies.

As such, it might be better to hire someone for a dedicated period as a recruiter or to try to spend internal company time on it instead.

Thanks to Ardy Daie  and Chris Shaw for comments and feedback on this post.

Other Recruiting Posts:
Recruiting Is A Grind
What To Look For When Hiring Execs
5 Signs A Candidate Just Isn't That Into You
5 People Who Destroy Your Culture
Should You Hire A COO?
Reference Check Candidates
How To Hire Great Business Development People
How To Choose A Co-Founder
How To Choose A Board Member
When And How To Fire An Employee At An Early Stage Startup
How To Fire A Co-Founder