Alignment

Simple. Obvious. Challenging. All my favorite rules of thumb seem to follow this pattern.

Take my favorite one. There are only two things that matter to early stage startups: revenue and learning. Sounds extraordinarily simple and obvious, right? But it can be hard to follow — especially during a string of long, stressful days with dozens of consequential decisions to make all at once. It’s like other sensible advice — “Keep your hands up!” from a boxing coach or “Take deep, slow breaths” from a scuba instructor — that takes presence of mind to put into effect when you’re under pressure. 

I suggest that founders look at every single one of their company’s activities and ask themselves two things: “Is it helping us learn something important? Is it generating revenues?” If the answer to these questions is “no,” I offer another equally simple piece of advice: Stop what you’re doing and refocus on things that do. 

Staying focused is one of the biggest challenges for startups. There are hundreds of competing demands on founders, their leadership teams, and their limited resources. A lot of valuable time can be lost with endless rounds of product development, clever brand-building campaigns, or land-grabs in untested markets. 

Try this simple test for yourself. How did you spend your day today? Were your tasks serving the goals of generating learning and/or revenue? How about your teammates?

Like keeping your hands up in a fight, staying focused on the simple things keeps you in the game.

(Continued from a prior post on Why Your Go-To-Market Strategy Matters.)

So how can startup technology companies focus their GTM strategies to reduce both their cash burn rates and their fundraising needs? I’m a big believer in the idea that you can never be too narrow or too focused. This means identifying a specific, painful problem and solving it fully for one carefully defined customer group.

There are three operative words here: painful, fully, and one. Let’s pause on each one, since they’re all essential to developing a well-targeted GTM strategy. A good early-stage GTM approach involves deep consideration of these three things:

1. It addresses real customer pain. When I refer to a “painful problem,” I mean something very specific . I’m thinking of the business challenges with the highest stakes for the decision-maker who buys your product. As a result, budgets, compensation, and even the jobs of senior leaders are on the line. Or corporate reputations risk severe damage if painful problems go unsolved  — think of large-scale data breaches at credit reporting agencies or PG&E’s woes with customer communications during the most recent blackouts.

OK, as a startup, you’re probably not going to solve the intergalactic problems of PG&E. But it’s all too easy to get overly focused on your own product and its features, and by doing so lose sight of why your customers should care. You see, the truth is that no one really wants to buy from a startup. It’s risky, it’s scary, and it might even cost buyers their reputations or their jobs if things go wrong. The only way to really get customers’ attention is to solve a problem that is so painful that the risk of buying from a startup pales in comparison to the consequences of leaving the problem unsolved — or trying to solve it with solutions already in the market. 

If you’re focused on issues of mere convenience or other “semi-painful” problems, the risks of buying from a startup will outweigh the benefits. Your GTM strategy will therefore be far less effective. You may win a few early evangelists, but the barriers to widespread adoption will be high. Your sales will gain momentum slowly, if at all. And you’re likely to burn copious quantities of cash in the process. Usually founders with a strong background in a specific industry or business area like HR are keenly aware of the biggest unsolved problems in their areas.

2. It fully solves this painful problem for your customers. Your solution can’t require your customers to do a bunch of extra work, abandon key systems, or invest significantly in retraining their staff. Those extra steps are huge barriers to adoption, causing long decision cycles and difficult customer onboarding. And while you wait for your customers to navigate those decision processes — you guessed it — you’re burning cash.

Your GTM strategy also can’t leave important pieces of the problem unsolved for customers. You need to understand how your product will integrate with their systems, industry-standard software, and work processes and meet regulatory requirements for their industry. That does not mean that your small company needs to do everything itself — far from it. 

But it does mean you have to consider every step of the process for your product to move from your development team into the hands — and hearts — of happy end users. At every handoff, there is a risk of delay. Who will handle those delays? How? A careful, effective GTM approach will have considered the entire journey and offer repeatable answers that fully address specific points of pain for your customers along the way.

3. It’s focused on just one problem and just one customer group at a time. As I outlined in my last post, focusing on multiple industries or customer groups is costly — both in time and money. For all of the same reasons, it’s costly to focus on more than one problem — even in the same industry. 

This idea is challenging for many founders. After all, they ask, aren’t we bringing more value to customers when we solve more problems for them? Yet decades of experience and research in bringing new products to market all say “no.” The clearer your value proposition and the more tightly focused it is on a single customer group, the easier and faster it is to identify potential problems and hone your responses. When there are more variables in the equation, it’s harder to solve.

I often hear entrepreneurs declare with pride that their technologies can be applied to many different markets. And surely in the long run, this *may* benefit their companies. But until you have solid traction with an initial set of customers, pursuing a wider array of customer types in disparate industries will likely burn lots of time in customer discovery. And it won’t bring you any closer to good, repeatable answers about how to find real traction with your customers.

When you look at GTM strategies from the customer’s perspective, a lot of this seems obvious. Yet it’s easy to lose focus on your customers when you get swept up in cycles of new product development or the stories that VC firms often want to hear about rapid growth and addressing multiple customer segments at the same time. 

Nevertheless, a focused, intentional GTM strategy is essential for containing your costs and connecting effectively with your customers. There are a lot of misplaced fears about being too narrow or not having a total addressable market measured in the billions. But in my experience, a far bigger danger is not focusing your company’s efforts in a thoughtful way — particularly in its early growth phase. 

Startups usually die of drowning, not of starvation. As an early stage company, your life raft is a focused, clear GTM strategy.

Nothing keeps founders up at night as much as the fear of running out of money. How much capital does your company need, and how much is too much? The answers to those questions have a lot to do with your go-to-market strategy (which I’ll abbreviate to “GTM” here). 

The more thoughtful and targeted your strategy, the less it will cost you — in both time and money — to win early customers and establish a cash-flow positive business that allows you to control your own destiny.

A thoughtful, capital-efficient GTM strategy requires a narrow, almost obsessive focus on solving one painful problem for one specific group of customers. Yet the headiness of our current fundraising environment and the rise of ever-bigger VC funds push founders of many young companies in exactly the opposite direction. 

Companies are encouraged to grow big as quickly as possible, tackle disparate customer segments simultaneously, and stake the success or failure of their companies — not to mention years of their working lives — on a moonshot to create yet another massive platform to compete in the league tables with Amazon, Google, Salesforce, and Facebook.

Lost in our current moment is the fact that many large platform companies started by focusing on solving just one problem at a time. Facebook launched as a photo directory for undergrads at a single school, Harvard, before rolling out to other Ivy League schools, then other universities. All stepping stones, all much smaller than the final target market. Before Amazon became the Everything store, launched AWS and Amazon Studios, and acquired Whole Foods, it focused on doing just one thing well — selling books. Amazon raised only $9 million in venture capital funding before it went public.

Sure, there are lots of companies raising lots of money right now. But are any as successful as Veeva? Maybe you haven’t heard of Veeva. It’s the cloud platform for the life sciences industry. Veeva raised a total of $4 million in venture capital financing before going public. Today, it’s public, highly profitable, and worth over $20B. 

Veeva got there capital-efficiently by solving one problem it knew well — CRM for the pharma industry. Its strategy focused on one application and one sub-segment to get started and grew from there. Veeva added new segments and new applications. But it did so strategically and thoughtfully, so the founders of Veeva were able to keep massive ownership of their company while their investors still made home-run returns. 

By contrast, unfocused GTM strategies are costly and time-consuming. It might not be obvious why, though. Here’s the thing: winning customers in even a single market area requires making lots and lots of little linkages between your products and your customers. To forge these connections, your company has to invest time and money in identifying customers, reaching the people who make buying decisions, understanding their business challenges and regulatory environments, and integrating your products with the systems and work processes your customers depend on. Every tiny tweak of customer type or use case means slightly different processes will need to be forged.

Creating all of these linkages always means investing time and often means hiring people. Even the most focused GTM strategies require significant investments of time to be successful. When you target multiple customer segments or multiple business problems in the same industry, the costs of your GTM strategy also multiply. Even if your company’s underlying technology is similar, your efforts have to be duplicated for each of these customer segments, industries, or business problems. 

So, keeping to a tight, well-thought-out GTM strategy is the core of a capital-efficient approach. I think of it as a trade: using a better strategy instead of more money. But your plan has to be well-executed, too. 

How do you know if you have a good GTM approach? That’s a big topic. I’ll start to unpack that for you in my next post.

My dad has a big wooden crate of keys. Two crates, actually. Not metaphorical keys (although he’s a dad, so he has many of those too) — actual keys, a huge pile of old-school hotel keys from the 70s and 80s. Holiday Inns and Howard Johnsons. Wilkes-Barre and Las Vegas. Overland Park and Seoul. Keys with big, heavy oblong tags that promise to pay for the return postage if they’re dropped in a mailbox. Keys that insecurely display the addresses of the hotels — and the actual numbers of the rooms that the keys open.

My dad amassed his collection of keys from his constant business trips as he built six different startups over the decades.  

When I was a kid in the 70s, I loved to play with those keys. It was a treat every time my dad returned home and dropped another 2 or 3 hotel keys into the box. I’d look up the towns where he’d stayed on a map and maybe find his next flights in his monthly OAG flight schedule. (Oh, those inconvenient pre-Interweb days!) 

We’d giggle that he really wasn’t supposed to take those keys from the hotels, and then he’d make a silly, guilty face as he dropped yet another key into his wooden box. I’d chastise him if he came home with only one hotel key for our growing stash. My sister and I would play games with the box of keys, finding as many different states as we could among the keys — or looking for cities my dad visited multiple times.

I’m not sure what the hotel keys represented to my child self. They were probably just clues to the mysteries about the far-off places where my dad disappeared so regularly. But now those keys mean something very different to me. Every one of those keys was time my dad spent away from his four kids and wife. Each key was another sales call, another missed flight connection, another long-distance call home, another dinner on the road away from his family. In every return-postage tag there lives the fight to keep a startup alive — another tired night in a hotel when he may have wondered whether it was all worth it.

Most founders can instinctively understand the costs represented by my dad’s box of keys. Those hundreds of keys are small tokens of the daily tolls of entrepreneurship. No one could take those trips but my dad — because there’s no one to delegate to in a startup. Everyone on the team washes the dishes. It’s exhilarating but also exhausting.

Startup life is incredibly difficult and full of enormous sacrifices. My dad’s box of keys is a daily reminder that I and other investors in the entrepreneurial ecosystem need to respect the founder’s journey and offer the best possible chances for entrepreneurs to succeed.

It’s no secret that I question whether the interests of VCs and founders are properly aligned with each other in many venture capital deals. I’m not trying to be snarky or controversial. There is a fundamental, structural explanation for why VCs’ and startup founders’ interests often diverge. 

When I talk about a misalignment of interests, I’m not talking about nefarious people acting in bad faith. There are many talented venture investors out there working tirelessly to do right by founders and bring new technologies to the market. However, the venture capital industry has evolved in a way that makes the fundamental incentives at work for VCs and founders difficult to align. No one is trying to do wrong by anyone. Everyone — VCs and founders alike — is just doing their best to do what the market is telling them to do. But the market has very different incentives for investors than for founders. And this divergence has grown sharper over time. 

Let me explain.

Venture firms, like other private equity investment firms, run on what’s known as a 2/20 model. VCs are compensated in part (the 2%) by fees on their total assets under management (AUM), and in part by the profits on their investments (the 20%).

There are some interesting tensions between the two incentives at work in the 2/20 model. These tensions often go unnoticed. On the one hand, VCs are incentivized to grow their AUM to increase their management fees. On the other, they are rewarded via carried interest for the performance of their investments. Carried interest is supposed to provide the most powerful incentive to VCs in the 2/20 model. But management fees accumulate a lot faster than carry — it can take 10 years or more for an early-stage investment to mature — so VCs face strong financial pressures to build up their AUM and fund sizes. 

Investors face social and status pressures as well. Bigger venture funds mean more industry recognition for VCs, more media coverage of their funds, and more attention to their portfolio companies and market views.

So it’s not surprising to see fund sizes grow rapidly with rising markets and more attention to the VC industry from non-traditional players looking for opportunities for yield in the most recent market cycle. Right now, we are seeing the highest average fund size in venture capital history. Today, 66% of all U.S. venture dollars in are in funds of $500 million or more, and 13 of the 15 largest-ever venture funds have been raised since 2015.

So What’s the Problem? 

As it turns out, the bigger the fund, the harder it is to generate great returns for investors. Without diving too deeply into the math at the moment — we can do that another time — there’s a rule of thumb for how venture funds deliver 3x gross returns to their investors. The average exit value of a venture fund’s portfolio companies generally needs to be at least half the total size of the fund. In other words, for those 66% of venture dollars in funds of $500 million or more, the exit values of their portfolio companies need to average at least $250 million. This average includes all the companies in each VC fund with values that will go to zero.

But average exit values for VC-backed companies are not above $250 million. In fact, data from Pitchbook and the National Venture Capital Association show that median exit values in the past 5 years have ranged between $60 and $85 million. So venture firms are incentivized to create ever-larger outliers, those unicorns and decacorns that can push their averages up into solid 3x return territory, to make up for the fact that the median exit value is so much lower than the average they need.

Most of those aspiring unicorns will not succeed. You know that. The VCs know that, too. But the incentives for VCs encourage them to keep pressing for those big wins, because $100 million exits will not move their funds toward their targets. From the perspective of fund economics, it is better for portfolio companies to swing for the fences or die trying. After all, there’s a whole portfolio full of chances — in larger VC funds, 30 or more — and who knows which ones will hit?

If you’re the founder of an early-stage company, you don’t have a portfolio of chances.  There’s only one shot. Your median exit is not likely to be $1 billion or even $250 million. Instead, it’s likely to average about $80 million — assuming your company survives to exit. From a founder’s perspective, is it worth all of your sacrifices and years of hard work to “go big or go home?” Do you want to turn down a $100 million offer that sets you up for life and rewards your years of work because it didn’t move the needle for investors?

As a founder, you get to make fundamental choices about the nature of the game you are playing as you grow your company. How much you choose to raise — and how your choices align with your investors’ incentives — has a huge influence on your odds of winning.