David Cummings on Startups

Blog

  • Investing in Idea and Growth Stage Startups, But Not Seed and Early

    Yesterday an investor asked why I rarely participate pro rata in subsequent rounds of financing. On a basic level, my strategy is to either invest in opportunities that have a high risk/reward equation, defined as the ability to make a 15x return, or a “safe” investment where the startup is in the growth stage and there’s a clear path to make 3x (with a goal of 5x).

    Now, less than 2% of venture-backed startups sell for $100 million or more, so if the startup is pre product/market fit, to make 15x, knowing that the chance of a $100+ million exit is nearly non-existent, the post-money valuation needs to be well under $4 million when accounting for future dilution. By the time the full seed round comes together, and hence the startup is past the idea stage, the valuation has often gotten too high such that I don’t invest or participate pro rata.

    The second investment strategy is to participate once the startup is in the growth stage and has north of $3 million in annual recurring revenue (ARR). At this point, the startup has product/market fit, a repeatable customer acquisition model, and is working on scaling all aspects of the business. While it isn’t a “sure thing”, assuming there’s a great team, market, and unit economics, the chance of the business reaching a material size (e.g. $20 million in ARR) is high and an exit at a substantial valuation well above $100 million becomes much more achievable.

    So, this approach skips seed stage and early stage investments since they don’t meet the risk/reward profiles. This approach also skips participating pro rata in the seed stage and early stage as the pro rata participation is the same class of money with the same goals. While this is a strange approach for many angel investors, it’s worked well for me.

    What else? What are some more thoughts on this investment strategy focused on idea stage and growth stage startups?

  • Challenges of a Seed Without a Lead

    When entrepreneurs set out to raise a seed round, they typically find that it’s hard to get a lead investor. Lead investors are often professional investors and/or institutional investors that commit a significant amount of time and energy to the company, not just money. At the seed stage, there’s no product/market fit or repeatable customer acquisition process (see The Four Stages of a B2B Startup), making the investment more of a belief in the team and market, not the existing momentum or traction in the business.

    Here are a few challenges when there isn’t a lead investor:

    • Accountability – The lead investor is the point person for accountability with the entrepreneur, ensuring timely monthly investor updates, annual reviews, etc.
    • Board Meetings – The lead investor requires regular board meetings and helps enforce standard fiduciary responsibilities
    • Follow On Rounds – If the company isn’t hitting its targets, it’s much more likely that the investors will walk away and not do a bridge round or additional financing as everyone has a more limited ownership stake and participation

    Another way to put it is that a seed round without a lead usually results in “just money” whereas a lead investor is a real partner for the entrepreneur.

    Entrepreneurs raising a seed round would do well to think through the pros and cons of having, or not having, a lead investor.

    What else? What are some more thoughts on the challenges of a seed round without a lead investor?

  • It Requires No Talent

    Vala Afshar, from Salesforce.com, sent a great tweet out earlier today.

    It requires no talent to be:

    • hard working
    • generous
    • polite
    • positive
    • kind
    • teachable
    • humble
    • hopeful
    • grateful
    • honest
    • mindful

    Too often, people get bogged down by what they can, and cannot, do. Instead, follow Andre Agassi and focus on controlling what you can control.

  • Metrics to Track by Startup Stage

    Recently an entrepreneur asked what metrics they should track at their stage startup. Being in the seed stage, I recommended keeping it simple by tracking the 9 Simple Weekly Metrics for Seed Stage SaaS Startups, with cash on hand, burn rate, and monthly recurring revenue being the most important. As the startup grows, the number of metrics tracked should grow as well.

    Here are the weekly metrics to track by stage:

    Match the metrics to the stage and add more operational rigor as the startup grows.

    What else? What are some more thoughts on metrics to track by startup stage?

  • Quick Notes on ServiceMax’s $915 Million Exit to GE

    GE announced their acquisition of ServiceMax for $915 million earlier today. ServiceMax is a SaaS company focused on field service workers. Imagine having a number of employees that work in the field (e.g. fixing and servicing products) — ServiceMax provides the management platform. From their site:

    ServiceMax’s mission is to empower every field service technician in the world to deliver flawless field service and every organization to unleash the untapped growth potential of service.

    Here are a few quick notes on ServiceMax:

    • Founded in 2007 (~9 years to exit)
    • Raised $204 million (source)
    • 469 employees on LinkedIn (source)
    • Revenue guess based on $200k/year/employee – $94 million
    • Built 100% on Force.com (source)
    • 400+ customers (source)

    Congratulations to Dave Yarnold and team on building a great business!

  • 60x Early Stage SaaS Pre-Money Multiple

    Recently I was talking to an investor that had competed to make a SaaS investment last quarter. The desired startup had just over $1 million in annual recurring revenue, a great management team, and a super hot market. After a competitive process, the final pre-money valuation: $60 million.

    Why would a well-known venture firm pay 60x run-rate? Here are a few thoughts:

    • Fund Size Dynamics – The larger the fund, the larger the checks. If the VC wants to lead the deal, and they usually put in ~$10 million, every investment is going to be in the tens of millions pre-money, whether the startup has $1M or $5M recurring.
    • Deal Competition – The best way to raise capital is to create an auction process with multiple bidders. More competition from investors results in a higher valuation.
    • Market – There are only so many untapped markets that are clearly large enough to support billion dollar exits. The more obvious the opportunity, the more the valuation goes up.
    • Team – Certain founders and teams command a premium (e.g. repeat successful entrepreneurs as well as key prior employers). Ultimately, investors are betting on the team and place tremendous value on it.

    While valuations have corrected in many areas, SaaS companies with certain dynamics are still commanding a large premium. Entrepreneurs would do well to understand the current market.

    What else? What are some more thoughts on early stage SaaS startups still raising money at huge multiples?

  • No Startup Value Until $1 Million in Recurring Revenue

    Recently we decided to shut down a startup I had invested in. After 20 months in business, ~$200k of recurring revenue, and a substantial monthly burn rate, the management team wasn’t interested in pursuing it further. Some product/market fit was in place but there wasn’t a profitable, repeatable customer acquisition model and the addressable market was challenging to reach.

    Why shut it down? Startups that are super sub-scale without a proven model aren’t of any value. No potential acquirer wants the company (perhaps the people in an acqui-hire but not the actual business). Investors might be interested in putting more money in it, but without a committed management team there’s no interest.

    In fact, there’s no startup value until reaching $1 million in recurring revenue, or a clear path to shortly achieve $1 million. Here are a few reasons why:

    When a startup is still figuring things out, has less than $1 million in annual recurring, and isn’t growing fast week over week, there’s no enterprise value. After $1 million is achieved, many opportunities emerge.

    What else? What are some more thoughts on no startup value until $1 million in annual recurring revenue?

  • Video of the Week: Steve Blank, Evidence-based Entrepreneurship

    For our video of the week, watch Steve Blank, Evidence-based Entrepreneurship at The Lean Startup. Steve is the author of The Startup Owner’s Manual: The Step-By-Step Guide for Building a Great Company and one of the most influential thinkers around modern entrepreneurship (see 11 Great Ideas from Steve Blank). Enjoy!

  • Jobs to be Done Framework

    Clayton Christensen, author of the The Innovator’s Dilemma, also invented the “Jobs to be Done” framework.

    From the Clayton Christensen Institute:

    The jobs-to-be-done framework is a tool for evaluating the circumstances that arise in customers’ lives. Customers rarely make buying decisions around what the “average” customer in their category may do—but they often buy things because they find themselves with a problem they would like to solve. With an understanding of the “job” for which customers find themselves “hiring” a product or service, companies can more accurately develop and market products well-tailored to what customers are already trying to do.

    Too often, entrepreneurs think in terms of features. If our product does X,Y, and Z, then people will buy it. Instead, think about the job that needs to be performed and how the solution will fit it. Think solutions to jobs, not features.

    What else? What are some more thoughts on the jobs-to-be-done framework?

  • 18 Quick Sales Resources for Startups

    These past few weeks have been focused on sales — the life blood of every successful startup. Here are the recent sales posts:

    1. Four Types of Sales Reps
    2. Getting to “Wow” in the Sales Process
    3. Sales Team Challenges When Scaling
    4. Territories vs Wide Open for Sales Teams
    5. Make Body Language Your Superpower
    6. Benchmarking Sales Development Reps
    7. The Different Meeting Rhythms in Sales
    8. Analyzing the Sales Opportunity Pipeline
    9. Mining the Sales Opportunity History for Insights
    10. The Sales Ops Role – Operational Rigor for the Sales Team
    11. Hire a Sales Assistant First
    12. The Best Sales Demos are Conversations
    13. Mapping Out the Sales Stages
    14. Discovery Calls – A Critical Part of the Sales Process
    15. Notes from Trenton Truitt’s Presentation on MEDDICC
    16. MEDDICC Forecasting Methodology
    17. The Success Plan Google Doc for Sales
    18. Testing Potential Demand By Being an SDR

    Sales is critical, yet foreign, to most startup founders. Put in the time and effort to learn it — it’s worth it.

    What else? What are some more sales topics to cover?