Venture Capital 2.0:The Lean VC

Dave McClure500 Startups(@DaveMcClure)

http://500startups.com The Entrepreneurs Club – March 2011

Re-Inventing Venture Capital Investing throughInnovation, Incubation, & Iteration

Changes.

• Venture Capital = Fewer, Smaller Funds (<$100M)– Decline of Large Funds (> $250m)– Birth of “Super Angel” Funds ($10-100M)– Market Changes: Fewer IPOs (>$1B), More/Smaller Acq’stns (<$250M)

• Platforms = Distribution + Monetization (not Technology)– Search (Google)– Social (Facebook, Twitter, YouTube)– Mobile (Apple, Android)

• Incubators & Metrics = Many Small Experiments (most FAIL)

– Y-Combinator, TechStars, SeedCamp– Betaworks, fbFund REV, AngelPad– 500 Startups

Dave McClure: Bio

2000-2010:• Investor: 100+ Startups (Mint, SlideShare, Twilio, WildFire)• Marketing: PayPal, Simply Hired, Mint.com, Founders Fund• Community: Startup2Startup, GeeksOnaPlane, StartupVisa• Speaker: Startup Metrics, Stanford Facebook class

80’s & 90’s:• Entrepreneur: Founder/CEO Aslan Computing (acq.)• Developer: Windows App Dev / SQL DB Admin• Engineer: Johns Hopkins ‘88, BS Eng / Applied Math

500 Startups Seed FundMountain View, CA – Founded 2010

• Seed Fund & Startup Accelerator• Design, Distribution, Data• 90+ Portfolio Companies

– Twilio– Wildfire– SendGrid– MyGengo– Erply– Payvment– FlowTown– Medialets– ChinaNetCloud

500 Hats LLC(Personal Investments: 13 deals, 2004-2008, ~$300K)

Results: 1 exit @ $170M (9x), +3-6 future wins2 addtl exits @ $50M, $70M (advisory roles)

Bix (acq YHOO)

Jambool (acq GOOG)

Founders Fund (Incubator/Seed Program: 43 deals, 2008-2010, ~$3M)

Facebook fbFund

22 incubator deals ($850K)

FF Angel LLC

21 seed deals($2M)

Results:8 raised seed rd $500K+ 3 small exits

Results:6 raised Series A $2M+2 raised Series B $5-10M+1 early exit @ 4x

FanBridge

500 Startups LP Fund I(90+ investments @ ~$75K avg)

Wildfire Crave Tello AwayFind Indinero MyGengo

Revnetics Mogotix EcoMom Zencoder GazeHawk Crocodoc

SayHired Recurly AppBistro Foodspotting Gantto Medialets

Rapportive TransFS SiteJabber GinzaMetrics Estately FlowTown

OneForty Twilio Postling Plancast ElaCarte WePay

Zappli Format Baydin GroupSpaces Rapportive Apsalar

Bunndle Udemy Brainient ReadyForZero Graphicly StoryJumper

OtherInbox Viikii Zozi One True Fan FormativeLabs

NetworkedBlogs

Venture Capital 2.0(smaller, faster, better)

Venture Capital 1.0 “Super” Angel (aka Micro-VC)

Silicon ValleyInvestor Ecosystem

Angels & Incubators($0-10M)

“Seed” Funds ($10-50M)

VC Funds ($50-250M)

VC Funds (>$250M)

True VenturesFirst Round Capital

BenchmarkAccel

Y-Combinator

TechStars

SoftTech (Clavier)FloodGate (Maples)

Felicis (Senkut)SV Angel (Conway)

Venture Capital: Still Relevant?

Good for big CAP:

• Hardware

• Enterprise SW

• Clean Tech

• BioScience

• Facebook, Zynga,

Groupon

Not So Great for:

• Consumer Internet

• Small Business

• Consulting

• Games, Porn ;)

More & Smaller Acquisitions

• Mature Internet Platform Co’s:– GOOG, MSFT, YHOO, EBAY, AOL,

AMZN, AAPL, INTU, ADBE, Fbook

• Lots of Users, $$$• Outsourcing Innovation

• Lots of M&A (but small)• Great for Angels & Entrepreneurs• Not so Great for (big) VCs

* Mint acquired by Intuit in Sept 2009 for $170M

Platforms 2.0Search, Social, Mobile

Web 2.0: Good Times.

1. # Users, Bandwidth = Bigger.

2. Startup Costs = Lower.

3. Transaction $$$ = Better.

Building Product => Cheaper, Faster, Better Getting Customers => Easier, More Measurable

Product & Marketing Decisions based on

Measured User Behavior

R.I.P.

*BAD*TIMES

Platform Viability

Users .Users . . Money

. Money

FeaturesFeatures

Growth Profit

ProfitableGrowth

Nirvana

Successful Platforms have 3 Things:1) Features2) Users3) Money

Distribution Platforms

Customer Reach: 100M+

• Search: Google (SEO/SEM)

• Social: Facebook, Twitter, Zynga, LinkedIn

• Mobile: Apple (iPhone, iPad), Android, Blackberry

• Media: YouTube/Video, Blogs, Photos

• Inbox: Gmail, Yahoo, Microsoft

Web 2.0 Business Model: KISS (“Keep It Simple, Stupid”)

• 1) Re-invent Web 1.0 Businesses– Make a Website, a Widget, an App– Sell Stuff to People (Transactions, Subscriptions)

• 2) add Web 2.0 Technology– Search, Social, Mobile– Google, Facebook/Twitter, Apple/Android– Email, SMS, Ecommerce / Payments

• 3) Get Customers, Make Money– Distribution, Distribution, Distribution

Startup Incubators Lots of Hot, Cool, Web 2.0!

(+ lots of FAIL.)

Incubator 2.0: Fast, Cheap, FAIL• Incubators = supportive startup ecosystem (+ angels, VCs)

• Efficient use of investment capital ($0-100K)

• High fail rate (60-80%) => large initial sample size

Incubator 2.0: Education, Collaboration, Iteration

• Success based on:– many small startup experiments

– common platforms, problems & solutions

– physical proximity, open/collaborative environment

– fast fail, iteration, metrics & feedback loop

• Incremental investment; high-risk, but high-reward

fbFund REV

fbFund REV: Facebook “Social” Incubator: invest in startups, apps, websites based on Facebook platform & Facebook Connect.

• 22 startups @ ~$35K each ($850K total)• 3 month program: Technology, Design, Marketing, Business topics • Success: ~8 startups funded >$500K – Wildfire Interactive raised $4M

Startup Metrics & The Lean Startup

Measure Shit, Iterate.

“What Metrics Should I Measure?”Users, Pages, Clicks, Emails, $$$...?

Q: Which of these is best? How do you know?

• 1,000,000 one-time, unregistered unique visitors

• 500,000 visitors who view 2+ pages / stay 10+ sec

• 200,000 visitors who clicked on a link or button

• 20,000 registered users w/ email address

• 2,000 passionate fans who refer 5+ users / mo.

• 1,000 monthly subscribers @ $5/mo

the good stuff.

Read Geoffrey MillerSex + Evolution + Consumer Mktg = Awesome Sauce

Other Great Shit.Psychology + Comics

Discover MeaningWhat Do Users Care About Enough to F**k or Kill ?

Kathy Sierra:“CreatingPassionateUsers”

The Lean Startup

• Progress ≠ Features; Measure Conversion• Talk to Customers; Discover Problems• Focus on “Product/Market Fit” (good solution)• Fast, Frequent Iteration (+ Feedback Loop)• Keep it Simple & Actionable

Discover Customers(Steve Blank, SteveBlank.com)

LEARN BUILD

MEASURE

IDEAS

CODEDATA

Iterate: Learn, Measure, Build.(Eric Ries, StartupLessonsLearned.com)

Product/Market Fit Before “Launch”(Sean Ellis, Startup-Marketing.com)

sean@12in6.comBlog: startup-marketing.com

Startup Metrics for Pirates

• Acquisition: users come to site from various channels

• Activation: users enjoy 1st visit: "happy” experience• Retention: users come back, visit site multiple times• Referral: users like product enough to refer others• Revenue: users conduct some monetization behavior

AARRR!AARRR!

(note: If you’re in a hurry, Google “Startup Metrics” & watch 5m video)

AARRR!: 5-Step Startup Metrics Model

Website.com

Revenue $

$$

Revenue $

$$

Biz DevBiz DevAds, Lead Gen, Subscriptions, ECommerce

Ads, Lead Gen, Subscriptions, ECommerce

ACQUISITIONACQUISITION

SEOSEOSEMSEM

Apps & WidgetsApps & Widgets

AffiliatesAffiliates

EmailEmail

PRPR Biz DevBiz Dev

Campaigns, Contests

Campaigns, Contests

Direct, Tel, TV

Direct, Tel, TV

Social Networks

Social Networks

BlogsBlogs

DomainsDomains

Retention

Emails & Alerts

Emails & Alerts

System Events & Time-based

Features

System Events & Time-based

Features

Blogs, RSS, News FeedsBlogs, RSS, News Feeds

Q: What is My Business Model?

One of the following:

1. Drive Usage (= Activation, Retention)

2. Get Users (= Acquisition, Referral)

3. Make Money (= Revenue*)

(Note: eventually need to turn Users/Usage -> Money)

Lean Startup Challenges

Startups have problems in 3 main areas:

• Management: Set Priorities, Define Key Metrics, Make Decisions.

• Product: Build the “Right” Features. Measure, Iterate.

• Marketing: Distribution, Distribution, Distribution.

Role: Founder/CEO

Q: Which Metrics? Why?

A: Focus on Critical Few Actionable Metrics(

if you don’t use the metric to make a decision, it’s not actionable)

• Hypothesize Customer Lifecycle• Target ~3-5 Conversion Events (tip: Less = More)

• Test, Measure, Iterate to Improve

Role: Product / Engineering

Q: What Features to Build? Why? When are you “Done”?

A: Easy-to-Find, Fun/Useful, Unique features that

Increase Conversion (stop iterating when increase decelerates)

• Wireframes = Conversion Steps

• Measure, A/B Test, Iterate FAST (daily/weekly)

• Optimize for Conversion Improvement

– 80% on existing feature optimization

– 20% on new feature development

Role: Marketing / Sales

Q: What channels? Which users? Why?A: High Volume (#), Low Cost ($), High Conv (%)

• Design & Test Multiple Marketing Channels + Campaigns• Select & Focus on Best-Performing Channels & Themes• Optimize for conversion to target CTAs, not just site/landing page• Match/Drive channel cost to/below revenue potential

• Low-Hanging Fruit: – Blogs– SEO/SEM– Landing Pages– Automated Emails

MAARRRketing Plan

Marketing Plan = Target Customer Acquisition Channels• 3 Important Factors = Volume (#), Cost ($), Conversion (%)• Measure conversion to target customer actions• Test audience segments, campaign themes, Call-To-Action (CTAs)

[Gradually] Match Channel Costs => Revenue Potential • Increase Vol. & Conversion, Decrease Cost, Optimize for Revenue Potential• Avg Txn Value (ATV), Ann Rev Per User (ARPU), Cust Lifetime Value (CLV)• Design channels that (eventually) cost <20-50% of target ATV, ARPU, CLV

Consider Costs, Scarce Resource Tradeoffs• Actual $ expenses• Marketing time & resources• Product/Engineering time & resources• Cashflow timing of expense vs. revenue, profit

One Step at a Time.

1. Make a Good Product: Activation & Retention

2. Market the Product: Acquisition & Referral

3. Make Money: Revenue & Profitability

“You probably can’t save your Ass and your Face at the same time… choose carefully.” – DMC

Investor Metrics: “Super Angel” -> Lean VC

Not “Spray & Pray”, but rather“Quantitative, Incremental, Selective Follow-on”

Investing.

(Product, Market, Revenue.)

“Lean Investor” Model

Method: Invest in many startups using incremental investment, iterative development. Start with lots of small experiments, filter out failure, and expand investment upon success… (Rinse & Repeat).

• Incubator: $0-100K (“Build & Validate Product”)• Seed: $100K-$1M (“Test & Grow Marketing Channels””)• Venture: $1M-$10M (“Maximize Growth & Revenue”)

Investment #1: Incubate(“Product”)

• Structure– 1-3 founders– $25K-$100K investment– Incubator environment: multiple peers, mentors/advisors

• Build Functional Prototype / “Minimum Viable Product” (MVP):– Prototype->Alpha, ~3-6 months– Develop Minimal Critical Feature Set => Get to “It Works”– Instrument Basic Dashboard, Conversion Metrics– Test Cust. Adoption (10-1000 users) / Cust. Satisfaction (Scale: 1-10)

• Demonstrate Concept, Reduce Product Risk, Test Functional Use• Develop Metrics & Filter for Possible Future Investment

Investment #2: Seed(“Market”)• Structure

– 2-5 person team– $100K-$1M investment– Syndicate of Angel Investors / Small VC Funds

• Improve Product, Expand Market, Test Revenue:– Alpha->Beta, ~6-12 months– Customer Sat ≥ 6 => Get to “Doesn’t Suck”– Setup A/B Testing Framework, Optimize Conversion– Test Marketing Campaigns, Cust Acqstn Channels

• Prove Solution/Benefit, Assess Market Size• Test Channel Cost, Revenue Opportunity• Determine Org Structure, Key Hires

Investment #3: Venture(“Revenue”)

• Structure– 5-10 person team– $1M-$5M investment– VC Investors

• Make Money, Get to Sustainability:– Beta->Production, 12-18 months– Customer Sat ≥ 8 => “It Rocks, I’ll Tell My Friends”– MktgPlan => Predictable Channels / Campaigns + Budget– Scalability & Infrastructure, Customer Service & Operations– Connect with Distribution Partners

• Prove/Expand Market, Operationalize Business

• Future Milestones: Profitable/Sustainable, Exit Options

Summary• Venture Capital 2.0 = Fewer, Smaller Funds (<$100M) +

More, Smaller Exits (<$100M)

• Platforms 2.0 = Distribution + Monetization, not Tech

• Incubators, Metrics = Many Small Experiments (most FAIL). – Measure Stuff.– Iterate, Iterate, Iterate.