Blitzfailing – How to NOT Grow a Company

If your marginal profit per unit sold is negative, no amount of volume will help you be profitable.

Some time around 2016, a company that was raising at a lofty valuation pitched to me requesting capital from one of Sputnik ATX’s antecedent funds. The company pitching was WeWork.

The heart of their presentation was a claim that WeWork represented a new model for coworking space that was going to revolutionize coworking from stodgy folks like Regus, a profitable competitor. At the time, WeWork charged less than Regus to use office space and WeWork had significantly higher unit operating costs, customer acquisition costs, higher churn, and a significantly riskier customer base.

I pointed out to their pitchman that they had lower unit revenue and far higher unit cost than their competitors. How could they make money?

They responded with more of the same balderdash. WeWork’s plan to overcome negative unit economics was to make it up on volume, as they grew faster and faster with additional investment.

Poppycock.

This reminds me of Paul McElroy in the old SNL skit, First Citywide Bank, who claims the bank makes it up on volume. Thus the old joke, “I lose money on every one I sell, but I make it up on volume.”

If your marginal profit per unit sold is negative, no amount of volume will help you be profitable. Taking investment to accelerate losses makes the situation worse.

Blitzscaling is taking in large amounts of venture capital for massive customer acquisition growth in a short period of time. Growing so fast, you can’t be ignored, and then basking in the glow of a sustainable, massively profitable business.

A Blitzscalable business must have positive unit economics so that scaling increases profits, over and above overhead expenses and marketing costs. In short, the net profit selling each unit accrues faster than your expenses. When this happens, your company becomes profitable and sustainable.

Over the past few years large amounts of venture capital have poured into negative unit economic businesses that tout “volume” as the solution to their woes. Unless those businesses have some monopolistic plan to dominate the industry and then jack up prices to alter the unit economics, they will fail.

Of course, they could be hiding a novel new technology that will disrupt industry cost structure to make the unit economics positive, but if they did, why aren’t they using that technology now?

For example, Uber analysts tout that the company may be profitable when driverless technology becomes broadly available. This begs the question why they’re just figuring that out now, after massive investment on a different thesis, but I digress.

Bottom line: when your unit economics are negative, the business is unsustainable and you are blitzfailing if you raise capital to dig your grave at an accelerated pace.

Instead, resourceful entrepreneurs should create disruptive innovation that dramatically lowers the cost to solve a customer’s problem or provide a new, novel service that generates massive consumer surplus that cannot be ignored.

If you choose the path of the resourceful entrepreneur, unit economics and the market will reward you handsomely.

Author’s Note: yes, I love old words like poppycock. So precise!

Sputnik ATX in the COVID-19 Age

Oksana and I had more than just a few meetings in the past few months to discuss how the current pandemic will change investing in early stage companies, and how we can adapt to help companies be safe, and grow through hard times.

So, we’re announcing today that we’re open for our next cohort applications, and have a couple of things you should know:

  1. It is very likely that our next cohort will meet virtually, at least to get started, and we’ll see how it goes. Most of our work can be done remotely, and we don’t want to risk it if things are still dodgy.
  2. Interviews will still be in person, but at a distance, and likely outdoors. This will mean modifying how we interview. You’ll definitely be 20 feet away from us (so get good at projecting your voice), and we will all have masks. With sun shining and a breeze flowing, no need for anyone to take risks on this, but we still want to see who we’re investing in, at a significant distance. And please, don’t come close to us, not because you stink or anything like that, safety first.
  3. Our new SAFE note has two key changes. First, we’ve increased our option to invest up to $500k in your company from $350k where it was today. This reflects the need to pump additional capital into our most promising alumni who need growth capital due to epic demand, and the expectation that many angel investors are limiting new investment. Second, the option period is now 18 months, to ensure that if you hit your growth period after graduation, we’ve still got your back. We’ve already seen graduates from even a year ago coming back when they hit their stride, and we’d like to make that refunding easy.
  4. More than anything, we strongly believe that this shall pass. It is hard but we know the dawn is coming, and we firmly believe that there is a bright future for humanity and the Texas start-up community.

So, let’s get started partnering with you, the dauntless entrepreneur during COVID, and press forward. This will end, and when it does, the future will be amazing.

What Entrepreneurs Really Need (and It Isn’t Funding)

Avoid the trap of “I believe, therefore I am right”

I recently saw data from Y Combinator comparing what founders consider their biggest obstacle, then contrasting that with a list of the things proven to grow companies fast (what you really need). To be clear, high growth is all that matters when it comes to proving product market fit. Nothing says “people need our stuff” like hoards falling all over themselves to obtain your product/service.

What you think holds you back:
1. Funding (from investors)
2. Bug fix  (make it work better)
3. Design (make it easier to use and pretty)

What actually holds you back:
1. Launch (get product to market)
2. Design (make it easy use and pretty)
3. Pricing (create consumer surplus)

Remember, high growth covers a multitude of sins. 

Short on cash? Sell more.
Product buggy? Get code fixes to market now.

Alternatively, Failory did a study  that patterned start up data  to identify why some fail and some succeed. The 4 reasons for failure generally fell into four categories:

  1. Incompetence – lack of planning
  2. Inexperience – lack of product know-how
  3. Inexperience – lack of managerial skills 
  4. Personal problems – you’re a hot mess.

The worst thing you can do, is say to yourself, “I believe, therefore I am right.”

Note, three of these categories are, by definition, items that founders may lack and fall into the false premise, “I believe, therefore I am right.”

We see many founders who fail to identify that they are in one of these categories. Successful founders know that they are always one or more of these, and fill their gaps by building a diverse team that is united and motivated around common goals and vision. It takes humility to assume you know nothing, and build a team with the skills to succeed. And humility is what you really need.

Humility will help you get MVP to market faster because you know it will never be perfect. Humility will make the product better because you will not assume you know what the customer wants and will listen to them. Humility will help you to identify who you need to execute your vision, and inspire them to follow you, especially when times are tough.

In short, develop your company with humility, so you can grow with confidence.

Beware of the Startup Industrial Complex

Three rules to avoid getting scammed by advisors.

As an early stage VC, one of the saddest things I observe from meetings with founders is the toxic and pervasive influence of what I call the start-up industrial complex (the SIC).

The SIC is a universe of charlatans and blissfully unaware “advisors” who masquerade as help for early stage companies and, in fact, set them back or bleed them dry for the personal gain of the advisor. There is an almost infinite number of people desperate to take money out of the entrepreneur’s pockets, so I thought I’d write a post about how you can identify and protect yourself from the posers and in the process learn how to identify real help that is there for you.

SIC members usually ask for cash upfront to perform tasks for start-up companies. It may be they offer a so-called, proven method to develop fundraising decks (laughable, when you can get the best advice free from YC), or perhaps an introduction to a prospective investor or customer. Regardless, the first warning sign that you’re among the SIC is when they ask for cash upfront to “help” you.

Rule Number One: the best help for start-ups comes from proven leaders who don’t need cash from your seed capital and genuinely want to help ideas they believe in. 

Another red flag is when a SIC member asks for equity in your company upfront, without any performance vesting standards. For example, “give me 5% equity in your company and I’ll give you advice and allow you to use my face on your slide deck to raise money.” This is a bad deal for you, if you take it.

Rule Number Two: when giving equity, it should always vest over time for performance tied to measurable goals such as sales or results that move your KPIs.

Most SIC members are either burned-out, serial founders who never got an exit, or someone who had a senior management position in a large, mature company. Both types of these people have experience, but they don’t have the experience you need. Failure can be a good teacher, but founders who have not gone through the full process of start-up to exit may just repeat the same failure lessons, and share their mistakes with you. Similarly, big companies may be good at what they do, but the people who work in them are not familiar with the effort and methods to create and grow something from scratch on a small team with a limited budget. Many of these people have good intentions, but they just don’t speak start-up, and are more dangerous when they think they do.

Rule Number Three: Seek advice from people who are either successful founders or VCs, better yet, someone who has done both.

Founders, we love you and want to see you succeed. So beware of those who come looking for cash, free equity, or have nothing to contribute to your future success. The SIC is real, spread the word and beware!

Five Questions Every Start-Up Should Ask About Accelerators/Incubators

First off, and full disclosure, I operate an accelerator program (Sputnik ATX) and have strong opinions on this subject as a participant in the “helping startups” market. I put that in quotations, because, as I’ll expound, there is a start-up industrial complex that is designed to fleece novice founders from their seed capital with predatory fees, terms, etc. Also, I’m going to start just writing accelerator, because writing accelerator/incubator over and over just reads poorly.  OK, enough with disclosures. Read on!

If you’re a breathing human, you’re confused by the veritable potpourri of accelerator and incubator options clogging your inbox. Need help evaluating which one is right for you? How to know which one may or may not help you out? I’m here to help. Here’s a list of questions you should ask to see if your start-up benefits from a program:

  1. Does the accelerator write checks or take checks?
    Accelerators that give money, usually as equity investments and sometimes as a grant (whoo-hoo if you can get it), are often those who have real “skin in the game” and want to align their interests with the founders. They’re willing to put their money where their mouth is, and back your company. It is important to also ask how they help you get your next check. Some, like Sputnik ATX (yea us!) also write follow-on checks and will lead or participate in seed rounds or A-rounds beyond the pre-seed investment typical of most programs.
    Programs that do not write checks to the start-up may also be helpful, but you should expect them to add a lot of value in other ways if they are asking for money or even equity (yikes), without making an investment. For example, it may make sense to give up a few points of equity or pay a fee if you have very high confidence that the program will help you double sales, get major traction, or something else that is material to your success, and not just helping you prepare a nice pitch, some simple introductions, etc.
  2. Does the accelerator help me do something I can’t do for myself or speed up a hard thing?
    Good accelerators identify and invest in companies where they can add value and have experience to offer the founders. Ask the accelerator how they’re going to  help you, and be specific. If they can’t tell you how they can help you solve a tough problem or complete a hard thing, move on. Too often, startups believe that just getting into a program will raise their profile, and so they sign up for something that wastes time and money doing things they could have done faster for themselves. It is OK to recognize that a program isn’t going to accelerate you as advertised. One program here in Austin that really does this well is SKU, an accelerator to help CPG start-ups. SKU has a focus niche where they have deep expertise and networks that help companies get onto store shelves, something that is quite hard to do without the industry know-how and experience.
  3. Is the program just trying to get me to buy something?
    What I mean by this is some accelerators are just trying to sell startups other services, and offer little in the way of help. Good accelerators don’t see you as a customer, you’re a partner that they want to help. A generative relationship should exist between the startup and the accelerator, where the accelerator is spending its time helping you to succeed. If you’re just there to buy products and services from the “accelerator” then the program may just be a marketing channel used by a business to sell coworking space and other advisory services to start-ups without offering much value added. Some coworking spaces may have excellent accelerators, and you’ll only know if they’re awesome when you compare the cost of the required stuff you’ll buy versus the benefit from the space and program.
  4. Is the program merely providing free access to services I can get elsewhere?
    Some accelerators take equity in exchange for providing services like desk space, credit on cloud services, or “free” consulting. Let me address some of the more common services one by one:

    • Desk space – if you have a place to sleep, you have an office. Giving up equity for a desk is a sub-optimal business decision. If you really need a desk, drive Uber/Lyft for a day and use your earnings to pay for that workspace without diluting your equity. As a bonus, you might meet a cool VC while driving (I met a cool company or two this way, the founders pitched me while driving).
    • Credit on Cloud Services – accelerators get this free from Amazon, Google and Microsoft, so they’re not paying for the perk they offer you. Plus, if you attend some of the Amazon, Google and Microsoft cloud events, you can get this same perk for free directly, without selling your soul.
    • “Free” consulting or advisory work is garbage. Advice should always be free to founders. Anyone who has successfully founded and exited a start-up will usually help you out for free because they know how hard it is to launch. Anyone who needs a paycheck from you is not legit, and is usually someone who is preying upon start-ups to make a living because they failed to do so as an entrepreneur or flushed out of corporate life and have no clue how to successfully start their own company (or they’d be doing it already). For this reason, Techstars has a policy of not permitting advisors or partners helping companies in their program from charging any fees to the company while they’re in the program. If they have value, prove it first. A good policy.
  5. What do the program alumni have to say about its worth?
    Ask program alumni companies if it was worth it, and then ask yourself if that company has a credible opinion. For example, someone may say a program stinks, but may just be blaming the accelerator for their own business failure and faults. On the other hand, if a successful founder who built a nice business tells you the same program didn’t help them that much, that opinion has more gravitas. Then, find out why it did or didn’t help them, to better understand if the program will help you

Overall, take some time to learn more about the program, how they add value (if at all), and if that value is what you require at this time. If the value is there, then ask yourself if the cost is worth it.

There are some great accelerators out there, so go find the one that works for you.

The Worst Start-Up, Ever!

Angel sheet is the worlds first fully-social, AI infused, machine learning toilet paper, on the blockchain.

Behold, Angel Sheet.

Angel Sheet is the worlds first fully-social, AI infused, machine learning toilet paper, on the blockchain. Yes, you heard me correctly.

You see, Angel Sheet does what no toilet paper has done before, optimizing its cleaning mission with artificial intelligence, learning your individual needs and improving with every use.

Best of all, it is on the blockchain; you can buy crypto tokens to securely keep track of your commode progress and only share it with your absolute best friends.

Best of all, Angel Sheet monetizes the back-end data, selling valuable water usage and disease vector data to hedge funds and medical research companies. This data value alone will enable the company to lower the cost to the consumer of the basic TP product close to zero.

Better yet, Angel Sheet will create an advertising marketplace for its basic product, infusing each sheet with paid images of the hottest trends, influencers, or political ads. Because it is fully connected to the Facebook API, it knows your preferences and adjusts automatically to your needs.

We estimate that everyone in the world will have to have it someday, it will replace all TP as we know it.  That means our potential market cap is somewhere between Amazon and Google.

Oh, and did I mention our seed round, pre-MVP valuation range is expected to be somewhere between $500 million and a cool billion. Conservatively.

Authors Note: I came up with this pitiful idea after reading a ton of excellent submissions to our recent accelerator class, interspersed with, well, some Angel Sheet. Enjoy.

3 Economic Rules Every Crypto Start Up Must Obey

There’s a ton of people infusing cryptocurrency and blockchain into traditional businesses and asset classes claiming to have some revolutionary breakthrough when, in fact, the business value proposition is nothing more than, well, bananas.

We see a lot of crypto start-up ideas that go something like this:

“We’d like to put bananas on the block chain and trade them with utility tokens. It will revolutionize produce sales globally. Our pre-money valuation for the seed round is 2 trillion dollars.”

I’ve taken some editorial license here, but you get the idea. There’s a ton of people infusing cryptocurrency and blockchain into traditional businesses and asset classes claiming to have some revolutionary breakthrough when, in fact, the business value proposition is nothing more than, well, bananas.

I thought I’d take the time to put down some basic “cryptonomic” rules to help would-be, block chain titans evaluate if their idea is gold or goop.  It all begins with Ronald Coase at the University of Chicago, Laureate for the 1991 Nobel Memorial Prize in Economic Sciences (yes, it does have a cool sounding official name).

In 1937 (yeah, it takes that long to win the Nobel prize), Coase wrote a paper called the Nature of the Firm that revealed the fact that transaction costs are almost always material and do shape economic transactions.  For example, if it takes too many clicks of the mouse to buy something online (a non-monetary transaction cost of your time), you’ll just go buy something on another website. Transaction costs, while not always monetary, affect our willingness to buy, sell, and engage in a market.

Why does this matter to crypto? Because what crypto and blockchain do, precisely, is reduce transaction costs for certain economic activities. For example, bitcoin makes it possible to transfer money between parties without fees, or oversight from your bank, government, etc. That transaction cost can be high (prison) if you’re a drug trafficker or engaging in some other illicit activity. That is why so much illegal activity is transacted using virtual currencies. They lower the transaction cost of the exchange sufficiently to justify the risk of volatility inherent in virtual currencies. I’m not advocating using virtual currency for illegal activity, I’m just saying that it happens for well-understood economic reason.

Overall, bitcoin is probably the lowest transaction cost method to transfer “money” securely to anyone, anywhere, for any reason, and at any time.

This leads us to crypto start up rule #1 – the use of crypto or blockchain must lower transaction costs for the economic activity it underwrites.

If you’re not actually making it easier to transact an economic activity using your business plan, then you’re not creating consumer surplus above traditional market activities and no one will adopt your platform after the initial hype wears off.

The second rule of crypto start ups is due to a government body that was created as an indirect result of Ronald Coase and his pioneering work on transaction costs: the Securities and Exchange Commission (SEC). Some asset transactions require government oversight to even the playing field in public market transactions. This is because asymmetric information (when one party has inside information about the value of something) leads to fraudsters dumpling worthless assets on less-knowledgeable persons. If this insider trading was allowed, it would impose a major transaction cost on public markets from a fundamental lack of trust between two parties in any asset exchange.

To remedy this, the SEC regulates certain asset classes that are publicly traded to ensure that all information provided from insiders with non-public information about an asset, and have control over that asset, share that information with all market participants simultaneously and do not manipulate markets to their advantage. If you try to create an asset for public trade, and then benefit from trading it with inside information, you will go to jail.

This is rule #2: Don’t go to prison. Sounds simple, but for some crypto folks, this is a difficult idea to master. If you intend to create an exchange for your crypto tokens where they can be held, bought and sold, then you’re business should be regulated by the SEC and you need to hire a regulatory attorney who specializes in crypto assets and make sure that you’re idea is lawful with appropriate disclosures and oversight. This isn’t cheap to do, but going to prison is definitely more expensive.

Hmm, does that mean prison is a transaction cost of criminal activity?  You bet it is!

Now, on to rule number three.

Blockchain is a secure way to share information, plain and simple. If you want to use it for a business purpose, then by so doing it needs to be a transaction where securely sharing information on the blockchain lowers transaction costs sufficiently to act as an incentive to increase underlying economic activity . For example, putting banana information on the blockchain doesn’t really help a person buying them at their local Target store get better information in a manner that is more convenient than the sign at the store; however, securely transmitting point of agricultural origin data may be helpful to Target if they have to certify to their shoppers that the banana is organic and their sign is accurate.

To simplify, rule number three is that blockchain should only be used when it lowers transaction costs to securely share and maintain information critical to the underlying economic exchange.

Now, if you’re a crypto entrepreneur, you still have to abide by the basic rules of good startups (link shamelessly inserted if you missed it before). So don’t think that if you do merely these three things, you’re going to be the next Winklevoss twins and the living is easy. Getting any startup off the ground is still a knife fight in an alley with Andre the Giant and he has a gun (as we often say at Sputnik ATX).

These are just economic realities that any crypto start-up will ultimately have to face, so better to know up front and assess if your idea has merit before you push your life savings into the next banana-crypto debacle.

In summary:

Rule 1:  The use of crypto or blockchain must lower transaction costs for the economic activity it underwrites.

Rule 2:  Don’t go to prison, hire a regulatory attorney and obey the law.

Rule 3:  Blockchain should only be used when it lowers transaction costs to securely share and maintain information critical to the underlying economic exchange.

No go out and make Ronald Coase proud: start lowering those transaction costs crypto entrepreneurs!