Grit theory of venture funding

Most VCs agree that when they fund an early-stage startup they are funding the team more than the product. That’s because most VCs know that the initial product is almost never the right one, and that it will have to evolve until it finds product/market fit and can grow from there.

Which means that the business of funding startups is a business that involves a lot of psychology. But VCs don’t have a causal set of measurable ways to evaluate the teams that pitch them. As a result potential investors are forced to evaluate the team by proxy: through their idea, through their business plan, through their references, and through “gut feel”.

There are a lot of problems with this approach, which is why venture fund returns are so sporadic and why many of the funds actually fail to make a positive return. VCs miss opportunities that in retrospect look obvious, and they place many bets that seem good to them at the time but ultimately don’t work out. This is the nature of the business, but for obvious reasons there are a lot of people who are interested in finding better ways to filter early opportunities for the ones that will ultimately succeed.

Over the past six years I’ve had the opportunity to build an interesting perspective on this. I co-founded a startup called Dent (Steve Jobs: “put a dent in the universe”), which is a conference dedicated to understanding what enables some people to do world-changing things, and then pushing today’s emerging and established leaders to think and act bigger.

Every year I talk to hundreds of fascinating people about what they’re doing, how they’re doing it, why they’re successful at it (or why they failed), and make judgments about which stories and lessons to bring to our stage. So I have a strong interest and a developing set of ideas about what makes a person or a startup capable of putting a dent in the universe and how we might start to use those to better judge opportunities.

There are two really fascinating psychological theories that are a great place to start. The first one is about grit, and comes from University of Pennsylvania psychologist Angela Duckworth.

The idea at its core is that success requires both persistence (Angela calls this “grit”) and talent, but that persistence is twice as important.

Angela devised a few clever way to measure a person’s “grittiness” and draw associations to certain kinds of success. It turns out that when you do this, you discover that grit is a remarkably powerful predictor of success in a wide array of circumstances. For eaxmple, it’s a great way to answer the famously difficult question: which incoming freshmen are going to drop out of West Point?

The other theory is from Stanford Psychologist Carol Dweck, and it draws a distinction between two different mindsets: a growth mindset, and a fixed mindset. Having a growth mindset is preferred — a person with a growth mindset appropriately sees their failures as opportunities to learn and improve, instead of permanent referendums of what they are capable of. Again, this effect can be measured in a few relatively straightforward ways.

These two traits are hugely important in startup founders, because building a successful startup requires failing a lot and taking each failure as an opportunity to improve.

But there is a third thing that all successful startups do that stems from something successful founders have: they solve real problems. The funny thing about startups, as YCombinator’s co-founder Paul Graham has pointed out many times, is that they are counter-intuitive. Setting out to think of startup ideas is a pretty good way to get bad startup ideas. Worse, you will get bad startup ideas that seem like they are probably good ones, which means you will waste time and money on them if given the chance.

Instead, the right thing to do is to notice a startup idea. The ability to notice things is useful for things beyond startup ideas. Great stand up comedians like Jerry Seinfeld are master noticers of things. Probably many of you have friends who notice things all the time that suprise you, even though you could have noticed it anytime.

The story of Dropbox is perhaps the perfect example of noticing a problem. Founder Drew Houston was working on another startup at the time when something happened to him that had happened to millions of other people:

It started in Boston’s South Station in November 2006 where one night, while waiting for the Chinatown bus to New York, I wrote the first lines of code of what eventually became Dropbox. I had forgotten my USB drive at home and was frustrated that I couldn’t get any “real work” done.

There is a big difference between seeing something, knowing something, and noticing something. And only noticing really matters in creating a startup.

Each of these three traits are things that can be learned, which is good news for would-be founders. Most things that appear to be natural talent are in fact the result of hidden work and feedback loops, which is one of the more significant things I’ve learned through six years of research and conversations with some of the most amazingly ambitious and successful people. There is some significant scientific evidence to back up this point of view, including the tendency for people to view their managers differently based on whether or not the managers appear to be working hard.

But I am not convinced that these traits can be effectively learned at the time scale that you need to learn things in startups. That’s because psychological changes are difficult to motivate in people, and ultimately nobody can make those changes but the person in question. Also there is no telling in advance what the right amount of pressure will be to cause change. Too much and they will shut down. Too little and they will blindly puruse an incorrect path.

So while I think that founders with strong technical expertise in a given field can learn to be good noticers, have growth mindsets, and increase their grit, it’s a much better bet in startup investing to look for the psychological traits and plan on founders gaining (or hiring for) technical expertise if they lack it.

When you have a venture-scale founder or set of founders who notice things, have a large amount of grit, and a growth mindset, I think that is a very good bet for a VC regardless of industry. More, these three traits probably make a good foundation to a thesis for picking startups to invest in, because they’re both measurable and essential in building a startup that puts a dent in the universe.

If you’re a founder (or a VC) and this sounds interesting to you, I’d love to hear from you as I continue to develop these ideas: jason@dentthefuture.com.

Many thanks to Denters Josh Maher and Martina Welkhoff for their fantastic input on this essay. If you’re looking for angel funding or VC funding, they are two great people to talk to.