The Startup Game: Plan Your Exit Before You Start

The optimal personal financial strategy for founders is to bootstrap, raise only seed funding, grow fast, and exit.

Did you know that personal financial returns to you (founders) and your seed investors are exactly equivalent whether you sell that seed-funded startup for $50 million or raise a further Series A round and eventually sell for $100 million?

Even after you double the valuation, after much sweat and work, you don’t make more money personally.

What’s the point then ? What are your drivers ? This post will take a look at when to play, and when to stop. Be honest to yourself.

Founder Math

What is the best scenario for you as a founder of a consumer Internet startup? Why would you add on a co-founder if you didn’t really, really need that person? Why would you ever be on a path which requires you to raise a Series A round of funding? It doesn’t make sense. Consider these scenarios:

SCENARIO #1

Bootstrap, self-sustain modest growth in a local region and sell product+core team for $2M-$10M after 3 years

Most likely an acqui-hire unless a break out growth story has been achieved by bootstrapping, which we don’t hear much of (except MailChimp, Atlassian and few others). If you relocate to an expensive area like SF Bay — what have you really achieved?

At this point, you are selling product + core team, which is interesting and might be equivalent to hitting a jackpot for many, but more interesting things happen when you have growth and users to sell.

SCENARIO #2

Bootstrap, grow rapidly then raise a seed round for further massive growth and sell in the $25M-$100M range after 3–5 years, providing 6x-21x investor return

This to me is the sweet spot. This is when you have maximized your personal financial wealth, and for your seed investors provided a fantastic rate of return, and along the way built something interesting and useful enough for the world — which now a bigger enterprise can push forward.

Congratulations, you have made a dent in the universe at this point. Why go further?

SCENARIO #3

Bootstrap, raise seed and then Series A funding. But aim for the moon, otherwise this is a harder fall if you don’t grow fast.

Key assumptions here:

• At exit, standard liquidation preferences kick in and the Series A investor gets back the money invested ($10 million in this case), and a percentage of the exit price based on equity owned.
• Option Pool of 15% which the Series A investor would insist on and would be the right thing to do for your growing enterprise.

Even a $100 million exit won’t be a meaningful exit for most VC funds. The larger the fund, the bigger the exit needs to be for it to be a meaningful exit for that fund. This would translate into natural, implicit pressure to grow and seek to achieve a much higher valuation based on aggressive growth over a sustained period of time. Recommend reading this post about “Meaningful VC exits”.

If you are building the next Uber or Pinterest, a case can be made for you to be on a path of the Series A and beyond. But if not, then why do it?

Is it because of gamification, where you are inherently addicted to the startup community and feel invested in playing this game from one level to the next ? If that’s what makes you happy — go for it. But you have replaced working for a traditional employer, with working for your Series A investors (and beyond). Which would still be better — but as long as you understand what’s at play. You are not in control anymore — unless it is a breakout hit and you have the leverage.

This excellent post called Meaningful Exits for Founders lays out the case that between an exit for a seed-funded startup and the growth in valuation required once you have reached the Series D stage, the payout for the founder(s) remains the same. Even a 7x valuation increase of the startup nets the same wealth for the founders — so what’s the point and why do people do it?

To those who are on a certain path, it might be due to inevitability, a desperate measure. But to those who can choose and plan their destiny well-ahead — this is worth thinking about. And lets not forget the venture dollars do go back into the local economy, from creating local jobs to transferring to consumers in some way, making it better for everyone, so its not a bad thing. But that train needs to go somewhere, otherwise it ends in an abrupt stop.

Choices you make now will influence your range of choices available in the future.

The Gamified World Of The Startup Community

If you want to change the world, you don’t have to build a large and fantastic startup. You can write an excellent, detailed post right here on Medium.com, and publish/share it far and wide, where it reaches folks who already have the resources to take powerful ideas forward. Or you can contribute to open source code. Or plant a tree.

Apart from that, you are in it for yourself — not for the money, but because you are addicted to the startup game. We all are.

Humans are inherently gamified. Social recognition, sense of accomplishment, fear of missing out are the key drivers for us in all our activities.

Yes, building amazing products which people love is a lot of fun. And you can do that and have a good return for yourself and then quit. But why continue doing it beyond a certain point is what I find rather curious — at the point when the story is all about how fast can you grow ? Is that the new game then — what level can you reach ?

Some gamified levels in the startup community which many of us are inherently hooked to:

• Metrics: number of DAU, MAU; ARR; week over week growth; and many, many others.
• Getting funded: Seed, Series A, B, etc — everybody celebrates these so those who don’t have funding crave to achieve these levels. This provides social validation, helps build out your credibility in the startup community. If you raise a Seed round, and don’t subsequently raise a Series A — does it not denote failure to not be able to raise more funding ?
• # of followers and getting loved: Getting funded and associated press will help you acquire more readers for your blog, more Twitter followers, more people who want to hear you speak at events and conferences. And isn’t that the ultimate prize? Social recognition from your own community? This feeds in right back with your inherent sense of well-being — it is attached now to how other people perceive you. How many comments you get ? How many likes or recommends your post get? Getting invited to speak at an industry conference? A TED Talk? You have made it!
• Valuation of your startup — where people aspire to build the next unicorn. Being worth $10M is good enough rich for most people in most places on this continent, but no — aspiring for a billion dollar valuation of your startup is the ultimate prize.
• Name recognition of the investors who fund you — the more prominent, “well-respected” these investors, the better you would feel about yourself. More others in the startup community would “respect you”.
• Office: Being located in the trendiest of neighborhoods and having all the fun, fancy equipment at the office — painting the picture of a fun-loving, friendly work environment. That is a fantastic feel-good level isn’t it?
• Future opportunities: If your startup does well, if you get to be a repeat entrepreneur or an investor, you get to increase your “street credibility” even more and you are a stronger player in the startup game now than ever before.
• Press, press and more press: The ultimate, hidden dream. Being ranked amongst the top, having your picture on the front page of a business magazine, TV interviews, meeting government leaders. Not just the startup community, but your friends and family start to notice and appreciate.
• Feed into your social life: If you had $10 million — isn’t that good enough for you? What difference would a $20M vs a $50M really make in your life? You get more social recognition based on the things you buy/activities you do? You are using the startup game to feed your personal, social life game at that point? It is, by and large, a meaningless number if you are able to disconnect it from what you actually need to live a happy life versus what you need for the social game of life.
• Being an out-outlier amongst the startup community

Hope you ask this question to yourself as you go on about your startup journey: what’s in it for me? Am I doing it for the startup game, or am I doing it for other tangible items, like a defined level of wealth which would be good enough for me? Making a beautiful product which people love is something you can do any day — difference is making it loved by 100 vs 1,000,000 — why do you care?

The wisest approach here seems to me to bootstrap, get to product/market fit and build a self-sustaining business; and then use seed investment as rapid growth capital; and then sell. To continue to take on further rounds of funding makes no personal financial sense unless it is a truly breakout product with a massive exit potential.

Thoughts?