Bryce Roberts of Indie.vc made the first stop of his 2019 Winter Tour at Capital Factory in Austin, Texas on Monday. What follows is an overview of the evening’s discussion which I thought would be helpful to share with anyone interested in the new wave of alternative funding that Indie.vc pioneered.
The v3 terms give us a new opportunity to tell our story. To remove uncertainty about what we’re doing and how.
— Bryce Roberts, Indie.vc
Background — 15 minutes
Founder story — from the trenches.
Live Q & A.
On the heels of this NYT piece (below), there has been quite a few reactions among investors & entrepreneurs alike:
The conversation Indie.vc is trying to have is a hot topic, and part of the goal of the Winter Tour is to address any mischaracterizations of the VC vs. bootstrap debate, which can often become personal with experiences and biases in ways that aren’t helpful.
The v3 terms give Indie a new opportunity to tell their story. To remove uncertainty about what they’re doing and how.
Background on Indie.vc
In 2005, Bryce & colleagues observed a funding (seed) gap like so:
Angels $100k — GAP — VC’s $5m+
To meet this need (fill the gap), they started OATV. They were really interested in the tech trends that drive cost out of business. Particularly in tech startups that don’t require $5m-$10m funding so as to preserve optionality.
Along the way they realized this is a new business model, not just a gap in the market. A business model where your return profile could look fundamentally different than traditional VC.
It took 2 years to raise their first fund. The approach was unfamiliar and didn’t seem obvious (especially after the dot com hangover).
First fund: 2 yrs to raise from their investors (LP’s), second fund took 2 months! Then, the 2010+ seed surge. More and more options for founders.
New gap discovered:
Bootstrappers — GAP — VC’s
This appeared to be a binary choice: pick one. And the cadence was seed, Series A, Series B, … fundable milestone after fundable milestone. We discovered this cadence is not how all entrepreneurs approach their business progress.
Another way this gap was being presented:
Lifestyle Businesses (Small Ball, that’s ok …) — GAP — Monopolies (Scorched Earth Domination!)
When this becomes the investment lens, it becomes a game of trying to determine if startups that are in some cases pre-product, pre-revenue, pre-anything, will become a monopoly. Ergo, less about how great the business can be, more about how fundable the business can be down the road.
“Unicorns Ate Seed Investing”
The operative question became, ‘can it be a billion dollar business?’ Suddenly this is a question that everyone must answer, a priori. But a lot of startups don’t show indications of being unicorns, even in the first 3–5 years. This feels wrong. This mentality affected how seed and VC’s process deal flow (what they look for in prospective investments).
Industry Trend: VC Dollars are Consolidating
Later stage rounds are growing, early stage is shrinking(!), also:
98% of VC dollars to 1 gender
80% of VC dollars to 3 states
1% VC dollars to black/latino founders
0.6% of businesses raise any VC dollars at all
30 under 30 is rife with traditional profiles & archetypes that calcify, turning into a reinforcement loop of who gets money and who doesn’t.
On the NYT article, Bill Gurley’s tweet:
It’s true, the VC funnel is so narrow in how it measures success. How does this compare to Indie.vc?
Indie.vc portfolio stats:
Median rev at time of investment: $267k
Rev increase in 12 mo: +100%
Rev increase in 24 mo: +300%
Median investment: $250k
Avg. equity option: 9%
8 of 17 doing $1M+ in revenue
16 of 17 still in business
50% female, 20% black
Goals of the v3 Terms & Tour
Create a standard (shared, open) set of terms within the emerging ecosystem.
Shorten time to first repurchase.
Improve tax efficiency of distributions
Empower entrepeneurs through equity and optionality
Create strong narrative around the ‘indie.vc gap’ opportunity
What are the terms? Highlights:
Structured as a convertible note with a few key additions:
- Introduces idea of equity repurchase after 18 mo.
- Founder repurchase up to 90% of equity option at 3x investment.
Conversion trigger at remaining equity option %:
- $5M+ funding round
Full details available on the website.
Founder Discussion (Rough Transcript, Not Verbatim)
Running my own company, I never had a portfolio approach. I have only 1 game I’m playing and I HAVE to win that game, unlike my investor.
— David Hauser, Grasshopper
David Hauser, founder of Grasshopper, which he bootstrapped and scaled to $10m+ in revenue, and sold to Citrix for more than $150 million. (NOTE: As we learn later, they had only 2 people on their cap table at time of exit).
David and his business partner were just 2 guys wanting to start a business, not sophisticated/savvy technologists, so they had to learn a lot on the fly.
David’s previous experience was taking funds from a NYC VC, who brought in management team. David did not like that experience.
Example of bootstrapping in the trenches: first purchase of equipment for Grasshopper; cost was $250k, but they only had $100k. Because of this cash constraint, they got creative and figured out how to pay him NET 90 instead of up front. They had a spirit of doing whatever it took.
In Grasshopper they also had a labs function where they built other companies, most notably, Chargify. But David admits, even with the success of Grasshopper, they had capital (venture debt), so they were able to play it a little loose at times and did some things wrong … “I think in some cases we would have been more successful without it.” When you have it, you spend it vs. getting creative.
Virtues of having constraints: David and his business partner did everything themselves (at least first) instead of hiring someone. “Literally every single job we did ourselves.” Taking sales calls, plugging in T1 lines, everything.
Bryce: Having to be so capital efficient: managing your operation so closely, being conservative on the hiring, really understanding the levers of the business. This creates leverage down the road by learning every functional area. Found this makes a huge difference.
David: Yes, and it turns out the things we learned in Years 1–5 were very valuable to the acquirer. We were a more attractive business. They liked buying an accretive cashflow, profitable businesses.
Bryce: How would you contrast bootstrapping Grasshopper vs. your heavily-funded competitors? RingCentral was Sequoia funded, had an IPO event.
David: When you go back and look at the numbers — although the IPO was bigger than our sale, they made tremendously less, multiples less, per founder. As a pure outcome to the founders, it was significant.
Bryce: How did it effect your psychology to watch competitors have all these prestigious backers?
David: We ignored all competitors. We didn’t care about their pricing; we didn’t care what they were doing. We added text messaging 5 years after our competitors because customers weren’t asking for it. Biggest frustration on the team was our “lack of TechCrunch coverage.” Meanwhile, RingCentral had VOIP, money, coverage.
Bryce: Funding gets press, so what do you do?
David: We fired our PR firm, hired a Jr Salesperson, and had them pitch to writers, hundreds of pieces covered that way. They were paid as a salesperson, $30k-$40k base, highly commissioned, $75k-$80k range. We suggested pitch angles that were never about funding. “2 crazy young founders from Babson College!”, whatever we needed to get their attention.
Q (for David): “What did Grasshopper look like (in terms of people by dept roughly) before you sold it?”
A: 10 engineers out of 42 people, lots in marketing, ops for 24x7, call center, NO SALES TEAM (all inbound).
Q (for David): “How did you consider runway before hiring?”
A: We didn’t think about runway. Focused on selling. No backend CRM. I was typing in SQL statements to look up the customer names as we took orders.
Q (Bryce to David): “You’re an LP in Indie.vc. Why? What resonated with you?”
A: At that time I had done 50–60 investments. I was never thrilled with how the terms were presented … I liked bootstrapping … but how about investment terms that prove there ARE other ways? The second thing … finding a structure that aligned me better with the founder compared to typical structure. Not based purely on fundraising wheel which isn’t aligned with me and the entrepreneur. Running my own company, I never had a portfolio approach. I have only 1 game I’m playing and I HAVE to win that game, unlike my investor. As far as outcomes, the difference is quite large. Money returned to founders for Grasshopper was way larger to us. We had 2 people in our cap table. So we didn’t have to get to a billion dollar even to get to an outcome that is life-changing. We sold for $100m. Not a great return for a VC.
Q (for David): “Employees have expectations about equity as employee N on the team. If you’re bootstrapping … not planning to sell, what do you recommend?”
A: At Grasshopper, in NYC, there was plenty of talent competition. We got asked this all the time. But … we gave equity to no one, because we didn’t expect to ever sell the business. Instead, we paid above average salary — pretty significantly above average. We also were able to fund a pool at the management’s discretion to pay annual bonuses. And we carved out money for the management team in the event of exit, because we said we’ll take care of you if we ever do sell. For employees, we had an active profit sharing pool that refreshed annually.
Q (for Bryce): “How do your investors measure your success? What are their expectations relative to the LP’s of traditional VC?”
A: They are used to IRR but we can’t use it … we are still working on it … our startups are profitable, growing revenue … we believe they will ultimately return a better return than if they were getting marked up. I probably underestimated the amount of rewiring required but we are fortunate to have great LP’s that have been with us for 4 funds now. We do frame ourselves as VC. We believe we will be competitive for the kinds of returns that VC yields traditionally. Out of 17 investments — 16 are still in business. There may be a story that says what used to be a 0, is now a 1,2,3. And the home runs are still home runs.
Q (for Bryce): “How would you compare LighterCapital and indie.vc?”
A: Lighter is pretty classic debt, they’ll be taking their slice the first month. We can give 18 months to 3 years before the founder needs to engage in a repurchase plan. Because we don’t borrow, we don’t have a cost of a capital. If a founder is debating 1 of the 2 … Lighter might end up being the better partner than us. But we are providing more than cash. We are providing an amazing community of founders, strategic support, advice on how to really grow your business — which is evident in the results we’re seeing in our portfolio companies.
Q (for Bryce): “What industries or types of companies do you invest in?”
A: We are pretty geographically agnostic, other than being tepid about international. What we’re looking for— it’s hard to say … a chip on shoulder matters more than the specific industry. People who share our DNA more than anything else. Business models where Indie.vc likely doesn’t make sense: long lag between development and commercialization, winner-takes-all, weaponized balance sheets can be competitive advantage —these are not for us. We also want people who aren’t afraid to sell … open to developing a real sales culture. This mentality gets you as close to your customer and ground truth vs anything else. It’s a bad situation when founders are avoiding getting on the phone and talking to customers.
Q (for Bryce): “Can this form of funding work with longer sales cycles?”
A: We do have a portfolio company that sells into government. The trick is not believe that you’re going to be able to sell and scale faster than you realistically will. The venture funded companies that get in trouble are the ones that think they’ve cracked the code on shortening the sales cycle (and they haven’t). We would want to know if the risk on the delay between start and finish of a sales motion is worth it.
Q (for Bryce): “What are you offering in terms of benefits or resources you offer your portfolio companies once they apply and they’re in the v3 batch?”
A: One of the things that has become a secret weapon over the last few years … there are lots of David’s out there … they don’t get the chance to talk about how they built their businesses. We are trying to create an alternative universe of founders that think and want to build along these lines. They talk about their business differently than someone that talks about just raising their Series A or Series B. We want to give founders exposure to people that know how to build real businesses. As one founder recently said, we offer ‘just enough VC BS’ — accountability, that phone call you know is coming every month … how it went, did you hit your numbers, miss your numbers, why …
Q (for Bryce): “What happens in the event a startup can’t make redemption payments to Indie.vc?”
A: In that situation (which hasn’t happened yet), we do have the right to force the repayment — in other words, find a lender to buy us out … but what we’re trying to do throughout all of this is not be a lender … we are partners.
Q (for Bryce): “Who else is offering these alternative funding structures?”
A: TinySeed & Earnest Capital are set up to do pre-revenue types of companies. We also get lumped together with Clearbank, LighterCapital. Our focus is on equity-efficient businesses. Can we create more [financial] tools that entrepreneurs can leverage to build their businesses?
Closing Remarks (Bryce)
The conclusion he’s coming to over and over again over the last 4 years is that this is a better model for most companies.
If Indie.vc can encourage that through structure, narrative, OR community … if they can support companies along this path … we are all going to see more Grasshopper-like companies. Recent examples: Qualtrics, Github.
We lose the plot on those companies way too easily. Magic that happens by focusing on customers, revenue, profit early. They want to tear down walls to show there’s another way. They want to provide just enough funding to allow entrepreneurs to continue down their path without having to swallow whole cloth everything that comes with the traditional model.