I estimate that I’ve sat through 4,000 startup pitches over the years.
The truth about VC investing is that it is as much about selection as it is about elimination. A huge percentage of a VC’s time is with companies that do not turn into investments. So how do you become more efficient? By eliminating deals faster and spending more time filling the funnel and with companies that turn into deals.
So it will not come as a surprise that many VCs during a pitch look for reasons to kill a deal, whether consciously or not. As an entrepreneur, if your deal is going to get turned down, you want it to be on the merits of your company. Yeah, it might sting a little that your market is too small, but you have to respect an investor if they are forthright and turn you down for a legit business reason.
What you want to avoid, however, is being turned down because you lack credibility if indeed you do have credibility. So I thought it might be helpful to compose a list of great ways to lose credibility and to screw up your VC pitch in an effort to help you avoid such a fate:
When I go into a pitch, one of my main objectives is to learn. Great entrepreneurs give me a clear picture of what’s working with the product/company and what’s not. They motivate the reason for the business to not only exist but to succeed on large scale. However, there are usually two obstacles that prevent me from getting a clear picture. One is that the entrepreneur isn’t a great communicator/the message is murky. The second one is worse: the pitch is so stylized and framed that I have to ask a lot of questions to get to an answer. I call this “unpacking” because it reminds me of the practical joke of gift wrapping a bunch of nested boxes to get to some lousy small present. Your expectations are high and you are excited at the beginning, and by the time you get to the actual nugget you are exhausted and you are disappointed, even if that nugget is awesome. Like I recommend in Tips on Negotiating a Term Sheet, don’t try to be clever or outfox your investor. VCs want you to get to the point quickly, and if the unpacking is going to be required post-investment, patience is going to run out quickly. Also, show the warts on the business. It shows humility, that you’ve learned something, and for investors, it may mean opportunity. For example, if you have no marketing skills and you are forthright, it means that hiring a marketing person may have a great impact.
“We do not have any competition.”
I have always felt that competition can be defined on a lot of dimensions. For example, “altitude”. Are we defining competition at a high level (let’s say “storage company”) or at a low level (“object-based storage hardware”). I find that entrepreneurs tend to define competition at very low altitude fueled by a bias (and often the truth) that what they are doing is unique. VCs tend to define at a higher altitude. Another example is target market: Are companies competing if one is targeting SMBs only and another is in enterprise exclusively? “We never see them in bake-offs” is an oft-quoted refrain. But many SaaS companies eventually move up market either pulled by customers or lured by higher ACVs. Yet another is time snapshot: most people think about their competition as a point in time and their product as a set of features in motion. But the comparison has to be apples to apples: you have to anticipate what companies which are not competitors today will eventually become competitors. Markets are organic. Your eventual acquirer may not have been even founded yet. The same is true about competition.
You can also imagine other dimensions of competition being stage of the business (I do not subscribe to this philosophy, but others do), geography, etc. etc.
With so many ways to define competition, you can see it’s not so simple a question. At the same time, you can also see there are a lot of different ways various companies can compete, including ways that may not be considered obvious. Sometimes it’s the “old way” of doing things. Even when there are no obvious competitors (especially in emerging markets), competition is apathy, lack of education/inspiration and/or doing nothing. It’s hard to forge a market. So the null set is often a “hidden” competitor. Sometimes a competitor is other things a consumer could do with his or her time, and these alternatives may have nothing to do with your product.
For all these reasons, during a pitch when I hear “we have no competition” it costs credibility. YES, there are unicorn circumstances where this is true. But this is extremely rare, and this declaration of no competition typically makes me wonder if the entrepreneur has a case of hubris or is not analyzing the situation carefully enough. Most great founders who create new markets are paranoid about competition. They have thought of all the possible threat vectors and know their competitors’ products well. They think about competition like chess masters- two or three turns from now, what will the landscape look like, including from new entrants?
The Perfect Career
It’s important for VCs to understand an entrepreneur’s prior experience for many reasons: to determine if they have acquired relevant skills for the startup and to assess their ability to operate in resource-constrained environments. Another reason is to see how one reacts to failures or adversity. One thing that is inevitable about early stage companies is that failures and adversity will come, it’s just a matter of when, the magnitude, and if it is a fatal blow to the company. What’s remarkable is that as people walk through their backgrounds, they infrequently explain their failures or what they learned; they focus almost exclusively on their successes. No doubt VCs like to back winners, but we also like “battle tested” on someone else’s dime. I’d like to know that when things get rough, you’ve been through it before. I want to know that you will learn from new mistakes and adapt. It reminds me of the quote that is attributed to Darwin: “It is not the strongest of the species that survives, nor the most intelligent that survives. It is the one that is most adaptable to change.” So don’t make an investor have to unpack all of that, own the dialog by explaining what you’ve learned along the way and how you reacted to struggle. By the way, somewhat related aside: have you ever noticed that people who are really successful take the least time introducing themselves in an audience?
“Our projections are conservative.”
I consider it a great privilege to work with entrepreneurs. Their optimism and confidence are infectious. Experienced VCs, however, have seen almost every investment take longer and/or more capital than was anticipated. Projections are almost never conservative, and almost always optimistic. What I try to accomplish with projections is understanding the unit economics and underlying assumptions to see how realistic they are and what I am rolling the dice on and where I must have blind faith. I want to understand the soundtrack to inflection points in graphs of projections to try to determine if it can be accomplished with the given team. I might add that we don’t back founders to be conservative. We back them to take risk. We want projections to be believable and we want founders to have great conviction in and mastery of the underlying assumptions and eventual results. Conservative projections are for banks monitoring covenants, not for equity investors.
Wrong Raise Amount
It’s tricky to get the “ask” of amount of capital right. I think most good VCs treat that initial number as a suggestion and know that the ultimate amount comes into focus after a syndicate is formed, the market for the company shakes out, and the growth plans for the company are refined. But one way to lose credibility is to ask for a number that’s wildly too high (most common) or wildly too low. I think the goal is to produce a number that is aggressive but realistic. A number that is achievable in the marketplace and gives the company sufficient cash to achieve the next important milestone. In addition, the amount raised has to make sense with where the company’s valuation is likely to fall. If a company that is very risky and in it’s early stages that might be worth $5M pre-money, suggests raising $10M, that is often a disconnect. It means usually means either (a) that the investor and company are likely to disagree about value or (b) the founders are going to wind up with too little ownership of the company to be worthwhile. Both can be addressed but it’s an obstacle that another deal might not have. Another mistake is a company asking for a certain amount of money (let’s say $5M) but showing projections with a cumulative loss/negative EBITDA much lower (let’s say $1.5M). Now an investor knows that projections are optimistic (see item directly above) but generally speaking this number ought to be pretty close assuming that the company has little capex. Why do you need to raise $5M if you are only going to burn $1.5M?
Politicians and those with media training know the first rule is to answer the question you want to answer and not the one asked. This rule does not work in a VC pitch. This is related to the unpacking principle laid out above. It’s also okay to say something politicians never say which is: “I don’t know”. Again, this shows humility, that one understands the risks that are being taken. A great entrepreneur also knows how to find the answers in a resourceful way.
“This is our last round of financing”
It’s almost always not. Often times, when it is the last round of financing, is because the company was a failure and sold in a fire sale. Successful companies have opportunities for growth that require capital. While there are some exceptions, companies that VCs invest in do not focus on profitability in the short- and medium-term, because if those companies truly have growth opportunities, they would reinvest that cash flow to continue growing and therefore wouldn’t be profitable. I know that being profitable allows a company to control its own destiny, for which there are many good results (see my post on consolation prizes), but this is often at the expense of growth. So saying the above means that either (a) you do not understand the true capital requirements, or (b) your company won’t be able to raise more money (which is never intended), or © you want to focus on profitability at the expense of growth, or (d) the company can finance both it’s growth and get to profitability. You lose credibility (a) through © and so few companies can achieve (d) that you might lose credibility there too. Also note that many firms reserve, so they are interested in investing more in later rounds. I think this comment is often to create scarcity to get investors to move quickly, but it can often have the opposite consequence.
“Behold, x% growth!”
Expressing growth (revenue, users, any other metric) as a percentage allows an entrepreneur to conceal the magnitude of these numbers, something that makes a lot of sense for confidentiality reasons out in the open. But these numbers are useless without knowing the base on which they are calculated, or at least a good sense of the magnitude of the business or metrics. This is a specialized case of “unpacking” — it requires a lot of work to figure out what is going on and it costs credibility. It’s just better to have the numbers, even if they are modest. You will also waste less of your time with investors who aren’t going to invest.
“We have first mover advantage”
It’s not a given that first movers have an advantage. In fact, many second or third movers are able to learn from the mistakes that are made by the first mover (exhibit A, Apple iPod). It is also expensive for a first mover to educate a market. So it’s not a given that being first to market is an iron-clad advantage. It can be true in markets with large network effects and/or where there is one natural winner (think Linkedin or eBay), but I think in most cases it’s actually a disadvantage or an expensive route to market.
So there you have it. Entrepreneurs, be yourselves, show the humility, warts and battle scars. Give a clear depiction on where things are, and you are likely to have better results. Incidentally, I am sure there is a list twice as long as this one on how VCs lose credibility with entrepreneurs, this Quora thread on the most ridiculous things VCs have said to entrepreneurs is probably a good start.