Scott Kupor, managing partner at Andreessen Horowitz, says there’s a lot about navigating the venture capital world that entrepreneurs don’t understand. Some can’t figure out how to get in the door. Others fail to deliver persuasive pitches. Many don’t know how the deals and relationships really work. Kupor outlines what he and his partners look for in founding teams and business ideas and explains how start-ups work with VCs to become successful companies. He also discusses how Silicon Valley can do a better job of finding more diverse talent and funding new types of ventures. Kupor is the author of the book Secrets of Sand Hill Road: Venture Capital and How to Get It.
ALISON BEARD: Welcome to the HBR IdeaCast from Harvard Business Review. I’m Alison Beard.
Everyone loves a Cinderella story. A passionate entrepreneur twirls for months to get his or her company off the ground, painstakingly networks around Silicon Valley and finally – finally – lands a meeting with a big venture capital firm. The founder works all night to prepare the pitch, walks into the room, wows the investors and walks out with millions to fund a growth plan and fulfill a dream.
Needless to say, it’s pretty rare to get that fairytale ending. Today’s guest says that’s partly because company founders don’t fully understand the venture capital world. Some don’t know how funds are created or investment decisions made. Others fail to make their case because they focus on the wrong things. Lots of them find term sheets, future financing and exit plans hard to figure out. There’s a big disconnect and it might be preventing good companies from getting launched.
Scott Kupor is a managing partner at the VC firm Andreessen Horowitz. He’s also the author of the book Secrets of Sand Hill Road: Venture Capital and How to Get It. Scott, thanks so much for being on the show.
SCOTT KUPOR: Thanks for having me. Glad to be here.
ALISON BEARD: So, to start off with, why are some of the biggest misconceptions that entrepreneurs have about how VC really works?
SCOTT KUPOR: Yeah, I think you hinted at one in the intro here which is: how do risk-averse venture capitalists evaluate deals and what makes them decide to actually invest in companies? And it’s very interesting. What we often find is people are very quick to kind of talk about product which makes total sense because product obviously is the heart of many of these businesses.
But at the stage we’re often investing, we don’t really know quite frankly, we haven’t seen a product. It hasn’t been built in many cases. It certainly probably hasn’t seen the light of day in terms of customers and so, so much of our evaluation process is around the team itself. What is it that’s unique to this team that makes them kind of capable of building something that many people might think is a crazy, or an insane idea.
ALISON BEARD: And so, if someone is walking into your offices, how do they show you that their team is the one to launch the product that they really care about into the market?
SCOTT KUPOR: We are really thinking about many aspects of the team and one of the most important is kind of the ability to kind of convey the vision and we use the term storytelling internally and we mean that in the most positive way of course, not hoodwinking people with a story.
But if you think about this, if you’re starting a company, you’ve got to be able to convince people to quit their jobs and come work for you. You got to be able to convince customers to be early adaptors of a product that probably is barely functional in some cases, or certainly missing what the long-term functionality will be.
And so, thing number one for us, as we look at the team is, what is that compelling vision? How do they articulate it? Why will people follow this individual or set of individuals? And then secondly, really we spend a lot of time thinking about kind of the fitness between the founding team and the product or market they’re going after.
So, for people who follow the venture space you probably heard the concept of product market fit, which is this idea that eventually you’re trying to figure out what it is that the market needs and of course fit your product to that. We use a concept internally called founder market fit, which is a similar idea.
But the basic idea is what makes this team uniquely qualified to be able to go after this opportunity? What is the secret that they know that nobody else knows? How do they earn that secret? The question really becomes why back this particular team, going after this particular opportunity versus potentially going after somebody else who’s doing a similar idea, but who may have a better infinity from a team perspective in terms of that outcome?
ALISON BEARD: So, if I’m an entrepreneur, I don’t know anyone in Silicon Valley. I don’t know anyone at Andreessen Horowitz. How do I get in the door?
SCOTT KUPOR: So, figure out what degrees of freedom are you removed from anybody who might be able to help you, at least make a warm introduction. I think in some ways kind of doing so is a great way to kind of test your mettle as an entrepreneur which is can you be creative and really figure out, I may not know somebody personally, but kind of through different degrees of freedom, how do I get there?
This is exactly what you’ll have to do as an entrepreneur more generally, is you may not know necessarily who the customer is at a prospect you’re trying to go after, or you may not know who the best CFO is. But your ability to kind of manage relationships, navigate them and quite frankly, get people to pay it forward on your behalf before you’ve accomplished it is really quite frankly, a great skill as an entrepreneur.
ALISON BEARD: So, are there are lots of entrepreneurs who have walked through your doors and been successful in pitching to you and building their companies. You talk in the book about the two Salesforce executives who launched Okta, the founders of AirBnb and Lyft. I wonder though, are there any particular failed pitches that stick out in your mind that our listeners could learn from? You don’t have to name names.
SCOTT KUPOR: Yeah, so I will not name names. But there’s a category. I’m trying to remember if there’s one specific that I can remember, but there’s a category of things I would say that just don’t resonate well. And so, one is, a lot of times people come in and they say hey, I’ve got this great idea. And oh, by the way, let me tell you the five companies that will acquire this company. And I think people are telling us what they think we want them to tell us, but it’s actually exactly the opposite. What we want to hear is their “conquer the world” strategy right? And we recognize and we will of course discount that the likelihood of conquering the world might have a low probability, but that’s not the question. The question is if they conquer the world, what could this look like?
You know, we are wrong many times and so, when we’re right, we have to be really right in order to kind of make the math work.
ALISON BEARD: And when people come in with their “conquer the world” strategy, and they’re boasting about themselves as the right people to do it. They can expect you to poke holes in it right?
SCOTT KUPOR: Absolutely.
ALISON BEARD: Try to at least.
SCOTT KUPOR: Yes. Part of our job is to kind of yes, poke holes maybe the negative way, I would say is to kind of test the limits of their thinking on some things and figure out kind of what is assumptions. And it’s so important and again, this is, we talk about this a lot in our pitches, is we don’t expect you as an entrepreneur to have the answer to everything.
And so, a lot of what we’re trying to figure out when we are doing things that might look like we’re poking holes, is to kind of testing what we call the idea maze. Which is how did you come up with this idea? How did you determine that this product was right? What information did you consider?
Because we know that companies will do what we love to euphemistically call in this business a pivot which basically is a very polite way of saying, what I thought was a good idea turned out to not be a good idea, and now I need to change it. And so, we recognize that and so the question is less about kind of whether this idea is particularly 100 percent accurate, but more about kind of the quality of your thinking and the depth of your thinking on that topic.
The other big, kind of gotcha for us, or red flag is we’re hearing oftentimes, we’re hearing this pitch for the first time in a 50 to 60 minute meeting. And if we can kind of make you change your entire business plan in one meeting, that’s generally not a good thing, because it does go to kind of the heart of your conviction and the heart of your kind of, the depths to which you believe your own conquer the world strategy. So, sometimes I think people will think that we want them to change their minds based on our input, but if they cave too easily, that can obviously be a bit of a red flag.
ALISON BEARD: So, don’t pivot in the room.
SCOTT KUPOR: Exactly right. At least wait until you left the room and then pivot. Exactly.
ALISON BEARD: Once you make a deal with an entrepreneur, where’s some of the biggest tensions that arise?
SCOTT KUPOR: Yeah. Hopefully we don’t have any of those, but unfortunately that’s often not the case. You know, the biggest tension tends to be around, mostly situations where things are going either really well, funny enough, or where things are kind of just not going well at all.
The middle case there tends to be not too many tensions other than of course, we all probably each would wish that the company were growing at a different pace. But when things are going really well, I wouldn’t call it tension, but I would say, particularly because we invest in a lot of first-time entrepreneurs, helping guide them through the process of kind on what organizational development and when’s the right time to bring on executives, is definitely one of those areas where I’d say we spend a lot of time on.
And so, we see a lot of fantastic entrepreneurs who in many cases, sometimes they might never had had a job before, but they certainly in many cases haven’t been CEO before. And so that growth path of being kind of a startup CEO where you know everybody in the company. You’ve hired everybody in the company. You know exactly what the skillsets are of every single person in that company, to the point where you have to start scaling and bringing in managers and other executives. That’s an area where again, I wouldn’t say it’s contentious, but it’s definitely an area where it’s foreign territory for many of our entrepreneurs and part of our job is to help them navigate that.
ALISON BEARD: And the tensions on the flip side when things are bad, is that about figuring out when to wrap it up? Call it quits?
SCOTT KUPOR: That’s exactly right. That’s exactly right, yeah. And so, sometimes the answer is it was a heroic effort and we had a great idea, and either the product just didn’t take in the market, or the market wasn’t what we thought it was. Sometimes there are other challenges like I mentioned before, where the company just hasn’t scaled operationally the way they need to.
And it’s really been eye opening to us in those conversations that those are incredibly difficult conversations to have. But many times actually we find that the entrepreneur comes out of those conversations and they’re kind of relieved in some respects. Which is they kind of had the same ideas in their head which is despite our best efforts, we just couldn’t make it work.
And many times I’ve had that conversation with entrepreneurs and they say, wow, I was doing this because I thought you needed me to keep on this treadmill, even though I knew this was basically, we were going around in circles here and would never actually get to a good outcome.
And so, having that, at least if you do that conversation in a respectful way, I think at least more times than not, we found that it goes in contentious, but you end up being able to say, hey look, This doesn’t make you a bad person. This is the nature of this business unfortunately and let’s figure out kind of a nice and humane, respectful way to kind of wind down the business.
Let’s go figure out other opportunities either in our portfolio, or you may have other business ideas. And this is why again, I think you see VC’s quite frankly often backing entrepreneurs who weren’t successful in their first endeavor because as long as those things are handled well, I think the process of growing and learning through those experiences can be incredibly valuable.
ALISON BEARD: You talk in the book a lot about how the relationship between an investor and an entrepreneur is like a marriage, but it’s a polygamous one right? Because the entrepreneur might have other investors and you have all of your portfolio companies that you need to think about. So, how does everyone make sure that they’re devoting enough time to that relationship?
SCOTT KUPOR: Yeah, it’s great. Actually it’s funny. I hadn’t thought about the polygamist part of it. That’s actually interesting. The thing that I do mention in the book, a bit tongue in cheek, is actually the tenure, the length of these marriages actually are often longer than real marriages. I think in the U.S. the number I found was the average tenure of a marriage in the U.S. is about eight years, whereas we will often be 10 or 12 years into these companies. So, it is truly kind of even something greater than our marriage in that respect.
Inevitably as you’d expect in most organizations, there are often individuals who devote more time or kind of dive deeper into the day-to-day kind of being a board member than do others. But as it relates to the entrepreneur, again I think a lot of the onus quite frankly is on the entrepreneur here to figure out kind of what do I want from these individuals and maybe there are some who are better at helping me on sales and marketing. And maybe there are others who are better at helping me on thinking through financial issues. So, a lot of what I think happens there is the entrepreneur herself kind of directing the venture capitalist and tapping into them in a way that makes a lot of sense.
ALSION BEARD: How do you make sure that you’re getting more love than all the other portfolio companies?
SCOTT KUPOR: I think the best way though as an entrepreneur is just to have that open and honest conversation with your board member in this case, and say hey, like, this is what I’m getting from other venture firms, or when we entered into the relationship, this is what I expected I’d be getting from you and quite frankly hold them accountable just like you would hold an executive accountable in your own organization as to objectives and promises.
ALISON BEARD: Like many venture capitalists, you used to be on the other side of this. You were an entrepreneur who helped start companies. What did you get right and wrong back then?
SCOTT KUPOR: Well, so, I was part of a group of folks in a company called LoudCloud back in 1999 which many of you have probably never heard of because of the company, at least as LoudCloud kind of didn’t exist in its current incarnation for very long. But we were basically trying to build what is Amazon Web Services today. So, we had this idea that compute could be a pure utility and that you ought to be able to as a developer, write your code, and then not have to worry about what was the servers that ran that code, or what was the networking equipment that ran that code.
And as we now kind of, with the benefit of hindsight can look back on, it was a great idea that unfortunately was probably 10 years too early. And I think that’s to me, its actually one of the most interesting lessons of that entrepreneurship experience as well as what we do in venture capital which is oftentimes, timing is actually really important for these things. There are lots of ideas that actually didn’t work in ‘99, 2000 that could work today because of the size of the market opportunity and the advancement of technology.
ALISON BEARD: And since that time, how has the venture capital industry changed? It’s exploded. It’s much more powerful now, right?
SCOTT KUPOR: Absolutely. Yeah. The business has changed quite a lot. If you think about it, the biggest thing that’s changed over the last 10 to 15 years is it used to be that capital was the scarce component in the set of, the instrument of venture capital I guess I should say. And the venture capitalist had the capital and therefore quite frankly, they had the power relative to entrepreneurs because they owned the scarce resource.
The biggest thing that’s changed over the last 10 to 15 years is capital is no longer scarce. So, really two things have happened to facilitate that. One is just that the amount of capital that it takes to start a company is a lot less than it used to be and that’s a function of just, declining costs on software and hardware and networking, and all kinds of wonderful things that we benefit from.
And the second thing that’s happened is just more and more people have entered the space. So, there are a lot more venture capital firms. There are a lot more people who may not be traditional venture capital firms, but are in other segments of the asset market who also play. And so, it’s created this wonderful ecosystem where the balance of power really has kind of shifted in many respects to the entrepreneur through a more choices than ever for entrepreneurs in terms of accessing capital. And what we think that means now is that the industry has to recognize that capital loan will no longer differentiate you in this market.
ALISON BEARD: It’s interesting though. You mentioned the balance of power because in the book you talk about the growing concentration of assets and certain VC firms, and then VC investments in later stage companies, or startups with proven founders. So, it seems as if smaller players, first time entrepreneurs don’t really have power.
SCOTT KUPOR: A barbell is probably the best example, or analogy to think about. On a barbell you’ve got weights on either end and the middle is this very thin layer of metal. That’s kind of what’s happening to the VC industry, which is the barbell on one end is very early stage, kind of what we call seed investing.
And actually over the last 10 years, in the industry, there’s been almost 500 new firms that have started in what we call that seed category. And those might be firms that have $50 or $100 million in capital, but they’re investing at that very, very early stage. And if you look at the numbers of deals that have gotten done, the biggest area of growth over the last 10 years has been in the number of seed deals that have gotten done
So, I think it is actually the case that for entrepreneurs, whether new or experienced entrepreneurs, the opportunity for them to kind of get early access capital is actually much better than it’s been. Now, you’re right which is that on the other side of the barbell there has been more concentration which is the bigger funds have gotten bigger. And so, if you look at the fund that have $500 or more million of capital under management, there’s not that many firms in that category and yes, they have kind of aggregated more assets over time.
So, you have this interesting dichotomy in the business which is its actually relatively inexpensive, and I would never say easy, but easier at least by historical standards to raise kind of early stage capital, yet it certainly is, gets more competitive as you get into that middle stage where kind of we’re not quite sure yet where the business works.
And then interestingly, when you get kind of to the scale stage, that’s been the other part of the market where we’ve had all kinds of new capital coming in. So, we’ve had people like SoftBank. We’ve had kind of various sovereign wealth funds. There’s lots of people who have come into that market. And so, there’s tremendous amount of dollars available today that never existed before for people to be able to scale companies, just at a level that’s really unprecedented relative to history.
ALISON BEARD: But there’s still a bit of knowledge and balance in that entrepreneurs don’t fully understand how either these seed funds, or the VC industry truly works.
SCOTT KUPOR: I think that’s right. And this is really quite frankly why I wrote the book. I think for too long this industry has quite frankly been a black box to a lot of people. And that’s partly I think, and not entirely, so, but it’s partly why you see things like it’s not the most inclusive industry. Kind of it’s still very heavily weighted from a geographic perspective between California and obviously where you are in Massachusetts, and New York. Those are still very, very big markets.
And so, part of what I hope people get out of the book is that if we can demystify the business a little bit and people can understand where it’s appropriate for them, and also sometimes where venture might not be the most appropriate form of capital, it will help democratize access to the business in a way that I thinks important for certainly our industry. I think it’s important for the country, for economic and job growth, and for us to not be in a situation where all of the kind of benefits of technology are accruing to a very limited geographic set of individuals and also, quite frankly, a very limited set of individuals overall.
ALISON BEARD: We’re talking about the U.S. mainly, but do you see the same dynamic in other parts of the world?
SCOTT KUPOR: Yeah, it’s very interesting. About 20 years ago, the U.S. was about 90 percent of global venture capital dollars. Today the U.S. is about 50 percent. So that means a couple things. Number one is that the world is flatter than ever in the sense that there is more and more entrepreneurship happening outside the U.S. which is a great thing in many respects. And I think that’s partly a great opportunity particularly for developing economies to help improve economic growth for those areas.
But it also means that the amount of dollars total has grown. So even though the U.S. has lost market share on an absolute dollar basis the U.S. has grown significantly. And we see a lot of the same trends. We see kind of very good access traditionally to very early stage capital. We see lots of really interesting entrepreneurs in those markets.
The one thing that I think takes time is that people forget that what’s made Silicon Valley and in some similar ways places in Boston around the Cambridge corridor and then in New York successful is that they’ve had what we call in the business network effects. They’ve had the benefit of years of entrepreneurs starting businesses and being successful and spinning out new companies. And that attracts more entrepreneurs, it attracts more venture investors, it attracts more professional service providers like lawyers and accountants and all kinds of stuff.
And those network effects do take time to build up. Silicon Valley has been a beneficiary of that some would argue almost before the turn of the 19th century with the advent of Stanford University and the very cozy relationship it’s had between industry and academia.
So I think there’s no reason to believe why those other markets outside the U.S. won’t continue to grow and experience the same kind of job growth and economic growth that we have in the U.S. but I do think it will take time for those network effects to cultivate in a way where they can see the kind of size and scale and hopefully success that we’ve seen out here.
ALISON BEARD: Shifting back to Silicon Valley, it is a place that’s criticized for being mostly white and male, both in the tech sector and in the investing world. And people also say that maybe you all haven’t really focused on any of the world’s most pressing problems in a meaningful way. Do you think that VC’s need to play a role in changing that?
SCOTT KUPOR: I do. I do and let me cover both of those. So, let me take the second one first. Peter Thiel has this very famous quote which is, “we asked for flying cars and we got 140 characters instead.” And unfortunately, he’ll need to update that now from that Twitter, Twitter of course is no longer constrained to 140 characters.
Maybe not surprisingly, but we actually think differently about kind of the social utility and value of things like a Twitter or like a Facebook, notwithstanding the fact that there are real important privacy and other issues. In general, the idea of democratization of information flow, kind of those types of platforms have been very, very helpful, particularly in countries where access to information, news and otherwise has not been as accessible as it might be from mainstream media.
So, I do think that there’s some incredibly important problems being worked on. One of the areas for example that we spent a lot of time on is we’ve raised a bio fund which is the intersection of kind of life sciences and computer science. And there’s some fascinating things happening there. I’ll give you one kind of quick example. We’ve a company called Freenome and what Freenome does is they’re using computer science techniques like machine learning to help look at blood samples and be able to detect from a blood sample, the presence or absence of cancer and then the relative stage of that cancer. And this is a very early stage company and so there’s certainly a lot of work to do before broad commercialization. But the opportunity for kind of social good for something like that is really tremendous.
And I want to touch on your earlier question which is really around kind of inclusion and diversity. And the answer to that is the same as I mentioned before which is, there’s no question that as an industry we have not done a great job there. And I do think there is a role the industry needs to play. I’ll give you a little examples of some things we were trying to do, kind of as part of that. I was the Chairman of the National Venture Capital Association a few years ago when a lot of the kind of #MeToo and kind of sexual harassment activity was identified in the venture industry. And one of the things that we recognized as a firm, is we could be a positive force to help kind of drive change there.
And so, an example of what we do is, as part of our term sheets now, we require that companies actually come spend time with us right after we close the deal and go through kind of their HR practices, make sure that they have anti-harassment policies. We actually offer free training programs to all of our companies in our portfolio to do thing like anti-harassment. And it’s really important for us I think, at a minimum to make sure that we use kind of the bully pulpit that we have as part of the players in these companies to help drive change there, as well as quite frankly, change that we need in our own organization.
ALISON BEARD: Terrific. Well thank you so much for talking with me today.
SCOTT KUPOR: Thank you for having me. I really appreciate it.
ALISON BEARD: That’s Scott Kupor. He’s the managing partner at the VC firm Andreessen Horowitz. He’s also author of the book Secrets of Sand Hill Road: Venture Capital and How to Get It.
This episode was produced by Mary Dooe. We get technical help from Rob Eckhardt. Adam Buchholz is our audio product manager. Thanks for listening to the HBR IdeaCast. I’m Alison Beard.
This content was originally published here.