A few days ago, commenting on a post by Fred Wilson, one of the leading venture capitalist on the New York scene, I said that, in my experience, I have always seen the venture capital follow the trend, never anticipate it. A dear friend pointed out to me how that statement may sound out of tune, thus causing me to try to clarify something that, it seems to me, is not always discussed among those involved in startups, angel and venture investors in Italy.
A little story that I love and often tell is the one of the investor, the manager, the entrepreneur and the hooligan seating together in a park. Suddenly arrives a fly that sits on the investor that, annoyed, drives her away. The animal then lifts off and moves first to the manager and then to the entrepreneur. Both, however, get annoyed and turn the fly away. The insect then goes to rest on the hooligan that, with a swift move, grabs the fly and eats it with relish.
Soon after, another fly comes flying to the investor and again these drives her away with annoyance. Even the manager, as soon as the fly lands on him, drives her away nervously. Then the animal flies on the entrepreneur. This time it’s these that suddenly catches the fly and then, with a smile, holding out his hand with the insect imprisoned, asks the hooligan: “Do you want to buy one?”
For what it’s worth, my experience in the world of startups has always been this: it is the entrepreneurs who first identify new market opportunities that others do not see or do not fully understand.
When these entrepreneurs first explain their idea to investors their proposal will initially sound quite perplexing: investors (and their network of specialists that make up the reference that is used to check the validity of a new proposal) are simply not yet ready to grasp the full implications of the opportunity that the entrepreneur is proposing. To stay in the metaphor of the story, they simply don’t see how anyone would want to eat flies. And pass on to the next pitch.
The process is then iterated until the entrepreneur comes knocking on the doors of a leading investor who will have the vision and courage to bet on a proposal that is eccentric if compared to the mainstream. From this point on, other investors will start following the trend.
But what characterizes these lead investors? The answer is not simple. Some time ago, with the InnovAction Lab guys, we had the opportunity to meet the managing director of Bessemer Venture Partners who explained us how their policy was to invest in three categories of projects: those who had a disruptive technology component, namely, that solved a problem of technological base with a clear commercial impact (as an example he told us about a new approach that would loose some production constraints in the manufacturing of solid state memory, thereby reducing the cost of production of smartphones and tablets) , a second category consisted of projects that solved business problems in a brilliant way not related to the core technology (in this case, the example was a startup that allowed ordinary people to manage their computer as if they were platform and applications experts), and finally told us that the fund had now such a reputation that they can afford to invest a small portion of their money in “crazy projects”. A crazy project, he explained, is characterized by a founding team of smart people offering a vision so different from the mainstream that the only way to check if they are more or less right is to invest money in it. It was just the ability to detect these crazy projects, he said, that, combined with the strength of more traditional investments, had helped to make Bessemer Venture Partners a leading investor.
Examples of different leading investors are Paul Graham and his YCombinator or Dave McClure with 500startups. The success of these two initiatives, which in a few years have become trendsetters in a highly competitive area such as the Silicon Valley, is linked to many factors including the network available in the Bay Area and the model of funding that allows to spread the investment risk over a high number of startups. Certainly, a decisive role has been played by the fact that these are initiatives managed by people who have been start-uppers themselves and have managed to maintain not only the risk appetite that makes entrepreneurs so special, but also an ability to see the market directly, with their own eyes.
It is a crucial point that you should never forget: a “traditional” investor, in fact, sees the market through the eyes of its network and the entrepreneurs he meets. Therefore constrained to a ‘mediated’ vision and never, as in the case of entrepreneurs, to a direct one. For this reason, in my opinion, every venture capital fund should have on board some former start-uppers. This is because, at least for some time, their ability to see the market is based on direct experience, not mediated by others, and is therefore more suited to intercept those crazy projects that make a simple investor a leader.
In conclusion, in this post I discussed the reasons why, in my opinion, entrepreneurs are always first in identifying emerging trends. Investors are simply the first who have the ability to support these entrepreneurs. The vast majority of investors just follow the leader. Therefore, if among the readers of this post there are some startuppers who have crazy ideas, then my advice can only be one: do not waste time trying to convince followers, go directly to the leaders, the only ones who will be willing to listen to you. Good luck.