how do you evaluate and encourage...
TRANSCRIPT
Steven N. Kaplan Neubauer Family Distinguished Service Professor of Entrepreneurship and Finance Faculty Director, Polsky Center for Entrepreneurship
How Do You Evaluate and Encourage Start-ups?
Introduction • How Successful is Start-up Investing?
• How Do You Evaluate Start-ups?
• How Do You Encouraging Start-ups? – The New Venture Challenge at Chicago Booth.
• Questions?
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Creating, Building and Investing in Successful Start-ups is Hard
• Roughly 600,000 businesses with employees are started each year in the U.S..
• Roughly 2,400 of them receive VC funding for the first time. – That means on the order of 0.40% of businesses get VC funding.
Creating, Building and Investing in Successful Start-ups is Hard
• Roughly 600,000 businesses with employees are started each year in the U.S..
• Roughly 2,400 of them receive VC funding for the first time. – That means on the order of 0.40% of businesses get VC funding.
• Between 100 and 200 companies go public each year. – That means that fewer than 0.04% of business go public.
Creating, Building and Investing in Successful Start-ups is Hard
• It is hard, even for VCs.
• A lot of VC investments are losers.
Distribution of VC Outcomes
Creating, Building and Investing in Successful Start-ups is Hard
• It is hard, even for VCs.
• Since 1999, returns to VC funds have been mixed.
PerformanceofAverageU.S.VCFundCashReturned/CashInvested
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013
Source: Burgiss
U.S. VC MOICs by Vintage Year, 1991 - 2013 Pooled Ave. as of December 2016
PerformanceofAverageU.S.VCFundRela>vetotheS&P500
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
5.0
5.5
1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013
Source: Burgiss
U.S. VC PMEs by Vintage Year, 1991 - 2013 Pooled Ave. as of December 2016
PerformanceofAverageandMedianVCfundRela>vetotheS&P500
0.4
0.6
0.8
1.0
1.2
1.4
1.6
1999 2001 2003 2005 2007 2009 2011 2013
Source: Burgiss
U.S. VC PMEs by Vintage Year, 1999 - 2013 Pooled Ave. and Median as of December 2016
Average Median
How Can You Improve Your Odds of Success?
• Frameworks • Process and Networks
Framework: How Should You Evaluate A Start-up?
• Huge issue in class and practice.
• Framework is based on: – Spending time with several VC firms. – Reading and coding investment memos of 11 VC firms in
almost 70 investments.
• More recently: Based on a survey of over 800 VCs.
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OUTSIDE - IMPACTS Opportunity, Uncertainty, Team, Strategy, Investment, Deal, Exit.
• (O) Opportunity: Is this a positive present value opportunity? (Does it have IMPACTS?)
– (I) What is the idea / industry? – (M) Is the target market large enough to support substantial
growth / valuation? – (P) Why does the opportunity generate a positive present
value? What is unique? – (A) Acceptance: Will customers in that market accept / buy
this new product / service? – (C) Why won't the value be competed away? – (T) Why is this a good time to enter? – (S) Speed? How quickly can this be implemented?
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(O) Opportunity: Is this a positive present value opportunity? (Does it have IMPACTS?)
(I) What is the idea / industry? u Explain the idea / opportunity clearly and succinctly u What problem does it solve? u What is the pain point?
(M) Is the target market large enough to support substantial growth/valuation? u How large is the overall market? u How large is the market segment you are targeting?
• Who are the key customers? • How many are there? • What will they spend? • Provide solid support for your analysis.
u Are there additional opportunities?
OUTSIDE-IMPACTS
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(O) Opportunity: Is this a positive present value opportunity? (Does it have IMPACTS?)
(P) What is proprietary? Why does the opportunity generate a positive present value? What is differentiating? u The answer to this should be implicit in other parts of OUTSIDE-
IMPACTS. But, doesn’t hurt to be explicit. • Why will you make money? • How will you make money? • What is your “edge?”
• First-mover advantage? • Network effect? • Switching costs? • Execution?
• Technology? • Advantage? • Defensible?
OUTSIDE-IMPACTS
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Is this a positive present value opportunity? (Does it have IMPACTS?)
(A) Acceptance: Will customers in that market accept / buy this new product / service? u Who is the customer in the target segment?
Put yourself in shoes of a customer. • How does the customer spend the day
u Why will they buy your product / service? • What do they buy now? • Why do they buy what they do now? • Why will they switch from their current product?
u How will you get to the customers? • Direct Salesforce? Resellers? Distributors?
• How much of each? How quickly? • Advertising • How much will it cost? • Common to underestimate time / cost
u How will you keep customers? How much will it cost?
OUTSIDE-IMPACTS
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Is this a positive present value opportunity? (Does it have IMPACTS?)
(A) CUSTOMERS, CUSTOMERS, CUSTOMERS u Will the dogs eat the dog food?
OUTSIDE-IMPACTS
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(C) Why won't the value be competed away? u What will existing competitors do? u What will other new entrants do? How will you respond?
(T) Why is this a good time to enter? u Why hasn't the opportunity been taken already?
(S) Speed? How quickly can this be implemented?
OUTSIDE-IMPACTS
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Good opportunities have positive IMPACTS. If the opportunity does not have IMPACTS, then it should not be pursued.
OUTSIDE-IMPACTS
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(U) Uncertainties: What are major uncertainties? u Possible uncertainties:
• Market size • Customer acceptance • Customer approach • Competition • Management team
OUTSIDE-IMPACTS
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(T) Team u Can management team implement opportunity?
• How does previous experience relate to opportunity? • How “hungry” is the management team?
u If management pieces are missing: • What pieces are missing? • What type of person will you look for to fill them? • How will you find that person?
(S) Strategy u Is strategy consistent with opportunity, uncertainty, team, and
exit?
OUTSIDE-IMPACTS
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(I) Investment Requirements u Forecasts and cash flow requirements
OUTSIDE-IMPACTS
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(I) Investment Requirements u Forecasts and cash flow requirements u CIMITYM.
OUTSIDE-IMPACTS
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OUTSIDE-IMPACTS (D) Deal
u Does deal structure provide appropriate incentives? • Is the deal priced attractively? • Do key individuals have incentives to do deal? • Do key individuals have incentives to make deal work?
u Does deal structure provide / ensure appropriate governance?
u Does deal structure help manage the uncertainties?
(E) Exit u Can investors exit the deal? How?
• Is the deal priced attractively?
If an investment does not pass the OUTSIDE tests => leave it outside.
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What do VCs actually consider? • Studied VC deal memoranda for 67 investments by 11 VCs.
– Top five reasons to invest: • Market 69% (M) • Management 60% (T) • Strategy 54% (S) • Competition 33% (C) • Product and technology 30% (P), (A)
– Top five risks: • Management 61% (T) • Strategy 51% (S) • Competition 40% (C) • Market 31% (M) • Product and technology 31% (P), (A)
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What do VCs actually consider? • Surveyed over 800 VCs. • What did VCs say were important?
– Management 95% (T) – Business Model 83% (P, A, C) – Product and technology 74% (P), (A) – Market 68% (M) – Industry 31% (C)
– Valuation 56% (D) – Ability to Add Value 46% (P-VC)
• What did VCs say was most important?
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Most important
Management Team, 47%
Fit, 14% Product, 13%
Business Model, 10%
Market, 8% Industry, 6%
0%
10%
20%
30%
40%
50%
Jockey Horse Fit
What Did VCs Say They Look For in a Team?
Peter Thiel
• Founded PayPal and Palantir. • Early investor in Facebook, LinkedIn and Yelp. • Wrote Zero to One: Notes on Startups, or How to Build
the Future.
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Peter Thiel’s 7 Questions Every Business Must Answer
• Can you create breakthrough technology? [P] • Is now the right time to start your business? [T(iming)] • Are you starting with a big share of a small market? [A / P] • Do you have the right team? [T(eam)] • Do you have a way to not just create, but to deliver your product? [A] • Will your market position be defensible in 10 or 20 years? [M / C / P] • Have you identified a secret opportunity that others don’t see? [P]
– Notice the focus on P.
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Does the Framework Deliver?
I – website for finding and ordering from restaurants that deliver. M – Make money from on-line ordering.
– Any one city not a huge market, but large enough. – Can go to many cities.
P – First-mover advantage / network effect for consumers. – Consumers can get all takeout orders from one site.
• Do not have to give credit card info to many sites. – Consumers have no reason to switch because restaurants pay. – Costly and time intensive to get menu / delivery info.
• Had to call or go to every restaurant in city to get menu / ask if and where they deliver.
• In 2006, info was hard to collect. A – Useful and cost effective for consumers.
– Do not have to give credit card info to many sites. – Restaurants follow once consumers are engaged.
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Does the Framework Deliver?
C – No category winner yet back in 2006. T – Internet and, now, mobile makes this possible. S – Can you get cities before someone else does?
– How much will it cost?
Uncertainty – – Can you get to the big markets quickly enough? – Is team up to the task?
Today – Valued at $3 B.
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Does the Framework Deliver? Bump
I – iPhone App to exchange contact info / photos / etc. Uses unique identification of two phones from: GPS Synchronicity of Bump
M – ? P – First-mover advantage / network effect.
– With lots of downloads, many people had the app. – If everyone downloads it …
• Huge piece of luck when billionth iPhone Aapp • Lots of free publicity. • Top 10 app downloads for a long time.
A – Consumers liked it / found it cool.
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Does the Framework Deliver? Bump
U – Uncertainty – What is the market? – Who are the paying customers? – What will they use it for? – What is the revenue model?
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How Can You Improve Your Odds of Success?
• Process and Networks. • Example:
– The New Venture Challenge at Chicago Booth.
New Venture Challenge
1. Team creation - idea generation, team formation. 2. Team selection. 3. Course - mentorship, criticism, time pressure. 4. Finals.
The NVC launched in 1997. Has grown to be among the best business creation competitions / accelerators in the world. Process is key:
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NVC - Team Creation
Team Creation Methods New Venture Challenge Kick-off • LinkedIn website • Ideation &
Innovation Workshops • EVC Student Group Start-Up Factory Events • Other Community and Cross-University Events
Polsky Center helps students put teams together for the NVC. Teams must have at least one Chicago Booth student.
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I-Corps Collaboratorium
NVC - Team Selection
• 80-90 plans typically received by early February deadline. • Judges, coaches, faculty select 25-35 viable plans to advance. • Advancing plans announced in late February.
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NVC - Course • Two sections with ~ 15 teams each.
• From end of February to end of May.
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NVC - Course • All teams have access to five coaches and NVC faculty, who suggest
other mentors and facilitate introductions.
• Mentor network grows every year; alums / friends with domain expertise.
• Each team presents in class in April. • coaches, mentors, and judges attend. • provide brutal, but constructive criticism.
• Teams incorporate feedback into plans and present again in class in May.
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NVC - Course
• Each team presents in class in April. • coaches, mentors, and judges attend. • provide brutal, but constructive criticism.
• Teams incorporate feedback into plans and present again in class in May.
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NVC - Finals
Major incentives to get to finals: • Full day with 20+ senior
judges. • $400K+ in prize money. • Space in the ARCH incubators
(Polsky Center and downtown) • In-kind legal/business services
Based on in-class presentations and feedback from judges, faculty, and coaches, 10 teams are chosen to present in the finals in May.
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NVC - Course • Stunning improvement / progress over three-month period.
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The New Venture Challenge – Results
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NVC Results
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$4+ BILLION
in mergers and exits
150+ COMPANIES still operating today
$600+ MILLION
funding raised
NVC Results: GrubHub
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§ Won the 2006 NVC. § Raised $81M + from Benchmark
Capital, DAG Ventures, others. § Merged with Seamless in 2013. § Used by 40,000+ restaurants in
1,000+ U.S. cities and London. § Completed IPO in April 2014
(NYSE: GRUB). § Market Cap $3.2B.
NVC Results: Braintree
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§ Won the 2007 NVC. § Raised $70M from Accel
Partners, NEA, etc. § Acquired Venmo in 2012. § Clients include Uber, Airbnb,
Living Social, Opentable, etc. § Sold to eBay PayPal for $800M
in 2013.
NVC Results • Rated the top university accelerator in U.S. three years in a row.
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Why is the NVC so effective? • Focus on team creation builds strong teams:
– Great students, great inputs. • Careful selection process:
– Teams are vetted and do not waste anyone’s time. • Substantial and growing mentor network adds real value. • Tight timeline / deadlines force teams to get a lot done quickly. • Strong frameworks.
• è Great outputs.
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Summary • Entrepreneurship is hard.
• But you can take concrete steps to increase your likelihood of success. – Strong Frameworks. – Strong Processes and Networks.
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Steven N. Kaplan Neubauer Family Distinguished Service Professor
Entrepreneurship and Finance [email protected]