I don’t think a week goes by in our office without at least one fundraising pitch employing some variation of the phrase, “These financial projections are conservative.”
I understand the well-meaning intent. The entrepreneur’s objectives are often twofold: i) convey us that the market potential for the given startup is enormous; and ii) convince us that the entrepreneur will be a prudent steward of the investor’s capital.
The first objective reminds me a bit of the Chinese market analogy, i.e. if we sell this to only 0.1% of the Chinese market, look how many millions we’ll make! This is problematic for me because it underscores a top-down approach to market research. Top-down analysis is a useful sanity check to test assumptions — most investors will do this anyway — but it is anathema to the fundamentals of building a successful product in a startup, i.e. determine a pain point in the market, develop a prototype or alpha version to test your thesis, iterate based on customer feedback, then scale. It is far easier to extrapolate projections into large numbers once these preliminary proof points are in place.
The second objective is more complex. On the one hand, I can certainly appreciate the entrepreneur’s desire to reassure us of their frugality. Resourcefulness is a key character trait of a good entrepreneur, and I want every entrepreneur we support to be efficient with our capital.
However, to creators of high-tech startups with conservative aspirations, I say, you’re in the wrong place. Either you’re not ambitious enough to launch a company that can attain the growth on which venture capitalists rely, or you’re telling me what you think I want to hear. Don’t get me wrong, not all business ventures should target explosive triple-digit growth in their early years. Lifestyle businesses are perfectly laudable, and I commend the entrepreneurs that create them. But the VC model is predicated upon outsize returns. If the growth that can generate outsize returns is not relevant for your business, then venture capital is not the relevant source of financing.
I can also understand why you might downplay your projections, even if you’re concealing your genuinely lofty ambitions. The French educational system, such as the noteworthy Ecole Polytechnique, prides itself on training future business leaders to perform exhaustive what-if analyses and risk-avoidance simulations before finalizing any decision that contains a tad of uncertainty. Moreover, as VCs in Europe, we’re collectively guilty of reinforcing such behavior by chronically under-capitalizing startups and typically favoring profitability over revenue growth. There’s also the cultural element, which I find both unusual and admirable as an American, of the European values of modesty and not over-promising.
Jim Collins in Built to Last famously cited the BHAG acronym — big hairy audacious goal — as a consistent characteristic of visionary companies. I submit that BHAG thinking is also a fundamental tenet of successful entrepreneurs. It is only by setting the bar high, by being audacious in your plans, by being overly-ambitious in your efforts, that heroic results occur. I expect you to fall short in your forecasts; a business plan never shakes out as projected. But you need to aim for Mars if you merely want to reach the moon. Perhaps the golfing metaphor would be, “A short putt never drops in the hole.”
Oh, and please don’t generously propose to be a diversified lower risk asset for our portfolio. VC’s will perform their own risk mitigation exercises. This forms the basis of professional portfolio management, and heck, half of the VC’s in Europe are former bankers. Furthermore, risk mitigation is built into the very architecture of the venture capital model in that LP’s allocate only a fraction (<1% in Europe) of their total funds under management to the VC asset class.
So if I were asked to articulate what I would ideally like to hear in an entrepreneur’s pitch to ensure they capture my attention, it would probably include something like this:
I have to warn you, Mark, that these projections are not conservative. They’re wildly optimistic. You probably think I’m crazy, and perhaps I am a little bit. Now, I might be a dreamer, but I can also assure you that my partner here is a rock solid CFO/COO/etc. that helps me keep my feet on the ground if I try to do something stupid. If my dreams turn out to be way off base, my partner here has built in a number of fail-safe mechanisms that will allow us to pivot or restructure before it’s too late. But at the moment, I really think we’re onto something tremendous here, and if we can execute properly, the sky’s the limit to what we can achieve.
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