Lessons Learned from 2008

Original Tweetstorm: https://twitter.com/avichal/status/1238298350077669377

I’m sharing lessons from running a startup through 2008. I tweeted this as well and cleaned up a bit for the blog. Hope it’s useful to founders.👇

1/ Most important — prioritize your health and family. It’s clearly stressful as the world feels like it’s falling apart. If you are healthy and have your loved ones, you will be fine long term. 

2/ Duration — this will last a lot longer than you expect. From peak S&P in 2008 to bottom was 500 days. We are only 20 days in to this correction. Maybe it’s different this time…more likely we have a long way to go. And it will feel a lot worse than it does right now. 

3/ Cut costs faster and deeper than your intuition suggests — cutting costs is hard but probably the best way to extend your runway. Letting people go is *very* hard. But if you are forced to, cut once + deeply so you never cut again and no one else is worried about their job. Make it clear to your remaining team members that you have cut so deeply so that you never have to come again.

4/ Be patient on hiring — Hire slowly. Many talented people may be available in a year and companies that have strong cash positions will aggregate amazing people, which will be a long term competitive advantage. The best people will want to work with the best people, especially in a downturn where talent aggregates in a small number of places.

5/ Revenue often falls as a second order effect — It takes time for the second order effects of unemployment, leverage leaving the system, businesses cutting back, governments losing tax revenue, etc. to materialize. Your revenue may be fine now but may not be in 6 months. 

6/ Help people stay long-term oriented — spouses will lose jobs, friends will worry about layoffs, more people will be sick bc they are stressed, etc. Help people think about focusing on creating long term value. If you have cut deeply enough, you should be able to survive. This will give you emotional energy to support others.

7/ Reputations are made or lost in times like these — people will talk about these crazy times in a decade. Your peers, your investors, and your employees will remember how you behaved on the way down and in tough times. Never lose your integrity or make rash decisions. 

8/ Negotiate — you’d be surprised how much leverage a macro turn will give you. You can probably negotiate a lot of things in your business life. Do not negotiate at the expense of long term relationships and integrity. But if you need something, ask. 

9/ Deals & contracts will fall apart — Contracts are only as good as the people signing them. Investors may pull out after giving you a terms sheet. Partnership agreements may be cast aside. Landlords may change terms. Be ready for people to back out of signed contracts. 

10/ Fundraising will slow down and pick up in 6 mo — Late stage doesn’t want to catch a falling knife and early stage investors know that only companies that have to raise are raising now. Both drive down valuations. But eventually investors have to invest, so they will. In my experience, uncertainty drives people to pull back and be more conservative, and investors know startups that can avoid fundraising in uncertain times will wait. Those who cannot wait are the ones raising now, so investors have more leverage in the short term.

11/ There will be monster businesses built soon! Many of the best businesses scaled in 2008 or 2001. Google, Facebook, Airbnb, etc. A correction accelerates behaviors, i.e. share economy scaled in 2008 b/c people needed extra cash. Remote work & crypto are my bets for this one 

12/ Remember: Few events are as good as they seem in the moment and few as bad as they seems in the moment.

Market conditions in March 2020

I was playing around with some data to inform my intuitions about this 2020 market correction and to make sure I position Electric Capital for success in the coming years.

None of this is investment advice. I am sharing thoughts in case the data is useful to other founders thinking about the state of the markets today.

S&P 500 Data

Observations on the S&P 500

  • 2020 is a much faster decline than prior corrections.
  • If we are lucky and COVID-19 concerns are overblown, we may end up most similar to the 2018 pull back. Even so, we still have 5 months to go to get back to all time highs in the stock market and for people to feel the good times are back.
  • If this is a broader correction like 1987, 2000, or 2008, we likely have at least 16 months to go.
  • If this is a bigger correction, we likely fall more from the current -20% as of March 13, 2020.
  • Each major correction since 1987 has been a more steep fall than the last
  • Broader corrections have a cascading set of secondary effects which manifest as periods of calm followed by significant subsequent drops.

Why are so many people worried?

I am not an economist or macro fund manager. And this is not investment advice. I deeply understand early stage startups and cryptocurrencies, and not much else 🙂

The following is a collection of data I have heard referenced in various contexts. I am compiling it for reference.

  • Personal debt is at all time highs in both nominal terms and as percent of GDP.
  • Corporate debt is at all time highs in both nominal terms and as a percent of GDP.
  • 40% of corporate debt are below investment grade and much of it may slip below investment grade if there is a pull back in the broader economy.
  • Interest rates are near all time lows with not much room to move lower to stimulate the economy.
  • Money printing has ramped back up out of necessity and we will soon be at all time highs in terms of total assets on the Fed’s balance sheet.
  • The crisis here is likely a demand shock from consumers not traveling or eating out, with the first businesses hurt being small businesses.
Image result for corporate debt as percentage of gdp
Image result for corporate debt 2020

In addition, we live in a far more connected world than we did in 1987, 2000, or even 2008. There are significant disruptions in sectors such as travel, hospitality, and supply chains in a way we have never before experienced (because the world was never this connected). We have yet to see how/if this cascades to other sectors.

Unlike 2008 or 2001, this is a demand crisis as people stay home, not a liquidity crisis (yet). This will likely impact small businesses and the service sector up front, not cash-rich large businesses. It is not clear to me that Western governments know how to handle a demand crisis that cascades out from Main Street rather than Wall Street this time.

In every graph I can find, we are in a more leveraged state than 2001 or 2008 and have less monetary margin for error. This does not inspire a great amount of confidence that the foundations of our financial and monetary system are strong and can weather a significant systemic shock.

What happens next

No one knows what is going to happen and I am not in the business of making public economic predictions. For all I know, COVID-19 blows over, the debt bubbles keep going, the Fed’s balance sheet keeps growing, and the economy keeps going for the next decade.

However, I do believe that we have not yet seen the peak load on the American healthcare system, and what happens with COVID-19 in the US will have a tremendous impact on how significant and how prolonged any global economic impact will be. The number of deaths will also be a significant driver of American sentiment which will cascade in to 2020 elections.

For everyone’s sake, I hope the impact is minimal and mortality rates very low. Unfortunately I suspect and fear they will not be.

Heuristics to Generate Startup Ideas

I regularly help pre-seed entrepreneurs identify and evaluate potential startup opportunities. The following is a set of heuristics I’ve developed and collected over the years that might of use.

These heuristics are just a starting point to identify interesting, unsolved problems in the world that may turn in to great startups. Entrepreneurs must still go deep on understanding their customers, the business model, have a clear answer to Why Now? there is a big shift in the market, and focus on identifying problems rather than generating ideas that sound good.

  1. Tools inside a big company — High growth companies often first experience a problem other companies will soon face and solve it internally. Bringing these tools to everyone else can work well, e.g. Asana was inspired by the Facebook internal tasks tool, Cloudera was inspired by Facebook’s internal data infrastructure.
  2. Consumer generation shift — Think about a consumer company that started ~7 years ago. Generations shift in about 7-10 years, thus tastes evolve, and platforms shift. Thus there is an opening to acquire customers, e.g. Snapchat started 2011 while Facebook started 2004
  3. Big company acquisitions — If a company is acquired for $5B+, consider a competitor. This may indicate product maturity, a departure of talent after earnouts, or becoming focused on profits vs. product investment. Now may be a great time to re-imaginge LinkedIn or Github
  4. Market validation from other startups — Find a company that recently raised a series A and approach solving the problem differently. Often the first company to identify an opportunity will not win but does indicate customers have a real problem they want solved.
  5. Revisit ideas that were too early — Look back at ideas that were hot 10 years ago because entrepreneurs have a tendency to be too early. See if any might make sense now, e.g. Instacart vs. Webvan.
  6. Invert a successful company’s core competency — Take the core strength of a company and flip it on its head to see what a product experience may be if you did the opposite, e.g. Snapchat was based on ephemerality and Facebook based on permanence of identity, or Southwest was based on a point-to-point model with only one type of plane whereas other airlines use a hub and spoke model with multiple types of planes.
  7. Extend consumer behaviors to businesses — Take a product used by consumers and think about how it might apply to prosumers, enterprises, and small businesses, e.g. LinkedIn vs Facebook.
  8. Turn open source projects in to SAAS businesses — Find open source projects that are very popular and turn these in to out of the box services for enterprises, e.g. PagerDuty is like Nagios.
  9. Compete with old world industries using software — Find an industry that is resistant to using software and build a vertically integrated version to compete with that industry, e.g. Atrium vs. law firms.
  10. Low NPS, fragmented industries — Identify a large, a highly-fragmented industry with terrible net-promoter-score and build a modern, software-first version of their product, e.g. OpenDoor (credit to Keith Rabois for this one)
  11. Make things programmable — Take a desktop utility, move it online, and make it more powerful by making it more programmable, e.g. Airtable and Notion (similar to Elad Gil’s idea around devsumers)
  12. Unbundle a company — Look at the functions of modern companies and unbundle them to make them available for companies of all sizes, e.g. WeWork is the unbundled facilities group at most big companies
  13. Look to engineers’ hobbies — Figure out where hobbyist engineers are spending their spare time and how to productize that (Chris Dixon’s idea)
  14. Understand how teens communicate — Figure out where teenagers are spending their time to see what the communication products of the next decade may be. Teens are unencumbered and very creative, so seek to understand the motivations instead of judge.
  15. Travel and observe non-software solutions — Travel to new places to discover non-software solutions that other countries/people/markets have come up with to various problems, e.g. I was in Moscow in 2006 and people could just hail any stranger on the street to drive them somewhere like a cab. It may not have been a big leap if you saw this behavior to Uber/Lyft on your phone.
  16. Look at behaviors in certain geographies — Smaller, homogenous culture countries (Sweden, Korea, Japan) are early adopters of many technologies. Spend time there to understand what they are doing that isn’t globally popular yet, e.g. watching other people play video games or mobile payments took off in these markets very early relative to the US.
  17. Unbundle the government — Think about what services the government offers and how you might build a profitable business model around these, perhaps even by offering these services in a more cost-effective way back to the government, e.g. SpaceX is a private NASA, FedEx is a private postal service.
  18. Verticalize an already successful business — Find a massively successful business such as Salesforce and target it for a vertical that is traditionally challenging to access, e.g. Veeva is a pharma industry specific CRM worth $15B+ and raised only $7M in funding.
  19. Build something for a distribution channel — Identify a new distribution channel that would enable access to a new customer, and then think through what that customer wants that the distribution channel does not want to provide, e.g. Pinterest and Yelp built on SEO, Paypal built on eBay, YouTube embedded inside MySpace before MySpace had a video product.
  20. Draft on a regulatory shift — Build behind a big regulatory shift to compete with large incumbents who will be slow to move and have regulatory + technical baggage, e.g. Oscar Health after Obamacare. I’m sure some companies will spin up to help people transition to a post-GDPR world.

I’m sure there are other good heuristics to use as a starting point. If anyone sends me others, I’ll add them to my blog post as a reference for others.

The Fat Torso

The Internet’s potential to enable new businesses by building for customers in the Long Tail is well-documented. However, for many Internet businesses, the Fat Torso is now more important.

As the Internet has scaled, we have seen the emergence of markets with Fat Torso and successful businesses that first target the Fat Torso of customers.

The Shape of Markets

Markets can have a big head, fat torso, or long tail. Offline businesses tend to have a fat head because there are real economies of scale. For example, the top five automotive manufacturers own about 50% of the global market and the top 15 own about 90% of the market. Internet businesses such as YouTube have both a fat head and a long tail uniquely enabled by the Internet.

As the Internet has matured, many markets have grown to also have “fat torsos.” These Fat Torso markets are often fantastic markets for startups to enter and the right entry point is through the Fat Torso.

What is the Torso?

Customers in the torso are between the head and the tail. They make decisions quickly and generate significant revenue or engagement per customer. Customers in the torso generate more value for your business (revenue or engagement) than tail customers, i.e. the area under the curve is larger. Unlike customers in the head who often make unreasonable demands because they are used to being catered to and having market dominance, torso companies will make feature requests that apply to many customers. Torso companies are hungry to compete with head companies and will try new solutions in order to gain an edge against their bigger competitors.

What is a Fat Torso?

Not all markets have “fat” torsos. If the torso is “fat,” there are many customers who meet the torso criteria (who spend lots of money and move quickly). Thus you can scale your business quickly: lots of customers * high revenue per customer (and they move quickly).

Go To Market: Torso First

The Fat Torso is the best place for startups to prove their business model. Often the go-to-market:

  1. Prove the model with the fat torso customers – torso customers move quickly, offer significant value to your business, are eager to scale their businesses, and do not have significant leverage over you to make unreasonable demands.
  2. Scale to support the head – now that you have some scale, you can negotiate with larger customers or partners. Your company has the runway to wait out the long time horizons that large customers require.
  3. Build self-service tools to serve the long tail – these customers offer significant revenue at scale but require a significant investment of self-service tools. They serve as a moat around your business if you can get them onboarded. Now that you have the customers they aspire to be (torso customers)

Examples

  • Online Ads — target sophisticated online advertisers such as game developers who scale ad spend quickly to $10 million+. Targeting smaller businesses in the tail requires hand-holding, self-service tools, and they will not scale ad spend over time. After you have the torso advertisers, convince large advertisers such as brand advertisers to use test budget and build out self-service tools for the tail.
  • SAAS — start by targeting companies large enough to give their employees autonomy to make purchasing decisions (say 100-1000 people). Avoid Fortune 1000 companies and avoid two-person startups. After you have many companies from 100-1000 people using your product, you can start moving up stream to enterprises and then build self-serve tools for startups.
  • E-Commerce Marketplace — find sellers who can use your platform as part of their existing full time business. At the same time, find buyers who will buy more frequently on your platform not just once per year. Etsy is a good example. It has many suppliers supplement their income substantially via Etsy and Etsy’s customer base appears to have a fat torso with 60% of customers buying only once per year. Over time you may be able to scale to head sellers like Nike or Dell. This is the path eBay took after scaling its core business by first working with sellers who made a living on the eBay platform.

The Torso First approach not the right fit for every market since not all markets have a Fat Torso. However, it is an increasingly common theme in businesses that scale to $100M+ in revenue, both because the markets that have Fat Torsos are great markets and because businesses that scale often use this strategy to scale quickly.

We discussed very similar ideas in some meetings at Facebook. I’m not sure who came up with these insights exactly, so thanks to everyone involved in helping form the ideas: Andrew “Boz” Bosworth, Alex Himel, Pratiti Raychoudhary, and Jon Lax.