Unreasonable

Great Team, Great Market

Photo from Unsplash

Ask a venture capitalist the most important thing they look for in making an investment and you will hear some mixture of these key words: team, technology, product, market, and perhaps, “unfair advantage.” But by and large the earlier the venture, the more frequently “team” will top the list.

An investment in a new business is an investment in the people who are building it. If the founding team doesn’t have the right mentality, skills and execution capabilities, the business won’t succeed—no matter how good the idea.

An investment in a new business is an investment in the people who are building it. Tweet This Quote

At Khosla Impact we invest in companies that are trying to make life better for the three billion people living in emerging and frontier markets. In the three years since we started the fund and in our collective decades of experience, we’ve lived through a variety of ventures and founding teams and have begun to gravitate towards seasoned founders—those who have either built something meaningful in the past, even if it was at modest scale, or have worked together in a previous venture. I often see that the best teams are those who are still young enough to embrace new technological methods but experienced enough to understand the true cost of mistakes. In the U.S. I’ve heard venture investors say, “there is something special about 28.” In emerging markets perhaps that age is closer to 35.

What will make the difference between being able to raise funding for your company or not? Tweet This Quote

The reason experience, especially local experience, tends to produce the right founder mentality for emerging markets is because the limiting factors in these environments are often hidden and take time to learn. There are far fewer resources to support startups in emerging markets and disseminate knowledge. Poor or inconsistent regulation often destroys or distorts markets in ways that are hard to understand until you are competing in them. Good unit economics are substantially harder to achieve because of low, discretionary spending and high distribution costs that inhibit scale—even if you have a great product or technical innovation.

In emerging markets particularly, those favored by impact investors, I often see young social entrepreneurs who confuse “problem size” with “market size.” Tweet This Quote

But let’s assume that you are truly an exceptional founder. You have, or are developing, a team that has what it takes to succeed. What will make the difference between being able to raise funding for your company or not? What opportunities get funded and which don’t?

The answer for investment firms is whether the market opportunity is big enough and near-term enough. In emerging markets particularly, those favored by impact investors, I often see young social entrepreneurs who confuse “problem size” with “market size.” Being an optimist, I have made this mistake myself. But they are not the same. Just because there are millions of people without access to some fundamental service or good does not mean that the market for that good is large enough to cover the costs required to provide it.

The opportunities that get funded tend to be in the following:

  1. Areas where there is large, existing demand for a good or service and the team has figured out a defensible way to deliver it in a more convenient, profitable and scalable manner than existing alternatives (Examples: Uber in US, Ola in India).
  2. Areas where there is new, rapidly growing demand for a good or service and the team is taking the lead by actually enabling this demand with their product and growing the market themselves (Examples: AirBnB in US, MPESA in Kenya, Zipdial in India).
  3. Areas where there is pent up demand for a good or service that was previously uneconomic to deliver at scale and the team has developed a new way—generally using standardized processes and technology—to more reliably or profitably distribute or deliver (Examples: Greendot in the US, Bridge International Academies in East Africa, and many of the “pay as you go” solar distributors in Africa and India, like mKopa, Offgrid Electric, BBOXX and Simpa Networks).

Are you going after a market that is characterized by one of these three forces? Are there millions of people or companies paying everyday for services like the ones you intend to offer? Why will they change behavior and direct their hard-earned dollars, rupees and shillings to you? If you consider yourself to be a social entrepreneur and have decided to take on a major problem area, have you developed a product or a service that can transform that problem into a market or are you just hoping to take on the status quo with grit and determination? Without real innovation in product, distribution or financing, grit alone is usually not enough to succeed in developing economies.

Without real innovation in product, distribution or financing, grit alone is usually not enough to succeed in developing economies. Tweet This Quote

If it is truly a market, ask yourself if it is big enough. Most investors want to see market sizes that are at least hundreds of millions USD and more often one billion plus. Do you know that the market is $7 billion or are you just citing a McKinsey report? Experienced founders know that the best way to market size is to build your assumptions from ground-level data. Triangulating with research reports is fine, but telling an investor, “we’ll be worth $100 million if we can just get ten percent market share,” shows you haven’t done the work.

The reason market matters so much is because in an attractive market, often the harder you work, the luckier you get. In a market that is small or has slow growth and low margins, the harder you work the more frustrated you become at the slow rate of progress, and ultimately the limited prospects for achieving scale.

The best markets tend to be ones that begin as small, high growth niches your can dominate, enabled by some fundamental change in technology or regulation that will affect millions of people over time. A new company that gains a first-mover advantage and builds a defensible model grows with the market as it shifts from early adopter to early majority. This is where Silicon Valley loves to play. But new developments in emerging markets (Android adoption, cheap data plans, policy changes, etc.) can also create these enabling environments for high growth niches that become large segments. The teams that understand and take advantage of these changes are the ones most likely to receive a range of investment offers, including one from us.

When a great team meets a great market, something special happens. Tweet This Quote

One of my favorite pieces of venture wisdom comes from Andy Rachleff, formerly of Benchmark Capital, who concisely described both how hard it is to overcome market forces that are set against you, but also how the right people and the right market forces can combine to produce phenomenal outcomes.

Rachleff puts it this way: “When a great team meets a lousy market, market wins. When a lousy team meets a great market, market wins. When a great team meets a great market, something special happens.”