95% of social entrepreneurs will never receive venture capital.
What do you need to be venture fundable?
- You must be going after a big market, preferably a billion dollars or more
- You must be building and guarding intellectual capital that allows you to sell a high margin product (or in certain situations, defensibly sell a low margin product at massive volume)
- You must be pursuing huge growth (10x, 100x) in a short period of time even if there is a significant risk of cratering the company. We are, after all, going big or going home
- You must be able to sell the business to someone for a lot of money in 3 to 5 years (this is the “exit” everyone speaks of) By the way, it would be nice if the social impact of your business could survive that acquisition, but that’s another post.
If you can do all of these things, then venture capitalists will, in theory, will provide you with millions of risk-loving dollars to rapidly scale your venture. There are a few social ventures that fit the bill and for those (or this one), venture capital is a great tool. It’s actually where I have spent much of my career, but it’s a tiny tiny sliver of the entrepreneurial landscape.For most ventures, even a lot of great ones, it’s a non starter for any number of reasons, including:
- The market being pursued is big enough to support a business but isn’t big enough for venture economics. By the way, this is almost all markets.
- The business isn’t creating intellectual property or, heaven forbid, the entrepreneur is actively interested in sharing what they’re doing with others to copy.
- The business is inherently or intentionally low margin.
- The business has inherently low growth because customer acquisition is difficult (this is sometimes what makes the business socially beneficial in the first place.)
- The business intentionally throttles growth because it is unwilling or unable to risk catastrophic failure and the ensuing disruption this would cause for customers or partners.
- The entrepreneur is not interested in selling the business in 3-5 years.
- The business is a non-profit (This is worth it’s own post. I’m looking at you Farmer’s Conservation Alliance and Imagination Playground)
- It’s easy to teach - The venture model, when it works, is charmingly linear. Two guys (they’re always guys when we tell this story) have an idea. They prototype it. They raise money from angel investors. They write a business plan. They get money from some venture capitalists. They hire some engineers (also guys by the way). They grow. They raise some more capital from another VC and hire some sales staff (they can be women, I guess) and an experienced CEO (another dude, sigh.) This new dude introduces them to some bankers who take the company public or sell it to some gigantic company for $100m. See what I just did there? I built a $100m company that employs 200 people and serves thousands of customers in nine sentences. That story applies to most VC funded companies and I can teach it to a class full of MBAs in 45 minutes. Now, ask me about the woman who runs a business out of her house for the first 5 years, eventually gets a grant that pays for 30% of an expansion, runs a kickstarter campaign to pay for tooling and convinces her bank to give her a receivables loan? That’s a much more common story and in aggregate it’s a much bigger part of the economy, but there is no easy way to teach it and it is more dificult for interested parties to identify a single point of intervention if they want to help that kind of business at scale .
- The venture capital community and social entrepreneurship community are culturally similar, and therefore use a lot of the same vocabulary - They are similarly focused on innovation and abundance. They are both inherently optimistic about risk and individual’s ability to take on tasks that other people would say are impossible. Hell, a lot of them even went to Stanford, MIT or IIT together. This shared culture creates a mistaken impression that there will be a lot of overlap in the two fields, which there really isn’t for the reasons listed above.
- The success stories people use are likely to be the biggest, and the biggest successes are, by their nature, part of the small sliver of companies that were venture fundable. - I’m the one writing this post and if you asked me what my 5 favorite impact investments were, I’d probably mention 3 VC funded companies and a couple of impact VC funds. Why? Because they are the biggest swings and therefore the most fun to talk about. But basing a broad discussion on where entrepreneurs should look for money and where impact investors should place theirs on where the best anecdotes are? That’s crazy.
By now, you are probably asking “What’s the harm in all of this VC talk?” After all, a few ventures do get VC funded and the rest were probably crap anyway, right? Well, I think there are a few reason’s it’s dangerous.
- Wasting time of entrepreneurs - Time for an entrepreneur is a finite resource, an many social ventures that are currently trying to raise VC would be better off pursuing foundation or government grants, crowdfunding, traditional debt or even just stopping fundraising entirely and trying to self fund or bootstrap. And then there are the people who create complex and expensive hybrid legal structures solely so that they can accept venture capital - venture capital that they are never going to receive. People need a better idea of where to effectively spend their time based on what kind of venture they are running.
- Providing the wrong feedback - If one more person tells me “If you can’t reach a million people it’s not worth doing,” I’ll . . . well, I guess I will write about it. We can’t let a very specific set of filters be the first thing aspiring entrepreneurs come into contact with. At best, it will significantly influence which markets they go after and how. At worst, it will lead many otherwise great entrepreneurs to quit. Either way, it reduces the diversity of approaches and diversity of markets being addressed.
- Less focus on providing infrastructure in other areas - There are innovative opportunities in small business lending, credit markets, project finance and other areas for the impact investor, but VC still seems to command a disproportionate share of mindshare with investors. I can’t help but think we’d be slightly further ahead if we could fix this.
So, as Chernyshevsky once said, What is to be done? Well, first off, I want the companies that are appropriate for venture capital and for the impact focused venture funds to keep kicking ass. Nothing in the above screed is an indictment of those for whom the VC model actually works, For the rest, though, I have a few incomplete ideas that I’ll be kicking (and I appreciate any feedback) I think we need:
- Simpler case studies of successful social ventures that did not take venture capital. They need to be presented in a way that new entrepreneurs can see how those examples apply (or don’t apply) to the venture they are starting
- Ways of thinking about confronting big issues at scale through a web of many small ventures rather than one or two big ones
- A brighter light shone on alternative funders that already exist for social entrepreneurs
- A higher risk tolerance among at least some of those existing funders
- A bunch of new investment vehicles that embrace risk and fund innovation but do so with a tool other than venture capital
Well, I definitely went over my time limit today. Hence the proposed solutions being less fleshed out than the problem statement. I guess I’ll work on this more another day and in the meantime, feel free to let me know what you think.