Last month, I announced that we were shutting down SmarterCloud, our cybersecurity startup. I gave a few lessons learned, including that raising money from venture capitalists is a lagging indicator, not a leading one. By the time you have raised the money, you have already accomplished quite a lot.
But I also want to expand on the topic of money in startups by developing a “framework” for how startups grow and maintain their competitive advantage. I should just state this up front: MBAs love frameworks. For example, right now I am taking a class from Marianne Bertrand entitled “The Firm and the Non-Market Environment” that tries to lay out the interactions between large companies and non-market forces like governments and NGOs. In it, we use the framework of “Pluralism” to better understand why firms make the choices that they make. Basically, this means that when we are reading through a case study, we reference the basic framework to predict what will happen, and what the costs and benefits of those decisions are.
So, in the case of SmarterCloud, I wanted to develop a framework that explained why we failed to raise money. As I mentioned, Amazon released a competitor in August that provided basic DLP for their platform, which caused multiple VCs to express hesitation at our prospects. They kept asking, “Why aren’t you just building something and getting it out there?” To this I responded, “I need money to build a team to build the product.” The discussion was circular, and ultimately, we missed the fundraise.
Why did these conversations fall flat and the fundraising process fail for us? Well, to explain that, I think the framework that is most applicable is what I would call the “Time Is (Not) Money”(tm) framework. I always assumed that our limiting factor was money. We needed money from venture capitalists to build the team to build the product. Without that, we could not build a kickass product and dominate the market. However, I was wrong. We were playing in an existing market niche against massive companies that had their sights set on building adequate versions of what we wanted to build. Since cybersecurity is mostly a game of incremental advancements, major technological breakthroughs rarely win the game. It is a low-patent, highly-competitive, low-margin business. Contrast this with biotechnology. That is a high-patent, low-competition, ultra-high-margin business. Scientific inventions fueled by massive R&D budgets are rewarded well in that industry.
So, when starting your startup, ask yourself an honest question: do I really need the money? If you need massive amounts of money, you should be converting that into a defensible moat. This is why Uber needed massive amounts of money, because it essentially converted that liquid capital into “network capital” that allowed them to dominate specific regions through aggressive recruitment and promotion. This is similar to a company like Oculus, which was developing new hardware and multiple patented inventions to leapfrog existing technology and create a whole new space. Contrast that with a company like StitchFix. On the podcast “How I Built This”, Katrina Lake details how she used manual methods (think Excel and Google Sheets) to bootstrap her first customers and get instant feedback. At the time, home delivery kits were an extremely popular segment, and the race was on to be the “Blue Apron of X”. So, she was racing against time and although raising money was a part of the journey, the focus had to be heads-down product development.