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The mythical startup: pinch me

“While you are still searching for your business model, your company is worthless”
Steve Blank, Silicon Valley serial entrepreneur

Rowan Simpson

In 2006 Trade Me was sold to Fairfax for $750 million. At the time, some people thought that Sam Morgan had somehow tricked David Kirk into adding an extra zero to the price tag.

Why was Fairfax prepared to pay this much for a website? In simple terms, the price was a multiple of the earnings and the trajectory the business was on. What many people failed to appreciate was the amount of free cash flow that a business like Trade Me generates. Trade Me now makes around $2 million per week, which makes that price back in 2006 seem much more reasonable.

So, what do you need to do to attract the interest of an investor or acquirer for your venture?

You can start with two basic motivating emotions:

  • Fear
  • Greed

In other words, you need to have new (and often more importantly) growing revenues, or you need to be threatening existing revenues.

This series of posts expands on ‘The Mythical Startup’ in Idealog #33

One Man Band
Eureka
Inventor In A Shed
The Firehose
Pinch Me!
Mojito Island
All Together Now

It is also cross-posted on Rowan Simpson’s blog

The good news for founders is that the strategy you should follow in either case is the same: build momentum, prove you can sell repeatedly and create a business that makes money. If you do that, you will have no problem selling the company or attracting investment if and when you decide that you want to.

And in the meantime, don’t get too far ahead of yourself. As Seth Godin explains, there are two possible reasons why people are not prepared to pay you what you think you're worth:

  1. People don't know what you're worth; or
  2. You're not currently worth as much as you believe.

So, get going and build something that makes it more obvious that you're the next big thing and at the same time lower your valuation expectations and see if that makes a difference.

In 1999 Trade Me took on $100,000 of investment, and in return the investors got 50 percent of the company. In the end it was a good deal for both sides, and for me too as Sam used some of that money to start to build a team.

These days most of the people I talk to think just their idea alone is worth more like a million dollars. The vast majority have no revenues to speak of yet, and no idea what it will really cost to get to a point where they do, and therefore no basis at all to put this sort of valuation on the business. Worse, when you really dig into it, most know that what they have isn’t really worth that much yet, but they have convinced themselves (or been convinced by their advisors) that they can somehow trick somebody into investing anyway.

This is crazy. In my opinion, you should choose someone you want to work with, be honest with them (for example if somebody asks for your long-term revenue projections, tell them you don’t and can’t possibly know yet), give them enough equity to make it material for them and get them to help you push it along however they can. For both investors and founders, success comes from creating a great business—not by screwing every last cent out of a funding round.

Whatever you do, don’t be a want-repreneur, sitting around waiting for investment before you even get started. Chasing money from outsiders before you have a working product is probably not a good use of your time anyway: the valuation you’ll be able to get at this stage is far less than if you fund yourself to at least the point where you have something you can demonstrate that shows the potential, and allows you to understand the likely demand. Investors are mostly impressed by scrappy execution.

This often creates a catch-22: you need investment before you can afford to leave your job, but you need to leave your job before investors will take you seriously. I don’t have an easy solution, I’m afraid, but know that the best founders somehow find a way to make it happen.