…the market size slide.
My sense is most entrepreneurs feel like they have to have a $1B+ market size for investors to get interested. And, then the more aggressive entrepreneurs, knowing that everyone else has at least a $1B+ market size, come in with the $5B-$10B+ market sizes. The means to arrive at these numbers is usually to take a generous number of possible customers and multiply that times a large spend per customer to equate to the multi-billion dollar “addressable market size“. Others might site 3rd party data sources which is intended to lend credibility to the analysis, but which are largely derived by the same methodology. It’s this approach to market size analysis which I don’t find particularly useful and can generate a false sense of comfort if you actually believe it.
When I’m looking at a prospective investment in a company, here’s how I think about market size:
The first question I ask is how much revenue do the companies that sell principally the same product or service generate today. This is the “current market size“. For example, when we invested in Ensighten in 2012, which started out as a tag management vendor, if you added up all of the revenue (from tag management software) of all of the tag management vendors, the total would have been less than $30M, but with hyper growth. That, in my mind, was the current market size for tag management. It was a small number because tag management was a new market rather than an existing market. Alternatively when we invested in Globaltranz in 2011, which is an Internet freight brokerage, the revenue of all of the companies that broker freight capacity in the US was $127B. It was a much larger current market, but with more moderate growth given the maturity of the industry.
It’s important to establish the current market size because it helps to establish whether the company is going after a new or an existing market. If the current market size is small, such as tag management was two years ago, that’s not a deal killer by definition. It just means you have to develop strong conviction that the market will grow and appreciate the inherent risk with that. Lots of investments fail because a new market doesn’t grow at the scale or pace anticipated. If the current market size is large, but not experiencing hyper growth, such as in the overall freight brokerage industry, that’s also not a deal killer by definition. It just means you have to have a crystal clear rationale on why market spend will shift towards a new upstart rather than stay with the incumbent. These are important and fundamentally different questions.
The next question I then ask on market size when evaluating a company is how much revenue, in aggregate, will all of the companies that sell principally the same product or service generate in the future (5-10 years from now). I think of this as the “attainable market size“. When you define a market size by the aggregate revenue of the competitors, it immediately juxtaposes market size against market leadership. For example, if an entrepreneur wants to say their company will have a large multi-billion dollar attainable market (e.g. $5B in 5 years), but their company “only” projects $50M in revenue in 5 years, then it begs the question why 99% of the spend in the market did not go their way. You can claim a large attainable market, but it becomes harder to claim market leadership with little market share. Alternatively, if an entrepreneur wants to call their company a market leader by generating $50M of revenue of a $200M attainable market, then it begs the question of whether the product or service has that much value if the eventual attainable market isn’t that large. It forces everyone to think through the realities of how their market will evolve and how their company’s competitive position will evolve alongside that.
Today, Ensighten is one of the fastest growing SaaS companies in the country and Globaltranz is one of the fastest growing freight brokerages in the country. Despite coming from diametrically different current market sizes when we invested, in both cases, the attainable market has turned out to be large and both have established strong leadership positions within those markets. We’ve been fortunate that the stars have aligned for both.
In summary, my biggest issue with the bloated addressable market slides we see day in and day out in company pitches, is we all know that when we fast forward 5-10 years, almost in all cases, the actual aggregate revenue generated by the companies in those markets will not come close to equaling the addressable market size. In other words, the attainable market almost always turns out to be a small fraction of the addressable market. This tells me that the addressable market size slide is too theoretical to actually be useful and should have little or no bearing on an investment decision. For this reason, in my opinion, it is generally the least useful slide in the pitch deck.
Nearly every company pitch I’ve seen covers the topic of market size. And, in every serious internal discussion about a prospective investment, we talk about market size as well. Usually, the primary topic of discussion in both contexts is the size of the market boiled down to an actual dollar figure. Entrepreneurs and investors alike will come up with a very detailed, methodical way, to define the size of the market opportunity. While that’s fine and worth doing, comparatively less time is spent on the topic of whether the market is an existing or a new market – and the associated risks and opportunities related to that. And, the latter topic can be more indicative of the prospects of the investment than the former analysis on market size, itself.
An existing market is a market where customers already spend money buying more or less the same product or service that a given company is selling. That product or service may be delivered or sold in a different way, but at the end of the day, the customer that you’re targeting is already spending money on substantially the same thing. What’s an example of this? Care.com is an online marketplace to find babysitters. People already spend money on babysitters, Care.com is just helping them to find babysitters more easily. This is an existing market. Chewy.com is an e-commerce company for pet food. Their target customers already spend money on pet food. Again, an existing market. Amazon started out selling books, which people already buy. Uber started out replacing taxi services, which people already buy. Globaltranz is an online freight broker for trucking capacity, which companies already buy to ship goods. Square is going after the existing market of credit card processing. Prosper is a peer-to-peer lender, which sounds like a new market, but they’re really selling unsecured consumer loans, which consumers have been procuring for ages. These are all existing markets.
A new market is a market where the end product or service is new – in other words there isn’t really existing demand, but there could be. SpaceX just closed a big financing last week – space travel is a new market for certain. When Google first came out, it was targeting a new market of online search and search engine marketing. There really wasn’t much of an existing market in search at that time, outside of maybe Yahoo and Altavista. Everything related to drones is a new market. Twitter ushered in a new market that had never existed of micro-publishing. Many location-based applications on smart phones (though there are exceptions) are more than likely to be a new market given the technology didn’t exist to do it until the smart phone revolution. Even a lot of the SaaS companies are selling to mid-market companies that never spent money on traditional software applications before therefore making it a new market in practice. New markets abound in the world of venture-backed companies.
When investors and entrepreneurs go after a truly new market – the advantage is usually there are not entrenched competitors so if the market materializes as quickly and dramatically as they hope, market leadership is more attainable. In addition, new markets can grow exceptionally quickly, far faster than existing markets – and a rising tide can lift all boats as the saying goes. So, there is no doubt that you can win and win big in a new market. That being said, the risk one takes with a new market actually emerging is often profoundly underestimated. My guess is the most common reason companies targeting new markets fail is primarily because the market never really emerges at the pace and size that the company and investors expected. You can have great management, a great product, excellent sales and marketing, but if the market isn’t there, then it’s easy for a company to get stuck. It’s hard to have good product/market fit, when there’s no market after all.
When investors and entrepreneurs go after an existing market – the advantage is there’s little or no market risk. You can go into an investment knowing exactly how big the market is, that customers care about the product, that there’s already a product/market fit and customers derive value from what they’re buying. The value of that can’t be overstated. But, the risk of existing markets is there are already companies serving those customers so there is entrenched competition. If existing competitors have substantial customer loyalty or capital, they can be excessively difficult to displace. A new company entering an existing market has to not just be a little bit better, but meaningfully better than existing means of procuring that product to really win. That can be a tall order, but if that competitive distinction exists, there’s a high probability you’re onto a compelling opportunity and success is far more predictable than most companies targeting new markets.
A few companies dominate existing markets while simultaneously opening new markets. A great example of this is Uber. On the one hand, I said that Uber is going after the existing market of taxi services. But, I also said most location-based smart phone apps, which Uber is, are going after new markets. In this example, this is not a contradiction because both are true. Uber started out by displacing the $11B taxi services market. But, why is the company worth $40B? Uber has become so convenient, that they have changed the behavior of how people travel – so they’ve opened a new market as well that may be bigger than the existing taxi market. Certain studies say that Uber’s revenue in the Bay Area is multiples larger than the entire taxi market in the region – which suggests they have both won an existing market and opened up a large new market. That’s a beautiful thing.
So, next time you see a pitch or make a pitch that says the market size is $1 billion – note that not all markets of comparable size are created equal. And, the risks and opportunities of existing and new markets can be substantially different.
Here are some of the more prominent technology prediction lists for 2015. Not surprising themes: security, IoT/wearables, healthcare IT. Somewhat surprising themes: 3d printing. Missing in action: bitcoin, marketplaces, etc.
- Computing Everywhere
- Internet of Things
- 3D Printing
- Advanced, Pervasive, and Invisible Analytics
- Context-Rich Systems
- Smart Machines
- Cloud/Client Computing
- Software-Defined Applications and Infrastructure
- Web-Scale IT
- Risk-Based Security and Self-Protection
Business Insider: 14 Tech Trends That Will Make Someone Billions of Dollars Next Year
- Companies will buy massive hacker insurance policies
- Smartwatches will win over fitness bands
- The Apple watch will “dominate”
- Everyday things will get a chip and be accessible from the Internet
- Employees will hang out together online
- Employees will form fitness cults
- Fingerprints will replace passwords
- Charts and graphs will rule
- Hadoop will get even bigger
- 3D printers will grow up
- Cloud computing will become the norm
- Healthcare will become an app
- Digital marketing budgets will explode
- Overall, businesses will spend more on technology than ever
Wall Street Journal: Ten Market Disruptors For 2015
- Financial Services Disruptor: Mobile Technology
- Technology Disruptor: Wearables
- Consumer Discretionary Disruptor: Digitalization
- Energy Disruptor: US Oil Exports
- Industrials Disruptor: Oil Prices
- Consumer Staples Disruptor: Demographics
- Healthcare Disruptor: The Supreme Court
- Materials Disruptor: The Chinese Economy
- Telecom Disruptor: REITs
- Utilities Disruptor: Congressional Action on the EPA
- New technologies will account for 100% of growth in telecom IT
- Wireless data, the largest segment of the telecom sector, will also be the fastest growing
- Phablets will be the mobile growth engine
- New partnerships to redraw cloud computing’s landscape
- Data-as-a-Service will drive new big data supply chains
- The IoT will continue to rapidly expand the traditional IT industry
- Cloud service providers will become the new data center, redrawing the IT landscape
- Rapid expansion of industry-specific digital platforms
- Adoption of new security and printing innovations
- More China, everywhere
IBM: Next Five in Five
- You’ll beam up friends in 3-D
- Batteries will breathe air to power our devices
- You won’t need to be a scientist to save the planet
- Your commute will be personalized
- Computers will help energize your city
- Time is right for wearable devices
- Internet of Anything becoming all-encompassing
- Building security into software design
- The age of software-designed anything (SDx)
- Cloud security and privacy concerns grow
- 3d printing poised for takeoff
- Telling the future with predictive analytics
- Security considerations for embedded computing
- Real growth in augmented reality applications
- Continuous digital health
- Wearables for the ear
- Sweat sensor strips
- Smartphone case devices
- Prescription-only apps
- Healthier lighting
It’s only taken 16 years in the investment business for me to discover my favorite value proposition. And, I admit, it’s a boring selection. First, some context. A value proposition is the value a business offers its customer such that the customer decides to buy that companies’ product. To be fair, there are many categories of value props that all have great merit and can be the basis of building a valuable company. So, one is not by definition greater than another. But, we all have our predispositions, and I have a positive predisposition for one value prop in particular. I favor this value prop because, if it is structurally sustainable, it can be equally transformative as it is predictable – and those usually don’t go hand in hand.
So, without further ado, my favorite value proposition is offering a customer the opportunity to buy something they already buy, but at a structurally lower price. Yes, if the options are better, faster or cheaper – I like cheaper. Why do I like this value prop? Because there’s little fundamental market risk. If a customer is already buying a product, then you know they want that product and that product benefits them in some way. You know they are ready to buy it now because, well, they already buy it now – so you’re not taking market timing risk. Whether there’s even a market or whether the market is here now is a profoundly underestimated risk undertaken by many emerging technology companies. And, in this example, you meaningfully mitigate those risks.
Then you layer on top of a large existing market, a very clear reason to buy with you – you’re selling to them the very thing they already buy, for a lower price. Who doesn’t want that?
The key to a company with lower price as its fundamental value prop being a good investment, is their basis for having a lower price must be structurally defensible and sustainable. It can’t be that they’re doing exactly the same thing as their competitors, just charging a lower price. That’s the definition of unsustainable. There is usually some disruption in the supply chain or some technology innovation, which they can take advantage of above and beyond their competitors which is why they’re able to offer sustainably lower prices to their customers and quickly take market share of a large existing market.
When I look at our current and historical portfolio, where the ingredients of a structurally sustainable lower price value proposition is true, those companies have an inordinate propensity to be worth $1B+ in enterprise value. Xoom went public last year by offering online global money remittance at a lower price than folks like Western Union because they have an Internet front-end. Prosper offers loans to consumers at a lower interest rate because they use the Internet to cut out the banks who take a margin in the normal lending process. Globaltranz offers businesses access to trucking capacity at a much lower price due to the efficiency of their agent network, technology and buying capacity. Cortera is offering business credit data at a much lower cost than Dun & Bradstreet because of its proprietary data acquisition platform. And Chewy offers pet owners high quality pet food at a lower price than bricks and mortar competitors because they have no bricks and mortar. These companies are all taking significant steps in transforming their respective industries on the core value proposition of lower price.
While I can easily fall in love with companies that have other value propositions such as convenience, selection, revenue enhancement, service, etc., lower price is a tried and true value prop which while admittedly boring, can be extremely effective if it’s sustainable.
A couple of years ago, I switched off the radio during my daily commute and turned on audio books (through Audible). I’m usually in the car about an hour a day, and a typical book is about 10 hours. So, one book a month is more than reasonable. Here are my top 15 favorite audio books based on a mix of entertainment value, substance, and pure enjoyment. There’s not a huge delta between #1 and #15 – these are all worthwhile books to listen to.
- Unbroken, by Laura Hillenbrand: An epic story of survival that made me wish my commute wouldn’t end.
- The Last Lecture, by Randy Jeffrey: I won’t lie – shed some tears during this one.
- Battle Hymn of the Tiger Mother, by Amy Chua: Hilarious cultural memoir, not how-to parenting book.
- No Easy Day, by Matt Bissonnette and Kevin Maurer: I felt like I was watching an action movie blockbuster.
- The Everything Store, by Brad Stone: A total page turner about Jeff Bezos and the Amazon.com story.
- A Walk in the Woods, by Bill Bryson: I had no idea a book about a hike could be so entertaining and funny.
- Crazy Love, by Francis Chan: A great reminder about what’s at the heart of the Gospel.
- Bossy Pants, by Tina Fey: This book, read by Fey, is laugh out loud funny. Her comedy is genius.
- How to Win Friends & Influence People, by Dale Carnegie: Classic book with principles that stand the test of time.
- Radical, by David Platt: A challenging and stark look at the Bible in light of the American dream.
- Lean In, by Sheryl Sandberg: Some really prescient observations that make it a worthwhile read.
- The Locust Effect, by Gary Haugen and Victor Boutros: Powerful book revealing how violence impacts the poor.
- Quiet, by Susan Cain: An eye-opening book on introverts, that all extroverts should read.
- Money, Possessions, and Eternity, by Randy Alcorn: A biblical framework about money and giving.
- Francona, by Dan Shaughnessy: I love “behind the scenes” books. This being about the Red Sox was a bonus.
I love meeting with new companies. To me, it’s the oxygen of this business and the most energizing aspect of the job. That being said, the one thing that can take the energy right out of an introductory meeting is the obligatory 20-40 slide company pitch deck that drags on and on. Personally, I prefer a more conversational meeting in which slides are used to launch conversations, rather than claim the entire conversation, about various important topics relevant to the business. Therefore, I thought I’d provide a general framework for a succinct 10-slide pitch deck that should be more than sufficient for an introductory investor meeting. Keep in mind that given Volition is a technology growth equity investor, this is more geared towards companies with some revenue and customers rather than a pure start-up. But, I do think there are principles that are portable across different stages.
The 10 Slide Pitch Deck (in no particular order):
1. The Problem Statement. This is the problem the company solves. What is the problem, why is it such a high priority for whoever has it? Why does this problem have to get solved?
2. How You Solve The Problem. This gets to what the company does. Why do you have unique knowledge of the problem, how do you solve the problem, and why is that a differentiated / defensible approach?
3. The Customer. This gets to who the target customer is specifically. The more detailed and segmented this is, the more credible I find it to be. I’d rather hear, “The chief compliance officer at hedge funds with $100M+ in assets” than “financial services companies”, as an example. Then provide examples of actual customers. How many of those target customers out there actually have the problem you articulated?
4. The Value to the Customer. This gets to the return on investment. How much does the customer have to pay (what is the pricing model), and why is it clearly worth it to them to pay it.
5. Actual Use Cases. Now that you’ve established the problem, solution and value in concept – let’s talk about it in reality. If there’s only one primary use case, given an example of a real customer with a prototypical use case. If there are 2 or 3 common use cases, let’s hear example of all of those.
6. The Product. This can go anywhere in the presentation, but if it’s at this point, I’m probably more than eager to see the product in action. A live demo is always best.
7. Competitive Position. Who else out there is also trying to solve this problem, and why are you better positioned to succeed? Why are you going to win your segment? This is a great chance to talk about win-rates against competition, etc.
8. Financial Overview. A simple slide with historical and projected (to the degree you have them) income statement, balance sheet, and cash flows. A couple of bullets on financing history and ownership breakdown are helpful.
9. Other Key Metrics. This is your opportunity to brag with the actual data that you consider leading indicators for your business. Maybe it’s retention rate, lifetime value/CAC, upsell dynamics, customer or transactional growth, etc.
10. Management Team. Who are the people behind this company? Don’t just put logos of past companies, but titles/roles, companies, and key achievements for each exec at their prior companies. Also worth noting if there are any key hires you want to make.
Every company is different, but hopefully this provides a helpful framework to organize a simple pitch deck. Don’t feel the need to address every sub-question with actual content on the slide. You can always talk to the details during the presentation. Often times, less is more when it comes to slide content.
My suggestion in terms of order is to start with the strongest aspect of the company. If the management team is the strength, lead with it. If the financial performance is the strength, by all means, lead with that. If you’ve got a breakthrough product, start with a demo. But, creating momentum in the meeting right out of the gate is always a good idea.
I’m probably missing something important, but hopefully this is helpful in getting readers pointed in the right direction.
I have to shake my head in disappointment at the headlines this past week in the world of finance and money. It makes me wonder why I even periodically come to the defense of the industry when in weeks like this, it seems like a fruitless exercise. Here’s a tasting of this past week:
1. LIBOR manipulation settlements. LIBOR is the benchmark interest rate that impacts hundreds of trillions of dollars worth of financial contracts. Everything from mortgages, student loans, car loans, derivative contracts, and many others are pegged to LIBOR. LIBOR is calculated daily based on the submissions of some of the largest banks in the world. And, in 2005-2009, it was apparently manipulated by some those contributing banks for their own personal gain. This week, one of the chief offenders, Barclays, reached another settlement with a regulators over their behavior in this period. How is it possible that one of the most important metrics in the global finance industry is manipulated over many years? I guess it’s entirely possible.
2. The stock market is “rigged” – according to author Michael Lewis. His claim is that high frequency traders front-run stock trades all day and every day so that both institutional and retail investors alike pay what amounts to artificially expensive and manipulated prices on routine stock trades. This is apparently legal, for now. But, its potentially wide-ranging impact on the US stock market is coming to light.
3. Alleged IRS corruption hearings proceed. Claims of the IRS abusing power are came back into the forefront this week. This has unfortunately become a purely partisan issue. But, further information about the IRS suggests there’s potentially a bigger issue at hand than even what’s presently going through the House.
4. SAC Capital pays largest insider trading settlement in history. $1.8 billion is what it takes to settle one of the longest running, widest ranging insider trading scandals in history.
So, in one week, the headlines are about THE benchmark interest rate being manipulated for years, the entire stock market being rigged, the largest taxing authority in the US potentially corrupt, and the largest ever insider trading investigation being settled. Clearly, this has not been a proud week for the world of finance. Let’s hope better things are in store next week.
Yesterday, I had the unexpected opportunity to speak with a former executive of a major fruit and produce company. I always find it really fun to talk with someone about something I know nothing about – and in this case, the topic was bananas. So, I asked him about the economics of bananas, and this is what he said:
- Depending on location, retail price is ~$0.70 per pound.
- That retailer buys them by the box which is 40 pounds. So $28 is the retail revenue per box.
- The producer charges the retailer $12 for the box.
- The retailer also incurs additional costs for 7-days of storage and refrigeration at 56 degrees for ripening.
- The producer pays $10-$11 in costs for that box ($6-$7 for pick and pack, $1 for packaging, $2.50 for shipping, and $1 of marketing/sales overhead)
- Within a few hours of picking, the bananas are stored and shipped in refrigerated containers at 56 degrees. Shipping can take 7+ days.
- The picker probably makes ~$12/day and is paid per stem picked.
It’s always interesting to look at a supply chain of a product and decipher where in the chain you’d want to be. In this case, I’m happy to be the one eating the banana.
This post is prompted by a number of conversations I’ve had over the past several weeks with friends and colleagues in the technology and investment industries. As year-end approaches, the primary topic of these discussions has been how they should approach compensation, bonus, and promotion discussions in their respective situations. For the most part, we’re in a pretty good cycle. The stock market is up. The IPO window is open. Technology is hot. Things are good. For the most part, these specific individuals can make a strong claim that they have performed really well. And, for the most part, they come with the mentality that they expect to get rewarded generously for their performance. At the highest level, I don’t have any issue with this point of view.
That being said, my guidance in these conversations is rarely about money, but about mentality.
First and foremost, we need to remember that it’s easy in the good times for us to take too much credit for our success. While undoubtedly we may deserve a lot of credit, in reality, our successes are probably dependent on other factors as well. Our success probably begins with someone giving us the opportunity to be successful, even when it might not have been obvious that we deserved that opportunity. There are probably many people around us who have contributed to that success – whether professional colleagues, family and friends that supported us, or that one person whose vote of confidence made all the difference. Our professional success almost always has some dependency on the assets of the company that we work at – assets which we may have largely inherited. Especially in the investment business, our success is also influenced by external factors completely out of our control like economic growth, Fed policy, the stock market, and consumer sentiment. Before we claim full credit for our success and expect to get paid accordingly, it’s important to be grounded in the reality that our success is never solely our own. It would be a healthy exercise to thank some of the individuals that helped us achieve our successes this year, before going into some of these compensation discussions, to help get into the right frame of mind.
Secondly, we need to maintain perspective. In the good times, especially in this business, it’s important to remember that bad times are inevitable. None of us will have careers without hard times. Therefore, we need to remember to represent ourselves during the good times in a way that we will still be proud of and not regret when the bad times come. If we claim all of the credit and operate with a sense of entitlement during the good times, it’s very easy to erode the foundation of support from longstanding relationships that we all need to sustain us through the bad times. Once we lose that support, we have lost something that is far more valuable than any near-term compensation. It’s hard to see that when we’re in the moment, but it’s the most obvious observation in hindsight.
Finally, we need to remember that in the long run, it’s not money that will bring the most happiness. The fulfillment of increased income is typically a fleeting fulfillment. It’s often other aspects of a job that drive a person’s joy in their careers. It’s working with people we enjoy and respect. It’s being in a position to learn and grow as a person. It’s about being part of something we value. It’s about having fun and contributing. It’s about being able to achieve professionally while still being able to be the person we want to be at home and with our families. If we’re fortunate enough to be in a situation where all of the intangibles line up for our enduring professional fulfillment, it would be unfortunate to compromise that over something like money that will never quite fulfill us.
That being said, this doesn’t excuse people making compensation decisions from being generous with the talented people around them. They absolutely should be. This is more of a reminder for us not to lose ourselves in near-term financial decisions when over the long-run, so many other things matter more.
After hearing dozens of company pitches over the last week or so, I noticed a common theme with how CEOs told the story of their business. They typically expended great energy explaining what their company’s product or service does. They will talk about features and functionality that no other player in the market has. Where appropriate, they will dive into a demo to show exactly how their product is such a game changer. While this is important, in some respects, I think it is putting the cart before the horse.
Personally speaking, I think a good story for a business starts with the problem that is being solved. It’s hard to fall in love with a product, if you don’t believe it solves a big problem. A problem worth solving is one that is a high priority issue for the one experiencing it. It is a problem that is experienced to a similarly high degree, by a large and common constituency. It is also a problem that people are willing to pay, and sometimes pay substantially, to resolve.
In every company pitch, the CEO will try to tell me what the company does. But, you may be surprised that in many pitches, the CEO may neglect to really spend time articulating the problem their company solves. Sometimes when I ask very directly what problem it is that they solve, the response will be a description of product functionality, not in fact a problem. This to me is a telltale sign that the company was started to create functionality, not necessarily to solve an important problem.
If we were ever to get into due diligence on a company, we will likely spend as much time validating the magnitude and priority of the problem the company solves as we do on the merits of the product. If we love your product, but are unconvinced on the problem it solves – we are unlikely to get across the finish line on an investment. The reality is a company can control how a product evolves and develops. But, the problem is what it is – so choosing the right problem to solve is critical for the ultimate success of any business.
So my simple advice is that when you tell the story of your business, start with the problem. If you convince people of the problem your company is trying to solve, you have laid the foundation for them to love what your company does.