Thinking About Thinking

When investors and entrepreneurs talk about “burn rate”, they’re generally referring to the amount of cash a company consumes through its normal operations every month.  For many venture-backed companies, they have a negative burn rate meaning that they are expending more cash than they are collecting.  The obvious rationale to burn cash is that by spending more now, your company will be able to grow revenue faster, acquire market share and separate from the competition. 

Investors will talk about “high burn rate” companies, “capital efficient” companies, companies that are “burning too much”, etc.  But, how does this translate to hard numbers?  Here’s my rule of thumb:

• Cash Flow Positive:  If the company is growing and cash flow positive – congratulations.  The model has been proven, you never have to raise capital again. 
• $0–$250k burn rate:  This is still a “capital efficient” company – a $10M round could last 3–4 years which is an eternity.
• $250k-$500k burn rate:  This is average.  Many young venture-backed companies are in this zone.  A $10M round lasts 1.5–2.0 years. 
• $500k-$750k burn rate:  This is on the high side.  You could be accused of “burning too much”.  A $10M round lasts a 1.0–1.5 years.  That’s a tight timeframe to create value.
• $750k-$1M burn rate:  This is a “high burn rate” company.  A $10M round doesn’t even last a year.  There’s no room for error.
• $1M-$2M burn rate: Many investors won’t touch a company burning this much.  The exception is if the spend is due to aggressive marketing against a known acquisition model that is profitable against the lifetime value of a customer. 
• $2M+ burn rate: Most investors will run like the wind. 

While some sectors such as biotech, cleantech and communications services don’t follow these norms – it’s a pretty good benchmark for most emerging technology companies.

There used to be a single playbook in the NFL built around a simple philosophy – running and defense wins championships.  The entire operating approach of teams was centered on this singular belief.  The prototypical example of this was the 1986 Chicago Bears – think Buddy Ryan-coached defense with Mike Singletary and William “The Refrigerator” Perry.  Think about a running game led by none other than Walter Payton.  That was a dominant team with the right playbook for that era.

But the rules of the NFL have changed – literally.  The rules have slowly been re-engineered in the league to preferentially protect wide receivers and quarterbacks.  Hit a quarterback the wrong way, and you’ll get a penalty.  Touch a wide receiver after 5 yards, and you’ll get a penalty.  Literally, the rules have changed, to support a more exciting brand of football that revolves around the passing game.  It’s no wonder that four of the best teams in the league – Indianapolis Colts, New Orleans Saints, New England Patriots and San Diego Chargers are pass first teams led by quarterbacks Peyton Manning, Drew Brees, Tom Brady, and Philip Rivers, respectively. 

Over the last several years, some NFL teams have learned a new playbook because the rules of the game have changed.  Others have not adapted.  I have always thought that this was a great analogy for the technology landscape and the executives that operate in this world.  I’d argue that in the world of venture-backed technology companies, the rules of the game change dramatically faster than in the NFL.  That puts a burden on executives living in this world to adapt. 

Beware of the “single playbook” executive.  They have one blueprint and they apply that blueprint for any situation they’re in.  They use that blueprint because they’ve had success with it – maybe great success with it.  They bring in the same people that were succesful with that blueprint.  But, it’s dangerous to be a single playbook executive if the rules of the game are changing all around you.  Therein lies the lesson I think that executives in venture-backed companies can learn from NFL coaches– your playbook has to take into account the changing rules of the game. 

Now, don’t get me wrong.  I, like many VCs, love to back successful executives who have a proven and successful playbook.  But, there is a reason that many new entrepreneurs are finding great success without a proven historical playbook– it’s because their playbooks are being built for the rules of the game as it stands today.  Successful venture-backed executives have to adapt their playbook or they should beware of the up and coming executives who don’t care how things were done before and only care about how to win today. 

I’ve had the opportunity to invest in two companies that I’d describe as having a “potential single point of failure”.  I chose to invest in one – Verid.  And decided, unfortunately, to pass on another – Mint.  Verid was ultimately sold to EMC/RSA less than two years after our investment for several multiples of our capital.  And Mint was recently acquired by Intuit.  I thought it was interesting how they were both sold for similar exit values given that both had the uncommon distinction of having a point of single dependency.  Here are their stories and a couple thoughts:

Verid provides knowledge-based authentication services.  You’ve probably run into the service if you’ve ever tried to open an account online and been prompted to answer questions about yourself to prove that you are who you say you are.  Verid’s potential single point of failure?  Their entire authentication service was built leveraging a single data aggregator on the back-end.  If that data provider decided not to work with them one day, there would be no questions and no answers in this authentication service.  Verid’s entire service depended on a single data contract. 

Mint provides an online financial management service for consumers.  They help you manage and identify ways to save money through one online console that sees across all of your financial accounts.  Mint’s potential single point of failure?  They rely on Yodlee as the account aggregator to bring together all of the data from the different financial accounts for a consumer.  Absent Yodlee, there would be no data in Mint’s service, which means there would be no service at all.  Mint’s entire service depended on a single technology relationship.

While I don’t know Mint’s situation, I suspect both companies mitigated this risk by signing long-term deals with their respective partners.  I imagine both were among the largest customers for their respective partners and felt like they had some leverage in the other direction.  Nonetheless, I suspect both companies wanted to hedge their bets by cultivating other partners, but ultimately were growing too fast to seriously contemplate using another platform.  I also imagine that both sold to their respective acquirers with one eye looking at an attractive valuation and the other eye looking at a substantial unknown after the terminal year of their partner contracts. 

Verid and Mint both deliver superb products and ended up being great investments for their investors.  Both probably could not have been huge companies without mitigating that potential single point of failure.  But, both showed that despite that issue, with astute management, you can still have a very successful outcome.