Why Founders Shouldn't Think Like Investors

They measured 60 times, cut once. The cut didn't go well, and some were like, "Oh, do I measure 60 more?" Like, [Music] what? All right, this is Dalton plus Michael, and today we're going to talk about why Founders shouldn't think like VCs. Shocking! I would have never imagined we had this opinion, so maybe we should start with what is thinking like a VC? How does a VC, how are they trained to think?

So, let's break this down. I think to start with, when we say VC, we don't literally just mean venture capitalist. This should include management consultants, yes, banker investment banking, people that work at hedge funds, people that work in private equity. There's a whole host of jobs.

The people in these jobs train you to do a lot of market sizing, to build a bunch of PowerPoints, yes, right? I mean, that's a job — to analyze fundraising trends, to do market analysis, to read surveys about the market, yes. Again, experts, you guys talk to networks, you pay a lot of attention to the stock market, market multiples, other things happening in the M&A market. It's an entire framework of thinking of small companies as if they were big companies and using these large company metrics and analysis to apply to them.

And to be clear, for this video, if you're in those industries, this is a great way to think. We in no way are suggesting — yeah, these are great tools. If your job is to be an investment banker, you should think like an investment banker, yeah, right? Public market investor should think like a public market investor, right?

Yes, however, what we have noticed is that this type of thinking, either because these founders have worked in these industries or been exposed to these thoughts, yes, brings this framework to getting their first startup idea and trying to get a first customer, right? Yes. And this is a problem. I think that we see over and over again where it's almost like to us twisted. You start having conversation with the founder, and you'll actually feel like you're talking to an investor, to a VC, and you're like, "But what about your passion? Like, what's your opinion? Like, what do you care about?" And it's all kind of like contrived almost; you could have extracted it from Twitter.

Yeah, and it's confusing. It's like I didn't hear any of your opinions. I don't think. And we've just been talking for 20 minutes now. An example that I notice a lot in a YC interview is they want to present a PowerPoint deck or a slide deck, yeah?

And the way they describe the company is the way you would describe a very large company, yes. But then when you're like, "Well, do you have any customers?" No. And so they have 15 slides or they want to spend a lot of time talking about the market opportunity, but there's actually nothing whatsoever in terms of traction, competitive analysis, great competitive analysis slide. So everyone listening has got to ask, "Well, aren't we VCs?" Right? Like, isn't this how a YC partner would think when reading an application or conducting interviews?

I think that's an excellent point. Here's the facts. When we are reading applications and doing interviews, we are investing very, very, very early, and we've been trained on what matters and what doesn't matter. And so let's be real; what matters is does your idea make any sense? Yeah, any sense? Do you know anything about it? Yes. Do you have the tech skills to build the thing or anything — anything basically? And can you get any customers? Yes. It's almost — it's so basic, it shocks people.

What we are looking for is very basic stuff. Well, and I think what's interesting is that when we try to be smarter, we make mistakes, correct? When we try to be smart about markets or when we try to be smart about comps, we make mistakes. Because one, we haven't studied those markets closely, and two, because startups change — they pivot, they find new opportunities, technology changes, time changes.

Well, think about it. When we make an investment, often it does not become a big company for at least 10 years, and so if you're trying to do market analysis and market trends for an investment that won't become big for a decade later, it's kind of flawed analysis versus if you're doing analysis of, you know, new IPOs coming — yeah, you're much closer to that coming to market.

And so I'm just arguing this is completely valid analysis, but that is not useful when applied to a startup with no customers, with no product, that's not even sure what they should be working on. No, these frameworks are not necessarily helpful; they're not the most helpful.

So why do founders do this? Like, what's going on in a founder's head that gets them to think this is how I should assess an opportunity? This is how I should figure out whether I work on this idea or not? Yep, is using these tools. What's changed? Why is this far more common now?

Well, something I noticed when we were founders is there wasn't access into the mind of investors very much. No, a lot of their appeal was how elusive they were — like behind closed doors, you had to be special to get access to them. And so a funny thing that has happened is there's now so much content marketing from investors. Again, not nearly bad, and again, we are acknowledging this is a form of marketing, of course, of course. Yeah.

But you now hear a lot more about market analysis and market opportunities. In addition, there's all of these things for college students in post-college of programs, yes, startup classes, startup classes. And they tend to be taught by non-founders; they tend to be taught by investors. And a lot of what you learn is about how to pitch, how to do market analysis, how to identify ideas via market trends, what's a good idea, right?

And so if you go to classes at your university or, you know, wherever you're encountering this stuff, if the folks — you should ask yourself if the folks teaching this have not had much actual startup experience, where they were the founder who had to do the zero to one, yeah, you might — you know, most likely this is coming. This is a VC mentality bit of advice, right? They're probably teaching you how to be an investor, which is not, you know, fair.

Yeah, like, you know, probably those tools are useful in some respect, but maybe not for being a founder. I also think, though, that there's another way I see a lot of founders attacking this. A lot of founders just think this way from first principles. Good VCs pick good companies and can predict the future. Yep. If I can model a good VC in my head, I will pick a good idea and increase the likelihood of winning.

And it's interesting to me because I think that, like this is sometimes what I hate about first principle arguments is that like, sure, if you say it that way, it makes sense. Do you think that's what good VCs really do? Yeah, I mean, I think — look, to be really direct on that, what do I think great investors do, especially later stage than what Y Combinator is? Yes, it's they find companies that have product-market fit that are taking off, that have incredible traction, and they try to find them and invest in them.

And that's the job. Just like in a lot of these other M&A, all these other types of finance jobs, it's usually you find the thing that's making lots of money, that's doing really well, and then you glom onto it and attach yourself to it. And the skill is often getting the thing taking off to take your money versus someone else's money, not picking amongst things that haven't launched yet and having a feel about why one's going to do better than the other.

Exactly. So unfortunately, when people are doing that other type of investing, investing really early, like, I worry that there isn't a lot founders can learn from investors in that early stage investing. And even once you take off, there's less to learn, admitting that once you're — once you have a hockey stick, tons to learn from that. But if you're like, "I don't know what idea to work on." Exactly, exactly. That's a few steps ahead of where you exactly. And most investors are not even really engaging with companies at that stage, so like, ah, there are fewer tools.

There I think there's another thing going on too, which is fear-based, right? Like, I know that if I choose a bad idea, I'm going to waste a lot of time. Yeah. Shouldn't I do all of this analysis first to make sure I don't choose — to make sure I don't choose a bad idea, right?

Yeah, we see this a lot where there's companies that find real problems and some of their experts end up, but they are facing crippling anxiety that it's not venture scale. Yes. Again, they might be right, but they're so obsessed with this way of thinking that, oh, what if this tops out at 50 million ARR? Gee, yeah, can't — I'm just not even going to start a company. I'm going to stay doing — you know, I'm going to stay at my job because the idea I have will top out at 50 million in revenue.

Yeah, I think it's tricky because I think that we have to admit in the startup game you're going after like a high-risk, low-information, and high-commitment bet, and there aren't moves to change those core things, right? Like, yeah, you can invest on the margin, but it's still going to be high risk, high commitment, and a long-term bet. Yep.

And so I think we would argue it's better to kind of focus on areas of your strength, areas that you know well. Like, that's where you can — problems that you know a lot about that you personally observed, maybe you've solved even on a small scale, as opposed to like, "Let me get the VC toolbox out to try to judge which idea is good."

I think the last thing that I see a lot is that when you think like a VC, it is easier to get positive feedback from VCs. You know, when you talk — when you pick an idea because it's the hot thing on Twitter, it's easier to get meetings. Yep. When you talk about companies using VC language, when you show some market slide that says this market is right, like, investors are responding to that.

And I think that's confusing to founders because, I mean investors can respond to things that aren't good. Yes. In fact, wouldn't we say that's most of what they respond? Like, that's our job is like most investors bet on things that don't work? Yeah, I mean that is the job, yeah.

And again, one way to detect this is that you spend all your time paying attention to fundraising trends. And the way you come up with the startup idea is to read what is raising money and then the thing that is raising the most money. Yeah, and that's the algorithm. And then maybe raise some money and then, then what? Yeah, like that's — that is an algorithm we see a lot from this type of thinking, which is all of these companies raise money. I'm going to do it too, and we're just suggesting we've seen that not go well a lot of the time.

I think this brings up the next topic perfectly. So like, all right, I — what happens when founders think like VCs and then encounter the real world? Yep. So you did your analysis, you've done your validation, there's a big market opportunity, it's on trend, VCs are going to like it, I'm all lined up, but now I got to get my first customer. Uh-oh. What's the VC investor toolbox for getting customer one?

This is, it's very humbly, again, if we were to — if we were to start a startup, we know like the first thing I would admit is that no matter what I know from investing in startups, that does not mean getting first customers is going to be easy for me or for Michael or for anyone. It is freaking hard. Yep. And this zero to one is always the trap. It's the bear trap that people run into, yeah, that they're like, they're already focused on scaling the company and raising money, um, and they're like kind of like glossing over or being handwavy on how hard it is to get first customers.

Like, yeah, we're going to build our first version, we're going to launch it, and then we're going to be growing, and then, you know, and then they launch it and it doesn't go well, and people are just shocked. It's funny. It's like they measured 60 times, cut once. The cut didn't go well, and some were like, "Oh, do I measure 60 more times? Like, what do I do?"

This is one of the reasons we usually advise to launch quickly, so you get this hard medicine quickly, yeah? That your first launch is probably not going to work, and no one's going to want your thing. Yeah, right? I think we also see when founders have this mentality, some will kind of engage in the zero to one and kind of fail and like live in that zone.

I see a lot not even engaging in the zero to one. Like, you know, they're hiring a bunch of people, getting an office; like they almost forget they have to get the first customer, and they start gearing up for customer 100. Well, but it's because if your marketing analysis is perfect, it's impossible that the customers won't want it, right? A foregone conclusion. The first customer is a foregone conclusion. What's the real problem? Is how do we scale?

Yeah, I'm much more worried about that. Yes. Yeah, so I think it's funny you described it; I like this analogy, like the Starcraft analogy. What's the — yeah, it's kind of like we've all played real-time strategy games like Starcraft or what have you, and when you're playing one of those games, you're just like, "Okay, need more pylons! Okay, cool, let's build some Siege tanks over here!" You're basically playing a video game; it's just a — you've got to scale the thing up as quickly as possible.

There's not like a version of Starcraft where, you know, you try to build the base and it doesn't work, or like your units all just like die or something, I don't know. Like, it's that — it's a different game. And so I think people are playing this like ramp-up scale game, yeah, and they feel like they're playing a video game, and again, they're completely shocked how hard it is to get it off the ground.

It is really different than what people expect. Yeah, it's funny. When I was playing Starcraft way back in the day, like people always talk about macro versus micro, and I feel as though investors love macro. Macro, you can — you want an Excel spreadsheet? Yeah. What's your build order like? What's your Tech Tree, da? And I remember like you can macro like a — and then when you have three guys versus the other guy's three guys and they're better at micro than you, you just lose! Like, you just — it's just like you just lose!

And like I would have friends who are so good at Starcraft, like they would just — play me crippled and still destroy me, and it works the same way here, right? Like, and I think that's a great point. If you engage with this metaphor, we're talking about micro; you've got to be great at micro to get something off the ground. Great. And yes, no amount of macro experience helps you be good at micro.

I think you start being great at micro to earn the privilege of doing macro at all, and then how many CEOs do we find who still serve on the road? They're like, "Oh, crap! I got to get into that product because something's broken! I got to go six levels down and fix something." Because like, well, I would compare it to — you know, I think a lot of people would love to be Ryan from Flexport, where he was buying a 747, he's buying jets, yeah, and like moving stuff all over the world.

And what he's worrying about now is micro! Micro! Right? Like some things changed in the market, and now he's extremely worried about micro and his company, and that's what makes him great, is he can shift between those two things, yes. And when he gets down to micro, he can get some real stuff.

So what's the cure, Dalton? I am a founder, I admit I'm thinking a VC and I don't want to. What is the cure? I think to start with, this is a case of being good at in learning certain things that may not serve you at a certain time. Again, let me give you an example. Let's say that someone worked at a big company for a while and learned a lot about corporate politics. Okay, file that away in the memory bank.

Sure, maybe someday that will be helpful, yeah? But like forget it, like whatever part of your brain was saving that, turn off those neurons if you're trying to do a very early-stage startup. I would argue this is a similar thing, which is all — you know, all the Excel spreadsheet modeling you learned as an investment banker, that's great; just turn that off, though! Like, unlearn that, it doesn't serve you now. Nope.

And embrace the beginner's mind, yeah, um, to get your startup off the ground. Yes, and then if you're very successful, you'll use these skills again. Exactly! You'll earn the right! You'll earn the right to use, exactly! Yeah, no, I also think about this is like turn off the pollution. Like whatever the sources of knowledge — yeah, like, you know, diagnose why you started thinking this way. And if that means like unfollowing some people on Twitter or not reading certain publications, like do it! We're susceptible to the inputs that come to our mind and like the easiest way we do this is turn that media off.

I also think spending time with your users is a cure for this because your users don't care about macro at all. No! If you're — if you're solving a problem for some industry, they probably don't care about the fundraising announcements? Nope.

In AI land, again, let me give a concrete example. There's lots of people applying to YC with co-pilot for X ideas, you know? "Co - we're going to do co-pilot for trucking!" Yeah, and they'll — and then the mark — they'll be like, "We did market analysis! AI is really big and it's growing really fast! Oh, trucking, really big and trucking is really big and growing fast! And so what we're going to do is build AI for trucking! Yeah, fund us!"

Yes, and then — and then it's like, "Okay, well what exactly? What is that? Be specific! What exactly are you going to build for AI for trucking?" Yeah, well, we'll talk — let me get back to you on that. We'll talk to the trucking companies and figure out what they — yeah, it's like they're asking the founder of the precise, exact thing they're going to build; they hadn't thought that far ahead!

It's combining AI and trucking seems like something that will raise money and seems like a good idea and seems on trend, and the details feel like irrelevant details. And sometimes people get frustrated when we ask these questions. They feel like, "Why are you asking these stupid questions? What does it — what precisely does our AI trucking startup do exactly?"

Yeah, shouldn't we go back to competitive analysis and — and, but basically land grab? If you spend time, a ton of time with trucking companies, yeah, you are likely to have a whole different perspective here on how AI could solve problems in trucking, but you have to go really deep and spend time with them versus sitting, you know, in your apartment reading market analysis.

You know, this is something I see with YC founders. I just talked to a former YC founder literally yesterday who he admitted his first two or three companies were kind of those things he thought were good ideas. And during that whole time, one of the things he did was he owned a used auto dealer, um, and his latest idea has to do with giving people auto loans at used car lots. And hearing him talk about it, I'm like, you know this almost as well as if you've owned a used car for the last 15 years!

And he could go point by point on why the people before didn't work, what the motivations — it turns out like for a lot of these financing companies, the car lot makes more money selling, getting the referral fee on finance. So like a lot of the — a direct consumer, oh, I come in with my loan preapproved; the guy in the car lot is trying to convince you to take a different — yeah, that doesn't help!

It doesn't help! So it's like all this crap that you wouldn't know if you didn't run a freaking car lot! And, you know, he's gotten ideas in the space. I don't want to, you know, I won't say what he's actually going to do, but it's just so refreshing to hear someone whereas I think an investor would say with an investor, be like, "Oh, this is like an — this space doesn’t work! Like oh, like, oh people have tried!"

And like when you actually get in the weeds, it's a cool idea! So anyways, I think that if you can resist this thinking like a VC, I think what I've realized is you kind of have superpowers! I think this virus has invaded a fairly large percentage of founders! Yes! And so you actually get to do things other founders would think would be silly, yeah?

There — it's like everyone has a filter for what seems like a good idea or not. And if your filter is exactly the same as everyone else's, you're all going to be screening out the same ideas, right? But if your filter is calibrated differently, you will see things that other people have decided as bad, right?

Well, I think that's what's so funny because that's the — every successful YC story, that's the story in hindsight, right? It's like everyone thought the idea sucked; it was off trend because it was off trend, it was a bad model, yeah, a bad space, the market wasn't big enough, whatever. And lo and behold, 10 years later, our predictive powers of the investment community aren't very good.

So anyways, I think that if you don't fall for this trap, you get superpowers! But you fall — and — and I think there's one more really important point I want to make on this, which is we're trained to want to have the entire plan worked out. Yes.

And remember, this is something that sometimes founders do is they're like, they'll put a slide in their slide deck of exit strategy, like basically when they're trying to choose what idea to work on, yeah? They're — they want to include; but we know — who's going to buy us, who — what, that they're going to sell the company and for how much, into who? And of course, delete that slide! Like, oh my God!

Like, are you kidding me? Yes! And the point I'm trying to make here is if you think like an investment banker, you do need to think about an exit strategy. If you're a private equity company, you're buying a mattress company for hundreds of million dollars, you definitely want to have an exit strategy slide!

Yes! And to me, the evergreen lesson here is that you don't need all of the full plan today, and a lot of founders are worried, "What if I do this idea? I'm really confident people want it, but I'm going to top out at $20 million of annual revenue? It's a bad idea!"

Then, right, and it's so rare — you can attest to this, Michael — it's so rare in this job where we see a company that gets to 20 million, 30 million, 40 million in annual revenue, and the founder has no idea on how to grow it. Yeah! There's no move; they're out of ideas! I'm not going to say that never happens, but it's extremely rare.

I think it's a problem you want to have among all the problems, if you could choose one. And so if you're filtering out ideas that you that seem great and you have expertise in it, but you're worried it'll only get to 50 million or whatever — yeah, you don't need the full plan today; it's okay to not worry about some of these problems until your later-stage.

You know, personally, like on this front, I remember I got the course book for university, and I remember reading it and thinking, "Okay, I know the 36 classes I'm going to take before going to school." I was like, "Well, I mean, the book's here, you read it, you pick the classes!" And I remember, you know, halfway through the first semester being like, "Well, that was a bunch of wasted work!"

Yeah, and I wish sometimes founders would embrace it's going to be a bit of an adventure! Yeah, it's going to be a bit of an adventure!

Anyways, good chat, Dalton! Sounds good! Thanks.