Alfred Lin with Justin Kan

Next up, I'm pleased to introduce Alfred Lynn, who's a partner at Sequoia Capital, one of the top investors in Silicon Valley and the world. He serves as a director on a bunch of awesome Silicon Valley companies like Airbnb and Houzz. Before that, he was the CFO of Link Exchange.

Thanks, Justin. Thanks for having me. All right, cool, thanks. Thanks for being here. So, let's just start off in the early days and tell us how you got started with your first startup at Link Exchange.

Well, I knew Tony and Sanjay in college, and originally, Tony... So I came out to the Bay Area one year before Tony. He had originally wanted to scope out a place on campus at Stanford to open up a Subway's franchise because he was always into food. Before that, he and I had met through his pizza business, and I told him, "I'm sorry, there's already one on University Avenue." It happened to be a half mile away from the university, but at the time, the university would not allow commercial entities to be on campus. So I said, "You know what? When you come out here, you're probably going to have to do something else."

So he and Sanjay came out to the Bay Area. They were working for Oracle, and they were extremely bored. So they started a company on their side, building websites. They had built these websites; they had put their hearts and souls into making them beautiful. At the time, this is 1996–97, so not a lot of people knew how to code in HTML, and they were solving a problem that a lot of people wanted: a website, because the web was coming up to speed.

They built these great websites, but there was no traffic. So they were like, "Geez, we spent all this time on this. How do we get these websites to get traffic?" One of the ways was—if you had a budget, you could go buy advertising on Yahoo, AOL, or MSN at the time—but if you're a small website, how do you get traffic? That's the problem they experienced, and the problem they went out trying to solve. They linked these websites together, and that became an interesting thing. They linked them so that if you showed a banner on your site, you'd get to show a banner somewhere else in the network. As the network grew, it became more and more powerful because of network effects.

We had some pretty interesting companies that were part of that network, and when we sold the company to Microsoft, it arguably had the largest audience on the web at the time.

How did they get you to join Link Exchange? What was the conversation like? What were you doing?

Well, I was in a PhD program in statistics. As Tony would like to say, that's like watching paint dry on the wall in the dark. I love numbers, and I really enjoyed what I was studying, but I did have a passion for business. My parents, being very traditional Asian parents, had this hierarchy of jobs that you can get. The highest type of job you can do is to be a scholar and contribute to society. Then, if you can't do that, then be a doctor, and if you can't do that, be a lawyer. If you can't do that, be an engineer. And all the way down on the list is to be in business.

So it was a hard conversation with my parents for me to leave my PhD program, but I knew Tony and Sanjay for a long time, and they were people that I'd bonded with in college. They needed someone who could work on the finance side, and I told them I had no experience in finance, but I'm happy to learn; I'm good with numbers. I became VP of Finance at Link Exchange.

How did you guys in the early days get your initial customers? What was the process like to actually build it into a big company?

They had initial websites that they had already built. That was part of it. They had basically pivoted their way into a nice little side business by being able to charge per hour to create these websites, but it was not very scalable. They decided, "You know what? We're going to forgo all this money. We're going to forgo all of it and just try to get people to join the network." Back then, there was this directory called Yahoo, so they went down to some of these popular websites and reached the popular ranks in Yahoo. They contacted them and asked, "Would you like more promotion?" Of course, everybody would say yes, and they joined. The network got more and more powerful, and it got easier and easier to sell the next company to join because of the network effects.

You were arguably better off joining Link Exchange after the last person had joined. One of the more interesting things is one of the very early people who joined was a company called Auction Web. Nobody probably ever heard of Auction Web, but if you go to eBay and look it up, you'll see that in the very early days, their original name was Auction Web. Even companies like eBay needed promotion. Back then, of course, they were worth $65 billion, and we were only able to sell the company for $265 million, so they had a much better business.

How did you guys end up having that conversation about selling the company once you had this business generating revenue? How did you decide what you wanted to do with it?

I think it was our first company. Tony has been very public about this in his book. We had hired people who were basically, let's just call them mercenaries. They joined the company because it was a rocket ship; the metrics looked exponential from a growth perspective, and they were trying to build enough of a business so they could monetize the company. Day by day went by, and the place became less and less fun to work at. We decided, "You know what? This is our first company, and it was a good offer."

We decided to sell the company. Arguably, we sold the company too early. It was a difficult decision, but I think everybody was pretty happy after the fact because we all got to do what we wanted to do. Tony and I thought the early days of the startup were a lot of fun.

So after we sold the company to Microsoft, we left and started a small angel fund called Venture Frogs in 1999, probably the worst time ever to start a fund, right before the dot-com crash. But you know, I wouldn’t say that we were smart; we just got lucky because we invested in some pretty amazing companies like AskJeeves and OpenTable and a few others that got sold pretty quickly in 1999–2000.

We made 27 investments; we went through the fund. We were supposed to invest that fund over 2 or 3 years; we invested the fund, I think, in nine months—another not such a great idea. But we were left in 2000 and 2001 with basically a portfolio of 20 companies—seven of them we thought were going to be fine without us. Then we looked at the 20 and thought, "Well, most of these are going to do well or not do well despite our help. We're going to focus on two companies: one was TellMe Networks and the other was Zappos."

So I spent some time at TellMe Networks. At the time, when I joined as VP of Finance, the company was losing, gosh, I think about $60 million a year. They had just come off 1999, where they had been able to raise $265 million. It was the first time I thought, "Well, most companies learn how to pivot and deal with things when they have so little money." This is the first time I saw a company that raised so much money that it was a bad thing. I didn't know that could be a bad thing until I saw how much money you could blow because everything was just not worth your time anymore.

You had so much money in the company, and it's not the discipline of the necessarily the CEO or the management team; it becomes ingrained in the company. Like, "Well, we have this amount of money in the bank; should we just use that money to experiment versus being thoughtful about where you want to spend and invest your company’s money?"

So what happened at TellMe? How did you turn this ship around?

We became very, very focused. The company had been focused on a consumer business. We pivoted to the enterprise selling. TellMe, for those who don’t know, was originally started as a voice portal—a voice recognition portal. You would call 1-800-555-TELL, and you could ask it any question.

We pivoted to the enterprise, and we started to automate using voice recognition 1-800 numbers. It was arguably one of the first SaaS companies, cloud companies in the world. We had to build our own recognition servers. We put them in the cloud. So we got very, very focused on the enterprise, very, very focused on a few select customers—not trying to get any customer that we could sign up. We were very, very targeted on 12 to 24 customers and making sure those were large contracts and very, very multi-year successful engagements.

When I left the company to join Zappos, we basically went from zero revenues to about $150 million in recurring revenue, a pretty stable cash-generating business. That was a year later, sold to Microsoft for about $800 million, so pretty successful. Seemed to work out; it was fun.

At the same time, you guys through Venture Frogs had funded... [Music]

We almost deleted... I think Tony had his hand on his finger on the delete button of the voicemail because he started saying, "I have this crazy idea: I want to sell shoes on the internet. I know nobody will want to buy it on the internet because people have to try on shoes." But then if you had deleted it, you wouldn't have heard the "but." But the shoe business is a $40 billion business, and 5% of it, or $2 billion, was already being done on mail order.

Now that the investment thesis—that the internet was going to be bigger than mail order—carried the company was consistent all the way through. I'm not saying the company didn't have to pivot or had lots of struggles; it had tons of that. But we got that right, and Nick got that right, which was key. It allowed the company to focus on building a business that people thought couldn't be done.

I think it's actually great that you come across founders who build businesses that logically should exist, but people don't think that it can because, you know, if logically it should exist and you solve a real need, then people want that service or that product. If people think it can't be made, can't be done, or for whatever reason can't exist, then you have a situation where you don't have a lot of competition.

In the very early days, where you do need to pivot, where you do need to learn, where you need to figure out your standing in the marketplace, that was a very powerful proposition for Zappos. Another powerful thing for Zappos was that it was really hard to raise money.

You know, originally we thought, "We're going to put $500,000 in, and then we'll just hit the next milestone, we'll put another $500,000 in." Eventually, we were $2 million into the company. Nobody really wanted to fund it in 2001. So we had to keep going, and as Tony has written in his book, he sold a few of his apartments that he had acquired after Link Exchange was sold to sort of put more money into the company. So it was a long road of doing things—making personal sacrifices—employees taking less salary than they would like, but it all eventually worked out.

Through all of that, were there any times when you guys were ready to throw in the towel and say, "Like, this is not going to happen"?

I don't think we wanted to throw in the towel. We just didn't understand why people didn't see the world the way we saw the world. We kind of thought, "Well, it's a pretty big market out there just in the United States. Why wouldn't people back us?" And, you know, there are reasons why people didn't back us back then, right?

There were lots of e-commerce companies in 1999, 2000, and 2001 that raised a ton of money and then blew it all on customer acquisition. These were smart people. I think some of the sort of thinking was good, and some of the thinking was not so good. But you know, the thing was that people did was they sort of calculated the lifetime value on a small base of customers and figured out how much they could spend on marketing. They spent, you know, basically lifetime value minus a penny, a dollar, whatever it is, and there's no margin for error.

If you model things, it doesn't always work out like the model says. Secondly, your early adopters—probably the long-term value of your early adopters—are probably higher than the later adopters. People had not taken that into account, and so companies that raised $25, $50, or even $100 million, and in some cases, billions of dollars, came and went in the e-commerce space.

What we did was try to be profitable on the first order, which was not heard of back then. It's probably not heard of now.

So what were the things that you learned at Link Exchange that really informed what you were doing at Zappos?

I think the thing that we learned at Link Exchange was that we wanted to build a company that was very, very focused on having a great culture. So at Zappos, we decided that we're going to focus on making sure that the culture is part of the everyday operating principles. I think a lot of companies start out with great cultures and eventually end up not having great cultures because you focus on the day-to-day things that you're supposed to do, and you forget that the culture is only good if you invest in it.

I just pointed out to people when they were taking tours at Zappos at the time: "How does this place remain focused on culture day in and day out when it gets to be big?" It's like a daily habit. I think the thing that customer culture, customer service, fitness, and staying healthy all have in common is you can try to do it in upswings and downswings. But if you don't make it a daily habit and focus on it on a daily basis, it's not going to really be your core competency.

If you want customer service or anything—your culture or anything else—to be a core competency, you have to focus on it on a daily basis.

So you went from being an investor in Zappos to joining as an operator. How did that conversation go? How did you decide that you needed to do that?

Well, I think there was... Tony had joined early on as an advisor to Nick and then eventually full-time. Then eventually, Nick decided that Tony should be CEO, and I had finished my tour at TellMe. It was the one company we thought we could make great.

Venture Frogs was money from friends and family of ours, and we wanted to make sure that, even though it was a 1999 fund and a lot of angel funds or venture funds decided they could take a big write-off for that year, we decided that was not going to be the case. We at least had to make sure that we provided capital back, if not a good return. We wanted to make sure that we provided a good return and wanted to.

Basically, it was something that I felt personally responsible and compelled to make sure was successful. You know, TellMe was a very interesting experience where they had too much money; it was over-capitalized. I would say Zappos was another story where they were under-capitalized for a long period of time.

There are very few e-commerce companies that have been built with less than $10 million of primary equity invested in it. They used debt and a revolving line of credit to build the business, borrowing from their merchants to continue to build this business. It was very scary sometimes because leverage is great on the upside, but it can also kill you on the downside.

What was the scariest moment there?

There were a lot of scary moments. I think during Link Exchange, we almost missed payroll a few times. That sort of hardened you. Once you have to go through that once or twice or three times, by the time it was the 10th time, you just kind of say, "All right, we’ll figure it out." Zappos had many of those challenges too.

Before I joined, I had just gotten married, and I had sort of convinced my wife that we're going to move from San Francisco to Las Vegas, where Zappos had moved to. And then Tony tells me, "We had this revolving line of credit. It had temporarily been increased from $30 to $40 million. We had used all $40 million, but because of a glitch in an algorithm of a markdown/markup process, we had over-ordered a bunch of stuff, and we had to market that down."

Therefore, we were going to take a loss this quarter, which caused us to break one of our bank covenants. I was thinking, "What did I just do? I just quit my last job, I had convinced my wife to move to Vegas, and we had just sold our house." I got on the phone, and we just tried to figure it out.

We had to find $10 million because the line had increased from $30 to $40 million in about a month. We needed to reduce our debt by $10 million and make all the payments, not miss payroll, and things like that. That was pretty hairy. But we got through it. I think once you get through it once or twice, you know that you can get through it again.

1999 and 2000 was a very interesting time; it was a lot of ups, and then 2001 was a lot of downs. I think 2005 and 2006 were starting to get out of those downs for a lot of e-commerce companies, and then 2008 and 2009, there were a lot of downs. I think you just have to, as Hiroki said, be an emotional rock and be able to absorb these shocks to the system. If you can do that, you can persist and continue going on.

Was inventory a required server provisioning space, etc.? If you're off, you can be significantly off because compounding works in mysterious ways. You can be off a lot, and if you bought too much and you’re off, then you have too much inventory.

If you bought too little and you’re off, you may miss out on a bunch of sales. Missing out on a bunch of sales is not as bad as being laden with a lot of inventory, but it's not good either.

So what are some of the most innovative things that you think you did at TellMe or at Zappos?

Building Zappos was another category. It's probably not as interesting, but if you come up; if you solve a hard problem and make that your core competency, I think that's a very, very important lesson because, first of all, hopefully, that hard problem you've lived, and you're personally passionate about and solving, is probably because there are other people who face that hard problem and find value in that.

We found that lots of people missed the fact that stores actually provided good customer service, and online provided not so great customer service, and we were going to bring that back. That was another innovation.

I think the fact that we were running our distribution center and our call center 24/7 was seemingly—today it may not seem like an innovation, but back then it was. We figured out ways of picking: when you placed an order, we would pick, pack, and ship within 4 hours, whereas other people were batching them the next day. Little things add up.

We figured out how to get products to people after they ordered them within 5 to 7 days when we started, and then eventually we cut that time little by little to overnight before we sold the company to Amazon. So I think those things were all very innovative.

Obviously, we had some other technology advantages, such as we had a warehouse where every single item had a unique license plate number assigned to it, so we knew exactly where it was in inventory. We had close to 100% accuracy in inventory management, which had not been heard of before in direct-to-consumer fulfillment. So those are some examples.

Cool! So, I mean, you talked about selling the company. After surviving all these different ups and downs for years and years, how did that conversation come about? How did you make that decision?

Well, Amazon had been following the company and wanted to buy it for a long time. They had started to compete with us, and they made an offer that was much more compelling. Most of the time acquirers would happen; you'd get absorbed by the parent company. Here's a situation where Zappos today is a separate brand, a separate business, has a separate culture, and is left to the current team to run as a wholly-owned subsidiary but a separate business. That was much more compelling than being absorbed into a mothership.

So what are some of the lessons that you learned throughout Zappos, or what do you know today that you wish you knew in the beginning about starting startups?

I think a lot of the things we just talked about: you want to continue to progress and not give up on your big dream. You need to sort of maybe make calls and pivot and write off certain things, etc. But the course as people have pointed out here is nonlinear, and pivoting is okay, but you don't want to give up.

The second thing is, you know, I think companies that get started by personal passion and solving a personal pain seem to do a lot better than those that do not. Third, those charts that show exponential growth, if you narrow it down to the very early beginnings, it looks very, very flat.

It takes a long time to get the flywheel going, so don't be discouraged if the flywheel hasn't gone as smoothly as you expected it to go. Just keep at it; get stronger and stronger every single day at what you think the core problem that you’re solving for. When you pivot, think about what the next thing is that you're trying to do: solve a real hard problem that nobody else is solving and find a core competency that you can own and talk about.

All the companies that you've heard on stage today, whether it's Stripe, Homejoy, or GoPayless, all these companies are trying to solve problems that they had personally came with, and they had to sort of get the flywheel going over a number of tries.

Now you've moved back to the Bay Area, become a professional investor again, and are working at Sequoia. What do you think—how do you think companies should ideally try to work with their investors? What do you think a good VC does?

Oh, it's funny that you ask that question. I look; I've been on both sides. I think it's a privilege I've been on both sides. The reason I joined Sequoia is that I think it's a very special place because most of the partners there have worked at companies, started companies, and have been part of the management team of companies that have done pretty extraordinary things. We don't see ourselves as investors; we're not looking to buy low and sell high. I think that's what you should look for in someone who is an investor.

You want a partner; you don't want an investor, and that's probably something that I would coach all of you to think about. The other thing is often pitches are very short. We’re trying to assess you; you’re trying to assess us. I would just point out a statistic that you should think about: people date for many years, and then they get married. Or they decide to have a partnership—whether it's marriage or a business partnership—and 50% of those relationships still end up breaking up or in divorce or breaking up.

I would spend more time getting to know your investors before you let them invest in your company because if things go well, it’s a 5, 10, or 15-year journey. So that'd be my advice.

You guys have invested in a very high percentage of some of the top Y Combinator companies. How do you pick the companies that you work with?

Look, we’ve been very, very fortunate to be in business with YC for many, many years since the very beginning. We try to understand who the founders are. Again, back to what I said before: We're looking for people we want to work with for the next 5, 10, 15 years. We’re looking for founders that will not stop at anything, will figure out ways to get to the next level.

We’re looking for people who have deep insight into an industry and have asked "why" and "why" again and challenge all the assumptions in the whole industry that they're trying to disrupt. They decide, "These are the five things I'm going to try to do—not 100 things, just these five things—to disrupt the industry," and they have a clear sense of what that wedge into that industry would be.

You hear the early days of trying to sort of start Stripe, Airbnb, or Dropbox—all of them had very clear reasons why they were going to be a disruptive force in their particular domain or industry.

Cool! I think we're running out of time, so thanks a lot for joining us.

All right, thank you! [Applause]