This Week in Startups - ANGEL: FirstMark’s Rick Heitzmann on shaking off the bull run, “shock absorbers,” and more | E1670

Episode Date: February 2, 2023

Jason is joined by FirstMark Capital’s Rick Heitzmann, who started his investment career in 1999. They discuss “sobering up” after the 14-year bull run (1:55), Airbnb’s response to the downturn (7:38), how senior leaders must act as shock absorbers for their founders (26:30), and more! (0:00) Jason kicks off the show (1:55) Rick’s experience of the “Speculative Asset Bubble” (7:38) Airbnb’s reaction to the downturn (11:33) LinkedIn Jobs - Go to https://linkedIn.com/angel and post your first job for free (12:58) Rick’s memory of the Dot Com bubble (19:39) Advice for founders in a downturn (22:27) Embroker - Use code TWIST to get an extra 10% off insurance at https://Embroker.com/twist (23:29) How CAC and LTV have changed (26:30) The emotional state of Founders and keeping them focused (35:09) Term sheets in the Dot Com era and today (40:06) Letterhead - get 50% off their first year at tryletterhead.com/twist (41:21) Different forms of exits + Key attributes in founders FOLLOW Rick: https://twitter.com/rick FOLLOW Jason: https://linktr.ee/calacanis FOLLOW Molly: https://twitter.com/mollywood

Okay, everybody, we're back with an amazing episode of Angel Season 7. And by now, you probably know the theme for this season is three cycle investors. That's the term I've dubbed VCs and Angels who have been investing or operating through the dot-com bubble, through the great recession, through the 14-year bull run, and they're still going in 2023. Today, we have a great interview with First Mark's Rick Heitzman. He started investing back in 1999, right before the dot-com bubble burst, and he started First Mark Capital in 2008. we go deep on shaking off the 14-year bull run and how startups can sober up and get back to reality. Plus, Airbnb's brilliant reaction to the COVID downturn. He's an investor and reminiscing on the problems from the dot-com bubble and how they were solved and

eventually worked out. Finally, we talk about how senior members of startup teams have to act as shock absorbers. I love this term. Investors, founders, how we act as shock absorbers during difficult times, calm things down, create plans, and then help companies survive downturns. It's a great episode. Stick with us. This week in Startups is brought to you by LinkedIn Jobs.

A business is only as strong as its people, and every hire matters. Post your first job for free at LinkedIn.com slash Angel. Embroker's startup insurance program helps startups secure the most important types of insurance at a lower cost and with less hassle. Save up to 20% off of traditional insurance today at Embroker.com slash jobs. Twist. While you're there, get an extra 10% off using offer code Twist. And letterhead helps you create, send, and monetize your email newsletters. Twist listeners get 50% off their first year, and qualified startups can get 75% off their first two years at try letterhead.com slash twist.

All right, everybody. Next up on our series for Angel Season 7 is Rick Heitzman, and he has been a venture capitalist and entrepreneur for all three cycles, starting with the dot-com boom and bus cycle, then we had the Web 2.0 cycle, and now we've lived through what I'm calling the speculative accent bubble, but I'm not sure how you qualify this bull run. How do you think about this past bull run we've just been through?

I'm welcome to the program. And what do you think the attributes are of this latest boom bus cycle? Yeah. Hey, Jason, thanks for having me. I'm a big fan of the show. And it's great being here. So, yeah, as you know, I've, you know, old guy, like some of our friends who've seen, seen this movie a couple times before.

I haven't heard the speculative asset bubble. But that's, you know, that's exactly what happened of, you know, zero interest rates, no cost of capital. And what happens in that world that people only hypothesized about at University of Chicago up until about three years ago? And what we've seen is, you know, all the bad behaviors that you can imagine did happen of money raised, two early slashed around too quickly and two speculative assets. And, you know, people forgot that capital had a cost. So whether you're a founder investing in a project, whether you're a founder buying a company, whether you're a founder hiring people, You don't really feel, think about the cost of that as you're doing your own analysis

because capital is free. And I could always go get more capital from the growth fund tree in two or three days. So why may worry? And I think the, you know, therefore rampant speculation and no cost of capital, therefore no consequence. And now I think we're living in an age of consequence. And when folks who are in this no consequence bubble for too long, what starts to cloud their thinking? And then what do they need to recognize in order to have the fog lift?

Because it does seem like some of them have been living a delusion, in fact, of how business works in the world. And now they're having to face that reality in a very short period of time. I mean, this flips. When it does flip, it seems to flip very quickly. I completely flip quickly. It's a great way to frame it. We've been talking about it for over a year now, around the partner's table here at First Mark. They start to see the cracks of the bubble the summer of 2021. And then into the October-November season, you were starting to see real things unfurral. And you saw it in the public markets first.

And you saw a very rapid change from growth at all. cost to union economics, profitability, and a sense of sobriety. And the party ended there, you know, even before the end of 2021. And, you know, as we've talked about, it often takes a while for the signal from the out, you know, the frontier of the public markets to reach back into the private markets, you know, whether you're in Silicon Valley or New York City, it's just sometimes a different world. And, you know, I definitely felt like I was a sponsor trying to sober people up for most of 2022 at my board meetings of this is not temporal. You know, maybe what we just experienced in 2020 in 2021 was temporal,

but this is actually going back to reality. So as you're sobering up, you're going back to reality. This is the way it's going to be in the way it always was. And the new reality is not the fictitious land, but that's the old fictitious land. And it was hard. It was hard for a couple reasons. It was hard because it was so easy during that time.

And frankly, a lot of the founders you work with and I work, with, hadn't seen even two cycles, let alone all the things that we've seen over the last 20 plus years. Yeah, and that really is the hardest thing for people to accept is that this peak market was not reality, and this sober market is reality. It's almost like they're, they have to give away this dream that they could, at any point in time, just call any venture capitalist in a growth fund and have their valuation.

go up and raise more money. They would have to actually show them metrics that would qualify them to get more money. And it was a qualification. Yeah, I mean, going back to you have to earn your keep. And the ability to earn your keep by creating value was a fundamental concept in the history of the world up until a couple of years ago. And I think the other thing that we saw was it was a head fake was, you know, we got people pretty concerned and pretty sober. when COVID broke out. So if you remember, almost all entrepreneurs, remember, you know, March of 2020,

where we said, hey, we don't know what's happening. Markets down 30, 40 percent. Let's think about it before we spend too much money. And, you know, having seen this before, we thought that was going to be a longer correction. But, you know, two, three months later, the market was back and stronger than ever. And we did, frankly, get some pushback from some founders saying, hey, you told us, to hit the brakes when COVID hit and we should have hit the gas. Are you sure we should hit the brakes now? Are we going to miss an opportunity to accelerate in case this is short term?

And I said, you know, no, this is not like that, that would, again, that was an aberration of the government going to zero percent interest to fight COVID. This isn't an aberration of adjusting the historical mean interest rates and returns and market multiples. one of the companies you invested in Airbnb seems to have done a great job and again you make large investments in later stage so you did a late stage investment I think in Airbnb they took dramatic action very quickly maybe you to talk a little bit about you know first time founders like Brian and Joe taking really decisive action in that case and they had a strong board a strong group of advisors I mean they have a amazingly a very crowded word room back when people used to have in-person board meetings with a lot of the best people in venture.

So they got great advice from everyone from Peter Thiel to Jeff Jordan and what was going on in the world. But I think the key thing that you said there was decisive. So, you know, it was. And, you know, they saw, hey, leading indicator, China was, China was had negative sales, basically in the early months of 2020. And if this and if this were to continue, and we kept our head in the sand,

there's an existential crisis for a company who is generating, you know, billions of dollars of netting, potentially billions of dollars in net income in 2020, we have to buy insurance. And they did the right thing by going to Silver Lake and Sixth Street or Sixth Street and getting, you know, a couple of billion dollars of insurance. Then, despite getting the insurance,

they also did the right thing by executing efficiently, you know, taking costs out of their business, getting lean, getting focused, and therefore they never touched that capital. They bought insurance that they never came to pass. And I tell that story and founders like, well, you know, does that mean that's stupid to buy insurance? I'm like, you know, my house hasn't burned down. It doesn't mean I feel like I'm stupid for not having homeowners insurance. Well, and it gave them great optionality.

But they had really kicked in the austerity measures. They did the RIF. They made a major cut, sort of Uber, other companies. during that time. So they learned to get fit before the doc, before this, you know, speculative asset bubble burst. So they were kind of prepared for,

hey, this is how to right size the company for the opportunity. And both those businesses have our marketplaces. It's one of the really interesting dynamics. You could speak to how marketplaces are able to react maybe a little bit better in a down market than some other businesses. And we've been in a lot of marketplaces. We're first investors in Pinterest.

We're in Stubhub. or in Upwork, so both B2B and B2C marketplaces. The benefit they have, you know, even an Airbnb compared to a Marriott, is that they don't own anything. So theoretically, you know, you're an asset light opportunity and therefore most of your costs for better or worse around people. And therefore, your initiatives are initiatives around people, number one cost, number two cost is marketing and number three costs for fixed costs or harder to get out of.

But if you think about if your cost of capital increases like it has in the last 18 months, therefore your return on those people has to increase. So you can't have the same number of people, the same marketing spend if that were to happen. So in the case of Airbnb, you can titrate down your marketing spend as quickly as possible. You could think about what people do you need and you don't have a huge fixed cost level like you would, especially if you're an asset-heavy business, like a Marriott or a car company, we're actually buying physical things. And therefore, that should be not only the best business, as you know, on the upside,

in terms of margin structure and a true use of the Internet, but also a great business to protect yourself on the downside. Yeah, marketplaces seem to be one of the business models that produces a high margin. And I think a lot of people got asset-heavy maybe during this, period of time with zero interest rates. The March to 1 billion members continues for LinkedIn, which is now at 875 million executives. There is no business network on the planet that comes close to LinkedIn.

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What were you doing then? And when it did blow up in that spring of 2020, what did you think as a younger of Rick? And you follow Rick on the Twitter. He's at Rick. He's part of the first name club. He got me beat by one character at Jason and at Rick. You can't mention us both.

Well, it'll be a very small group at the bar of the first name clubs. So what was they doing at the first bubble? So I got into venture capital in the mid-90s as I thought this internet thing might have some legs. And so got involved in venture capital any way possible was early in the mid-90s out in Silicon Valley. And then in New York on the early edges along with you and guys like Fred Wilson and Jerry Colonna,

pushing the flag then. And then as the market started to turn, in March of 2020, I actually went the other way, and I took a leave from venture capital and went and started a business. I thought it was, I might have been wrong about it because capital was so hard to come by. But, you know, went and founded a business called First Advantage. Did you do that after the bus or right before the bus? Right after the bus. Got it.

But what was it like as a venture capitalist during that heyday? Yeah. And then what were the lessons when it sort of collapsed and how bad was it? it was bad. To what we're going through now. I think it was worse then. I'd be interesting to see if, you know, as you're doing the cycle with people like Brad and yourself, do you think it was worse than?

It might have been because we were younger and we didn't have as many scars to protect us. But it felt much worse and it felt much more jagged that it was, you know, champagne launch parties one day and telling people they have to cut half the company the next day. I felt like there wasn't enough, there wasn't enough capital in the system. to have these companies financed well enough or to, you know, to get people from here to there. There were a lot of hard shutdowns where, you know, the severance is your, is your computer or, you know, take a printer on the way out the door. Literally, people would be given an air on chair and just said, you know, we can't pay you

any severance, but just take the chair in your laptop. And that's where rolling their chintra. Yeah, down park avenue south. That was, that was what they were doing before social media would have, that would have been an incredible TikTok. TikTok now outside the headquarters that were seeing layoffs, but it wasn't even layoffs. It was, hey, we wish we could do better by you, but there's just no more money. And, you know, those companies were capital intensive enough and underfunded enough that when

the capital left the system, it was hard shutdowns. We shut down a bunch of companies, I was fighting with Silicon Valley Bank of, you know, whether or not I get to give, you know, as a board member to get printers to go to people as severance or they're going to take the printers back because we owed them capital and we were just out of money. So I think the number of hard shutdowns were much more dramatic, many more people felt like lost their jobs with a much smaller cushion. So I think that was the much harder time than what we're seeing today, assuming that we're, you know, getting close to bouncing on the bottom. Yeah, and then it didn't stop bottoming.

I mean, that was the other thing I remember from that era was just when you thought, like, hey, this couldn't get any worse. It just kept getting worse because a lot of the companies, let's face it, they didn't have a path to profitability. They were incredibly speculative. In a way, they were similar to crypto companies where they were experimenting and building products. They had been funded, but probably not properly funded in all cases, but there was no,

in many cases, revenue or customer base for them to fall back to, whereas Uber or Postmates or Airbnb, even Coinbase in this cycle, they had some based Robinhood, some base number of customers. They had real business. And they were able to right size their business

of their revenue. You know, it's hard to right size your business in 1999 or 2000 to eyeballs. And so therefore, you know, at least there was, we know that there's a, business there and all those businesses, even some of the crypto business, there's a business there.

We just don't know how big it would be so you can adjust your expenses to that. And then I think people don't really remember, you know, there was several, you know, punches in the face. It was things cracked in March. And then that fall was a huge fall from Greece in the fall of 2020, or 2000, and the market was down 30, 40 percent in the public markets. And then things started to feel like they did now in the beginning of 01 and we're rattling along the bottom. And then September 11th happened. Right. And people don't understand that one-two punch was just a knockout. Yeah, because then the market lost all faith in anything. This is the end of the world. Yes. I mean, much more, yeah, much worse from a bunch of different perspectives than even

the pandemic because it was so sudden, so unexpected, market drops 30 percent, and there was no rebound. There was no interest rates easing that could ease either the economic or the pain that a lot people suffer. So when we look at this speculative asset bubble bursting, then we have some unknowns. Ukraine, Taiwan, there are risk factors out there. So if one of, and this is where a weak economy, a weak balance sheet for the country, a weak balance sheet for your own private company, this could be particularly dangerous because if another black swan type event happens, something that's completely unexpected that you've never seen before, definition of a black swan, that could be

cataclysmic for a lot of companies, though. I agree. I mean, there's the thing that's most scary in this market or everyone's asking, is it over yet? I mean,

people have had their heads down, maybe they even raised enough money in 2021, they had two or three years of cash. And now they might have a year of cash in the beginning of 2023. And they're asking, is it over yet? Because, you know,

I'd like to raise money in Q2 or the second half of 23. and I don't think we can safely say it's over yet. I think we have to say, you know, we believe it's bouncing on the bottom. We believe, and we're taping this on a Wednesday afternoon, where earnings has started to be announced, and Microsoft announced weak guidance. So we believe that, you know, there might be a recession in the cards,

which could mean a further step down, let alone all these black swans, which could occur on a political or macroeconomic basis. which could completely destabilize the system. Yeah, so best advice for founders, while they're looking at this situation, they've got themselves to 18 months of runway. They've got a core team that's lean, that's really focused. Maybe they've got a lot of headwinds, customers are canceling accounts or downsizing deals,

but they're still in the game. They still have revenue. They've got maybe a reasonable path to break even in 18 or 24 months. They've done the riffs. What do you say to that lean startup? how should they operate now that they got that 18 months, 24 months of runway, and how do they keep the troops excited and engaged during this down market? I think that's probably three questions.

The first part of it is when I was an operator, you know, after September 11th, then revenue dropped 93%. And we thought we were cash flow positive. Then we realized we had we probably had about 38 days of cash at the end of 2001. that that scar is pretty deep. So if you can control financing risk and if you can control your path to cash flow break even, don't do anything to f*** that up.

Like, you know, that is your most important job as a CEO of being able to be default alive and being able to get from here to there with the cash you have. And, you know, don't speculate on when a market window would open or when financing might turn back on if you believe you have a path to cash flow break even. When you have that path to cash flow break even, you actually become much more attractive to everybody because then, you know, people know that there's at least a floor to what's going to happen with this

business and therefore you're investing for growth. So, you know, it might be counterintuitive to those founders, but getting the cash flow break even in this market might be the number one milestone, which would make you more attractive to get capital. So thinking about that milestone and being really tight on those milestones to get from here to there. So if you were faced, with growing 2x year over year, but being unprofitable for growing 1x year over a year, or let's say 1.2x, you took 20% over last year, but you hit break even. The latter scenario is the more attractive scenario for capital allocators. It's a no-brainer. It's a no-brainer because you want to control your own destiny. You want to be in control, a master of your domain,

you can get from here to there with the capital you have, be to fall alive, and then you could always accelerate behind your own profitability and as a CEO, and I remember this, apparently, like, you know, once you have to spend a huge chunk of your time with, you know, concerned about this existential risk around financing, and that's off your shoulder, you know, you have much more degrees of freedom to think and worry about creating the most valuable business you can. I've been dealing with business insurance for three decades. I am on the board of a bunch of companies. I watch people who don't have insurance get themselves into trouble all the time. Switching providers has always been a nightmare. It's too expensive. It takes too much time.

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We love you, in Broker. Thank you so much for supporting this podcast for so many years. Let's talk about this sort of fallacy around acquiring customers and the cost to acquiring customers. What have you learned over this last cycle about the actual real cost of acquiring customers and the lifetime value of customers? Because it seems that maybe founders got, and even capital allocators, maybe got a little cute or maybe disconnected from reality in terms of the cost of acquiring a customer. I think the cost to acquire a customer was always moving around more than folks would have guessed.

And a lot of people thought from period to period from this quarter, this is what we can spend on Facebook. Unknowingly, that that cost of a customer changes on Facebook for a minute-to-minute basis. But I think the fallacy, to your point, is based in LTV, that people thought their LTV models were great. They were bulletproof. I'm going to hold this customer for five years. I'm going to be able to increase price. They might buy one or two other things for me, not knowing that the person adjacent to you on the other side is also counting that customer.

And they're also looking at your profit stream as their potential upsell. And therefore, we've seen, you know, churn be higher than almost any LTV model has calculated. And, you know, your ability to grow be decreased compared to those LTV models. So, KAC is something you have to pay today and probably less control. than you guess, LTV is wildly speculative, and I think entrepreneurs get that wrong way too much. Lifetime value is,

yeah, defining that becomes pretty hard, especially when you have a down market like this, I don't think anybody's LTVs took into account that a lot of your customers might be going out of business or they might be doing a layoff.

And when you do a layoff, that typically comes after you've looked at every other line item and reduce every other line item. So you're going to, when you see all these. rifts happening, you can be sure that they've rift accounting software or HR software or SaaS software. Maybe not. Sometimes they're on other sides of it. Sometimes the first thing is, hey, we have our contract. That contract's not up to March. If you're the companies, hey, we're riffing people at the end

of the year. We're announcing at the beginning of the year. We're going to give them the holidays. And then we're going to go through it. But then we're going to look at every single line item. And, you know, that accounting software, we don't have 100 people in accounting anymore. We have 50 people accounting. We're not paying for those. five chairs. We're not re-up, you know, we're not resigning with you. And by the way, the other, this other vendor we use for FP&A analysis said they give you what we're doing for free. So in a world where the last five-year actuals, we're saying, my customers are growing seats by 10%, they're not pushing back on price, and they might be open for an upsell. All three

of those assumptions might be wrong. Yeah. Wow. Yeah. That's a, that's a lot of mistakes in one math equation. That are compounding, right? And if you think about how that compounds over a five-year life of a customer, it dramatically impacts the math. All right. Let's talk about the emotional state of the employee base and founders because, you know, as capital allocators, replacing bets on humans and teams to go out there and to fight

through this. This has been quite a slog, 2022, people getting thrown in the deep end of the ice cold pool and, you know, but now it seems like, okay, if the company is still alive in 2023, okay, there's an opportunity for them to thrive if they can get through this. How do you keep the esprit of corpse going? How do you keep people focused, especially founders, right, who might be looking at the situation and just saying, you know what, I'm exhausted. I don't know if I can do this anymore.

I'm on a lot of Zooms with exhausted people these days. I don't know if you're having that same experience. The body language is really tough. I think, you know, my friend Neil Blumenthal, from Warby, has this great analogy that the further you are up in an organization, the more you have to be a shock absorber. So I think, you know, the thing for us as board members, advisors, investors, we hopefully are shock absorbers to those founders who are getting whipsawed by the market, the financing

market, they're losing big customers. And, you know, I think differently, one of the things I learned by being, you know, much more junior 20 years ago is, I said a lot of board members who are assholes. When things were going wrong, they were pouring gasoline on the fire, instead of doing their job of being a mature person who can absorb those shots and be able to provide a calming influence to the room. And then, hopefully that passes on from your advisors or your board members down to the CEO and that senior team as, you know, rank and file employees are saying, hey, my next door neighbor just got laid off. My brother-in-law just got laid off. Am I next? Let's go to the water core?

let's go for a walk around the block for a coffee and let's not do work today. Let's just be stressed about what's going to do the existential crisis of the company we're at. The job of that senior team is then to say, hey, we're going to be shock absorbers for the organization. We're going to do it in a transparent way. If we're doing layoffs, we're going to be transparent. We're going to try and be kind of even keeled from an emotional perspective and get from here to there. Certain times, no different than any other relationship. You have to have even keeled.

But then when they talk to their board, hopefully, you know, you're passing, you're playing past the hat with that emotional bag. But, you know, we're telling founders, you know, the reality is it feels like we're going to be bouncing around the bottom for all 23. So, you know, kind of setting expectations. And we're not setting expectations that tomorrow interest rates are going to drop. The market's going to rip and we're going to be out of this like it's a bad dream. This is going to take some time. And it goes back to the old Stockdale syndrome of like being very, being very.

aware of the current reality, it lets you enable, enables you to absorb that reality better. So, hey, founder, this is really hard. We know it was tough. You had to lay off a couple hundred people or a couple thousand people, depending on who you are. That sucks to absorb some of that stress for you. But let's be clear and transparent. We think this is, you know, we're in the fourth inning or fifth inning still maybe.

This might take a long time even before what could be these negative black swans coming out of nowhere. We don't know what the catalyst would be on the upside. So we think we've taken our medicine, we've gotten lean, we've gotten fit, but we still might have another 14 miles to run on this marathon. But we do believe being all at the same time optimistic of, we do believe that you can finish this marathon. And there's going to be a lot of people that drop. And if you win, there's going to be a huge gold ring there for you. Yeah, the prize for the people who survive is not insignificant.

And I really think the shock observer concept is super important in lean. leadership because it is very easy to lose your cool. It is very hard for some people to accept the fact that their billion dollar company or their $5 billion value company is now worth $500 million. But accept it you must. There is no other choice. And if you have to get to profitability or break even or within spinning distance in order to get funded, that's what you need to do. So that is the job of leadership. And there's no reason to freak out about it or to be cantankerous, sometimes you just have to accept reality and make a plan. And I wonder when you look at your portfolio and who are the shining examples of people who were able to and what lessons

did they teach you of, hey, just let's face reality, you know, overall three cycles. What lessons did you learn and from whom on how to deal with this unique level of stress? It is unique. And it's, you know, when you're a leader and everything's coming up roses, like, it's great. Yeah. High fives. all around. Everybody's options are worth more. When everybody's stock options are worth less. When everyone's getting rich, it's easy to, it's easy to lead. So I think there are a couple great examples. I remember early and from 20 years ago, we were founder Jeff Thor, who's still an active angel investor and even a venture capitalist at Kraft today, but he was the founder's CEO of StubHub, which was Liquid Seats. You know, had a great launch party with the 49ers and

the Raiders, back when they were in Oakland to launch Liquid Seats. and he had to get really lean. I forget how much 4% of the company he took out, but yeah, well in excess of 50%, down to the fact I think him and a couple people were basically keeping the lights on when they pivoted to becoming stub hub.

And then they were very capital efficient. I think we were the only institutional investor. I think they used very little of our capital. And they just grew behind their own success. And it was, hey, I don't want to look anywhere else in terms of what I need. I'm going to be very self-deterministic. I'm going to set very strict milestones,

and I'm going to spend behind my own success because I have such deep belief in that my business is going to work. I think he was a great leader and a great entrepreneur at that time. I think you're right that the guys at Airbnb did a great job. I probably say an underreported one might be Zach Retaino in Roe and Roman Health. That he, you know, we talked going into the financial, going into kind of this change. and everything. We saw the writing on the wall in October, November. Not everybody saw the writing on the wall.

We're able to raise capital in December of 2021 to buy insurance before insurance got very expensive. And then by January or February of 2022, we had already ripped up the approved budget and said, hey, the budget we did in October, November, December of 2021 is, it. irrelevant now. The cost of capital has changed so much and our milestones and metrics have such different levels. We're going to just rip up the whole budget and start new and say, we think the cost of capital is going to be this. We think the cost of customer acquisition is going to be this. And we think these are the milestones we have to hit to achieve a bigger, better business. And we also

know we want to have this much cushion when we break even. So we bought insurance. We might not even use that insurance, but we're going to be able to run the business, like we're never seeing a dime a capital, and we're going to readjust things like unit economics, profitability, KAC and LTV to a very conservative level. So we know we're hitting those milestones. And, you know, frankly, they took a bunch of people out of the business in order to do it because you had to. You couldn't run as many projects because the key word of the time was focus. And they were doing this over a year ago when a lot of people, you know, we're still trying to figure out, you know, if, you know, is, is this just a blip? What's really going on is, you know, is it still the glory days of 2021?

That they acted decisively. They acted with a rallying cry to the troops of this is a time of focus. This is a time of leadership. Here's how we're reorienting the business, clearly in transparency, transparently communicating and doing one big riff that says, here's our core team. And we're going to able to achieve greatness with it. Yeah, yeah. And then when they, they were, I don't believe they went public, but there was a lot of talk of them going public. And that's hard because you have an employee base, a team base that thinks, hey, there's

some big liquidation event happening. I could potentially be able to sell myself and say shares. And to be able to reset that is never easy. Maybe you could talk about the most horrendous, horrific term sheets that came in during the dot-com era, liquidation. preferences, the recaps, the complete wipeout of the cap table and the resetting of the cap table, and then what you're seeing in today's market. I'm starting to have a little PTSD from the first time around, and I'm starting to see some

people come in and say, hey, you know, I'll fund this company at, you know, X millions of dollar valuation, and everybody before it is going to be whatever a low single digit percentage of the cap table. Talk about these, what some people might say are predatory, some people. you might see the best deal available. It's the most charitable way of looking at it. Yeah, it's kind of two sides of the same coin, depending on what side you're offering. You know, what we saw before was, you know, there was five X off the top liquidation

preferences, right? Where it's like, I'm going to get five times my money before anyone gets a dime. And, you know, people had to take that then because there was, you know, there was, you know, even if it was for a million dollars because you got to keep the lights on. It was the lender of last resort, which always has draconian terms. I think one of my lessons from that was I was always saying whatever it takes to keep the lights on. And I think that didn't work out for anybody because everyone was pissed. Everyone's like, hey, you're taking my company for pennies on the dollar.

At some point, it feels more like your company than my company. I'm not going to be your employee because I hate you for just stealing my company. So I'm out and there was no incentive for management to stay in place. And those deals almost always fail. You know, we're starting to see nothing like that. We're starting to see multiple liquidation preferences. You know, we've seen deals at two and a half X off the top. We've seen deals with two X off the top.

We've seen participating preferred for those of you who remember that. Even in normal financing rounds. And obviously we're seeing down rounds. I think some of those things are normal. and that you know you for companies that might have been overvalued to do a down round and figuring out a couple of our companies have done back down rounds it's not the end of the world because going back to that irrational bubble that we lived in there's irrational valuations and you probably if you normalize it you know you're probably going to have to take some dilution and you should be happy that you're able to raise money in 2021 at irrational price rather than viewing this is irrational we haven't seen um you know the terrible down rounds that are just, you know, spine crushing to management teams and founders, we haven't seen yet. We don't know if that's coming, but hopefully folks have learned from the past that if you,

if you crush a team spirit, you know, it's not going to be the right thing for anybody in the business. Yeah, that is the challenge. Somebody comes along. They want to put a million dollars into this business. But, you know, nobody else will invest. And they ratchet up the terms where they get. five times they're a million dollars and they wipe out the existing cap table.

Now, they've just got all this toxicity around the cap table. And the founders, nobody's nobody's got, yeah, nobody's vested in the business anymore. No, and I think what you want to do,

and we've done some little bit of structure so far and some following rounds of our companies, you know, obviously whatever it takes and send someone, especially if you think that's the last round until you break even, because, you know, there's downstream effects.

if you put a bunch of structure and it's almost impossible to raise capital later, you know, because it's so hard to figure out what the waterfall looks like. But then the other side is, you know, if you're going to be so greedy, you're taking all the economics and there's not much less for everyone else. Yeah, people won't care slash, you know, they'll actually feel ill towards you. And that's not going to work for anyone. Is there a solution for these rounds to thread the needle where the new money gets some extra consideration, but everybody stays?

incentivized? How do you manage it? I mean, we've done, we haven't done it in this cycle and other cycles. Like, hey, here's the cap table. We know what it's work. We know what the pie is set. How do we, and, you know, all these camp tables, whether or not you, you signed documents and got these huge legal documents take forever. We're all kind of written in pencil, right? Like, you could always say, hey, if we want to keep management incentive, we could give them X percent of the company. Early investors, you took a risk. You get this percent of the company. The new guys need this percent of the

company, existing investors get the rest. And then generally, hopefully there's enough value there that it seems fair to everybody. And that's the kind of the key thing of how do you make sure everybody's vested in the long-term success of the business? Because once people stop caring, that's when, you know, the businesses, you know, loses its mojo and then it's off and then you're off. You know I'm in the email newsletter business. I got a bunch of newsletters at Inside the launch ticker, my personal email list.

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slash twist. Go ahead and check it out. If you're not doing newsletters, you're missing out on one of the best ways to build a deep and meaningful business relationship with your constituents and then eventually convert them into customers. When we look at exits, there were an opportunity to sell in secondary in a lot of these companies during the 2020-21 period. There were SPACs. There was an ability to do direct listings. We had a lot of options of how to get liquidity.

Did you take advantage of that? Do you regret not taking advantage of that? How does that inform you in the future as a fund manager? Yeah, so largely, most of our investments are early states, right? So we have long periods of illiquidity. Obviously, the secondary markets were just starting to develop that time period. But we, even in 2020 and 2021, we view there's being a lot of levers to getting liquid. Obviously, M&A is always the most prominent for all technology companies, traditional IPO,

SPACs, direct listings, and private secondary shares. And we did all of them. through 2020 and 2021 because, you know, our belief is, you know, you can't eat IRA and you, basically your job as an early stage investor is to return capital at a profitable way to your investors. And I don't think anybody, any of my institutional LPs are relying me to get every last dollar. They want us to drive great returns and provide them the capital back. So, you know, we were, we were early in using the secondary market. We were early in. and using SPACs, and we had a couple of companies go public via SPAC, including draft

Kings, which had a great run. And then obviously traditional IPOs with things like Airbnb. And so obviously, we wish we had done more. Obviously, you know, the definition of a bare market is wish we would have sold more yesterday. So, you know, we wish we would have done more. But I think what's the lesson that we're going to take going forward is I think the companies, and I'm involved in several companies who are hopefully the next. set of public companies, companies like

Ro and Discord and companies that public investors are excited about once that market reopens. But being able to have those companies manage their cap table and they're going to need to provide liquidity on a regular basis for either early investors or founders through tenders or other mechanisms, they're going to need to be more transparent in how they do that and whether they use CARTA or some other way to have, hey, we think that it's going to take us a lot.

long time to go from my seed investment to being public. I think at Pinterest, it took us, you know, 12 years plus to go from the first institutional investor to being public. And therefore, not only for us, who probably has a portfolio, but for that, you know, for the early employees, how do you get liquidity along the way, especially now we've all learned that lesson that something's better than nothing. You know, how to, along that way, how do you get liquidity? And then how do founders come to an agreement with their constituents, both employees and investors and how they communicated out clearly because I think the wild west of the secondary market is probably not good for anyone either.

Yeah, that seems to have created some bad feelings where maybe founders got to get some liquidity, but the team didn't wasn't. One team member is emailing, you know, the half dozen or so secondary brokers trying to sell something that they may or not be able to, therefore stirring up, you know, the rest of the engineering team about, you know, as they're, you know, searching on, you know, they're searching to use car market with their other, with their other browser tap. So I think that only causes, it only causes noise in a system that already has so much noise. So anything. What's the right way to do it in terms of secondary? If there was a standard that could emerge

after this school bus. Hey, we're doing this, we're doing this deal tomorrow. And I think we think we should be able to, we think this is fair that early investors and early employees get liquidity along the way. You know, you can do it in Cardham. Say, hey, after, you know, four years maybe from founding or every two years, there's a regular time where, you know, we'll set a price, no different than a tender offer. And we'll say, you know, Jason, you invested at a dollar. Now the company is worth $8 a share.

Do you want to sell anything up to X percent of your holdings? And early employees who invested X percent, you know, who invested could sell up 20 percent. of their holdings also. And it also gets rid of what was going on a little bit in the valley of people hopping around to create a basket of options because they have diversification. So I think that regular taking pressure out of the system. I never heard anybody express it that way. Yeah, you did have people saying like, hey, listen, I've got Airbnb shares or Postmate shares,

maybe I want Uber shares, maybe want Google shares, whatever. I'll go spend two years of Google, two years of Postmates, two years of Pinterest, and therefore I'm going to build my basket by job hopping. And that's not good for anybody, but that's how those founders saw diversification in a world where there was no liquid market for their options. So if it's on a regular cadence, it's transparent and it's equitable and everybody gets a chance to participate. And you can differentiate yourself as an early stage company that we're seeing in the secondary market with all these brokers, you know, it's chaos now. Tons of people are looking for liquidity. there's very low bid volume.

But coming out of this, if you could say, hey, one of the premises of our company is, we believe you should have a regular access to liquidity. It's not going to be for all your shares, and it's not going to be whenever you want, but that's the nature of being a startup. But we're not going to make you wait like you had to 20 years ago for all of us across the finish line together

when the lockups over after the IPO. We're going to create regular release valves so you could buy that car, you could buy that house, and we could all be successful together. Anything inherently wrong with the SPAC format going out? It's gotten a pretty big black eye now. All these SPACs were created, and a lot of them weren't able to find an acquisition, so they've been sort of shuttered.

But it did seem like a way to get public quick and to engage the public markets, and we have so few companies going public that it did seem like it had a positive, almost too positive reception with retail maybe getting changed. too excited about it. Is there anything inherently wrong with the format or that needs to improve? Because it did seem to me like this could be a great way to get more companies available earlier to retail investors. But it's almost seemed like it was a victim of its own success to me.

It was. It was a little bit, a lot of things of financial markets. If something's good, more is better up until the point where you just, you know, you stuff the turkey into a blur burst. And, you know, and that's what happened. And obviously, in a time of free money, that, only happened at an accelerated pace. So I think the concept of a SPAC of, hey, you could go public with a trusted partner

and you can control your shareholder base and tell a story in a more deliberate way. It's very helpful. And Draft Kings was a great example of that. In an interesting story that maybe took a little bit more unfurling and you wanted patient capital around for that was a wildly successful SPAC and therefore, you know, it suited it well. And I think there's going to be other companies where it suits it. but you have to still be able to tell your story crisply and clearly.

You still be able to have to have a projectable business, especially in a world where SPACs have projections. You want to be able to hit those numbers no different than the other company. And you want to be able to have the same attributes as a public company. And it shouldn't just be a loophole to be able to let startups go public. Those attributes of being a public company should be the same for SPAC, as well as traditional and direct listing companies. it just should be slightly different in terms of maybe storytelling and the ability to pick your shareholder base.

Yeah. I mean, if consumers are educated and the information is correct, I like the idea of consumers theoretically, retail investors being able to invest earlier in companies like we do. But they need to understand like this might not be, if this is a high, high, high risk bet you're making on vertical takeoff a landing. Yes. You know, devices like. You've never been in one, like Joby, like you've never been in one of these. They don't exist in the real world for consumers yet. But boy, what an incredible thing to be able to place a bet on.

But you might not want to place your kids, you know, college funds on it, but you might want to put a 1% speculative bet on it. If you think you can withstand that, sure, you could play venture capitalist by buying a vertical takeoff and landing company. No different than angel investing. You don't want to really risk anything in a single company you can't afford to lose, but you can build a basket. of these assets, which should perform in the medium term, especially if you understand the

company and you've been thoughtful about the disclosures. What are the key things you look for in founders, independent of market, up, down, left and right, but just over 30 years of doing this, what are the key attributes that you see across the successful founders? I think it's great, is number one. They've been able to persist through adversity to success, and that's been proven. Obviously, sometimes in serial founders, you've been able to see it in the startup world, but you've seen it in their life in some respect.

It could be in athletics. It could be in chess. It could be whatever it is that you've seen the ability for someone to face down adversarial conditions. It can be immigrating to the United States. It could be, you know, they faced adversity and they weren't rattled, but they persisted to success despite that diversity. The second is they really understand their market. So they understand where the competitive dynamics, how people compete, what, What are the economics of that unit economics of that business?

What are the union economics on the industry and the whole? And then what it now that you understand, you know, you have a gritty person to understand a market. What's your secret? Right. So you've figured out something because in general, if there's a big market that's complex, there's enough smart people who understand how that market works and there's enough smart people who start a business. But do you have that secret that will be the tip of the spear that will enable you to accelerate and learn something that other people might not know or something might happen.

You know, in case of Roe, to a certain extent, it was, you know, Viagra's coming off patent. So there's going to be an opportunity to private label, direct to consumer, the most successful drug in the history of drugs. And therefore, you know, the customer acquisition economics matter. And erectile dysfunction is a red light or an engine light for men's health. and that's an opportunity to begin to have a conversation in a reasonable way around that. And that was something before, you know, hymns or keeps understood exactly what was going on. They had the opportunity to be a first mover among the secret that not many people understood fully.

Fantastic. Really well said. What do you think of these direct listings? Is that the future of it as well, now that they could raise capital with them, perhaps? You know, these things are coming closer and closer together. So, you know, direct listing that could raise capital and needs an S-1 and therefore needs bankers, how is that all that different than a traditional IPO? I know some people took a direct listing just because it wasn't a traditional IPO and it seemed cool. But I've, you know, it tends to be a specific company. It tends to be a consumer company that's already built a brand.

If you think about Spotify or WordBee being in that kind of sense, it tends to be a company that generally doesn't need capital because if you're going to raise capital, it still feels like the traditional IPO is a way to go. So you don't need capital. You're profitable and you have a big enough war chest. you're of size that you're still going to get research coverage and people are still going to care. So you're over that couple billion dollar threshold that if you go public in a direct listing and no one cares, you know, you're never going to get a flow. You're never going to be able to get liquid.

You're never going to be able to raise capital again. And, you know, and therefore in the medium term, no one's going to know the difference, right? As long as in the first couple of years, you're going to have name recognition, you're going to have a critical mass of capital to get from. from here to there, so no financing risk. And you're going to have a float to be able to start acting like a public company. It doesn't matter. But I heard a great sense up, like, here's all the ways to go public. But it's kind of like, you know, how you were born and people say, you know, no one asked you

after six months, you know, there was a baby born to be a C-section or a traditional birth. You're just born. And I think, you know, after three or four, you know, maybe even two years of these companies, you know, people don't remember Warby Parker was a direct listing, draftings was a SPAC, and Airbnb was a traditional IPO. They're just public companies. Yeah, and great companies at that, resilient companies that seem to be fighting through this.

Listen, a great hour. Well done on your first appearance on this weekend startups, and we'll love to have you back. Keep fighting the good fight out there. And you are investing also early. So seed stage investments all the way to later stage. Best way for folks to contact you if they've... At Rick.

At Rick, you already give a plug. Rick on Twitter, you know, Rick at firstmarkcap.com, which is amazing, a little bit more complex. Yeah, all right. Well done. And I'll see you all next time. Yeah. Thank you very much. Good. Well done. Great job.