This Week in Startups - Mastering Venture Capital and Founder Strategies with Rory O’Driscoll and Mark Suster

Episode Date: May 29, 2024

This Week in Startups is brought to you by… Northwest Registered Agent. Start your business fast and secure with Northwest Registered Agent! In just 10 clicks and 10 minutes, set up your entire business identity—name, address, mail service, phone, email, website, and domain. Everything You Need to Launch Your Business in Minutes! For just $39 plus state fees, Northwest will handle your complete business identity. visit https://www.northwestregisteredagent.com/twist Wistia - The all-in-one video platform for business, with tools that help you create, manage, and measure the impact of your videos. Try Wistia for free at https://www.wistia.com/startups1 HiddenLayer - Generative AI is revolutionizing industries. HiddenLayer’s AI Detection & Response Solution secures your Generative AI & LLMs from malicious attack. Helping you generate more – by enabling seamless & secure Generative AI. Visit https://www.HiddenLayer.com/TWiST to learn more. * Todays show: Rory O’Driscoll joins guest host Mark Suster to discuss: advice for founders with traction but not yet booming (2:33), thirty years of internet cycles and their impact on venture capital (13:25), the approach to big-picture thinking vs. immediate traction and strategizing exits (36:58), and more! * Timestamps: (0:00) Rory O’Driscoll joins guest host Mark Suster. (2:33) Rory’s advice for founders with traction but not yet booming. (9:09) Aligning incentives between founders and venture; reminding CEOs to be "selfish.” (10:23) Northwest Registered Agent - For just $39 plus state fees, Northwest will handle your complete business identity. Visit https://www.northwestregisteredagent.com/twist today. (13:25) Reflections on thirty years of internet cycles and their impact on venture capital. (18:25) Debating AI: Does it favor the incumbents? (20:07) Wistia - Try Wistia for free at https://www.wistia.com/startups (21:35) What Rory and Scale Venture looks for when investing in AI. (26:20) How OpenAI has changed the landscape (29:18) HiddenLayer - HiddenLayer’s AI Detection & Response Solution secures your Generative AI & LLMs from malicious attack. Visit https://www.HiddenLayer.com/TWiST to learn more. (30:30) Debating “faux-mentum” vs. long-term sustainability in investments. (34:34) Balancing deep passion and business savvy when evaluating founders. (36:58) Rory’s approach to big-picture thinking vs. immediate traction and strategizing exits (44:02) The importance of picking vs. price discipline. (1:00:58) Advice for founders dealing with “busted cap tables.” (1:08:07) Rory’s advice for his younger self. * Subscribe to This Week in Startups on Apple: https://rb.gy/v19fcp * Check out Scale Venture Partners: https://www.scalevp.com/ * Follow Rory: X: https://x.com/rodriscoll LinkedIn: https://www.linkedin.com/in/roryodriscoll/ * Follow Mark: X: https://twitter.com/msuster LinkedIn: https://www.linkedin.com/in/marksuster/ * Thank you to our partners: (10:23) Northwest Registered Agent - For just $39 plus state fees, Northwest will handle your complete business identity. Visit https://www.northwestregisteredagent.com/twist today. (20:07) Wistia - Try Wistia for free at https://www.wistia.com/startups (29:18) HiddenLayer - ****HiddenLayer’s AI Detection & Response Solution secures your Generative AI & LLMs from malicious attack. Visit https://www.HiddenLayer.com/TWiST to learn more. * Great 2023 interviews: Steve Huffman, Brian Chesky, Aaron Levie, Sophia Amoruso, Reid Hoffman, Frank Slootman, Billy McFarland * Check out Jason’s suite of newsletters: https://substack.com/@calacanis * Follow TWiST: Substack: https://twistartups.substack.com Twitter: https://twitter.com/TWiStartups YouTube: https://www.youtube.com/thisweekin Instagram: https://www.instagram.com/thisweekinstartups TikTok: https://www.tiktok.com/@thisweekinstartups * Subscribe to the Founder University Podcast: https://www.founder.university/podcast

I had my own business before I did venture capital, and I kept a startup going for four years. And I look back in retrospect and say, we were kind of done at the end of year one. And the other three years were a total waste of my life and just slogging on trying to make something work that didn't. It was a dumb deal. It was a fail, and I should have failed quicker. So I put that out right at the start because even he went up and you kind of outlined three options. And just to put it out there, even if he went up to the entrepreneur, even if he went up the third option, And the thing you're not wasting is time and time is all you got.

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Wistia. The all-in-one video platform for business. With tools that help you create, manage, and measure the impact of your videos, try Wistia for free at wistia.com slash startups one. And Hidden Layer. Generative AI is revolutionizing industries. Hidden Layers' AI detection and response solution

secures your generative AI and LLMs from malicious attack, helping you generate more by enabling seamless and secure generative AI. Visit hiddenlayer.com slash twist to learn more. Welcome to This Week in Startups. I am thrilled to welcome my friend, a colleague, someone I've worked closely with. Roryo Driscoll, welcome to this weekend startups. Hey, Mark, great to see you.

And yes, we've worked closely with, and dare I say it, someone I've lost money with. Oh, we're going to go. straight there. We can put a pin on that and circle back, but you really get to know the people you lose money together. You really get to know the people you lose money with. That's true, which is probably why we still like talking, because I think we lost money together in honor.

In honor. You've been investing at scale venture partners for 30 years. I kind of thought I've been doing this a long time. I crossed 17 years as a venture capitalist, 30 years. That's correct. Yeah. And 30 years on Labor Day at scale or its predecessors. Amazing.

Well, congratulations. I hope you'll celebrate. That means that you really, 1994 was, I believe, the year that Netscape IPOed. No, IPOed in 95. It was an April. It was an August 95. But yes, I actually, one of the first things I saw in, actually was in late 93, I saw Netscape and was still mosaic at the first Internet World Conference.

Yes, it was right at the start of the dot-com book. Yes, I remember Mosaic and all of that as well. I was a technologist back then. I was a computer programmer, not a venture capitalist. But given that, you have seen the world that existed before really venture capital and even the internet got crazy. So you've seen a lot of cycles. We're going to talk a lot about that today.

But I like to start shows off with advice for founders. And so let's get right into it. If you were a founder and you had a founder and you had. raised a little bit of money, let's say $3 million, $10 million, whatever. You had traction. You felt like you had a business going, but it wasn't booming. What would you do? Like, would you try to grow as quickly as possible so you could raise more venture capital? Would you cut your costs and get the whatever they used to call it, ramen profitable or, you know, steady state? But then knowing it's going to be harder to raise venture capital, would you return money? Like, what would you do? It's a great

question. And, you know, when you sent me the questions, I kind of came up with my first degree answer. And then it kind of nodded me for an hour. And I've been kind of mulling over kind of nuances on the answer. So maybe start. I had my own business before I did venture capital. And I kept the startup going for four years. And I look back in retrospect and say, we were kind of done at the end of year one. And the other three years were a total waste of my life and just slogging on trying to make something work that didn't. Right. It was a dumb deal. it was a fail and I should have failed quicker. So I put that out right at the start because you kind of outlined three options.

And just to put it out there, even if you end up to the entrepreneur, even if you end up the third option, the thing you're not wasting is time and time is all you got. So don't be ashamed if you end up in option three. But stepping back, you face a choice in the first two. Do you go for it, keep the burn high and stay what I think David Sachs elegantly referred to as venture fundable? In other words, with enough growth rate to be attractive to venture, or do you hunker down and get the cash flow break even or near it and try and survive longer? Right. That's the first big question. And the interesting thing is, it's not a continuum.

It's a binary divide. Do you reach for the stars and go for that venture growth rate? Knowing that, by doing that, you intrinsically re-risk the deal. You can't der-risk it. And if you fail, you fall sheer, right? Or do you hunker down, but it's exactly what you said. if you hunker down in a lot of businesses, especially enterprise software businesses, where distribution takes capital, once your growth rate slows, it's really hard to attract additional venture money.

So it's a very binary decision, especially at the three or 10 million capital rates. If we raise 50 or 80 million and you're doing 100 million in revenues, maybe you can throttle down, take your growth rate down and then come back up because you have an asset that's worth something. But if you're early on in these early stage companies at the $1 million, $2 million level, the truth is if you slow down at the $2 million level and you're growing at 10%, venture guys aren't going to be interested. So you are making a binary choice. So it really boils down to your assessing how likely it is to get that reacceloration.

I don't disagree with anything you said. But I think the first thing you need to do is a gut check. Are you deeply passionate about what you're doing? Do you want to spend the next five years of your life on this? As someone once said to me in my first startup, I built a company. It was doing well. We got the $14 million of run rate revenue, $36 million in backlog. But it wasn't looking like it was going to change the world.

The biggest problem I had, Rory, is I raised too much money. So I was kind of upside down on the cap table. I had a bunch of investors with big expectations. Now, here's the thing. A mentor said to me, you only have your youth and your energy, once, you are painting on too small a canvas, you have honored your fulfillment to your investors. It was five years in. You don't owe them anything else. You've given them your best effort. So if you don't want to stay doing this, it's okay now. They will get over it if you tell them that

this isn't going to work. Now, I stayed around for another year. I transitioned. I brought in a new CEO and I started my second company. That piece of advice changed my life. Because I because my second company got acquired by Salesforce. I made a bit of money. That enabled me to pivot into venture capital. So that, like, I would have stayed another five years. But I do want to point out, the thing that really drove me, Rory, is that I just wasn't loving what I was doing.

Now, I want to contrast that with a friend of mine, Adam Miller, who had Cornerstone on demand. And he and I were like kind of roughly at the same time, roughly at the same level. And he stuck with it and went on to IPO, made a lot more money. Everything worked out because he got. got through one cycle. Now, the people who did exactly what I did at the company, it was called Build Online, in the construction space, the next generation of companies, the best company sold for 800 million. And then fast forward, we now have ProCore and other players in the space. So, like,

for me, sometimes the market comes, but it comes later than you expected, but I just wasn't having fun. I'm sorry for the long response to your response. No, it's cool, because the real, the meta point there is, it's so multifactorial, it's so fact and circumstance specific, right? That, you know, you can't give generic, it's hard to give generic advice without getting the facts, but what you can give, some of the generic advice, you can't give advice on the decision, but you can't give advice on how to make the decision. And I think what your friend said, versions of that are really important, right, which is, you know, you owe us, you owe us your best efforts, but you don't owe us your whole life. We're diversified as venture investors. I, I think, you know,

That's the advice is to know that VCs might tell you otherwise, but if you've given it your best, truly given it your best, and you act in honor in how you communicate why you're not going to continue the journey, they'll get over it. Totally. And, you know, especially if you give them time and help them land the plane or recruit someone else. Exactly.

Exactly. Do it ethically. Do it out of because I actually, funny, if I tell people my CEOs this a lot, it's kind of a nuance on that, even at later stages, and they're trying to figure out what to do is, tell you, because what I say to them is, I want you to be selfish.

In other words, it's my job as a board to make sure your incentives are aligned with mine. And if I haven't, I'm an idiot. And it's your job then to respond on your incentives. So don't spend a whole bunch of time cycling through, what do you owe me, what do you owe your stairwell? Just do what's right for you, and my job is to make sure that I'm aligned with you.

And, you know, if the cap table is sensible, if you own a big slug and we all make money together, or we all keep going together that works out, right? But my job is to create the alignment. And then your job becomes simpler as the CEO, do what feels right for you. It's what you said. Are you feeling it? Do you have passion for it? Do you have any reason for that passion? Are you just insane? Do you have actual evidence of success? And then another part of it I'll show it right out there is, this is this is a good one for a fact. I'm actually dealing with this one time now. Remember, if we say to you, we want you to keep going, want your soldier on, but we're not prepared to cough up

any more money. Right. You know, our actions speak a damn sight louder than our words. Right. And telling some guy to strap himself to the mass for the next three years on $2, eat ramen noodles, but he doesn't want to do it just because we want him to do it. Hey, startups. Are you ready to launch your business without the headache?

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getting you up and running in no time. Visit Northwest Registeredagent.com slash twist today. Here's a good point to interject, Rory, is I agree, of course, with what you're saying. It's okay to have an open dialogue and hopefully you have an open relationship with your venture capitalists. If you have a venture capitalist, you can't have this open relationship and open dialogue with. You probably chose the wrong VC, but I think somehow people don't have the hard discussions to say, look, I want to tell you about how I'm feeling about my business. What's your current outlook? I'm not trying to force you to say, are you going to write another

check, but if I'm committed to the next three to five years, are you? Or are you kind of looking at this like it didn't meet your expectations and you'd be okay if I created a soft landing? It ought to be okay to open up conversations like that with your investors. And because I know a lot of entrepreneurs don't, I'd say almost all entrepreneurs don't open up that conversation, sometimes I open it up for them. That's smart. Because the truth is, what I've learned is, if you don't have that conversation, it's not like they're not thinking those thoughts. So people will end up acting on it and you'll just be like, why is this happening? It's far better off to just know what's going on and have the conversation. Almost invariably, I believe, having an informed

conversation is a lot better than, you know, groping in the dark where you're trying to figure out what they're trying to do. And sometimes, you know, they're trying to optimize for you, but you haven't had a conversation on what you want or you haven't been clear with them what your expectation did. So I agree. And, you know, it's a tricky conversation because you don't wanted to read as, oh, it's all awful, but you know, you do have to be able to say, you know, how do we feel about where this business is going? Are we creating value? Is this the best you see your time and money? And the truth is some VCs, just like some entrepreneurs, but some VCs are not super high on EQ. So maybe not everyone is prepared to have this conversation, but it's a conversation

you should at least respectfully try to have. I want to pivot and I want to pivot to the market. And I want to talk about, you know, here we are in 2024. I mentioned you have a 30-year cycle in investing in the Internet. Obviously, the first big wave was everything moving online. For people who didn't live through that, it was both an exciting time because a lot was going online, but, like, access was incredibly slow. Applications, you couldn't do a lot in the browser, so it was, like, clunky to get people to use it. Like, those were different days. We then had a big wave of things like Ajax, if you remember Ajax, which I think it was asynchronous.

Was it JavaScript and something? I can't remember anymore. Anyway, it gave you a lot more flexibility in browser so you could actually make things feel like applications. That was a big wave. Then we had a big wave that came from video streaming. Then we had a big wave, of course, that came from mobile. So AI seems to be this big platform shift. Is it?

And what is your outlook personally and at scale venture partners about AI in 2024? Okay. So unpack that a little. That's a good broad history of the Internet. We mainly do enterprise software. So kind of simplistically put, I would say it's really been 20 years of take X and move it to the cloud, right? You literally look at every application that existed in 99 and over the next 20 years,

you move them to the cloud. You started with individual apps, that was SaaS, and then he went on to horizontal compute, and that was AWS and all the pass providers. So that was, as you say, the last 20 years, right? You're right. The big question is, we do believe that the next 20 years are going to be about adding intelligence in some way, shape, or form to those applications that are now in the cloud, or maybe sometimes indeed at the edge.

So in one sense, it's analogous to that. At a simplistic level, you can say, you spend 20 years investing and moving stuff to the cloud. Now you can spend 20 years adding AI to all the stuff that's in the cloud. So at that level, yes, it's a platform shift, but I think it's going to be very different. I don't think one level down, I think the analogy falls apart, right? Because I think the, and in a way that is kind of mildly angstlic, because the great thing about take X and move it to cloud, it was simple. we had 20 years of making money where you literally just looked at the I mean you know self-force big insiders he worked for Oracle he competed with Siebel he said oh we should

make that but put it in the browser big ass insight you know execute do the same thing for yeah as a guy who worked for Mark Benioff I remember that yeah he was a really good technical visionary and he had some really strong belief systems I remember building my first company and everyone wanted me to do client servers. So they wanted me to have the browser-based version of what I did, but they wanted a local version. And they wanted a local version because they wanted more functionality. They wanted the data stored locally.

They wanted higher performance. And I watched what Salesforce was doing at the time. And Salesforce just refused to do all of that. And the issue was like, if you were building software for heterogeneous environments, you then had to have development teams that could manage all the integration with all this heterogeneous environment.

And Mark had great vision to say, I'm just going to build in the browser. The browser is going to get better. The experience is going to get better. My unit economics are going to be better. I'm going to win. I'm the cloud company. Totally.

And that was great about it. It was a single sentence bet. And the sentence was right. He put a little sign that said no software and executed brilliantly. Right. And if you look at it broadly speaking, the thing that they make in 2024 is highly recognizable when you were there in 1999.

I don't think it's going to be the same in AI because what it's doing, instead of moving an existing app from on-prem to a better compute environment of the cloud, this is about reimagining and reinventing what the entire app does. And often it's instead of kind of monitoring the work, it's actually doing the work. So the first thing is, it's very different than copying something and moving it to a different architecture. It's really reinventing. So every single application level company in this space is trying to reinvent workflows,

not just transform them from one computer architecture to another. So it's way trickier. It's moving extraordinarily quickly, and it's evolving. These companies evolve like fruit flies. I mean, I've done some AI investments in the last three or four years where I look back one year, two years in, and a huge amount what we thought was true two years ago just isn't true anymore. And we have smart people.

They've adopted. They're doing the next thing. And then again, it's so different than what we went through in, you know, take X move it to the cloud lap. But it's a very different. So we think it's a thing. But we think AI is obviously. Does that get some advantage to startups? I mean, like the big debate that everyone's having, I think, on the investment side is,

is AI favoring the incumbents where Microsoft, Amazon, Facebook, and the big players have so much dollars to train models, build models. They've got customer information and therefore life favors them. And then there's the people who say, no, like, this is a fundamental shift and it favors new entrance. Do you have a point of view? Sure. I think it's going to be, that interesting enough, I think it's going to be not dissimilar to the way it unfolded in, let's call it Sass and Cloud, which is at the infrastructure level. There's three hypers, Amazon, Google, and Microsoft in kind of cloud platform services, pre-AI.

And there'll be some version of that for foundation model. Will it be three? Will it be five? Will it be seven? I don't know, right? It'll be those three guys. It'll be open AI, it'll be one or two others, right?

And I think at that level, it's going to be really hard very quickly to play as a startup. I mean, arguably it already is. If you haven't already raised $2 billion and you don't have a sovereign wealth on sugar daddy, it's too late. Right. However, just as in the in kind of SaaS and Cloud,

at the application level, it's going to be very different because everyone has their own workflow. So everyone has their own needs. And truly, whatever the foundation model does, in all the deals we're looking at, is only small, not insignificant, but by no means the vast majority of the total process that you're automating. And there's a whole load of industry-specific, you know, fact and circumstance-specific product that you're building around whatever process you're automating.

So I think there'll be lots of apps. Hey, everyone. Quick shout out to my friends at Wistia, the go-to platform for any marketer, wanting to make the most out of video. So if you're deeply involved in crafting email campaigns, display ads, or creating that flawless piece of branded content, you need to integrate video into your marketing mix. You know that. Video is super influential right now. Consumers expect it. And Wistia is the ultimate tool every marketer needs to supercharge their video strategy. It's a powerhouse for generating leads. You can also add Wistia's lead gen forms directly inside your videos,

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and keep them moving through your sales funnel effortlessly. Whistie even lets you add custom CTAs to your videos to drive prospects to the next stage of your funnel. If you're looking to elevate your lead generation, streamline lead nurturing, and enhance user engagement with advanced analytics, Wistia is the perfect tool for you. So, here's your call to action. Wistia is everything a marketer needs to create host, analyze, and market video. Try Wistia for free by heading over to wistia.com slash startups one. Again, that's WISTA.com slash startups one. I want to throw this out because I'm really interested in real time and your thoughts on this. So, you know, like all of us, we're struggling like what is a worthy investment in

AI. And of course, AI investments are expensive these days and everyone's throwing money in and lots of competition, usual dynamics and venture. So I met with this young lady yesterday, just a wonderfully smart person. And she started by building some AI models around voice and video. She realized very quickly how much dollars were going into models and how difficult it was going to compete with that. So she moved into what I might call orchestration. So she built workflow tools for corporates. And she said, if I have a difficult time keeping up with all of the changes and foundational models beneath me, they must have a shit show. And her pitch now, the corporates, is, in a way, I help abstract you from all this chaos beneath you. You can use any

of the foundational models to meet your needs. And I'm like an orchestration layer for you managing all of. Is that a good play? Is that a bad play? Or is that how you think about this market? It depends on how, I think it's at least a possible play, right? Let's start with that, right? Which is, is that I'm not sure that simply being able to rotate between models alone at an orchestration level will be enough, right? But I do think that some combination of managing multiple models interchangeably, as you say, and having the surface area. around the training of those models, the workflows around, that there will be companies that build on top of those models that provide,

as you say, an orchestration plus layer, orchestration plus workflow. Like, we've looked at a number of, like stepping back, we've looked at a number of companies over the years that are about automating, you know, one of the bizarrely unautomated processes, which is that every business still gets lots of paper. And now they get it online and it's called a PDF. But think of it as a non, a piece of information that's coming to your business that's not kind of input into your system.

So it's usually people call that unstructured data. Totally. Unstructured data. And every one of them has to have some version of a, it used to be a physical, now it's an online mailroom to get that stuff out, look at it, and key it into the system and get it correctly.

We're single, a number of companies kind of do a combination of, hey, we'll leverage all the foundation models for what they do, but there's a lot of stuff that you can do specialists on top of that to manage that problem. So some part of it's managing the foundation. foundation models. Some part of it is adding some of your own models on key extraction points.

And then some part of it's just the workflow. As you say, and this gets back to your point, if you're a large corporate, if you're Bank of America, if you're a Citibank, if you're a genetic, you want that level of abstraction. You want someone to say, make a lot of this easier. Because I know, I know as. And deal with problems like hallucination and bad models. I don't want to think about all that stuff. Yeah. I'll just tell you like how I've thought about AI, because probably like you, we started investing in AI-based companies in 2012. It was not a big deal then. It was not really called AI.

People called it machine learning, you know, for a while. And it ended up being mostly back office stuff. So I want to give you an example. We invest in a company called Revelyer. And what Revelyer does and what made me think of it as your example, they take medical records from health care providers. Mostly there's PDF documents of people. you know, who have digitally entered something but not in a structured format.

They ingest it all. They use OCR to make it structured and put it in a data model. They run a rules engine against it for the health care payers so that they can look at whether the health care provision is compliant with the expectation of the payer. So why do I mention this? There's no way these guys are going to compete with OpenAI, but they don't have to. What they're doing is very specific to rules. of how healthcare insurance firms work, how health care provision works. And it's so specific that

I don't think it's like generally abstractable and disruptable. They are growing like a weed right now because what they did is they automated this, Rory. If you look at this process, it's existed forever, but let's call it 30 years ago, it was manual. You sent someone to the office and they pulled files off a shelf. 15 years ago, you got a huge cost improvement by taking those off the shelf, scanning them and sending them to India or the Philippines, so you had labor arbitrage. Then labor arbitrage isn't good enough. So AI arbitrage, machine learning arbitrage, adds the next layer of breakthrough. And again, these guys are going like weed. Now, Rory, what I think is different since Open AI came out, and I want to ask you about this,

is all of that back-in process automation was already happening prior to Open AI. What Open AI in a way did is it changed the consumer. expectation of how the end user is going to interact with AI. And in doing so, I've been thinking of it more like mobile, because mobile fundamentally changed how users interacted with systems that had to change all systems and use new functionality. And of course, AI is different, but that's how I view what's new. Like, where do you see this?

Again, there's a lot in there. Yeah, there's too much at you. No, no, no, no, there's a lot. I mean, I think Open AI did two things, first of all. It set a new expectation for interacting with AI and how you do that as you reference. The second thing it did, brutally, is that it took a whole bunch of investment that many companies, including companies you and I had funded over the prior four or five years, and made it, you know, functionally not obsolete as much as an entirely sunk cost.

And, you know, it took things that took 20 million to build and replaced it with something that cost 10 cents a minute or whatever, right? So I don't want to lose sight of that impact of Open AI and the Foundation models, because that's been a pretty profound one in terms of digesting how to play in the space. But go to your point on the change in expectations and kind of interaction mode. I think the thing it definitely has done is, let's be honest, it's taken, AI companies two or three years ago would kind of hide the light under a bushel. And they'd say that a company, you know, you're selling some vertical software with using AI. and you'd really focus on what it's doing. And then you'd almost be a little bit, not quite ashamed,

but you wouldn't mention the AI. The customer's a little suspicious of the AI. So one of the things that's really happened here, it's just been an astonishing lift is there's now this corporate imperative in every company in America to have some kind of AI use case. So you're getting a lift. Everybody's getting a free lift. So, you know, God bless you, Sam.

Right. Every company is now, instead of hiding their AI, they're kind of talking their AI book. Right. So I definitely think there's just been, roll lift there. I mean, I saw a chart just a few days ago, kind of Fortune 500 references to AI and their earnings calls and it was kind of flat, flat, flat, flat, and then suddenly exploded. And, you know, it's easy to sneer at that. But I remember, as you say, Mark,

the internet in 94, 95, and it was like a light switch. It went from, why would we do this? Why would we do this? This is silly to, oh, my God, we better have a strategy. And the companies that were there just when that happened, just experienced this tidal wave. So I think that they're going to get that. You and I are such big beneficiaries of this right now. Anyone who was fortunate enough to have a company, capital, product, customers prior to open AI is suddenly getting a big boom in terms of customer demand. And that's like such a big boom for us. AI has changed the startup game forever. And companies that are slow to leverage this technology are going to risk falling behind their competitors. If you're not deploying any,

AI inside your startup, and your competitors are, I think we know what's going to happen. They're going to get more done. They're going to move faster. And generative AI is so powerful, but we all know it comes with security risks. There are tons of threats that could cripple your AI investment. So how do you accelerate AI adoption while also managing these risks? Well, hidden layers, AI detection and response platform is your secret weapon. It's a security solution designed specifically for AI and large language models. It gives you and your team the tools to see and stop confidential information leaks and to prevent malicious code injection and safeguard your models from theft. It's trusted by leaders in finance, technology, healthcare, and even the U.S. Department of Defense. Hidden Layer helps you

generate more by enabling seamless and secure generative AI. So here's the easy call to action. With Hidden Layer, go from pause to possibilities and step into the future of secure AI innovation, learn how to protect your generative AI today by visiting hiddenlayer.com slash twist. That's hidden layer.com slash twist. I want to ask you about a term I started using called fomentum, F-A-U-S. Instead of momentum, it's fomentum. And fomentum, for me, is the artificial sugary high that comes from an artificial sense of customers who are looking to innovate.

And so they might buy you and three or four other places because some senior boss in company said, what are we doing about AI? So all of a sudden, all of the boats are lifting, and it's not clear which you're going to get canceled in two years now. As an existing investor, like, of course, we benefit for a while from the sugary high, as an investor looking at a net new deal, how do you make the decision whether to invest? Are you dealing with something that is long-term sustainable or fomentum? First of all, it's a great issue, and it's very top of mind. we're looking at four or five deals right now, and this is exactly the issue because it is terrifying.

Because you can just, you know, we've done customer references on deals where, you know, you get off at the end of the office reference and you say to yourself, oh, I get it. The conclusion is that Innovation Center was told by the CEO, buy something in AI. And this is one of only three companies in their specific vertical that made something in AI. So they bought something. And they don't have a clue what it's going to do. But by God, they achieved their mission for the year.

Yes. Right. I love the momentum idea. They got their bonus for doing AI for the year. Absolutely. It's in the CEO's report. We're done. So we're really wrestling with this issue.

And I think it's fairly straightforward. In the end, you've got to believe that people buy things on aggregate that deliver value for them. And you've got to believe in some, you know, kind of an adjusted view of the efficient market, which is that corporate market is pretty damn efficient in the end. If it's really useless, they'll grind it out and they'll figure out in a year or two, right? So you start looking at the tasks and you say, is this automating enough to be worth doing? And then we've developed a lot of kind of different kind of checks on that.

And it's interesting. We've also done a lot in robotics, which actually very much interestingly helped us here. Because what I like about robotics is the buyers are so non-prone to bullshit. They are industrial guys in the heartland who are like, you know, I can do this with a robot for 80 grand, or I can do this with two people for 40 grand each, and I really don't give a rat's ass, which I do, right? If I can save the money by using the robot, I'm in, and if not, I'm out, right? And we've just developed the belief that you have to have a go-to ROI model

that's easy to understand that you can say, here's your savings, here's your cost, here's your non-saving, you know, quality, whatever it is, you know, kind of gravy icing on top. And here's why the economics work for you. And what we found is if the economics don't work, the projects don't stick. And I think it's going to be the same in, you know, white-collar work. I think we're prone to more, as you say, because, you know, the white-collar people earn more money, they kind of have more juice, they get more degrees of freedom, right?

But, you know, we've been looking at a lot of different areas in lawyers, doctors, you know, very consultants, bankers, very high-falutin, white-collar folk, right? and look at the automation tools that are helping them. And I think you're going to need to see fairly task-specific reason. I mean, I think there's maybe a step back. There'll be two kinds of things. There'll be the clear and obvious ROI where there was a discrete task that had to be done.

It was painful. And this new product automated most. You know, we've looked at deals and we have an unannounced deal in the medical transcription space. I just think it's super clear, doctors do it. I'd had a fire deal in it, which lost money, but I love the space. And I believe that with kind of foundation models, this is a lot, a big bonus of white collar work that can be automated fully and it massively pays off.

Then there's a lot of other things where it's kind of, it's half helping the white color worker in a number of different areas. And we're struggling with understanding how much money you'll get for that, right? Here's an interesting thing to me, Rory, is most people who create startup at the start are deeply passionate product people. They're either engineers, their product thinkers, they're innovators. And some of these people come equipped thinking about ROI and economics and labor savings, but some are just thinking about how to build new features and functions and product and innovation and using the latest thing. It's a hard thing in venture because you really

want the, I use a restaurant analogy, you want the initial team you're backing to be super passionate about the food, right? And if you're not producing amazing high quality, differentiated food that's different from what everyone's doing on that same block or street or city or whatever, you're not going to do anything of substance. But then at some point, you need to think about the budget of the customer. Are you in the right city? Are you charging the right price point? Are you good at controlling your cost? And many shows, are not as good at figuring out all that shit. So, like, how do you think about that when you're dealing with startup companies? I think you do have to, you know, be a little Janus-like. You have

to look two ways, right? I do believe that you have to look one. Because if there is no big vision, if there is no technical big lead, if there is no excitement, you're just not going to have anything. It's, you know, who wants to sell Me Too stuff? Right. It just doesn't get any traction, right? But you're right. Then you've got to pivot the other way and say, you know, does he it worked today for the customer, does it deliver value in such a way as you can predictably sell it and tell that story? Right. So I actually think it really is okay for things to have, I mean, the prize is so big for

succeeding when it's good. It's really not too big and ask to say you have to be able to hold two thoughts. And it's not quite the S. Scott Fitzgerald of two opposing thoughts in your head at the same time. But it's what we say internally, I want big picture trends and near interaction, right? And that's the stage we invest that. I want to know that there's a big story there, so it's not just a slightly me-to thing. But at the same time, I want to talk to customers where, as you say, you don't just detect

the fomentum. That's a good word. Fomentum. What you actually detect is that feeling of, oh, my God, I used to have to do this, this and this, and it was such a pain in the butt. And now the software does it. Oh, my God, I love it. That's what you want to say.

It's like, you know, I'll never go back. That's what you want. This is a good pivot for us, Rory, because you said the stage at which you invest, You talk about wanting to see the big picture, but wanting to see the immediacy of traction. The market seems to have a lot of seed stage emerging manager, early stage small bet funds. It seems to have a lot of multi-cycle. We do everything. We raise billions of dollars every cycle funds.

It seems to have lots of growth money like sovereign wealth funds who say, can we park $200 million? As I understand it, scale ventures sits between that in a way. It doesn't do like the super crazy early bet. Hey, three great founders. Let's see what they build. It's waiting at this inflection point where they have that, but they have early signs of traction and then you make a bet. Is that right?

And why do you focus on that part of the market? First of all, that's exactly correct. And we've known each other a long time. And you know, you are doing that early stage. And I don't think, I don't describe what you do as crazy. I just describe it as what it's different. Yeah. It's more about the people.

It's more about the big friends. It's more about portfolio construction. But you're exactly right as to where you play typically around after you kind of, you know, and you know, you can spin it one of two ways. And I'll give you the positive and the negative. The positive version is it's the Goldilocks moment. But you've got, you know, what we say is there's a step function reduction in risk when you go from no revenue to some revenue. and then a linear reduction thereafter.

And if we execute really well, we get in just at that point where there's some revenue, so you can make some kind of an investment decision, right? It's not as clear as a late stage 10 million ARA company where at that point to some extent just math, but there is something more than what you'd see, right? That's the positive spin. And to be clear, when we do it wrong, you look back and you go, oh, my gosh, you mistook three early customers for traction. and in fact, you're taking seed stage risk and paying A and B prices and you lose money.

So you're exactly right. We're just at that stage after which hopefully you're done pivoting and you're starting to scale. You obviously do it very well. I don't say that just to be nice. I say that because there's evidence. That evidence is Bocococene, exact target, omitur, some companies you've backed early. The firm has backed people like HubSpot and J-Frog and other incredibly successful So I want to give you kudos to that.

I think your last fund was like $900 million or something. Yeah. So you've got the validation of backing great companies, the validations of people willing to hand you almost a billion dollars to deploy, which says a lot. Now, where we sit in 2024, it's fucking competitive. Like, how do you find deals that you can win when you're up against like these massive brands with enormous themes and platforms and all the shit that we have in

2024. What is a, where does scale win? And how do you know like this is a company we should chase? Yeah. So first of all, I agree with what you said and thank you for the kind words. And I'll also be the first say, as I say to me LPs. I never forget that we made those very successful investments in a very different time when there was a lot less money chasing things.

both at the time it was easier because there was less monthly chasing things. And ex post facto, kind of back to what I said, many of those investments, you know, we did in 2010, 11, 12, and 30, and they compounded merrily for 10 years with narrow a recession in sight and with no platform shift, right? So we were extraordinary lucky and executed competently, right, rather than brilliantly, right? And at a time when it was possible to make really good money in that. So as I think about today, I never forget that it's a much less competitive time, which is one dimension and you mention it. And then on top of that, I think it's a more uncertain time.

Before I can't answer the specifics on the question, I just want to acknowledge, it's a darn tough time to make money in venture. And it keeps me honest every day. I think you have to go into this knowing that this is a treacherous, tough time to make money, right? But we all thought that in 2011. No one wanted to do venture capital in 2011. It was really hard to raise. It wasn't clear we were sitting in front of this major cycle. So I think it always kind of feels that way.

This time it might be true, but it certainly felt that way back then. I agree. I agree. I think that in some respects, yes. One of my rules of thumb is if it's hard to raise money, it's probably going to be easy to make money. But then logically, the converse is true. When it's easy to raise money, it's going to be hard to make money.

Right. Exactly. You know, 2021, 2022, you know, we'd obviously performed, but yes, we had good reception for LPs for which we thank him, and we were able to raise money. And many people have raised far bigger funds. And to this day, you know, the wildly successful firms, all of whom, as I remind people, are able to raise $6 billion like a general catalyst or an introducing horse or a light speed because they're excellent.

And they were excellent, right? Yes. So I don't think it feels quite the same. I think you're right back then. It felt scary, but it felt scary and there wasn't like. not a capital. Now it's kind of that tough quadrant, maybe the low, low quadrant where there's lots of capital, but it still feels scary, which kind of, you know, fills me full of angst, right? So now to your question, how do you make money in that space? Because, you know, that's what you've got

to do. It's about being very clear about what you do. We're trying to only do one thing, and you nailed it exactly earlier on what we try and do. This kind of early in revenue companies look into scale. We don't want to, you know, deviate massively from that. We've done a few, you know, we very much enterprise focused, be good at one thing and stick to the thing you're good at is probably a good rule for right now. Every once in a while when we say, should we try X or Y, I have a partner who says, now tell me why we would want to add more risk right now. And then you go, yeah, that's a good point.

You're right, Andy. And you say, okay, I won't do that, right? So sticking to the thing you do and doing it well and believing, but you've got to check the strategy to make sure you think that's going to keep working. I do think it can. I think the next thing then is, I always say that it's about picking. It's about being right. What I tell RLPs is this.

If you look at, if you disaggregate success in venture in terms of the actual return, there's the picking, the number of times you picked a good deal versus a bad deal. And then the return is also driven by the multiple you bought it, the multiple you sold at and, you know, kind of how the economy was in that period of time. And that second whole bucket of things is outside your control. Right. And I think the circumstances in 2011, that turned out in retrospect to be a very favorable set of circumstances. No recession.

You bought cheap and you sold dear. Couldn't be better than that. But I can't control that. But what you have to control is the picking. You have to be good at identifying and winning. Do you come from the school, Rory of, and there's two ways to think about this. And I know there's people in both camps. Do you believe that picking is what matters?

the most and you just have to get overpriced and get in the best deals that you feel the highest conviction about? Or does some amount of price discipline matter on the basis that at exit time, most companies who acquire have some rational basis for the price that they will pay? Like, which camp are you in or some other camp? Interesting. Picking, because there's always picking. You asked about picking versus pricing. Well, there's picking, winning and adding value. picking is easy, winning has a component of price to it. Yeah, that's what I was exactly going to say.

So leave adding value out of just a second pick. What I would have said is this. I believe in picking over, say, worrying too much about access. I believe that if you could be good, I used to believe and still do. If you can only be good at one thing, it should be picking. Right. And I don't mind picking and winning by being 20% over the other bid. Right.

And I've had that situation. I look back in some best deals where you want. definition you won, you probably paid more than the other guy, by five or 10%. So you can be wrong by that level and be okay. I think what we saw in 2019 to 21 is being wrong by an order of magnitude is a different thing. Being wrong by 10%, 15%, and many of my best deals, I felt like an idiot for six months and then I felt great. But when you're wrong by an order of magnitude, there's nothing you can do. So I think, so I think what happened to the idea that quote, valuation doesn't matter was it was a good insight that was beaten to the point where it no longer applied.

I think by 2021, a lot of the industry had said there's no price at which you can't afford to get in to some deals. And that will be proven to be utterly wrong. And the proof of it will be, there will be lots of great companies where individual investors ought to get the money back or actually lose money, depending on the term. And that's going to be very different than 2000, 2001, right? I think that's fundamentally going to be one of the big picture outcomes of the next four to five years. And you've talked about this is where did all these unicorns end up?

It's fundamentally people who overpaid for very good companies are going to be taking losses or break evens on it. That's the picking. I want to cover one of the, that's the picking versus valuation. And then you also true in the second thing, the picking versus winning. And I'll say this. And again, I used to be all that matters is picking. An interesting comment is this. There are so few good companies now, and there's so much money, right, that what's really hard right now is there's a much smaller number of potentially very interesting ideas.

And the winning dynamic, we've definitely seen there's many widely talented firms who are widely talented other VCs. The winning part of the job is something that you probably have to give more attention now than you even did in 2020. 2021 because so much of the market is X growth that the stuff that is growth just attract to swap. There was a lot in that. So the picking valuation come and then the picking winning come. I'll pause. Just to put some metrics on it in 2021, where you say some great companies are going to be

built and some people are either going to lose money even though they back the right company or they're going to make their money back by backing your great company, which is not what your job is as an investor. In private markets, people were paying 100 times next 12 month revenue in 2021. The public market comps, which I share all the time, was 24.6 times next 12 month revenue. If you look at 2021 when those two things were true and people were paying 100 times next 12 month revenue, the 20 year average is 6.2 and the 10 year average is 9.6. Do you give any thought at all to comps that you think you're going to face at the time of exit and what a rational comp thing is? Or do you think more, hey, we're writing a 10 or 15 or 20 million dollar check, the market for

$4 million or $8 million of revenue pays X? My competition's going to offer that. Like, how do you think about price? Sure. Okay. A lot in that again. Right. comps, when someone shows me today's comp as a reason to pay more for something today,

I want to beat them on the head until they're a bloody pulp. Because logically what it says is, you know, in 2021, whenever we're trading at 25, you should have bought all you could at 24. And in 2023, whenever things are raising at 6, you should sell, you know, you should sell all you have at 6, right? Basically, comps are very, what they're very good at, and it's what investment bankers are very good at. They're very good at telling you what you have to pay now. They're utterly useless at telling you what you should pay now.

And those are two very different questions. If you think about a bank, investment banker, every time you harm, they do a far better job than I can do of telling me exactly what the damn things work today in the market. And that's really useful information. If you want to buy the Ferrari today, you need to know what they're selling Ferrari is at today. But as investors, what we're trying to figure out as if metaphor now collapses, if the Ferrari appreciates in value, what is it going to be worth seven years from now? Right? Yeah. And what we've figured out on that, which is a separate question, how do I think about what it's worked seven years from now? What we've figured out is you should roughly assume that the long-term averages apply provided once you're at

the long-term growth rates. In other words, you should look at the deal and go, by the time it settles into a 30% growth rate, if it's a recurring revenue business, it'll trade at six to eight, maybe nine times revenues depending on profitability. That's your reality. So that's the only thing you can assume on comes. What you really discover when you think about it is the real question becomes what growth rate can you under on the right on the way to that thing? If you get the growth, look, the insight that was true, that kind of that fatal insight that enabled all the pernicious bullshit was with enough growth. You can overpay a little, right? What I'm taking away and tell me if I'm taking the wrong lesson is at scale ventures,

when you're looking at deals, your biggest question to yourself is, what do we think the five-year growth rate or the three-year growth rate of this company is going to be? Because growth prompts everything if you can hit massive growth. Totally. And provided you don't, yes, you're absolutely right. That's the first thing I'm trying to figure. What's the trajectory of the company, first thing? Second thing is apply normal valuations at the end.

Right. And then going back to now you know what it's worked today. And now you can take into account what you think you're going to have to pay today. And you know, you can lean in a little. You can't lean in an order of magnitude. It's just that simple. I want to give some context that I think you uniquely can provide having been doing this for 30 years. In the early days of your career, if you took a company public, there were lots of analysts.

The analysts covered. lots of stocks. They covered emerging companies that could after they go public have a nice storied career. There wasn't like quantitative trading. There wasn't like machines like pushing everybody into the S&P 500. Meaning, you could take a company public. They could be worth 300 million in the public markets and then over time grow to, you know, $8 billion. That's kind of gone right now. And it's incredibly hard to not just go public, but to build interest in your company once you're public. So what I want to ask you is, when you're thinking about markets, are you thinking our exit is still IPO? Therefore, what does it take to build a company like that?

Are you thinking M&A is your life? I know you don't think on every deal, but like in aggregate, M&A, the challenge being increasing, regulators are clamping down on the biggest acquisitions and therefore, like, you know, can you get a $10 billion M&A deal? Like, you know, just look at Figma and Adobe and that are going through. And then finally, like, we know private equity is stepping in to buy some of these companies as a third thing, but obviously private equity are much more rational in the valuations because they got to make the return on their investment. How are you even thinking about it? I think you have to, look, I've read your stuff on this and I think you're

exactly right. It logically is terrified. And if you're not terrified, you're an idiot, right? There used to be two ways of getting, there used to be two good ways of getting an exit, a strategic M&A or an IPO. And then there was one so-so way of getting an exit, which is felt a private equity for your kind of modest successes that are growing, but, you know, where frankly they needed the kind of hand of private equity to extract value. And you're right, both of those, the first two kind of ways have really kind of taken a step backwards. It's a lot harder to go public. I don't buy that.

It's going to take 700 million. I think that's overwrought. But even if it's 300 million, it's still more than it was in 2021, way more than it was in 2000, right? And yes, a huge swath of what goes on in the industry is not, is going to have, of the value creation is going to be pre-going public. And there's going to be, by definition, therefore, a lot fewer IPOs. Because if 100 companies get to 50 million in revenue, maybe only 70 get to 100,000,

get to 100, maybe only 50 get to 200, maybe only 30, 20, get to 300, right? So a whole bunch of these aren't going to make an IPO, and therefore returns are going to be way more concentrated. So the IPO path fraught, the M&A path is even more fraught, given, you know, what in many cases, I think, is the absurd position of the regulars and antitrust. I mean, you could argue Figma more like what they were trying to stop than most, but some of the other things are doing, you just go, wow, that's just, that's a real hit for innovation. So I agree. Logically, both the main exits are less likely.

And going back to what I said, even when I think about our strategy, probably one of the one of the main things that makes you pause and say, how do you think about that? That is a change in circumstance that knows at me and I think will have an impact on my strategy, our scale strategy and evidence strategy over the next five years. I don't have developed ports on it yet. You can imagine a lot more late station. Go for it. Yeah.

I don't know if I'm right. And obviously, I evolve my thinking as time goes. But I think one of the things that's going to emerge in the next 10 years is if I take the biggest companies out of it, Amazon, Microsoft, Google, Facebook that are going to have increased scrutiny whether right or wrong. I'm with you, I think, wrong. But if I take that, I think there's a. another tier down of companies worth $8 billion or $15 billion or $23 billion.

Most of the names you don't even know, the end consumer doesn't know. And those companies are going to be acquisitive, but they're not going to buy companies for $3 billion. They're going to buy companies for $600 million. So the playbook in my mind is get in, give companies money, help them raise downstream financing, be a well-financed company, but be very wary of the obsessive. seen amounts of money that could theoretically be raised in private markets because that caps your ability to get to an exit.

And selling for $700 million, everyone can make a lot of money as long as you don't raise too much money. I think you're right. Look, I think that is definitely one of the solutions. Because stepping back, the great thing about capitalism is the system works and the market will figure it out. If you think about it, going back to when, you know, after 2001, when IPOs became harder and Sox made it harder to go public,

Starban Soxley regulation, and Fidelity couldn't buy in the public markets. Lo and behold, they ended up buying in the private market. Right. You know, money finds a way. That's a great thing about money, right? So, you know, you're exactly right, is that people who are, I mean,

there's been a bunch of recent acquisitions to your point of, an interesting security company in a $400,700 million perspective. Those people, those investors will put up points on the board. If you own 20% of that, you've returned 140 million. And if you're at $300 million fund, that's awesome, right? And what it means is that you have to, the more distillation has to take place.

You only want to be writing late stage checks in things that can go to this and get to the public markets. And you're right, there's going to be, but it gets to something you've logged about, which is there's going to be a lot of stranded assets where it took too much for what's doable. And the next two or three years are going to be all about people, you know, proceeding through the stages of grief. to acceptance and realizing that maybe I do have to sell for 700. And instead of everyone making money, a whole bunch of rounds are going to get a 1x, preference tax is going to be less, and we just have to make do and get a decent outcome and move on. The stages of grief, anger, denial, bargaining, depression, acceptance.

Whatever. I think that's not quite the order. I think the anger comes earlier, at least it does in me. No, anger first. Anger. Denial. Bargaining. Depression, acceptance.

And I use this a lot because it doesn't just apply to investors. It also applies to staff. So like I always tell people, if you have to part ways from high profile people at your company, and if they were part of your founding journey and you need to ask them to leave, you need to understand that they're going to like if there's three founders and one of them asked to go, this is part of their identity, much like how. a child, this is their baby. And if you're going to ask them to go, they're going to go through these stages of grief. And you need to give them time and space to go through that.

Totally. That's obviously a big swerve from what we're talking about two minutes. Yeah, it couldn't be a bigger. But yeah, but could not agree. Look, whenever you have to transition, a founder, I actually think being willing to accept that there's a certain amount of therapy, hearing sympathy, for lack of a better word. Yeah, yeah, yeah. And, you know, I always say that people, it doesn't matter if it happens in a slightly inefficient fashion and it takes a month or two longer. So be it. The big picture is. The time is better.

It's better because they need time to get through anger. They're going to be angry at you. They need time to say this isn't happening. They need bargaining. Well, if only I do these three things, could you preserve my role and give me time to prove this? They're going to go through bargaining. They're going to go through depression. And when they hit depression, you must be there with empathy because bad things.

can happen when people end up in depression. And if what you're doing as a team in asking someone to move on is self-righteous or righteous in so much as it's even good for that individual, they will come to accept them. Totally. I agree with that. But I also agree that you have to be well to let that time happen and be okay with it. Because they've earned it. I never forget that If someone's punching out of a company that's doing $40 million, look, I got my company to $3 million and I totally cropped out. Getting to 10, getting to 15, getting to 50, these are astonishingly hard. Hard. Great achievement.

And it drives me fucking nuts. And I say this all the time, like in a meeting with other investors where we start talking about, yeah, they're not doing that well. I'm like, they're doing 200 fucking million dollars in revenue. I never built a company that got the $200 million. at a minimum acknowledge what they've achieved and show some empathy for that before you talk about how shitty they are. Again, I did not expect to be on this threat at the end, but could not agree more. And I've seen stuff like, yeah, you just got it.

Like, because look, no one on the entrepreneurial side ever said, hey, I love VC as an asset class. You know, the only good thing about us is we're not as bad as the guys you meet when you go public. But yeah, I think that's one of the ways you can't help. Just honor the journey because it's so darn hard. I mean, and, you know, and as I always tell people, you know, we're sitting there on the VC side of the table of guys. Going back to what I said earlier, we're well paid, we're diversified, and we're not working as hard as these guys on our backs are not to the wall. How about we, you know, be tough on the decision making, but cut them some slack in the execution and show a little.

Exactly, right. So I just have a wrap up questions for you now, Rory. Number one, you talked about the overvaluation where people paid obscene prices in 21 and 22, where they're either going to make their money back or maybe lose money on great companies. I want to hear your views for founders, give them advice on what I might call busted cap tables where you have some investors who clearly know they overpaid. And as a result, they might do irrational things because they overpaid. I had dinner last night with an entrepreneur where this happened and she ended up going bankrupt because the top of the cap table just was going nuts and wanted to recap everyone because, you know, it was a good company, but he wasn't going to make his money back. Conversely, you can be in deals where maybe you're the one overpaid and you watch early stage investors sitting at Forex their return acting irrationally trying to force the company to do

something that maybe isn't in the best companies or all shareholders' interest. Now, when you get this misalignment, it puts a lot of pressure on founders. They don't always realize it's happening. What advice do you have for founders? And then separately, second question, what advice do you have for funders when they find themselves at odds like this? Yeah, first of all, on founders. First of all, you're right.

Recognize that people vote their book, right? The first thing I tell founders is take out the cap table, run the math, understand where everyone's coming from, right? What's their blended basis? Right. And because people are going to do what the comp scheme tells them to do. Show me your incentives and I'll show you your actions or whatever. And then it's me.

I'm not like getting all virtuous here, right? You've got to know where you stand and what the dynamics are. And not being realistic about that and just assuming that there's some dynamic with people is just silly. First of all, find it out. And then again, after you've got that, figure out do they know? Because the first step is you as the founder have to know what's going on. And then how are they going to play it?

Like, I have one deal where I overpaid, right? Maybe more than one deal I overpaid. But I know the one I'm thinking of. It's a great founder. The company's doing well. And if we grow for another year, we'll grow into our valuation. And after six, nine months, I told the founder, I just want you to know. I know what's happened there.

I've overpaid. Right. And if we had to raise today, it would be a down round. And I'm not going to ask you to do our natural acts. You'd run in a great company. And if you win, if we need to raise them two years time, it will probably flat. If we need to raise an year and a half,

it'll be slightly down. So be it. It's okay. I liberate you from having to pretend that it's all fine, right? Because it's great. Once you stop pretending, it's all good, right?

No VC other than you is ever going to tell a founder that. I've just been around enough VCs. It's why I loved working with you, is that sense of realism and willingness to bring the issue to the founder. Thank you for that. I think that you're better off being that, though,

because it's just quicker. And then one thing to watch, it's interesting thing is when you are the anchored money in the cap table, the tendency is, you know, you've paid a ludicously high price. Again, going back to, don't just look at the cap table, look at their incentives. If I paid a billion pre for something, I'm going to make a one X at $200 million, $400 million, $500 million, $700,000. I have zero ability.

I have zero need to create value. If I work less than a billion, let's say I'm worth $300 million, that comes up $300 million. The next 700 million makes me no money. So I'm against that journey. I am better off selling the company now. There's going to be a lot of late stage investors who entirely rationally from their perspective are going to want to push to sell the company. You, again, going back to what I said to start, you as a founder, you don't owe them

that. You're not maximized. And frankly, I'll go further than that. You owe all your shareholders a return in equal fiduciary obligation, right? So you have to thank them for their input, duly noted. Sometimes it's okay, and I totally get that you're saying this, and in part if you're incentives, in part, maybe you're trying to do the right thing, et cetera, right?

And then just put it behind and just continue to run the company for all shareholders. Because otherwise, the real thing that takeaway for me for founders is, you must at a minimum understand the incentives that exist for each of your founders, because they, for each of your funders, your investors, because they will understand them, including something most founders don't understand, called the flat spot. You should Google it if you're a founder. A flat spot exists when you have large liquidation preference where you have an investor who between two values, let's say, $80 million exit and $150 million exit, makes the exact same amount of money because of your

liquidation preference. And here's why you need to understand it is that investor doesn't make more at 100, at 120, at 130, at 140. So they're optimizing for what I would call a one, not a zero, meaning if you're in an M&A negotiation, they'd much rather sell for 90 because the probability of closing at 90 is higher than closing at 140. So you might be trying to get this up to 120 or 130 to make more money for everyone, and they're pushing you to sell for 90. If you don't understand the flat spot, you don't understand their incentive. But also, Rory, I want to say this, as a founder, it's not just enough to know how the financial economics work on your cap table. That's a sine qua non. You must understand.

understand that. You also need to understand where the VC is in their career. If you're in the proving stage of your career and you're about to make 1.3x on this deal, you might do unnatural things to keep the valuation high, to show well so you can get your promotion or raise your next fund. And you might be thinking, I'd much rather wait eight years and have a shot at 2x. If you're, Rorya Driscoll, you're like eight years to make a 2x or 1.3, that doesn't matter to me, like maybe the right thing for this company and this founder is to sell for 1.3 and be done and move on to his next company and maybe I will get a back that for being a good ethical player. But anyway, understanding where your VC is at and their journey is also part of the

equation. Totally. A hundred percent. And it can vary because sometimes, sometimes the incentives knowing where they are and then how they're playing it within their firm. Because, you know, you're exactly right. They don't rock the boat school of, I've overpaid, but as long as no one calls bullshit, this thing can keep, and I can keep, you know, I, as an investor in a big front, can continue to get paying a very hefty salary for three more years, right? Yeah. So it's funny. Sometimes that pushes them one way, and then the other thing pushes the other way is the, I'm only going to make a one X no matter what.

But generally, as a random tip, when the lead dog of a late stage or hedge fund firm comes into view within your cap table, instead of the junior partner you've been dealing with, you're about to have a please, can you sell this damn company company? because they don't have to optimize their internal position. Exactly. They're just like, I was, I mean, I'm a hedge fund dude. I would really like to recycle my billion dollars into convertible debt because apparently it's the ending 17%. And UVCs, I'm done. Give me my money back.

So last question for you, Rory. You've been doing this at least 30 years. You therefore must be at least 45. Correct. What advice would you have for your younger self? Well, I could make a long list of deals that I should have done. But I don't think that's quite what you should mean, because obviously venture would be incredibly easy if you could bring that back to him. You know, I will say I'm, I think I'm a bit of a cautious person. I think I was nervous starting out.

I think that for a lot of personal reasons in terms of need to make money, I was probably a little more risk averse than I'd be today. Right. And I just think, you know, not being stupid, not being crazy, but in venture and in tech, I've just internalized slowly. and I think other people do a far better job of me of getting to that place much earlier, which is, is that there is no riskless. And given that there is no list, embrace the risk, you know, try and reduce it. But there's no playing safe. It's not the point of the exercise. And so if you're talking to your younger self or giving advice to people in their 20s today,

and you're saying maybe I played it too conservative, maybe I didn't embrace enough rest, do you think that means in terms of career decisions or things, that you did or like how would how could we give this advice to young people today? I think it's it's career decisions and investment decisions like the difference between good and great is not obvious for the first year or two because the compounded rough the same way, but great compounds over a long period of time and just builds up into so much more. Spend a lot of time thinking about good versus great will always be riskier than good. Think about great deals.

Think about great people, right? I think, you know, when you look back, the kind of deals that make a difference, the kind of people that make a difference, finding a way to work with those people, to attach to those companies, to be part of big-ass upside is the number one thing. And everything, look, everything else to a rounding error, you know, vanishes in the noise of stuff that happened and didn't move. I want to add to your comment, which is I tell young people, all that matters is work. working with the highest quality people that you can, the most ambitious people that you can, because that's what's going to pay off later in your career. Totally. I want to wrap up, Rory, by telling people what I always tell people privately,

if you have the opportunity to work with Rory O'Driscoll, if you have the opportunity to work with scale venture partners, the industry is filled with partners who are deal junkies and don't like doing the work. and you will never regret working with ethical people on your board who enjoy doing the work and do it with humor. I enjoyed working with you. I hope we can do it again. That's the plan. But we're still kicking. Take care. Thanks, Roy.