CHAPTER THIRTEEN
MYTHS ABOUT STARTUP COMMUNITIES
I’m not the only person who is spending a lot of time thinking about startup communities these days. The Kauffman Foundation has dedicated significant energy to this effort because they view entrepreneurship as the key to future economic vitality in our country and around the world.
As a result, I’ve asked Paul Kedrosky, a Senior Fellow at the Kauffman Foundation, to weigh in with some of the myths he regularly hears about startup communities. Although these myths are similar to some of the classical problems we discussed earlier, Paul brings a new perspective to the mix and hammers home a number of points made earlier.
We’ll begin with one of my favorite myths: “We Need to Be Like Silicon Valley.”
WE NEED TO BE LIKE SILICON VALLEY
It is usually among the first questions I get asked as I travel around the world researching and talking about entrepreneurship, innovation, and venture capital. The question is, of course, how can we create our own Silicon Valley?
To save time, here is the answer to the Silicon Valley question: You can’t—you only think you want to.
Granted, everyone thinks they do. It has become a cliché, but there is a Silicon pretty much everywhere as you travel around, to the point that it is meaningless. It is also a reminder how many places get things confused, thinking that they can, by borrowing the trappings of the Bay area, create their own working facsimile of it.
The superficial trappings of Silicon Valley are obvious. They include: bountiful VC; research universities; lovely weather; a host of young technology startups; and a few large, successful companies. Further, weather aside, these trapping are surprisingly easily copied. You can attract VCs, especially if you offer state matching funds or subsidies; you can build or rebrand research universities; and you can start trumpeting various local startups and tech companies. This, of course, never works in the long term, as the discarded Silicon-everywhere names should tell you.
What is wrong with mimicking Silicon Valley in an effort to create your own? It is cargo-cult startup-community creation, not unlike the post–World War II stories of island cultures in the Pacific that created fake runways in hopes those air force aviators would return with money and trade. This blind mimicry of Silicon Valley confuses the resources of that particular community with the causes of startup community creation, growth, and renewal.
Much of what makes Silicon Valley or any startup community work has to do with things that happen below the surface. It has to do with the permeability of organizational boundaries, dictating whether people can move freely and bring their talents with them. It is driven by the continuous collision of young entrepreneurs in a dense urban environment who are coming, going, or simply milling about. It turns out that these successful centers see massive population turnover all the time, allowing the community to evolve, almost biologically. All of this is much easier to bring off in real communities than in giant entrepreneurial hubs that empty out on weekends like midcentury city downtowns full of skyscrapers.
There are deeper things going on. Much is made of the ease with which having failed entrepreneurially is accepted in Silicon Valley. This has many causes, including history and the U.S. genetic makeup, but it also has to do with simple geography: By being far from family and friends (California is a young state settled by immigrants), proto-entrepreneurs feel freer to try things than they would be if they were living across town from their family. A little alienation goes a long way in startup communities.
—Paul Kedrosky, Kauffman Foundation, @pkedrosky
Trying to create the next Silicon Valley is a fool’s errand. If that’s really your goal, save yourself a lot of heartache and simply move to Silicon Valley.
WE NEED MORE LOCAL VENTURE CAPITAL
Another common refrain that we touched on earlier is the notion that we need more local venture capital. Although there is always an imbalance between supply and demand of capital at any time in any market, Paul explains why equating startup communities and venture capital is a fundamental mistake.
I was in Brazil not long ago talking to some politicians about startup communities. Yes, they said, we are working hard on creating a more entrepreneurial city, so we have created a pool of capital to get more venture capital here. That’s nice, I said, but let’s get back to talking about startup communities. We went back and forth this way at least three or four times before it became clear they had made a false and common equivalency: Startup communities and venture capital are the same thing.
They were wrong, but they’re not alone. Almost everywhere I go, people talk about venture capital and startup communities as if they are the same or, worse yet, that the former causes the latter. It is a lazy and convenient way of thinking and is a myth that inhibits a lot of progress, especially in nascent startup communities.
Venture capital is a service function, not materially different from accounting, law, or insurance. It is a type of organization that services existing businesses, not one that causes such companies to exist in the first place. While businesses need capital, it is not the capital that creates the business. Pretending otherwise is reversing the causality in a dangerous way.
Venture capital need not be located in your city for it to find opportunities to invest in. We operate in an increasingly flat and mobile world, one where investors quickly hear about interesting opportunities, no matter where they are located. They can find and even invest in deals online and from afar, through services like Angellist (
http://startuprev.com/b3) and Kickstarter (
http://startuprev.com/e1). Even if venture capitalists miss a good deal, there is nothing like having missed one to convince investors to pay more attention in the future. Communities should spend more time showing investors what they’ve missed, and less time complaining that investors won’t buy into promises of future gains.
Finally, venture capital simply isn’t that important to startups. Less than one in five of the fastest-growing companies in the United States take any venture capital at any point in their history. Less than 0.5 percent of all new businesses in the United States ever raise venture capital. Where do they get capital if they don’t get venture capital and they’re too nascent for banks? The usual ways: friends, family, credit cards, and, the best way of financing a business—from their own customers.
Venture capital, while a wonderful accelerant of some companies, is neither necessary nor sufficient to create startup communities. While most entrepreneurs eventually need risk capital, it will come as a function of the opportunities presented, not before.
—Paul Kedrosky, Kauffman Foundation, @pkedrosky
ANGEL INVESTORS MUST BE ORGANIZED
The last myth we will explore is the idea that angel investors must be organized. There are examples of effective angel groups, but there are many more examples of ones that are merely a way for wealthy individuals to get together on a periodic basis and torture entrepreneurs. In the following section, Paul talks about the value of organized angel groups and why they are neither necessary nor sufficient for startup communities.
There is about a 50/50 chance that when I first meet a new angel investor in almost any city they will tell me a horror story about their local angel investing group. They may tell me about how they went to a couple of meetings, and stopped. Why? It takes too long, they’ll say. These angels never write checks, they will complain. I can’t take all the process, they’ll say.
Most startup communities feel like they aren’t complete until they have at least one angel investor group, one that meets regularly, screens companies, see pitches, and then, after group deliberation, invests individually in young companies. It is easy to see why they’re so appealing as so much startup activity happens under the radar in coffee shops, garages, and online. Having an organized angel group that meets regularly and sees startups is an obvious sign that you are doing things to foment a startup community.
Great angel investing organizations exist all over the United States, and around the world, and they have invested in many great companies, as well as helping many angels become better investors. But like so much in a startup community, they are neither necessary nor sufficient.
For prospective angel investors who don’t think they have enough deal flow or want someone to help them think through the screening or legal process, an angel investing group can be a good thing. But saying that some angel investors can benefit from being part of organizations doesn’t mean that all will. Communities must feel that their startup community isn’t working if groups of angel investors aren’t meeting every Tuesday night in their city to screen startups.
Many angel investors are former entrepreneurs, with all that that implies. They are impatient, headstrong, and often fond of operating independently when they invest. Waiting for an angel group to come to a decision can be tough for such people, especially when you recognize that early-stage investing is intuitive, not empirical, and groups can tend toward a mean, shying away from risky and unusual investments.
The best startup communities embrace investing diversity. Some angels will want to invest through angel groups. They will find one another and form such groups. Other angel investors will operate independently. Neither approach is wrong, so startup communities should try hard not to fixate on angel groups and embrace both approaches.
—Paul Kedrosky, Kauffman Foundation, @pkedrosky
In Boulder, we’ve had several angel groups come and go over the years. Currently the two most effective ones are Open Angel Forum (http://startuprev.com/d5) and the Boulder Angels. Neither of these are formalized groups, but rather a loosely knit set of individual angel investors who periodically get together to look at promising companies.
John Ives, one of the members of the Boulder Angels, describes how it works.
Boulder is home to a small informal angel group, the Boulder Angels. The group was founded in January 2007 by eight investors who were increasingly unsatisfied with the existing, much larger and more organized angel groups in the Boulder-Denver area. The group found the large, formal angel organizations to be expensive and a poor source of deal flow.
Boulder Angels was created with two major assumptions in mind. First, we assumed an angel group could be very informal, lightweight, and nimble. We wanted to get moving and start helping the local startup community as fast as possible. We did not consider forming a corporate entity, hiring administrative help, or renting office space. Our group just started meeting for monthly lunches and began reviewing investment opportunities together.
Five years later, Boulder Angels has proven that angel networks can operate in an agile, informal manner. The logistics of running an informal angel group are minor. Boulder Angels administration requires minimal time to schedule monthly lunches and facilitate lunchtime discussions. Overall, coordinating Boulder Angels takes no more than three hours a month on organizational or overhead activities, two of which are at our monthly lunch.
Boulder Angels determined that it would rely on its own members to source and screen potential investments rather than a dedicated and compensated “deal screener.” One of our unwritten rules suggests that members should perform sufficient due diligence before introducing an opportunity to the group, such that she is ready to commit to an investment. This does not mean that our members always fly solo. Quite often a subset of the group will coalesce to review and vet an opportunity.
What about all of the time invested in due diligence, leading a round, and supporting a startup over the life of the investment? All of these activities consume a significant amount of time. However, these activities are necessary regardless of the structure of the angel group. In other words, they are a fixed cost of startup investing no matter the structure.
A critical goal of any angel organization should be to build a network of trusted co-investors. The interpersonal relationships between angel investors are very important to the success of the group and the entrepreneurial teams. It is important to build a community of angel investors who share mutual trust and are comfortable being in the proverbial trenches with each other. In Boulder Angels, we believe that our strong personal relationships help us to move quickly when necessary and boldly when appropriate.
Boulder Angels has purposely grown slowly from 7 to 10 people over the course of the last five years. The slow, deliberate growth reflects another unwritten rule: New members are invited to join only after we have had good experiences co-investing with the new member. This is to ensure that we are adding people who are well-behaved investors and are well thought of by the Boulder startup community.
—John Ives, Boulder Angels, @jives
Although formalized angel groups can work, it is best to just get started developing strong interpersonal relationships based on trust, building your collective network in the startup community, and making investments in promising entrepreneurs.