Lean Case: Upfront Ventures

 

 

Upfront Ventures

Mark Suster is one of the country’s most forward-looking venture investors. He graduated UC San Diego with a degree in economics and joined Accenture, where he did systems integration for companies throughout Europe. After earning an MBA from University of Chicago, he continued with Accenture focusing on Internet and ecommerce strategy. He formed his first company in 1999, an SaaS platform for large-scale engineering and construction that was acquired by French Sword Group. He founded his second, a content management system called Koral, in Silicon Valley in 2005. He later sold it to Salesforce.com and served as that company’s VP of Products. Suster joined Upfront Ventures in 2007, where he concentrates on early-stage technology companies, including investments in DataSift, Maker Studios, and Invoca. He blogs at _bothsidesofthetable.com_

What’s your personal approach to innovation?

I’m an investor. It’s my job to back innovators. One of the biggest mistakes investors make is thinking that they themselves have great ideas. For the most part, great investors recognize talented leaders who are innovators in their own right. As someone who built two companies and whose job is to recognize these people, though, I can offer an observation.
To be able to innovate, you need a healthy willingness to challenge conventional norms. That’s much harder to do then most people think. It may be beneficial for a society as a whole, but there are always people who lose. I just spent time with the leading designer of high-performance motorcycles. He expects to produce solar-charged superbikes for $15,000, and there are clearly losers: manufacturers of combustion engines, oil companies.
When you go up against powerful industries like this, people fight back, and they fight back hard. It takes an Edward Snowden, someone who understands that the only way to stand up to the system is to do something dramatic, even at great personal peril.
That’s what it takes to be an innovator. I see people all the time who don’t want to upset the apple cart. Too many of them went to Harvard or worked for Goldman Sachs. They don’t want to attack the educational institutions, industries, or general principles of the country. So they don’t really innovate.

How important is a thesis or theme in determining what opportunities to pursue?

Having a strong thesis is smart. Let’s take an example. It’s conventional wisdom now that mobile computing is defining how applications and systems are built, and they will continue to do so. That’s changing the nature of all software because it’s a smaller form factor, it’s personal to one individual, and it tends to know where you are. So we start with a high-level thesis that mobile computing will open up investment opportunities for people who can disrupt things that were created in the pre-mobile era. At the same time, you have two mobile ecosystems, iOS and Android, largely controlled by an oligopoly. That has to affect how you think about distribution and everything else. So, to get more granular, I believe in open platforms. I believe that Apple trying to dominate the ecosystem by forcing everything to be downloaded through its app store, where it taxes everyone’s revenue by 30 percent, can’t hold in the long run. I believe more open systems will emerge. So I go out looking for deals and encouraging people to approach me if they have innovation that maps to that thesis.

What are the pitfalls to avoid in coming up with a thesis?

You have to consider how narrow or wide the aperture is, and be careful not make your thesis be too prescriptive. Too many thesis-driven investors I know think they have all the answers. They start with the answer and search for a team to match. They say, “We believe drones will have a disruptive impact on agriculture,” and then search for entrepreneurs who are creating something that fits their narrative. That’s too narrow; they should be scanning the landscape more broadly. For instance, I believe that television in the future will look more like Internet video than Internet video will look like television. I believe the 22-minute format is dead. The quality of content will be greatly reduced and people won’t care. Story lines won’t necessarily be linear; they’ll be more like video games. I’ve published my vision of where the video industry is headed to get people’s criticisms. But I’m not looking for someone who says, “Mark, we know you want videos to work more like videogames. We’re building a company to your thesis.” I want people to say, “I know about you through your writing, but I have this wacky idea about how video can be delivered by 3D virtual reality glasses.”

Can you suggest some guidelines for keeping theses from being too narrow or too broad?

I would be perfectly positioned to answer that question if, every year, I went through a two week process to create high level ideas, winnow them down, and come out with 15 investment theses. But I’m not that guy.

How do you go about developing a strong thesis?

It requires experience. I don’t think you can do it in a vacuum. I worked for many years as an entrepreneur. I observed the software market. I read Clayton Christensen’s Innovator’s Dilemma at the time that I was in a software company, trying to drive down the cost selling and developing software and looking at how companies likesalesforce.com were bringing that into reality. You have to be open to reading other peoples work, contemplating it, and trying to apply it in your own world.

What’s your process?

I spend time reflecting on markets and trying to learn from all the data I see. Then, when I have to codify what I know, I develop rules. That almost always happens when I have to write a blog post, prepare a presentation, or teach someone else. Then I have to say, “Okay, what do I actually think?” I’m very top-down driven in how I think, so I tend to start from a few high-level principles. One book that was very influential on me, The Pyramid Principle by Barbara Minto. She said that most people are data collectors. They think that eventually they’ll pull all that data together and it will show trends, and from those trends they will come up with hypotheses, and then they can test their hypothesis and form conclusions. I come from the opposite school. I believe that one’s experience, gut feeling, and logic should get one to a reasonable clustering of ideas. Consider a question like, what’s going to happen geopolitically because of electric cars? Any smart, reasonably well-read person can draft a set of high-level hypotheses, and that’s what I do. I take any topic that I have some knowledge of and create a high-level sketch. Then, once I topdown the pyramid, I search for evidence that proves or disproves my assumptions. Take Bitcoin: I believe a currency needs to exist to help people move money over international borders in countries that are socially illiberal. I don’t know whether that’s true. Then I search for whatever I need to believe in order to accept this assumption. Number one, I need to believe that people in socially illiberal countries have a strong sense that the government is hostile to their economic interests. Number two, I need to believe that they have the technological knowledge and access to systems to buy, sell, and move Bitcoins and to understand why this could be a reasonable currency. Number three, I need to believe that their technology would have the right level of encryption that governments couldn’t crack it. Then I would create the next level of assumption.

What’s your thesis?

My thesis is real simple. Seventy percent of my investments are entrepreneur-driven. I back someone who has a big vision for what they want to build and strong domain knowledge, who therefore is likely to have an advantage over other people, who wants to challenge the establishment and build something big, who has the resilience not to quit when they face the inevitable challenges. Too often, people build companies to sell them. I back entrepreneurs who build companies because they want to build them. Also, I invest in deflationary economics, companies that are able to produce products that are fundamentally deflationary and that create bigger market opportunities, even though they might make lower margin and have lower [?]. if I look at the history of innovation on the Internet, whether it’s Skype, Google, Whatsapp, Ebay, YouTube, Amazon, Craigslist — they’re all de- flationary. They’re all driving costs out of the equation and providing [?] for consumers at lower price points and therefore capturing very large markets that make it very hard for incumbents to challenge them. Beyond that, I invest in what I know. I see the emergence, for example, of Bitcoin, 3D printing, and a number of other disruptive technologies, but they’re not things I know well, so they don’t make great investments for me.

What makes a great investor?

So much of what goes into what makes a great investor is one’s incentives and what incentives you were raised on. I’ll tell you a quick story about Hollywood. I went to see one of the world’s top packagers of movies, TV shows, and media 15 years ago. We had a couple of lunches together and he asked me how he could get in on my deals. One day a deal came along with a very early-stage company in the media sector, so I thought he could be helpful. He said, “Okay, I think I could introduce them to huge brands in Asia. I could really help them get their early ad dollars. How much would I get paid to do that?” I said, “You’d get paid zero.” He said, “I’m not going to call on all my brands and my relationships if I’m not getting paid for it.” I told him, “What you get is equity in the company. By doing that, you create value that in five or eight years is going to be worth a billion dollars, and you’ll own 10 percent of it rather than getting $200,000 a year for the next four years for your share of the revenue you bring in.” The incentive structure of agents in Hollywood is front-end rather than back-end. I don’t believe they make good venture capitalists.

How can corporate CEOs become great investors?

Big public companies are trained on quarterly earnings. It’s about what a CEO can do the next three quarters that will raise his stock price so he make more money on the stock. He doesn’t care about eight or 10 years. He doesn’t even know if he’s going to be running the company by then. Yet, venture capital is a get-rich-slowly business. You put money out for five or eight years. You don’t make a lot of money straight away because the average huge company that you might create takes seven to 10 years to build. And if you do well at it, in year 11 you might start making a lot of money. Then you have to return all the capital you raised before you pay yourself. It just takes time. I wonder whether or not that’s consistent with corporate structures. The best corporate investors are at Intel Capital or Comcast Ventures, where they’ve set up business units that are incentivized more like venture capitalists.

Mark Suster, general partner, Upfront Ventures

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