One of the Secrets of Sand Hill Road is for Entrepreneurs not to Mitigate Risks for VCs but Instead to Swing for the Fences

At Austin Startup Week, Scott Kupor, author of Secrets of Sand Hill Road, brought a bit of Silicon Valley big thinking to Austin.

Kupor, managing partner at Andreessen Horowitz, has overseen the firm’s growth to 150 employees and more than $7 billion in assets under management. Its portfolio companies include Lyft, Airbnb, Facebook, Slack, Instacart, and Magic Leap.

Kupor spoke with Joshua Baer, founder and CEO of Capital

Factory, during a fireside chat Monday evening to a standing room only crowd. During the hour-long talk, Kupor covered some information from his book, Secrets of Sand Hill Road: Venture Capital and How to Get it, published in June.

At Andreessen Horowitz, Kupor said the firm wanted to work with product visionaries that could also be CEOs.

“When it works, it works well,” he said. Bill Gates, founder of Microsoft, and Elon Musk, founder of Tesla, and SpaceX are those kinds of entrepreneurs.

“We wanted to design a firm to take a raw product strategist and help him or her become the long-term CEO for the business,” Kupor said. “That was what we tried to build.”

Andreessen Horowitz built a whole set of services to augment around the startups it invested in to hopefully increase the likelihood of them being successful, Kupor said.

Being a good investor is bringing something other than money to the entrepreneur, Baer said.

“This is a huge change in the industry,” Kupor said.

The venture capital industry really started in the 1970s, he said.

“From the 1970s to 2000s, we didn’t live in the world we live in today because capital was a scarce resource and access to capital was a differentiator,” Kupor said. “As the cost of capital came down, you went from a capital-constrained environment to capital is no longer a scarce resource which brings us back to where we started in that the VC firms have to do something other than just provide money because that effectively has become a commodity. “

In 1999, it cost a lot more to start a company, Baer said.

In 1999, Kupor was part of a company called LoudCloud – “that was cloud before cloud was cool,” he said. What the company was trying to build was too early, he said. That kind of company eventually became Amazon Web Services, he said.

“Unfortunately for us, our timing was not that great,” Kupor said.

The simple way to think about how the business used to work is entrepreneurs took money from venture capitalists and spent it with big tech companies on tech expenditures. Kupor joked that it was a money-laundering business.

“You couldn’t start a company with less than $5 million because you couldn’t buy Sun servers or EMC storage for anything less than that,” Kupor said. “Then two big things happened. The unit costs of all those goods started to fall precipitously and that’s kind of Moore’s Law making its way through every aspect of the tech industry. Storage costs, network costs, bandwidth costs all fell by 10X even software development and marketing costs, Kupor said.

Another big change is the idea of pay as you go, as opposed to big upfront capital expenditures, Kupor said.

“We take it for granted today, but those two things just dramatically changed the business,” he said.

There never used to be a thing called seed capital, Kupor. And now in the mid-2000, companies could raise seed capital and launch a business, he said.

It’s cheaper than ever now to start a company, but it’s more expensive to grow a company, Kupor said.

That’s the function of market size, he said.

When Netscape sold to AOL in 1998, the total available market of Internet users was 147 million globally, Kupor said.

“That was it,” he said. “No matter how great Netscape or AOL was that was it.”

Today, there are 4.3 billion Internet users and it’s still growing, Kupor said.

“Pets.com, no matter how great that service was in 1999, couldn’t survive because there wasn’t a big enough universe against which to amortize against as you’re marketing customer acquisition costs,” he said.

“The size of the prize is bigger today,” Kupor said. “The other thing that has changed is the world has gotten very flat, to borrow a phrase from Thomas Friedman.”

That means the distribution of talent and technology is very different than it was 20 years ago, he said.

“The favorite stat I like to think about is that 90 percent of all venture capital was spent in the U.S. That figure has dropped down to 50 percent,” he said.

No one should cry for the U.S. the pie has grown, Kupor said. The size of the opportunity has gotten bigger. China is a big part of that growth.

Baer then asked Kupor to define venture capital.

Venture capital is the capital source where no other capital source will work for this business, Kupor said. Most businesses get started with bank loans or friends and family funds, he said. That’s good for relatively small businesses that have relatively small capital requirements, he said.

There are many cheaper forms of capital, he said. VCs invest in companies that can scale and provide huge returns on investment.

“You have a few companies that ultimately drive all the return to the business,” he said.

The tradeoffs the Westcoast VCs have made is that 10 percent to 20 percent of investments must make 10, 20 or 50 times their return, Kupor said.

And in every case, the VC firm is betting on the entrepreneur to make it happen, he said.

One of the mistakes entrepreneurs make in pitching to Andreessen Horowitz is that the entrepreneurs sometimes say things that spook us, Kupor said.

The entrepreneur might say, if we are wrong, there are five companies out there that can acquire the company, Kupor said.

“We don’t need entrepreneurs to do risk mitigation for us,” he said. “We want everybody to try to swing for the fences. I think when entrepreneurs say things, they are trying to mitigate the risk for us, but it causes cognitive dissonance.”

Entrepreneurs need to make sure they don’t have inconsistencies in their presentation that make the VCs question what they are really trying to build, Kupor said.

“It’s a fool’s game to try to predict market size,” Kupor said. So much of the valuation at the early stage is team, he said.

“It goes to this concept of storytelling,” Kupor said. “What do you know that no one else knows, how can you articulate that vision.”

Entrepreneurs also must really understand who their VCs are.

“You are entering into a long-term relationship,” Kupor said. “The average marriage in the U.S. lasts eight years, which is less than the average venture capital relationship.”