Entrepreneurship and schizophrenia have a lot in common.
Every entrepreneur lives the Stockdale Paradox — constantly toggling between the urgent daily realities of survival and their lofty dreams of massive success and cultural impact.
But entrepreneurs who take outside funding — and especially those who raise “institutional” money — have another dual life to live: one centered around customers and revenue, and another around competitors and incumbents in the industry they seek to disrupt.
If you raise venture capital you are signing up to a war on two fronts — one based on love, one based on fear.
Let me explain.
Like other very high risk investment strategies, venture capital is an asset class that puts a huge premium on deals with “asymmetric” return profiles — with limited potential losses but explosively large potential gains (i.e., where winners commonly return 1-2 orders of magnitude on invested capital).
In an exit environment dominated by M&A outcomes, the preferred liquidity path for venture capital investors is “strategic” M&A — which is code for overpayment relative to traditional financial benchmarks. Strategic acquirers overpay for deals for one of two reasons:
- Fear — The target company threatens to disrupt the competitive landscape or destroy margins in a business segment core to the acquirer’s business and strategy.
- Greed — The target company represents a new strategic opportunity for the acquirer to grow revenue / margin and improve competitiveness, thereby accelerating growth in enterprise value faster than normal / organic growth.
- Business Viability — Can this combination of team and opportunity produce a business that generates positive cash flows with accelerating margins at scale?
- Disruptive Potential — If successful, can this team’s approach to the opportunity represent a sufficiently dangerous threat (or sufficiently attractive growth accelerant) to two or more large and acquisitive incumbent players to generate a significant exit price multiple as compared to an exit based on purely financial benchmarks?