The Crazy Upside-Down Economics of the Seed-Stage Ecosystem

Brad Feld was in Seattle yesterday and stopped by the Founders Co-op offices to talk about his excellent new book, Startup Communities.

About 100 people showed up for the discussion: a great cross-section of founders, UW MBA students, venture and angel investors, deal lawyers, journalists and other entrepreneurial free radicals (thanks again to Ignition PartnersMichelle Goldberg for sponsoring lunch).

Among the many points Brad hit in his remarks was a strong message to anyone who wants to play a positive role in their local startup ecosystem: “be a mentor, not an advisor”.

“Mentors” offer advice and support with no strings attached, while “advisors” approach the same conversations with a goal — implicit or explicit — of putting money in their own pockets.

I strongly agree with Brad’s characterization of the mentor / advisor distinction — last year I wrote a similarly themed post about “angels with sticky fingers” — but I also understand how confusing this can be to well-meaning folks who are new to the early-stage community.

To a newcomer, the economic flows — or lack thereof — in early-stage startups can seem completely upside-down. Founders barely get paid, mentors pitch in for free, everyone works like a dog and they all act delighted to be there. 

What’s going on here? There are good reasons for things being the way they are today, but they require a little explaining…

Over the past 10 years — thanks to cloud infrastructure and open-source software — the cost of technology innovation has collapsed. This, in turn, has radically recast the economics of early-stage innovation.

Skilled teams of maker-founders can now build and distribute world-class software with no outside financing required (at least until the business starts to scale). The financing event that used to mark the beginning of a startup’s life — raising a few million dollars in Series A venture — is now a growth financing event that comes 12-18 months later (if at all).

Because there’s so little financial capital at work in the system, early-stage innovation tends to attract people who don’t rate money very highly on their hierarchy of needs. From my own experience, early-stage community members:

  • are fascinated by the power of technology to create positive change;
  • love to be in the flow of new ideas;
  • seek to advance their own thinking by spending time with thoughtful and intellectually curious peers;
  • self-identify as entrepreneurs and enjoy the company of others on a similar life journey; and/or
  • have accumulated business and life experience relevant to tech startups and enjoy sharing their lessons learned with a new generation of founders.

It’s not that these people don’t need money (although many don’t) or are precluded from having some economic interest in the startup ecosystem. It’s just that money isn’t the “why” behind their involvement.

This can be confusing as hell to “normals” who are used to a world where people do good work and command premium rates for it — and especially to the vast ecosystem of vendors and consultants who came up in the ’90s, when venture-backed companies were a rich vein of opportunity for well-paid work.

I know because I get referrals to these kinds of people all the time: freelance strategy consultants; 20-year bigco veterans fed up with the grind; corporate lawyers with time on their hands; investment bankers who want to become VCs, etcetera. They’ve all read the articles about the booming early-stage startup scene and figure there must be money flowing in here somewhere, if they can just figure out how to divert a little of it their way.

When I tell these people that early-stage founders hardly pay themselves, they nod appreciatively at the sacrifices that young entrepreneurs are willing to make.

But when I tell them that everyone else in the early-stage ecosystem is either an unpaid mentor, or an angel investor who puts money *in* rather than taking it out, they look at me like I have two heads.

The strange truth is that the tech startup community — that hotbed of capitalist innovation, job creation and individual enterprise that politicians love to talk about — is absolutely stuffed with people who view money as little more than the exhaust of their system, the grease on its wheels, not its reason for being.

It’s not that entrepreneurs don’t care about money — Gates and Jobs and Bezos are heroes to the early-stage crowd because they changed the world *and* reaped the rewards that came with it.

But there’s a deep, almost countercultural, conviction in the maker community that the gains from their efforts — if there are any — should flow to the pirates who helped to build the ship or signed up to go to sea, not the tradesmen who gouged them for supplies when money was short and the adventure had barely begun.

Please don’t misinterpret my remarks — the world is full of amazing professional service providers who make major contributions to the growth and success of entrepreneurial companies. It’s just that anyone who wants to get paid “market rates” for their work should target companies that have raised at least their Series A, or better yet their B. Almost by definition, these companies are in hypergrowth and can easily rationalize “renting” elite professional capacity that they can’t yet afford to own. Early-stage companies can’t, and shouldn’t.

For me, the early-stage innovation community is the most beautiful, inspiring, intellectually stimulating, emotionally rich and welcoming pocket of modern culture I’ve ever found. But if Willie Sutton were still around he wouldn’t be caught dead working at — or selling to — an early-stage startup.

  • http://twitter.com/chrisamccoy Chris McCoy

    Simply put there should be 10x more money in the early-stage ecosystem so more companies are attempted by the sharp folks sitting comfy in motherships of Amazon and MS. 

    Startup ecosystem needs its most talented in the local community to startup.

    They won’t jump till more capital is available. 

    Seattle as a community scales quickly once more money is in the system. TS and Co-Op are just the beginning.

    How can more capital be freed up for entrepreneurs? 

    • http://www.crashdev.com Chris DeVore

      Thanks for the note, Chris — I’d *love* to see more seed-stage money flowing in the PNW, but the founders who are making stuff happen right now aren’t waiting for investors to give them permission, they’re just diving in. That’s the magic of the innovation cost collapse — talent matters more than money for the first time ever, and technical folks who recognize that are able to create huge value by not waiting around for the capital markets to give them the keys.

      • http://twitter.com/chrisamccoy Chris McCoy

        Are you seeing a meaningful # of folks from AMZ and MS joining the startup community?

        Seems as if loads of talent is locked up there and other places around Seattle. Since a risk-adverse culture by nature (not all of us :), if more capital was in the system more talented folks would be incentivized to jump into it.

        • http://www.crashdev.com Chris DeVore

          I actually don’t think it’s productive to lure people into entrepreneurship with money. The entrepreneurial path isn’t a good fit for everyone (probably less than 5% of the total professional population), and the folks who bring the most to the party — both short-term and long-term — are the ones who do it because they just can’t help themselves, independent of how much money they make.

          • http://twitter.com/chrisamccoy Chris McCoy

            My take is talent is the #1 thing. Ecosystem needs its most talented to be on the field. In many scenarios, talent is well taken care of in Seattle so incentive structure for them to join isn’t as high. Therefore they don’t en masse.

            If at least de-risked, then more would join. 

          • http://www.verespej.com/ Hakon Verespej

            I strongly agree that if someone hasn’t fully recognized the economic realities of creating or joining a startup, they probably aren’t ready for entrepreneurship. I used to be gung-ho about telling everyone they should just become an entrepreneur, but over time I’ve realized that that’s a dangerous mentality and leads to many more failures than successes. Worse, it leads to a bunch of unhappy people who end up unhappy because they could have been advancing their corporate career.

            I like the idea of more money for early-stage investment, but not for attracting people who are holding back because they want investment before leaving their comfortable corporate posts. I’d like to see more money so that the entrepreneurs who were 11th on the list of 10 startups that got funding could have a chance to accelerate.

            Personally, I see lots of interest from people at Microsoft (I work at MS) and Amazon, but many just aren’t mentally prepared for entrepreneurship in general. They like working in a stable environment with planning, less ambiguity, and functional silos. Of course, plentiful money and benefits help to keep them where they are. But I really don’t believe these people would leave even if there was more capital for early stage investments. One cool thing, though, is that many of these people contribute to the startup community in other ways, which is great.

          • http://www.crashdev.com Chris DeVore

            Thanks for the note Hakon and agree 100% — entrepreneurship isn’t a good fit for everyone, and the self-selection mechanisms of lower comp, uncertainty and career risk are valuable “speed bumps” that cause potential entrants to think a little harder before they make the leap.

  • DanielHorowitz

    Nice post