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Famous Last Words For Investors...
"They Won't Let it Go to Zero"
I often hear investors speak to each other about opportunities they are evaluating or currently in. They say of the merits and risks of the founder, risk, and market. However, there is usually one attribute that I feel these investors put the most weight on, giving them a sense of security. They say…
"They are not going to let it go to zero…"
To double-click this meaning, they are referring to the founder's tenacity to ensure that there will be value for the company to at least get the investor's money back no matter what. The founder will not let the business go entirely under.
In the world of early-stage investing, this seems like a somewhat absurd claim considering the number of startups that go to zero. But why do investors keep saying this if that is the case? BTW I have said this often myself.
In undercapitalized markets, people play not to lose more than to win. I feel like there is nothing wrong with that. Founders work too hard to have a binary outcome, and investors should feel okay with sub-silicon valley returns (<10x) if they don't have the cash burn tolerance.
In the world of "venture investing," Power Law delivers returns. A few deals will outweigh a large number of losers within a portfolio. I don't subscribe to this strategy because I don't believe in binary outcomes.
So how does a founder not let it go to zero? First, they must be incented enough to keep the business going in all environmental conditions. Second, they need a manageable churn rate, recurring revenue, and good margins. Third, they need to have all qualities of a founder with the utmost integrity. Finally, they will do good for their customers and investors. You can filter all of these business and founder qualities prior to making the investment.
What do you think about risk tolerance and deals going to zero as a founder and an investor?