Growth is not Always the Answer: How OpenView Evaluates Prospect Companies
At OpenView, we focus on high-growth businesses. Really high-growth businesses. Quite honestly, we’re growth snobs. That said, not all fast-growing companies are built equally. Very regularly, we pass on companies that are growing well north of 100% per year. From an entrepreneur’s standpoint, that can be a bit confusing — “everyone is saying growth is the key and I’ve demonstrated an incredible ability to grow quickly, so why are VCs passing on my business?” We always strive to be very transparent when passing – clearly telling the entrepreneur why we aren’t comfortable moving ahead. But, now I’m sharing those reasons publicly here on our blog.
Growth is great, but it doesn’t tell the whole story.
First off, there are artificial ways to juice your growth rate and the easiest way to do it is to throw money at it. Yes, your company may be demonstrating crazy month-over-month growth, but at what expense? We often pass on high-growth companies that have long CAC payback periods because the company may not have actually established true product-market fit and rather is accelerating growth merely by putting all of their resources into sales and marketing. It’s also a sign that they might not be ready to scale up. If this is the case, it might be worth reevaluating the go-to-market model and/or team to see if you can dial back the spend (and, in turn, growth) to get to something that is far more sustainable. Once you’ve gotten your go-to-market model more inline, you can start to ramp spend again to grow more quickly, while maintaining your economics.
Related to the point above, sometimes your burn rate is simply unsustainable. Accelerating burn alongside accelerating sales might be fine for some organizations, but not all. Digging into the root cause of burn is key – is it simply a sales and marketing issue per the point above? Is your product so complex that you need to keep adding implementation and customer success individuals in lock-step as you grow? Is it merely a case of having to build a complex product ahead of any meaningful sales using data scientists and expensive engineers and you’re based in the hyper-competitive Bay Area? Some investors have a higher tolerance level for burn, but as we’ve seen in the news and in the public markets lately, people are starting to pay far greater attention to rampant spending earlier and earlier in a company’s lifecycle.
It’s tough to tell someone they are operating in a challenging market, but this is often the case. Maybe it’s a well-funded competitor who’s aggressively taking market share. Perhaps it’s a market with significant regulatory risk. It could simply be that the customer base you are selling into is challenged – either by budgets, macro issues or decision-making capabilities. Additionally, VCs and entrepreneurs many times may have very different views on what actual market size might be. At OpenView, we prefer to take a very bottoms-up oriented approach to calculating market size – understanding and mapping out the segments you are selling into today and applying your ACTUAL ASP against the prospects in those segments. Many times when we see entrepreneurs calculate market size, they often talk about potential segments they can go after with future product as well as future expanded ASP. It’s great to have that laid out as you think about new segments or product additions, but it’s NOT what you are able to go after today. Sometimes, the math we run shows a market that is just too small today and unfortunately, we’re uncomfortable making the leap to that future state.
Well, if it’s tough to tell someone about their market being an issue, imagine telling them that they are the issue. This rarely happens. Believe it or not, VCs have hearts too and passing on a company is already a difficult conversation, but it’s even tougher to tell an entrepreneur that you don’t think they or their team can successfully execute on the business plan ahead of them. In the rare event that this does happen, we provide feedback on management team gaps or upgrades we’d like to see – after all, this is a very ‘fixable’ issue, but sometimes the issue is with the CEO or entrepreneur themselves. Perhaps they’re just not someone you can see yourself working well with – chemistry is very important here and if you don’t have it, it is very tough to build.
Whether implied (by raise size or last round valuation) or stated, an investor might not be comfortable hitting the value you’ve placed on your business. It seems like each investor and every CEO uses different calculators for figuring out what a company is worth. What makes sense to the CEO may seem absurd to one investor and fair to another. You might be building a great business, with fantastic economics, in a strong market, with a killer team – but, if valuation expectations are out of line, expect to hear ‘no’ a lot.
So, if you are hearing these reasons above (or others) for passing, yet your growth is off the charts, it might be worth reevaluating your situation. Should you really be growing so quickly if your unit economics and burn are upside-down? Should you be in the market you’re in if you’re serving an unhealthy customer base? Should you even be raising capital at all if your market is too small? Should you take hard look at yourself and your team to see if you are the right individuals to capitalize on the market opportunity in front of you? Is my company really worth what I think it’s worth given what investors have consistently told me? These are all difficult questions and each has their own set of trade-offs, but it’s important to know that while great growth is a key factor in raising capital, many times it is not the only factor.