Feb 8, 2017 ยท 9 minutes

There is really no correlation with what makes a great VC.

Is it Wall Street experience?

A background in tech or financial journalism?

Previously felt the pain of being a founder?  

Merely worked at some great companies?

There are examples and counterexamples in each of those categories. While the fashionable answer of late has been to seek out people who’ve been founders before, I’ve found that a lot of them bring their own baggage from their previous company into your company.

Ultimately, venture capital is such a small industry-- particularly given the outsized impact it has on the world-- it’s impossible to find a reliable pattern here. It boils down to having an innate talent for the job, and you don’t really find that out until ten years in.

In lieu of anything concrete, many experienced VCs will tell you they have two skills: Deal flow and pattern recognition.

Naval Ravikant has already argued that deal flow is gone in an age of crowdfunding, AngelList, and Y-Combinator, which is why “Series A” is now the third or fourth round of money that goes into a company.

So what about pattern recognition? Well that one seems a little wobbly too right now.

For one thing, it creates a breeding ground for unconscious bias. For another, it’s at odds with the idea of being contrarian, which most VCs also say they are.

But more to the point: The playbook for spotting, launching and growing a breakout consumer Web hit appears to be totally broken. Whatever pattern got you here…. Well, reconsider a new one.

Josh Ellman put his finger on part of this when he recently Tweeted:

WhatsApp, Snap, Tinder all broke out elsewhere and Meerkat’s reboot HouseParty actively eschewed Valley attention. Jeremy Liew has been long on LA for this reason, articulating years ago that consumer apps were really about reaching a mainstream, youth culture and Hollywood knows how to do that a lot better than Silicon Valley. That bet didn’t always quite work…. (Where is Whisper these days?) But his early bet on Snapchat more than made up for the losses: Its near $500,000 investment could yield $2 billion if the company hits the high end of its IPO expectations.

The Twitter thread goes through fascinating possibles, and debunks why they aren’t really counterexamples to his point. Companies like Nextdoor? Not really “breakout.” Waze? Nope, broke out in LA, not the Valley. Instacart? It’s a unicorn and popular here, but I’d struggle to describe that as “breakout” on a national scale either.

The closest two counter examples are Tesla, which hardly offers a repeatable play book for a consumer Web company, because its product was aimed originally only at the rich. While it has a well known brand, and one day its lower-priced models may be mainstream, I wouldn’t call it a mass market company now.

The other interesting one that came up in the thread was the answer I came up with as well: Slack. Some, including Ben Thompson, have estimated north of 90% of new Valley startups use Slack, and given the Valley is the nexus of hip workplace culture, this makes sense that we’d be tastemakers when it comes to something like that.

More interesting than the debate over individual names and where they broke out first, is the debate about why this has changed. Has the consumer Web just been in a slump since Uber, Airbnb, and Instagram launched? Or has something more fundamentally changed? I’m voting the latter.

“Silicon Valley (in the physical and spiritual sense) is a small group of people when compared to the world,” Ellman said. Ryan Hoover, of ProductHunt, added his two cents in a post saying the Valley wasn’t “mainstream.” True. But both were always the case.

It’s other factors that have changed. As Hunter Walk noted in a previous post only a foolish VC ever says “never heard of it, must not be big” anymore.

Here are the two biggest changes:

The denominator. Companies like Google, Amazon, Facebook, Apple and others continue to grow unabated, gobbling up new brands for as much as $16 billion a pop, taking out competitors before they get big, bolting on whole new aggressive businesses, and generally struggling with what they do with all their cash. The definition of “big” keeps changing dramatically.

And these companies are so dominant, there is vanishing small white space to build something big between them. Amazon controls anything in the realm of things-- buying them and getting them to you. Facebook controls relationships and people. Google controls data and Apple (and Netflix and Amazon) control entertainment.

Indeed, t’s hard to know the trajectory of Instagram-- one of the last hits that started big in the Valley first-- had Facebook not bought it. There are plenty of companies that hit with insiders and they struggled to monetize and hit mainstream: Quora, Foursquare, Tumblr, and some would say Twitter. Instagram surged in growth when it was purchased and plugged into the Facebook machine.

LinkedIn-- for a time-- was the patron saint of companies worth tens of billions despite “small” audiences of just a few hundred million. But even that growth appeared to be slowing before the company wisely sold to Microsoft last year. And LinkedIn didn’t even have the disadvantage of being a purely ad based business.

In the glory days of early adopters defining markets only 300 million or so folks were online. “Huge” was relative. Twitter still is told by investors it isn’t “mainstream” despite having hundreds of millions of users. That would have been the entire Web back when a lot of the companies Ellman describes were created.

Increasingly, this means you have to succeed at going global and that’s hard and expensive with on demand city-based services like food delivery and ridesharing, which has dominated deal-making. It’s even proven hard for companies like Pinterest whose appeal doesn’t exactly translate. It’s similar to how “blockbuster” movies now have to take China into account.

It’s a game startups simply weren’t playing back when early adopters used to predict future dominance.

The only exception to that is if you have a highly engaged super young audience….maybe. This has failed multiple times, as people have discovered-- to repeated shock-- young audiences are fickle. Facebook the product started to get dinged a few years ago for becoming unpopular with the kids. But Facebook the company has continued to grow because the company did not rely on Facebook the product staying popular with teens. Snap is testing the ultimate counter-play to this strategy with its IPO. We will see if that’s a $25 billion business.

But if you are an ad based business, that’s the only other play even on the field right now. And guess what? That’s even worse for Silicon Valley-based VCs.  If the answer is just asking your daughter “Would you use this!?” your LPs should be paying her to do deals, not you.

Compare all of this to the early days of the Internet: A far smaller base of people used the Internet, and they wanted utility, convenience, low costs, and communication. Technical people had to build technical things and it made sense that technical people adopted them first, for trust reasons and because of the learning curve. Those were the people setting up your email or teaching you how to “go online” to begin with, so they could evangelize things like eBay or Yahoo.

Early on in the social media era, everyone was burned by the dot com crash and funding in the consumer Internet was low. And the cost of creating a company had fallen dramatically. So a “kid” could build something on the cheap that interested him and his friends and see where it went. A lot of them went nowhere. One became Facebook. But Facebook had to constantly and aggressively copy and acquire to stay on the pulse. That early playbook is hardly why it’s such a dominant company today.

Then there’s the bro-y real world mobile era helmed by Tinder and Uber and Snap. Snap we’ve discussed: Even if it proves you can go relatively smaller than Facebook, it still has hundreds of millions of users with incredibly high engagement and they must be a certain kind of user.

Uber and Airbnb are the two that got big in the Valley first, and it wasn’t necessarily because they were such captivating products an early adopter cred caused them to spread as much as it was the were connected into the Valley ecosystem and raised huge amounts of capital. As we’ve written before, one of the unfortunate legacies of the on demand and food prep era is that these businesses mostly don’t have network effects or viral loops and require gargantuan sums of capital to grow. This chokes off “me too” competition once an entrant has raised a mega round from a major VC. So while, yes, Uber was a breakout hit that gained traction with Valley elites first, it was also the leader in a movement to  aggressively buy growth. Ellman sees Uber as the end of a trend, but it’s also the beginning of another.

This brings us back to Slack, which I think is the most interesting counter example to the trend. Yes, it’s not strictly consumer, it’s “enterprise.” From about 2015 on that has meant “someone might pay to use it and expense it” not the historic definition of “enterprise,” that major companies and governments pay millions to use your software. The New York Times even called Uber and “enterprise” company by that definition. Hell, Pando is an “enterprise” company by that definition.

Let’s peel away redefined layers and look at what Slack is: It’s about communication and productivity and convenience and efficiency of community. Those are hallmarks of many of the consumer Web companies that have spread from the Valley first. It’s also a very clear platform/utility play ala Facebook. Snap, Whisper and companies that have come out of LA are more of a media play.

Slack may be enterprise, but it still went viral, via word of mouth only, not hacks. Investor Marc Andreessen, for one, called that a first. It’s valued at some $3.8 billion now.

The reason Slack doesn’t appear to fit the trend is because the labels of both what mainstream is and enterprise is have changed so greatly.

If Valley VCs want to keep picking the top companies, they’re gonna have to change too. Old patterns have become irrelevant.