#16) The Business of Entrepreneurship is Fucked

And I should know. I speak from experience.

Audio version below.

Or read on:

If you have an idea in your head and you want to explore it as a business idea, what are your real options today for guidance as an aspiring entrepreneur?

To go from idea to roadmap?

1. You could join an incubator or an accelerator program, but this usually assumes you can quit your job and go without income for months or possibly even years. And in reality how many people can or even should take such financial and emotional risk? Can that lady taking your order at your favourite restaurant afford to take such a path? Can that full-time plumber with 3 kids and an afternoon basketball coaching commitment afford to take such a path?

   I, for one, cannot afford to go without pay for months or years.

   Fact:

   Over 65% of entrepreneurs in the US tap personal or family savings in order to start their businesses and nearly 10% jacked up their credit cards as well.¹

2. You could go to Stanford business school. Over 7000 apply each year, Stanford accepts 7.2%, and, again, you must quit your job for two years - oh, and tuition is over $55k per year. But still, best place to be an entrepreneur in the entire world! Lucky you!

3. You could find a mentor who would be willing to donate hours each month towards a process to helping you find your way to a business plan, teach you how investors think, teach you how to present to a potential investor, teach you how to study the marketplace you’re addressing, assess the competition, develop a go to market strategy, define your product, model revenue and costs, etc. I in fact usually keep 1 or 2 such assignments at all times, primarily to pay it forward, but also, too, because you never know, maybe I will jump onboard somehow. But not very easy in general for most aspiring entrepreneurs to a) find a qualified mentor and 2) secure time with him or her.

   

   mentor or mentee?

4. You could hang out in “the startup scene” in your town and do your best to meet other entrepreneurs, mentors (see #3), advisors, potential investors, etc. But beware, said scene is filled with sycophants, bad actors (vulture capitalists who take advantage of your ignorance), mentors who have never actually taken the leap themselves to be entrepreneurs (would you want a football coach who has never played football herself?), and people who just think it’s cool to be in and around the scene but are not actually contributing to it meaningfully. The worst: Time Drainers.

5. You could find an online course.

   Because Entrepreneurship can be taught!

   If you don’t believe me, take it from the guru himself, Peter Drucker:

Did you read the above carefully? Entrepreneurs are not necessarily born as such. It’s not a genetic gift from the gods.

It’s a discipline. And like any discipline, it can be taught. It can be learned.

And here I am very biased, as I sit on the board of Entreprenerdy, a platform plus teaching method for creating entrepreneurs from all walks of life.

I am proud of Entreprenerdy and their work. This is a platform for aspiring entrepreneurs from all walks of life, from literally the shanty towns of South Africa to the “Culture Council” of Norway - Kulturrådet’s Ovasjon program for aspiring entrepreneurs who want to build something within the arts.

40 programs over 6 countries. More than 200 cohorts in 2022 alone. And the 30m+ datapoints (and counting) we are building up about European entrepreneurship is a gold mine.

Entrepreneurship is fucked because it is elitist. Rigged for white males in their late 20s, early 30s with a higher education (from an American university, ideally). With good networks - meaning, access to financially successful people.

(Speaking of access to capital, take a look at a VC website. There’s a good chance, it says, unabashedly, “best to get an intro” rather than sending a cold email - I mean, cmon, I thought hungry cold callers is what you wanted in your Founders? Not aspiring members of Augusta National Golf Club?)

If I look to the esteemed Kauffman Foundation in Kansas City, I find the following on the US entrepreneurial market:

“Prior to COVID-19, new Black-owned businesses started with 3x less in terms of overall capital as compared to new white-owned businesses. Men were 60% more likely to secure funding than women when pitching the same business.”

Further:

“83% of entrepreneurs have no access to bank loans or venture capital at the time of startup.”

And

“In Q1 2018, nearly 80% of nearly $21.1 billion in VC funding was disbursed to 5 regions: the NYC metro area, Silicon Valley, San Francisco, Los Angeles, and New England.

Thankfully there’s a wave of funds being started to support under-represented entrepreneurs.

I simply love this website from Chingona Ventures:

Chingona’s motivation? “Women and minorities still get less than 3% of all venture capital funding.”

That is a seriously fucked statistic.

And hence they are on a mission to find and fund Chingonas.

The business of venture capital itself is fucked too.

We’ll start with the gender issue. According to The European VC:

• 91% of VC General Partners are male with upside, 9% are female with upside.

Unicorns, unicorns, unicorns. Since when did Unicorns represent the epitome of entrepreneurial success? Is this anchored in economic theory by a Nobel prize economist? Unicorns are good for everybody!? For the community!?

As one author in the Harvard Business Review states, “unicorns are to business journalists what Kim Kardashian is to Instagram users.” This from an article tellingly entitled A Few Unicorns Are No Substitute for a Competitive, Innovative Economy.²

It’s “small” businesses that are in fact the “lifeblood” of the American economy, according to a recent article in Forbes. “Of the new jobs created between 1995 and 2020, small businesses accounted for 62%—12.7 million compared to 7.9 million by large enterprises. A 2019 SBA report found that small businesses accounted for 44% of U.S. economic activity.”³

Unicorns are headlined so often because of the dictates of the fucked up VC fund model. The VC fund model dictates investing (and exiting) unicorns in order to have a hope of making money for their fund investors.

If you study the VC fund model closely, as I have done for years now, then something the whole time resonates false inside you - you say to yourself, surely this is not right? Let me get this straight: You actually count on losing half your investments outright, hope that a few will pay back what you invested, maybe 2 or 3x your money, and then pray for one to pay back the fund outright and pray for one to make your money (i.e. unicorns).

Let’s look at the numbers more closely.

Let’s assume a first time “baby fund” of €30m.

Establishment fee - 1% (one time)

Management fee - 2.5% (annual - based on fund size, so 2.5% * €30m = €750k per year).

When I failed to raise a fund earlier, we stipulated the 2.5% for an “active period” of the fund - the first five years - and then a gradual winding down of the fee as you wind down the fund. So you might have 2.5% for Years 1 - 5, then 2, then 1.75, etc.

So in this blended management rate plus the one time establishment fee, a fund investor is looking at, say, €6.9m euros of her €30m investment being taken off the board to support the management team, leaving €23,1m for actual investing activity.

So already it feels fucked. 23% of the investment goes to management without any attachment to success. Do you accept those terms in any other of your investments?

I should point out, in fairness, that often management teams invest a certain amount of cash themselves into the fund, say 1-2% (more if they are on later funds 2, 3, 4, etc. and have been successful). But still.

(I’m not pointing fingers, btw, I was duplicitous! I was marketing this very same model to investors myself.)

Ok, now let’s look at that €23,1m and what needs to be done with it to generate a decent return for your investors (that justifies the enormous fees plus risk).

I must keep this super simplistic for the sake of this post.

You make 10 bets (yes, I am calling them bets because, in case you haven’t caught on yet, it’s going to Vegas). Circa €2m each (it does not work out that way, you put more money behind the ones showing early promise and cut off the ones showing little or no traction, but, again, for ease of illustration, please bear with me).

You are investing in the seed stage and if you are very lucky you might create a company worth €100m post Series C.

You invest €1m for 10% at seed, €500k to protect and maybe grow your position at growth, pre Series A and another €500k at Series A to maintain 10%. Then Series B you get diluted by 20% and then 10% at Series C. So you end up with 6.3% of a company worth €100m. For your €2m investment you are sitting on €6.3m after 7 - 8 years (if you are lucky). You tripled your money.

But for the VC fund model, this does not move the needle. It might qualify as a base hit but certainly not a home run.

But if you are sitting on 6.3% of a company worth €1B (a unicorn!) instead of a “mere” €100m, then hey, you just doubled the fund on one investment.

And in very simplistic terms, this is why VC are looking for unicorns out of every investment they make.

The fucked up thing about this of course is that anybody else in their right mind would consider building a business worth €100m in 8 years from scratch an enormous life altering success.

But what you end up with instead is a bunch of aspiring entrepreneurs out in the marketplace hearing that VCs are the holy grail of investor class so these entrepreneurs are then taking their perfectly good ideas and trying to bend them, warp them, mold them into unicorn stories (I see this all the time) - but many great businesses should not be bent, warped or molded into unicorn at all costs stories. Quite the opposite.

So Let’s Unfuck The Business of Entrepreneurship. Find entrepreneurs off the streets, teach them and find ways to fund their dreams.

(So, in summary, what I was trying to say above is this:

1. Entrepreneurship can be taught - this is data speaking.

2. The business of entrepreneurship is elitist, clubby, dominated by white males in their late 20s, early 30s who have an advanced degree - this is data speaking.

3. The most prevalent source of capital for entrepreneurs, Venture Capital, is driven by a home run model, which is not necessarily the healthy way for many (most?) entrepreneurs to think about their businesses, at least in the early stages. Me speaking.

4. And in fact “small” businesses are the lifeblood of the American economy, and thus, by reasonable extrapolation, of many other country economies as well - this is data speaking).

1. The State of Access to Capital for Entrepreneurs: From Barriers to Potential February 5, 2019. Kauffman Foundation.

2. https://hbr.org/2017/02/a-few-unicorns-are-no-substitute-for-a-competitive-innovative-economy

3. https://www.forbes.com/sites/forbesbusinesscouncil/2022/03/25/how-small-businesses-drive-the-american-economy/?sh=22a41c6a4169