Founder DNA – How Investors Evaluate Startup Founders

Are entrepreneurs born or taught? I’d say a bit of both. Environmental and genetic influences are so intertwined for most things (diseases, our health, intelligence, etc.) there’s no simple answer. Having said that, when we talk about founders and startups we often think of it as something intrinsic to the people, something inside them, built into their very beings. In this case, I’ll use the phrase “Founder DNA” (borrowed from Raymond Luk). It’s not a perfectly accurate statement, but it serves our purpose well enough and it speaks to the intangibles that are a part of evaluating founders (although there are many tangible criteria too.)

A number of people have asked me, “What do you look for in a founder when evaluating an opportunity for Year One Labs?” It’s a great question, and it’s taken me awhile to write this out in a cohesive way.

For starters, it’s expected that all founders are passionate. You can’t really filter entrepreneurs on passion (unless they’re blinded by their passion and can’t face reality.) We have to go a lot further than that. Most founders also have a certain level of initiative that goes beyond what you see in other people. Initiative is expected. But there are many layers to initiative that really tell a deeper story. So here’s what I look for and how I’d define “Founder DNA”:

  1. Judgement. Judgement is the counter-balance to wild enthusiasm. Judgement is measured by the decisions someone has made to-date for their startup. The role of a startup CEO (or founder) is decision-making. I can keep asking, “Why?” to every point a founder makes, and get a sense of their thought processes, reasoning abilities, and a lot more.
  2. Getting Shit Done. Founders need to go so far beyond “initiative” it’s rarely possible; but that’s what we’re looking for. Specifically, we’re looking to see proof that founders can execute at every level of their business. That means getting through milestones. It means getting out of your comfort zone to do stuff that you don’t like or know a lot about (which incidentally is a big part of running a startup.) It means finding any means necessary to do what has to be done. If you’re not a technical person you can’t sit around and wait for someone to show up and co-found the startup with you. Outsource the development for a prototype, learn to code yourself, get out to every event and find a co-founder. Ability to execute and make things happen shows drive, purpose, aggressiveness, organizational skills and more. It’s initiative+++. There’s a time to plan and there’s a time to opine about the future of the universe. But most of the time is a good time for getting things done.
  3. Big Vision. I think it’s clear at this stage that investors are looking for big vision. Year One Labs is no exception, even if our model is focused on early exits. But there are two caveats to that. The first is that we look for a certain element of realism in founders’ visions. Coming in to pitch us and saying, “Facebook has a lot of problems, we’re going to replace Facebook,” equates to a big vision but it’s not realistic. It shows a lack of judgement and awareness. The second caveat is that your big vision can’t get in the way of making things happen and getting shit done. So #1 and #2 above are priorities above the big vision, but without the big vision founders are also much less interesting and inspiring.
  4. Market Knowledge. A lot of founders don’t really understand the market dynamics they’re jumping into. They don’t have a clear and full picture of the competition. They don’t have a sense of the market size, opportunity, and risks involved. We don’t look exclusively for domain experts (those people that have been in a specific industry for a long time and know it inside-out), but some level of domain expertise and certainly a good level of domain knowledge is very relevant. If a founder has a ton of “getting shit done” drive s/he would be neck-deep in the market, learning every facet of it through research, talking to others in it, etc. (even if they didn’t work in the industry.) That shows a level of initiative we’re interested in. Beyond market knowledge, we’re also looking for a real awareness of what’s going on in the world of startups. Founders need to be connected and clued-in to what’s going on, who is doing it and why.
  5. Interest and Ability to Learn. Early stage startups are driven by learning. The founders that stand out are those that obsess over learning as much as they can about their startups, the market, customers, etc. Learning is a measure of progress, and we’re always looking to understand and quantify a founder’s progress. Founders need to demonstrate an interest and ability to learn (and then show how that learning impacts what they’re doing.) Related to this, founders need to be able to accept and openly look for feedback. Founders that are either too stubborn to see reason or different points of view, or too scared to face the truth are not going to impress.
  6. Agility. In some ways this is a sub-item under “Getting Shit Done” but it’s important to pull it out and speak about it specifically. Startups are fast-moving and need to constantly adjust and adapt. Some founders cling to an idea and drive forward like bulls; others are more like hummingbirds darting around almost recklessly. Somewhere in the middle is the appropriate analogy (I’m too tired to come up with it now) for a founder that tempers the right amount of bullheaded drive with agility. That agility should be based off the constant learning founders are doing.
  7. Sacrifice. Sacrifice for the sake of sacrifice is pointless. We’re not looking for martyrs. But the amount of sacrifice a founder has made or is willing to make is a good measure of their “guts”. Sacrifice is a demonstrable representation of the intangible qualities that you see in some founders where you think, “Damn, he’s got what it takes.” And sacrifice ties very nicely with “getting shit done” because it’s often an inability to sacrifice something that holds people back. But those people that are utterly compelled to make things happen will sacrifice and take risks.
  8. Maturity. This is a tough one to quantify, it’s one of those intangible “gut” things that we look for in founders. It’s not really tied to age. It is tied to some of the other things mentioned above like learning, judgement, sacrifice. It’s also reflected by a founder’s interests (are they diverse?), communication skills (can they debate and reason well?), poise, presentation (how do they present themselves?) Maturity is important. It usually comes with an inner strength and the “intestinal fortitude” needed to survive the rigors of running a startup.

This isn’t an exhaustive list, but it does highlight the overarching themes of interest when evaluating founders and startup opportunities. It covers the components of Founder DNA that we look for and try to assess regularly when meeting entrepreneurs. The process isn’t easy and it isn’t full proof. And I think it’s fair to say that investors of all kinds (angels, venture, seed accelerators, etc.) use their own “guts” to get “a rough feeling” of entrepreneurs and use that as a significant barometer for determining their own interest. Often this reaction coms from a first impression (yes, first impressions do matter – a lot.) That’s human nature.

Paying Yourself is Not a Reason to Raise Early Stage Funding

If you want to earn a market value salary, you need to get a job. Paying yourself isn’t a good enough reason to justify raising early stage funding. I realize that sounds harsh, but it’s not intended to be.

Here’s a fairly common scenario for startup founders:

  • Two or three people decide to start a company.
  • They quit their day jobs.
  • They start working on the company.
  • 6+ months later they’re running out of cash because they haven’t been paying themselves.
  • They go to raise money (for some reason it’s often around $500,000).
  • They build basic financial models where the bulk of that money is going to pay their salaries. And the salaries are often at market value or very close to it.
  • When asked why they need to raise $500,000 they say, “We’re broke and we need to start paying ourselves.”

I understand the financial challenges involved. When I started my first company in 1996 it took us months before we paid ourselves, and then the first check was for $1,000. In my first year of business I made $12,000. Year two was double that. I then sold that company because the acquirer was willing to pay us above market value salaries at the time. I decided it was worth it at that point to start paying myself something reasonable.

And I’m still hustling. I’ve got plenty of bills and as I get older it becomes harder and harder to sacrifice certain aspects of my lifestyle and financial responsibilities (apparently kids need toys!) So please don’t assume that I’m speaking here from atop a giant pile of money. I’m not.

With that caveat, let’s get back to the point of this post — you can’t use “paying yourself” as the justification for raising money.

The purpose of raising money is to accelerate the progress from Point A to Point B. That means you need assumptions around what Point B is and how you’re going to get there. Part of that will involve paying yourself (I’m definitely not saying you shouldn’t pay yourself anything!) But that’s not the reason to raise money.

Founders at an early stage have to pay themselves below market value. It’s the nature of the beast. Furthermore, if you get to the stage where belts need to be tightened, one of the first things you cut is your own salary. I went through that experience with Standout Jobs. As Fred Wilson points out in his post What a CEO Does, one of the most important things a CEO is responsible for is making sure there’s enough money left in the bank. You have to keep the lights on.

Furthermore, while investors may sympathize with the fact that you’ve gone unpaid for a long time while building your startup, it’s not going to affect their decision as to whether you should get funding or not. It does, to some degree, demonstrate the necessary gumption, passion and insanity needed to be a startup founder (and those are good things!) but investors aren’t going to say, “You’ve worked so long without pay, we’re going to give you funding because of that, so you can pay yourself well.”

So how can you avoid the scenario described above, where you go unpaid for a long time and then need to raise early stage funding in order to pay yourself?

The best way to avoid this situation is to move faster. Anything that takes 6+ months to do, where you have to do it full-time and you won’t be able to pay yourself is an immense risk. There are very few of us that can work that long (or longer) watching our savings rapidly deteriorate without income. But a lot of startups take that long to get off the ground. That slowness kills them. In fact, it’s really a form of Startup D.O.A where the startup is dead before it’s even had a chance of success.

Move faster.

And do it the right way. Too many founders start a project and invest 6+ months in development. Their heads are down and they’re coding. Every single day the risk is going up, not down. Instead of investing your ultra-valuable time on something for that long without any sense of whether it’s really going to work or not, I’d recommend you invest a much shorter period of time trying to validate your business and business model. Just go through the exercises described by Ash Maurya. If you can get through that stage, and do so quickly, you’ve just de-risked things immensely, and it’s going to hyper-focus you on launching something quickly to build traction. The faster you get out into the market and start validating the business, the faster you can make good decisions on things like raising financing, without a giant $0 bank account looming over your shoulder. And maybe it’s looming there anyway, but at least when you go to raise early stage financing you’re not doing it because of the $0 bank account but because you have traction, market opportunity and a good story.

The Importance of Domain Knowledge for Startup Founders

When I launched Standout Jobs I didn’t know much about the HR / recruitment industry. I could clearly identify problems in the space, and I was passionate about fixing some of those problems, but I lacked a real appreciation for the industry itself. This led to numerous challenges, and without a doubt had a negative impact on the company.

I was able to overcome some of those challenges, but my lack of domain knowledge, experience and expertise gnawed at my ankles like a crazed ferret. And in some cases I over compensated as a result.

Mark Suster points out that domain experience brings relationships. I recognized early on just how important it was to establish myself in the HR / recruitment space. I began blogging, networking, connecting with people on Twitter, attending conferences. With my experience in brand building and positioning, I was able to fairly quickly and successfully get some level of recognition in the space. But in hindsight, I probably spent too much time doing that, and overvalued those efforts. Without question there was value in establishing myself and Standout Jobs as leaders and innovators in the HR / recruitment space, but if I had gone in with domain knowledge and experience already, I would have started in a much better position.

One way to compensate for a lack of domain knowledge is to hire someone from the field in question. Logically makes sense. But there are risks as well. One of those risks is losing objective control and decision-making abilities to the “hired expert”. If that person is executing, so be it, but if not (and in some cases it’s hard to judge because there’s a lack of information), there can be serious difficulties within the startup.

Another tempting approach may be to outsource sales responsibility through channel partners. Be very careful about doing that. Channel partners may have a ton more domain knowledge and existing customers to up-sell to, but they require tons of effort and pose plenty of challenges on their own. Plus, without your own domain expertise it becomes difficult to judge partners, figure out how to motivate them, and drive success through them.

Mark MacLeod suggests that domain knowledge and aggression are the two startup founder traits that stand out. Is domain knowledge really one of the top two traits that define successul founders and startups? I’m cautious about over-estimating its importance, even in light of my own experience, but I do think domain knowledge provides a clear advantage.

The Lean Startup Methodology and Customer Development can most likely counter (somewhat) a lack of domain expertise because these strategies are driven by engaging customers, discovering key problems and then implementing solutions. Their systematic approach to building startups, finding product/market fit and scaling through information gathering & assessment help remove errors that might be caused by not knowing an industry. So you can “learn the market”. But even here, without true domain knowledge, you may not be asking the right questions when speaking to prospects, and you may be approaching things incorrectly (but simply be unaware).

In the world of startups there’s no such thing as perfect information. CEOs have to make decisions all the time with imperfect data. You can’t know everything. But those founders that have domain knowledge (versus those that don’t) have a clear advantage in terms of the amount and quality of data they possess. That makes it easier for them to make better decisions on a consistent basis. And generally that leads to winning.

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Ben Yoskovitz
I'm VP Product at GoInstant.

I'm also a Founding Partner at Year One Labs, an early stage accelerator in Montreal. Previously I founded Standout Jobs (and sold it). MY BIO >>

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