“I don’t know if he actually cares, but that actual action matters a lot.”
After the dinners, each guest speaker talked about the start-up he or she built and how it got to where it was, before a question-and-answer session with the audience. The rest of the week, nine full-time YC advisors, all entrepreneurs and investors, counseled the start-ups during “office hours”: Paul Buchheit, Aaron Iba, Carolynn Levy, Jessica Livingston, Kirsty Nathoo, Geoff Ralston, Harj Taggar, Garry Tan, and founder Paul Graham.
Born in 1964, Graham gained notoriety for founding Viaweb, which later became Yahoo Store. Since then, he worked as a computer programmer and venture capitalist before starting YC. Other partners who also have equity from the YC companies are entrepreneurs Sam Altman, now the head of the organization; Justin Kan; and Emmett Shear. On-staff lawyers offered YC founders advice for free.
Companies had a support network to figure out problems, come up with ideas, and help those who were stuck figure out what to tackle. The advisors would tell YC participants they needed to figure out what users would want and then ask themselves to name their own strengths. Usually by the end of the program, 15 percent had iterated on their original idea so much that they had a different plan from their original one. Once they figured out their idea, the advisors instructed the founders on where to start and how to do it quickly, and how to get users as fast as possible, in order to figure out whether what they were building was promising or a dead end.
Graham thought that weeding out a bad idea was where Y Combinator could be most valuable. On his site, he wrote about how identifying bad ideas could produce good results: “Paradoxically, these disasters are precisely the reason to launch fast: they all represent problems you’re going to need to solve eventually, and the only way even to find out what they are is to launch. In practice, they vary from technological bottlenecks to threats of lawsuits, but the most common problem is that users don’t like the product enough.”
When the start-ups were ready, the founders would go to the advisors during office hours to get help on how to launch their product, and how to show it to users, the media, and investors, usually starting with a website. After they had completed this step, they worked on the pitch process by sitting with YC partners in front of whiteboards and figuring out what story to tell and to which news outlet to give it. Then came fund-raising. YC partners advised on how much money they should raise and from whom, when to raise it, and what their financial goals should be. More money was not always better. “If you try to climb too steeply, you just stall,” said Graham. “Similarly, if you try to raise too much for the stage you’re at, you’ll not only waste lots of time and end up with nothing to show for it, you’ll even jeopardize your chances of raising a smaller amount, because your initial leads will cool as you start to seem shelf-worn.”
By the end of the cycle, the companies got ready for Demo Day by practicing presentations, filming them, and rehearsing in front of the advisors and partners. Midway through the cycle, partners from Sequoia, one of the area’s top venture capital firms, came in to talk with each company team. By acting as consultants, Sequoia got an early look at the start-ups, and the start-ups received early feedback.
Along with dinners was a party for founders at the beginning and the end of their three-month time, as well as regular happy hours in Palo Alto and Mountain View bars. Founders organized their own social events too: a Herculean task for engineers who enjoyed coding over keg stands. Often YC “batches” would become each other’s cliques going forward. Through its founders and alumni, YC’s connections alone were reason enough to stay in the Bay Area. They also provided access to reporters, who in turn helped the companies raise their profiles so they could in turn raise money.
The first Demo Day in 2005 attracted fifteen investors. Fast-forward to fall 2012, and four hundred investors showed up to see what company ideas come out of the program. By 2015, there were over five hundred. Afterward, contacts are made and follow-up meetings scheduled. Though the program ended that day, YC stayed in touch with the new start-ups through their negotiating period, and sometimes negotiated with the investors themselves. Y Combinator has become its own signaling system.
Other start-ups that came through the program enabled their founders to exit with hefty nine-figure paychecks, including Cloudkick, Heroku, and perhaps most prominently, Reddit, whose cofounder Alexis Ohanian acts as the East Coast ambassador for the program.
Like Thiel, Graham encouraged founders to launch on the West Coast rather than the East. “The Bay Area is for start-ups what LA is for the film industry,” he contended. “Large numbers of the people you meet by chance have some connection to it.” And while he didn’t rail against college in the same way as Thiel, Graham said, “Y Combinator takes only three months—less than any school—and afterward start-ups can go wherever they want.”
For all of YC’s popularity, however, a story about the incubator’s marginal success ratio posted on Graham’s blog in fall 2012 surprised both investors and entrepreneurs alike. He admitted that all YC companies’ returns are concentrated in just a few big winners. Also, he wrote, “The best ideas initially look like bad ideas.” It turned out that while the total value of the companies he had funded with Y Combinator was $10 billion, three-quarters of that amount came from just two: Dropbox and Airbnb. A generous estimate would be that only one company per “batch” would have a real effect on YC’s returns. Therefore, he said, each participant’s chance of success didn’t matter nearly as much as his or her chance of succeeding in a huge way. And that chance was tiny. “The probability that any group will succeed really big is microscopically small, but the probability that those nineteen-year-olds will [achieve exceptional success] might be higher than that of the other, safer group,” Graham said in the post. “The first time Peter Thiel spoke at YC, he drew a Venn diagram that illustrates the situation perfectly. He drew two intersecting circles, one labeled ‘Seems like a bad idea’ and the other ‘Is a good idea.’ ”
For example, investors were largely skeptical of Airbnb at its inception. Graham couldn’t convince anyone else to fund them. Out of his entire venture capital network, only Greg McAdoo, a venture capitalist at Sequoia who had worked in the vacation rental business, gave Airbnb a chance. As of fall 2012, the company was valued at $2.5 billion. Three years later, it was valued around $25 billion.
“The intersection [of a bad and good idea] is the sweet spot for start-ups,” wrote Graham. Finding that sweet spot, though, is a problem that almost cancels itself out. “The vast majority of ideas that seem bad are bad,” he went on. “When you pick a big winner, you won’t know it for two years.”
The one metric that Y Combinator could track is how much each new start-up can fund-raise after Demo Day. But that’s the most misleading number of all. “There’s no correlation between the percentage of start-ups that raise money and the metric that does matter financially, whether that batch of start-ups contains a big winner or not,” he said, adding, “except an inverse one.” Even if most are bound for failure, however, the experience the entrepreneurs get among one another working on ideas they care about was likely more real-world experience than they’d get in an East Coast institution, and more ownership than they would on a traditional career path. The best part for many of them was that there was always a backup plan: they could go back to doing what everyone else did—college—but having already started a company. In a world where failure was a virtue, it didn’t matter if the venture closed in three weeks and never made a cent. At least they went out and tried.
• • •
Techstars, the incubator behind the eponymous TechStars reality show on Bloomberg TV, started in 2006 in the unlikely city of Denver by an entrepreneur named David Cohen. Its pace was faster than YC’s, more public and more akin to a tech start-up reality series. A career angel investor, Cohen had already founded three of his own companies in Colorado, including
Pinpoint Technologies, a medical company, and the music service earFeeder.com, before he realized that he’d rather invest. So he decided to build a network with which to do so.
Cohen wanted to see how new companies would do as part of a network for three-month periods, much like Y Combinator, and then decide whether to keep them as part of his portfolio. Cohen’s first step was assembling a group of mentors, and he eventually built a network of seventy venture capitalists, CEOs, and entrepreneurs who would mentor the new companies they hoped to test.
The first program launched in 2007 with ten companies. By fall 2016, five from the first program had been acquired. Two years later, Techstars launched in Boston, and the following year in Seattle. In 2011 Techstars NYC launched in New York, directed by David Tisch, then the thirty-year-old scion of wealthy Daniel Tisch. At the time, it was a controversial choice to have a nonentrepreneur billionaire’s son direct what was supposed to be a scrappy group of tech founders. With the New York branch, the group launched a “Global Accelerator Network” to programs in twenty-two different countries together with President Obama’s Startup America Partnership.
They then launched the TechStars reality show, the first attempt at start-up-related TV before Bravo’s Silicon Valley. This Bloomberg series followed the batch of 2011 companies based in New York. Episodes were supposed to offer glimpses into the lives of the entrepreneurs, complete with the start-up lingo of “whiteboarding” and “pivoting.” One, Jason Baptiste, cofounder of Onswipe, compared the start-up life to war on the show: “Physically it’s not like war,” he said, “but mentally it’s the exact same thing.” Though the other mentors and founders in the program found him “arrogant,” they couldn’t help but be impressed with his company’s growth. It turned out they had a point. When he defended his attitude on the final episode, he said, “You have to be confident—you have people whose lives depend on this.”
Throughout the first series, the Techstars founders raised $25 million. While some did better than others, they all preferred their newfound careers to what they were doing before—or at least they said so on the show. For example, Melanie Moore, cofounder of ToVieFor, an online handbag store where customers could choose the price they wanted to pay, used to work in investment banking. She would find herself and her team stuck late at the office night after late night. Though ToVieFor is now defunct, starting a fashion business was much more fun and more dramatic.
Furthermore, it didn’t hurt that founders got to fraternize with mentors featured in the show, such as Foursquare executive chairman and cofounder Dennis Crowley, Tumblr CEO David Karp, HubSpot cofounder Dharmesh Shah, and Fred Wilson of Union Square Ventures. Now Techstars has programs in Seattle, Boston, and Boulder, Colorado, among other US and international locations. Each city had anywhere from fifty to one hundred mentors for the ten to fifteen companies that go through the program each year.
Like the other incubators, Techstars boasted a lower acceptance rate than Harvard’s: just 1 percent. “We have selection rates lower than the Ivy League, so you have to be among the best of the best to earn investment from Techstars,” its website advertised. It would also claim that the three-month program was more rigorous than four years in college. Along with working out of Techstars’s office space, the chosen companies got to present in front of investors in their network. They received $20,000 up front in exchange for 6 percent of common stock in the company they created. Techstars counts that initial $20,000 as $200,000, since it offered an optional $100,000 convertible promissory note. Like YC, Techstars, too, had dinners where speakers prominent in the tech world would come twice or three times a week. Founders also visit companies in the area to meet CEOs and entrepreneurs there.
During the first month of each program, the founders presented their ideas to mentors and received feedback so they knew whether or not they would have to “pivot,” or change direction. The next month, they ironed out specific issues and ways to expand or develop certain products. The third month, participants figured out what to do after the program, such as how to fund-raise and pitch investors, and eventually launch their company. The culmination of the program was, again, a Demo Day, where outside investors and entrepreneurs could come see the presentations of the final companies.
Some of these companies worked out well. SendGrid, a cloud email platform, generated over $60 million in revenue in 2015 and is projecting $100 million in revenue in 2017. Graphic.ly, a digital comic book site, raised $7 million by 2014. AOL, Jive Software, and Automattic acquired companies the first year too. They said their start-ups averaged raising over $2 million in outside capital. To apply, Techstars also had aspiring founders fill out online applications. They could apply with tech ideas in software, Web, social media, consumer Internet, but not biotech, restaurants, or “local service-oriented companies”—areas in which the Techstars founders and mentors had little expertise. Applicants could already be making money and have funding, or they could be starting out cold. But “nothing is too early,” they said.
Then there was 500 Startups, which worked more like a venture capital firm but on the angel level. The smallest of the better-known incubators, it was the brainchild of entrepreneur and angel investor Dave McClure, a former tech consultant to Microsoft and Intel, and later director of marketing at PayPal. When he left PayPal in 2004, McClure started investing in consumer Internet start-ups such as Mint (acquired by Intuit), SlideShare, Twilio, Credit Karma, Wildfire Interactive, TeachStreet, MyGengo, Mashery, and Simply Hired, among many others. He eventually became investment director for Facebook fbFund for about six months before running FF Angel, a seed-stage investments program at Peter Thiel’s Founders Fund. The fund seeded early-stage start-ups that were developing apps for Facebook.
At least ten 500 Startups companies have been acquired, and its second fund raised another $50 million in outside capital. McClure also started expanding into the New York market, into media, fashion, and entertainment. Still, 500 Startups has not had the same success as Y Combinator, a fact McClure was well aware of and posted about extensively. “YC is quite clearly the Yankees, while 500 is more like the Oakland A’s,” he wrote on his blog. YC, he said, backed the “billionaire start-up club” of companies such as Dropbox and Airbnb, whereas 500 Startups’s largest exit was MakerBot, which sold to Stratasys for $403 million in June 2013. “YC is for hackers, and 500 is for hustlers,” McClure quoted his cofounder as saying. “YC is unbeatable in engineering and programming culture, and 500 is best in show at marketing, design, and story-telling culture. They are chess nerds, and we are band geeks. YC made fire. 500 stole it.”
McClure thought that seed round valuations for decent companies at $3 million to $7 million were a good pace of growth for founders and investors alike, and had “more sustainable pricing.” Still, he praised YC as “the Giant whose shoulders we all stand upon, 500 and others included.” He wrote, “They are kicking everyone’s ass, and they are easily King of the Hill.”
Along with incubators came newfangled universities aimed at replacing traditional institutions. There was venture capitalist Tim Draper’s new Draper University of Heroes. Though far smaller in both size and reputation than YC or even 500 Startups, Draper, lately best known for his sizeable investment in Theranos, took an extra step to replace the university with the incubator by creating a for-profit incubator university. Best known for funding Skype and Hotmail in their early stages, Draper had long been a proponent of teaching students about business and entrepreneurship. But he had never gone as far as he did in 2011, when he decided to buy the Benjamin Franklin Hotel in downtown San Mateo for nearly $6 million to turn it into an entrepreneurship university. His plan was to host classes of students in a makeshift boarding school for ten-week academic programs geared toward entrepreneurial skills, based on Stanford’s schedule.
The hotel would be a test space for Draper’s pilot program, which was to open in winter 2013. “The pilot has gone viral,
and there have been hundreds of applications submitted from all over the world,” Draper said in his initial announcement. “We clearly are going to need to hire some more admissions people well before we open in January.” Though the community originally was critical of Draper’s proposal, complaints were about the parking rather than the alternative education. Draper reassured neighbors that students wouldn’t be allowed to bring their cars with them.
Draper University opened in April 2013 with 41 students. They lived on the first three floors. Classes took place in a lobby lounge. Eventually it hopes to host 150 students. The slogan? “The world needs more heroes.” On the school site, there was no president; instead, Draper was “the Riskmaster.”
“We are building divergers who want to be better and do better,” read the early mission statement. No matter that divergers wasn’t even a word—grammar wasn’t the focus here. “Expect to be inspired. To do things you didn’t think were possible. To be fearless.” Each student would create his own company and build a network of mentors and coaches, just like at the incubators. In the end, just as at the accelerators, they would pitch Silicon Valley investors for funding. The curriculum was “centered around superhero themes”—invitations to the opening night informational had a background of Marvel-looking superhero cartoons—and students could participate in activities such as “public speaking, cold calling, hydroponics, yoga, car racing, riflery, future projection exercises, speed reading, and business simulations.” And rather than investing like at typical incubators, Draper charged students $9,000 to $15,000, depending on the length of the session.
It was just the first step toward what was already happening on the East Coast. There, universities from Harvard to Northeastern had started building their own versions of YC, albeit with Ivy League professors and classes. It turned out there has been such a flurry of start-up activity in recent years that now one in three business incubators were housed on campus, up from one in five in 2006. Even Duke and Syracuse Universities—better known for creating star sports teams than spawning start-ups—are planning incubator spaces. Thanks in part to Thiel and YC’s Graham, the experiment to expand Silicon Valley had begun. The question was whether campus culture could keep up.
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