[andyakb]

Im very confused about what you are trying to prove with your server example. The hard part of your example has nothing to do with building a cheap server rack and everything to do with the fact that it is very difficult to build a website that attracts 50mm hits a month, a point you completely hand wave around

[graycat]

We agree on what has been said, but the point I was making was so obvious I didn't say it! Point: Servers are so cheap that don't really need VC equity funding to buy a good one. So, if the 'idea' is good in the sense that it can get the coveted 'traction', then the 'funding' the entrepreneur needs is essentially just the food, shelter, etc. to write the software plus $2000- for hardware, then go live. The if the idea is good, can get $300,000+ a month from a $2000- server. So, tough to see just there the VCs have a role. The OP made a similar point.

Then, the next obvious, so far unstated, point is, to play in the game, the VCs will have to do something much like the entrepreneur does -- evaluate the 'idea' long before 'traction', i.e., VCs will have to actually read the 'business plans', think about what they are reading, and be able to do an accurate evaluation instead of just waiting for traction, significant and growing rapidly and for some strange event that then has the entrepreneur wanting to take equity funding, go from 100% ownership to 0% ownership with his 50% +- on a four year vesting schedule and report to a Board that can fire him before much of the vesting has been done and take the company.

[random_user]

Cash is like the blood running through the veins of a venture. You need it to survive. You also need it to walk and you need more of it to run. There are web businesses that can certainly be entirely bootstrapped, sometimes by a single coder/designer/everything.

On the other hand, most businesses that scale need more people and more resources and more of everything. This is where the "it's just a server in a rack" model breaks down quickly. Scaling means, at the very least, hiring people and providing them with all of the resources they'll need to do their work. You could very easily be at a $50K per month burn rate very quickly after launch, say, thee months. That doesn't account for legal fees and other expenses that might not be obvious on first inspection.

If you have the money and the ability to scale a business and are willing to risk it all, by all means, do it. You don't need external money for this.

Most of the young folks who seem to make-up the HN audience there are lacking three things: money, experience and the business network. All three of these are critical when you need to press on the accelerator and go. Learning while doing is possible but far less than ideal. If a VC can offer smart money this is probably the best bet for young HN'ers. In this context "smart money" means that a VC makes an investment and also contributes experience, guidance and contacts to the process. This can often mean the difference between success and failure.

In many ways this concept of a good vs. a bad idea has to be qualified with a set of variables. Off the top of my head:

    Startup cost
    Market
    Competition
    Barrier to entry
    Cost of sales
    Capital intensity
    Regulatory landscape
    Technology risk
    Intellectual property ownership
    Intellectual property minefield
    Domain expertise
    Funding
    Business operating expertise
    Marketing expertise
    Local labor requirements
    

I could go on and I could expand on all of the above but that's besides the point which is that a business that isn't a hobby and can scale is far more than a server in a rack.

[graycat]

You seem to be explaining the common theme that (1) an entrepreneur has some work done that is sufficiently promising as the beginning of a big, successful business and (2) needs equity funding to scale quickly.

My response: So, when a Web site got popular and a good Sun computer as a Web server cost $200,000, which had to be paid long before the entrepreneur could have received the checks from the advertisers, then equity funding was needed for the servers, room to put them in, HVAC for the room, high speed Internet connections, etc. Okay, but now a much more powerful server is available for $1500 in parts and can be plugged together in a day the first time and an hour or so for similar servers after that. For the room, use a basement or spare room in a house. For HVAC, get a window unit AC. For the Internet connection, 15 Mbps upload bandwidth appears to be common in residences, and that is plenty for enough revenue for much more.

Growing quickly? Why do that? There are some cases, e.g., to exploit a fad, but it's not so clear just why it is necessary.

Cash? Right, it's crucial, but getting that first 8 core, $1500 server live with 15 Mbps upload bandwidth doesn't take much cash.

Then if the project is good, that first server should throw off enough cash for growth to 2, 4, 8, 16 servers, which, if kept busy should throw off enough cash to make a common Series A look a bit silly.

Growth in head count? Sure, but that's for later. For a good project, in the first year of doing well the project should have put enough cash in the bank to start hiring, slowly.

For each of the points you mentioned that need cash and, thus, perhaps equity funding, there are plenty of example projects. And generally your points hold for the 'usual' projects or 'most' projects. But as entrepreneurs, VCs, and HN readers all have learned, projects with good VC funding are like hen's teeth, in a recent comment by A15H, only about 15 such projects a year.

So, instead of 'most' or 'usual', we have to be assuming 'exceptional'. Essentially everything about a successful information technology (IT) project is 'exceptional'. So, I was trying to describe some of what an exceptional project could do. Net, net, from all I can see the VCs want to fund only projects that don't need the money.

E.g., one well known Silicon Valley VC firm wrote me that they want "100,000 uniques" before writing a check. Okay, let's see: 100,000 unique users of a Web site in a month might mean 300,000 users with, say, an average of 4 visits a month. Suppose each visit sees 8 Web pages with 4 ads per page. Assume get paid $2 per 1000 ads displayed. Then the monthly revenue would be

300,000 * 4 * 8 * 4 * 2 / 1000 = 76,800

dollars. One guy. He's now awash in free cash unless he has 50 Lamborghini cars, a 200' yacht, and a Gulfstream G650. Instead, if his car is old and rusty, then he's in line for a new SUV and a new Corvette. A few more months, especially if he is seeing significant revenue growth, and he can be hiring.

Here is a 'sanity check': I know; I know; IT startups are the big, hot, new things. Right. But they didn't invent either sex or business. Instead, the US is just awash, coast to coast, village to big city, in sole proprietorships and family businesses. When one of those gets to $76,800 a month in revenue, with only one or a few workers, they are not out looking for equity funding. Not a chance.

Such busiesses? Actually, can buy a house and support a family just being an electrician. When I needed one on a Thursday, I was up all night getting names and phone numbers and calling, trying to get the work done on Friday instead of Monday. I left about a dozen messages. Only one called back, near dawn, because he was on his way to his Friday morning golf game, but he gave me a name I'd not found. That name came and did well. Look, those guys are working 4 day weeks, don't bother with publicity, and still are being bread winners.

E.g., when I was a B-school prof, one of my students had a good career going managing Wendy's -- so, right, you can guess the B-school. He explained some of how to do well running a Wendy's: Have the staffing meet the demand, not too much (waste money) and not too little (lose business). To do this well, have to watch the weather hourly and watch for special events, say, B-ball games, daily. He said the difference is about $200,000 a year in the pre-tax bottom line, at one Wendy's. So, a guy who is running 5 Wendy's can bring in an extra $1,000,000 a year pre-tax just from careful staffing. He's not interested in equity funding. Instead, banks are perfectly willing to loan him money for new restaurants.

In what little time I spent in yacht clubs, I saw people in rental property, several retail dry cleaning shops, independent insurance, etc., but I never saw anyone in IT with equity funding!

Bringing up a Web site will make any auto body repair guy, auto repair guy, pizza shop owner, coin laundry guy, etc. highly jealous because that $1500 server is chump change compared with the equipment they need to be ready to serve their first customer. Heck, on my street, the guys mowing the grass arrive in a truck with a trailer with their gas powered mowers -- truck maybe $40 K, trailer maybe $10 K, and mowers maybe $15 K each. Gee, for just one of their mowers can buy 10 of those 8 core servers at $1500 each.

It is looking to me that bringing up a Web site that runs ads is a much nicer business than nearly any of the millions of successful small businesses in the US. Yes, the Web site needs traffic, and if it is to be really successful, say, $1+ billion market cap, some careful thinking and/or a lot of luck. I do suspect that somehow the guys mowing grass, and speaking poor English, are getting by without a lot of legal expenses! If they can, so should a guy running a Web site.

What I'm describing, has it been done? One example is the Canadian match making site Plenty of Fish. For some years it was one guy, 2-3 old Dell servers, ads just via Google, and $10 million a year in revenue.

For one more, when my cable TV and ISP guys were last at my house, they looked at my software and mentioned that they know of another customer who bought three houses in a row. Why? Just to get the residential price for their upload bandwidth for their Web site.

For now, I'm glad I'm an entrepreneur and not a VC: I get to design my project just from a clean sheet of paper while a VC is essentially forced to wait for something good to arrive in his e-mail inbox. Yes VCs like to try to map out the promising 'spaces' for the future, but to me that is a form of intellectual self-abuse. And nearly no VCs have backgrounds that are exceptionally good as a foundation for picking and executing a good project.

It's true that the VCs can't evaluate my project, and that's beginning to look like good news; that is, the entrepreneurs the VCs fund couldn't understand or compete with my project either.

I'm failing to see much of a future for US IT VCs: Computers are too cheap, and the VCs are insisting on buying a ticket on the planes after they have already left the ground. Besides, as in a Fred Wilson post at his AVC.com a year or so ago, on average US IT VC returns over the past 10 years suck.

[random_user]

Well, I think we can agree on some points. There are tons of web businesses that can be started and run with $100 per month...you don't even need to buy the hardware. All you need is a few Linode's and you are good to go.

At the same time, there are web businesses that need cash, people and resources. VC's can be a good match for that type of business.

The other variable is time to market. This is something I did not fully appreciate when I was younger. There are lots of cases where time to market can make or break a business. This is yet another variable or qualifier on the concept of good vs. bad ideas. An otherwise good idea can be rendered bad simply because of an inability to get to market fast enough. Often times this is a matter of the money necessary to bring to bare the resources necessary to accelerate execution.

As is often the case, there are tons of ways to approach a problem.

[graycat]

Some of my arithmetic is off; I typed too fast, and it's too late to edit now. But broadly the lesson remains: 100,000 uniques can yield enough revenue so that a one person company will be comfortable financially, i.e., enough to pay the rent, buy groceries, take a pretty girl to a movie, and have cash enough for more servers, and if those servers stay busy, then he is on his way to more servers and revenue and, then, hiring.

I, too, did mention that there are cases where have to be in a hurry so that then some equity funding could be crucial.

For the young, inexperienced readers of HN, I'm sorry: HN is helping them get educated, and there is a lot on the Internet, e.g., at Fred Wilson's AVC.com. But help for the young or not, the projects VCs are interested in are exceptional which, we have to expect, filters out a lot of people for various reasons. Tough to make a $1 billion; the economy is not big enough for everyone to make $1 billion.

For being slow to market, my approach is to have done some original research that few others will want or be able to do, and until I am successful nearly no one will try to do. Then if I am successful, they will be too late.

But I've had a long time, e.g., mud wrestling with Microsoft's software, learning that VCs don't look at projects anything like I do, etc., without any significant progress by competition.

A common claim is that any idea entrepreneur A thinks of some entrepreneur B thought of before. Of course, this is silly because among all people who thought of the idea, there has to be a first person and, then, for that first person there wasn't anyone before. Again, that first person is exceptional, as is usually necessary to make $1 billion.

In picking projects, I would recommend picking one where can do some original research that few in IT are able to do and have that research be an 'unfair' advantage and a technological barrier to entry.

Of the "tons of ways to approach a problem", I would urge others to pick some ways that help make the path to success easier. E.g., now and for a few years, exploit an 8 core server for $1500. E.g., if have to be in a mad rush to get to market, then pick another project. If have much doubt about 'product-market fit', then pick a project that right from the beginning has very little such doubt, e.g., like a safe, effective, cheap one pill cure for any cancer. If need a big team long before revenue enough to pay them, then pick another project. My project, about to have all the software needed to go live, has several simple Web pages, two more complicated ones, and two internal server programs with a total of 24,361 source code lines and 6,615 source code statements. Not a lot of code. There is a little more code that runs maybe once a day in 'batch'. So, it's a one person project.

There is an old piece of advice that a key to success in research is good project selection -- similarly for entrepreneurship.