October 2009


Approximately a year ago, LaunchCapital’s financial backers asked us to take a step back from the traditional venture funding model and figure out a way to appeal to “Main Street”-type businesses.  Their theory, and we agreed, was that great entrepreneurs are not limited to the world of hi-tech and bio-science start-ups, which are more conducive to traditional VC funding.

So, after several months of collaboration with financial institutions, entrepreneurs and other service providers, along with a relentless effort by LaunchCapital director Heather Onstott, we are excited to officially unveil the LaunchCapital Small Business product to the market.

Why the need to innovate?

I give a lot of credit to our financial backers for helping us visualize the development of LaunchCapital Small Business and for pushing us to innovate around the traditional venture capital model.  As VCs, we regularly ask portfolio companies and prospective investments to continually push their models forward, innovate on their go-to-market strategy and develop that next-generation cool technology.  We demand that they try new things, take risks and constantly evaluate their success.  But, at the same time, we as investors are trapped funding the same industries the same way and hoping for better returns.  It wasn’t until LaunchCapital’s financial backers pushed us to think about the growing need for start-up capital for small business entrepreneurs that we began to innovate.  With the backdrop of a financial crisis and banks less able to finance early stage small businesses, LaunchCapital went to work.  In the end, we came up with a model that gets us closer to our overarching goal: empowering great entrepreneurs to do great things.

What took so long?

For it to take 12 months to get this product up and running seems like an eternity in the start-up world.  So the obvious question: what took so long?  As I look back at the original GANTT chart, I recognize that it took almost 9 months longer than anyone had anticipated.  The primary reason for our delayed launch boils down to three very important lessons that we learned about “Main Street” businesses:

  1. Main Street businesses are not interested in taking on expensive equity at the seed stage of their development
  2. Main Street entrepreneurs have little trust in venture capital
  3. Main Street entrepreneurs take on personal risks that are uniform regardless of industry or experience

The first lesson was easily resolved with some creative thinking around term sheets.  To ensure a fair market return, we balance the returns generated by interest rates, loan terms and equity grants.

The second two lessons took much longer to understand.

It was a June conversation with a senior member of a large regional bank, sparked by an introduction from our financial backers, when it all began to come together.  Lesson learned?  The personal risks associated with starting a “Main Street” business are high because the entrepreneur IS the business.   In other words, the life and personal reputation of a Main Street entrepreneur is so intertwined with the life of the business that they cannot risk bringing in capital that they do not trust.  As a result, the first thing we needed to do before we offered a term sheet (much less cut our first check!) was to build trust in the LaunchCapital Small Business brand.

Prior to this key learning, many entrepreneurs were so skeptical of the “fine print” that we had trouble moving the ball forward.

With the advice and support of our financial backer we adjusted our approach.  For the last 5 months, Heather and I have been fostering relationships with superstar entrepreneurs who are interested in starting community-based, local, Main Street businesses.  We have worked with them on everything from lease negotiations to business model development.  We have connected them to our most trusted advisers and partners – all with the desire to become a trusted source of capital.

It’s working.  We now receive a majority of our deal flow from the very entrepreneurs whom we have been helping over the last few months.

What is the product?

The LCSB product is designed specifically for local start-up businesses that generate revenue within the first six months of opening.  To optimize their capital structure, we offer a small business loan up to $150k, with a small common equity ownership (less than 15%).  The debt is nonrecourse, reducing the entrepreneur’s personal risk.

Much like LaunchCapital Ventures (the new name we have given our equity-based product), LCSB will be a trusted adviser in the market, financing great entrepreneurs in the most capital efficient manner.

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In early November 2008, I held an “all hands” meeting for all of the executives in our portfolio.  At the time, we had 12 active investments and 3 passive investments.  The message that LaunchCapital was delivering was simple and clear: the financial crisis will drastically affect your fund raising efforts.  In order to make it through the downturn, focus on two things: 1) the most important metrics to validate your business model  2) core revenue and new revenue models.

Many of our portfolio companies took this message to heart.  On the far end of the spectrum was Lawrence Coburn and Mathew Spolin, CEO and CTO of RateitAll.  This duo went as far as to have an offsite meeting in which they invited CEOs and advisers from other start-ups to talk about (among other things) varying revenue models.  The CEOs were invited to help generate ideas on how to maximize user experience, site value and revenue generation.  Following the meeting, the RateitAll team went to work implementing a number of new concepts and ideas.  Last Saturday morning, I woke up to a September update in which their monthly was up more than 85% from plan (a plan that was developed before the financial crisis hit).  This was a wonderful surprise coming from a business that is primarily an ad-based revenue model (in an environment where online advertising spend is declining month over month).

Lawrence and Mathew are the kind of entrepreneurs that LaunchCapital loves to back.  They are relentless in their pursuit for new ways to generate revenue and to get to cash flow break even.  They are not scared to take calculated risks.  And, they know exactly which metrics to focus on.

In the last 12 months, it has become easy for businesses (both start ups and established companies) to utilize the terrible macroeconomic environment as a reason for missed metrics.  However, there are always a few creative companies that are able to modify their business strategy and business model to capitalize on the changing market conditions.  The companies in our portfolio who were able to do this focused hard on driving customer traction to achieve revenue and financial stability.  Today, these companies are in a great position to maximize on an economic environment that is rebounding.  With solid metrics behind them, these companies are now signing strategic partnerships, entertaining liquidity options and drawing additional growth capital.

Ultimately, we all have learned a lot from this economic downturn.  Personally, I now have a deeper appreciation for the tenacity of entrepreneurs and have learned that the greatest innovation for many companies may not be in the product itself, but in the underlying business models that drive success: customer acquisition, revenue and costs.

How have you leveraged your existing customer base, strategic partners and/or business model to generate extra revenue streams in the down economy?