Finding The Underrated
You can’t beat the crowd by following the crowd.
Startups are all about finding the underrated.
Founders should find underrated ideas to work on.
Also, founders should hunt underrated talent to hire.
Employees should find underrated companies to join.
Investors should seek underrated investment opportunities to back.
In my opinion, discovering underrated things is one of the most valuable skills for anyone who wants to be involved in startups. Here's why.
Underrated ideas
Good startup ideas usually look bad at first. Chris Dixon - a partner at a16z, had a great speech on this counterintuitive point. The reason behind this is because:
“Good ideas that look like good ideas are obvious; everyone can see that. Therefore, these ideas are already being worked on by academics, government, or large companies. For example, everyone wants a smartphone with a 10x battery and a better screen, camera, etc. So Apple, Samsung, and everyone else is hard at work on that. So, sort of by definition, we - entrepreneurs and investors are kind of in the business of the leftovers. The things that everyone else thinks are bad ideas, but we discovered that it’s actually good ideas ” - Chis Dixon.
Think about it, hottest consumer tech startups in the last decade were all considered as dumb/weird ideas when they started.
Uber - Who would get in a stranger's car? Conversely, who would willing to risk letting a total stranger into their car in the middle of the night?
Airbnb - Similarly, Who would stay in a someone else’s couch? On the other hand, who would be comfortable with having a stranger sleep in their house? What would happen if these guests were actually thieves?
"At the time, a lot of people just said that it was the worst idea ever, and yet somehow it worked"
- Brian Chesky - Airbnb’s CEO.
Snapchat - “Oh, come on, disappearing images? That "sexting" tool is only for teens” - a VC once said.
Probably, the most legendary story belongs to Google.
“It is hard to imagine now, but back in 98 when Google first launched, they were actually very late to the search engine world. At the time, the search was dominated by large portals like Yahoo and Lycos and Excite. They actually thought of a search as kind of a lost leader, their real business was being a portal and putting display ads everywhere.
In fact, if you go back and look at all of the literature at the time, everyone was talking about stickiness. Stickiness was kind of the key.
You wanted stickiness, so people stuck on your website, so that you could show them more ads. Google was the opposite of this. It was so incredibly good at finding the right search results that people would immediately leave the website.
In fact there's a famous anecdote where the Google guys, when they started off, were trying to sell their technology for a million dollars to one of these large portals.
And the funny thing is, the CEO of the large portal tried Google out and he's like - "This works too well. The problem is people are going to leave my site, can you make it work less well and like actually give me bad results". This is a true story.”
- Chis Dixon.
In hindsight, it’s evident that Adwords should be such a goldmine for Google, but back then, nobody could think of any way to make money out of search engines. Therefore, it’s easy to see why Google was so underrated.
The advantage of a startup with a look-like lousy idea is that no one will compete with you.
That gives you time to build a competitive moat, such as network effect or know-how expertise. By the time the world realizes that your idea is actually a good one, you have already built your moat.
Probably my favorite example recently is the view of Mike Maples - a partner at Floodgate on the story of Telephone versus. Telegraph.
“The telegraph company was the biggest company for communication. They could do transcontinental telegraphs and Alexander Graham Bell shows up with a telephone and they say, “What could you do with this telephone?” Well, I could make calls 250 feet away, but you can talk to the person on the other end of the line rather than do Morse code or code over these transmission lines.” They say, “Well, what good is being able to hear somebody from 250 feet away? That’s useless, right? We can communicate with people across the entire country.”
Alexander Graham Bell’s like, “Yeah, I guess you’re right.” Well, what he did was he, overtime, improve the voice coils, the amplifiers, all the technology for making the calls progressively longer. By the time, Alexander Graham Bell’s phone could make a call across the entire country, the telegraph guys are screwed, because the telegraph guys have no idea how to make telephones or how to perfect the technology.
Clay Christensen used to call this the sword and the shield, like the shield is your go-to market strategy is so different and the customer context that you’re targeting is so different that the incumbent doesn’t feel an incentive to attack you. They just say, “You can have that market. That’s a stupid product, a stupid idea.” That’s the shield that gives you time to perfect the technology”.
- Mike Maples.
Because of these counterintuitive dynamics, the best investors always seek for contrarian ideas to invest.
Keith Rabois from Founders Fund once said something like - he has serious doubts when all partners at Founders Fund agree that the deal he is about to back is a good one. That might signify that the idea is too obviously good.
This is what I remind myself when someone tells me that our idea is weird or posing a bunch of questions and worst-case scenarios regarding how it might not ever work. Yeah, all of these concerns and questions might be valid; however, it’s also a good sign. At least not everyone agrees that it’s a good idea.
And just like Airbnb, if we can tackle and overcome these problems, we can build a competitive moat for ourselves.
Underrated talent
Using a football analogy, Startups are like Norwich, Burnley, Watford in English Premier League. As a coach of a tiny club, you - the founder can't afford to transfer Ronaldo, Messi, or Kevin De Bruyne to your team.
To succeed with a startup's budget, you must find the next Messi, the next Ronaldo, before anyone else.
Keith Rabois, with experience working at the early PayPal, Twitter, Square, has great advice on finding undetected talent.
“You must hire people who are undiscovered talent. You cannot recruit people that are already proven. The reason why is there's always going to be large incumbents. That would just basically outbid you for proven talent. They would pay more money than what you could afford to prudently spend as a startup.” - Keith Rabois.
Think about it. By the time someone is great and discovered, it's very difficult to recruit that person to your startup. Incumbents like Google, Facebook, or your local big tech company have much more money than you to lure them, as well as less risk and more prestige. Therefore, the only way for startups to build a dream team is to discover great talent before others.
“In his own experience, Keith notes that, the people on the early PayPal team rarely had any experience in payments, except for the general counsel.
Usually the role in a startup is primarily about creating new value that hasn't been created before, but occasionally you'll need someone more experienced, someone who could ensure that you're not undermined by avoidable mistakes, legal issues, or lack of compliance.
In other words, when you need upside, hire for aptitude. When protecting against downside, hire for experience.”
- Mike Maples summed up Keith’s key takes in a great interview between the two.
Underrated companies
As an employee, you want to join Google, FB in 1998, 2004, not in 2020. Because it’s technically impossible to go back in time, therefore, what you want now is to join startups that could potentially be the next Google, FB in 10, 20 years later.
Deciding whether to join the early team of a newborn startup or not could be one of the most important decisions in your career. Let’s take a quick look at some famous examples.
Garry Tan - co-founder and managing partner at Initialized Capital shared his $200 million mistake by turning down Peter Thiel’s offer to join Palantir early on.
“I just graduated in 2003, and my friends were starting a company with Peter Thiel. They flew me down to have dinner with Peter. It was about the time that Peter wrote the famous $500,000 check to Facebook that made him a billionaire. He was a known great entrepreneur, he just wasn’t the billionaire that you know him as today.
He looked at me and said “Garry, what are you doing at Microsoft? You’re wasting your time.” Keep in mind, I was 23 years old. I didn’t know anything about startups, I didn’t know anything about startup finance. And I definitely didn’t know about how these things got started.
He said: “I’m so sure this is the right thing for you, you need to quit your job right now!”. He asked, “ How much a year do you make at Microsoft?”. It was $72,000 a year, really the lowest of the low coming right out of college. He got out his checkbook and wrote me a check.
He said, “Cash this check, quit your job. This is a zero-risk opportunity for you.”
I said, “Thank you very much, Mr. Thiel, but I might get promoted to the Level 60 next year.” 😅😅😅
Damn, what a mistake. It costs me 200 million in equity, at least.
Palantir is now worth $20 billion or more, I did end up joining as employee number 10 and it still worked out. But this is a huge lesson that you should keep in mind as you think about where you wanna work.
- Garry Tan.
Another expensive mistake belongs to Joe Green - a roommate of Mark Zuckerberg in college.
Green, who remains friends with the Facebook founder, shared a dorm with him at Harvard in 2004. He was asked by Zuckerberg to abandon the university to start the social networking website. But Green listened to his father and stayed at Harvard while his friend moved to Silicon Valley and begin his rise to becoming a billionaire.
Green decided not to join Zuckerberg in the Facebook venture after their previous project, FaceMash, got them into trouble at Harvard. The rudimentary site was used to rate female students "hot or not."
"We'd got into a little bit of trouble with the previous project and my father, who's a professor, was not too happy with the prospect of me getting kicked out of school. Zuckerberg likes to make fun of my dad for this, but we're still very close."
On the opposite end, picking the right startup to join could give you unlimited upsides. The story of how Sheryl Sandberg - now COO at Facebook, probably one of the most influential women in the world, chose Google over other big companies is a classic case:
Sandberg, who has two Harvard degrees, was handpicked by her economics professor Larry Summers to follow him to the World Bank and then to become his chief of staff when he was Treasury Secretary. Not surprisingly, by 2001 Sandberg had several job offers.
Being MBA-trained, she resorted to a spreadsheet and listed her jobs in the columns and her criteria in the rows, and compared the companies and the missions and the roles. One of the jobs on that sheet was to become Google's first business unit general manager, which sounds good now, but at the time no one thought consumer Internet companies could make money.
When Google offered her a job, it was in start-up mode with not too many employees.
"Google had no business units, so what was there to generally manage?" Sandberg told an ABC interview. "I was just like, 'Eric, I- I love Google. I want to take this job. But I don't know what this job is.'"
"But the next thing he said was, “If you're offered a seat on a rocket ship, get on, don't ask what seat.”
I tell people in their careers, “Look for growth. Look for the teams that are growing quickly. Look for the companies that are doing well.”
Sheryl Sandberg shared in her book Lean In: Women, Work and the Will to Lead.
Be very aware of the survivorship bias here, with each Mark Zuckerberg story, you can find hundreds of failure stories about founders eating instant ramens for a living after dropping out of college as counterexamples. Nevertheless, these stories clearly illustrated that most startups fail but when they win, they win big, and the decision to join the founding team of these winners can completely change your life.
However, it's still a very tough call for anyone to make, given the fact that great startup ideas usually seem silly in the beginning. If you can consistently spot newborn unicorns, you should have already changed your job's title to be an investor.
It becomes even a harder decision if you are offered with multiple offers from big corps. Resisting the lure and prestige of big corps is probably the hardest thing for new grads to do, *myself included.
This is why I love thinking about careers using an analogy from computer science - Local maxima vs Global maxima. By always optimizing to climb the hill upward, you will reach the Local maxima, but probably not the Global maxima. Maybe, you’re just climbing the wrong hill; sometimes, you might have to go down the hill first and wander around before climbing upward.
Anyway, similar to love, despite all of these reasons not to do it, as long as you love someone, you don't care about what others say to you.
I think that if you know the founders well and believe in the idea then go with your guts. Especially if you're young, dumb and broke like me, just go for it, you don't have much to lose!
Underrated investment opportunities
As an investor, you always want to find underrated investment opportunities. Had Airbnb been considered as a hot deal back then, top-tier firms like Sequoia, a16z, Benchmark would have backed them immediately, there is no way the deal can reach you as a typical investor.
In places with a high concentration of venture capital firms like Silicon Valley, investing in startups becomes exactly like a food chain. The best firms got the hottest deals since founders want to be backed by prestigious firms with a proven track record. Conversely, as a result of having backed winning unicorns, these firms become more famous and have more advantages in winning the next hot deals. It is an infinite feedback loop that is so strong for newly-formed funds to break.
Therefore, as a typical investor of a lesser-known firm, you don’t have the privilege of backing proven startups. You have to find underrated deals before it gets hot. Otherwise, you don't have a chance to compete with elite firms, or even if you can, the cut-throat competition among backers for stellar startups driven by FOMO (fear of missing out) would push up the deal's price to an insanely high level.
Josh Wolf - Co-Founder and Managing Partner at Lux Capital encapsulated the gist of discovering underrated startups in his quote:
"We eventually want everyone to agree with us with the deals we have backed but just later."
- Josh Wolf.
This goes back to Andy Rachleff’s 2x2 matrix. On one dimension, you can be right or wrong. On the other dimension, you can be consensus or non-consensus.
If you are wrong, you will fail, no matter what. But it turns out that just being right is not enough since others are also right, the intense competition will flood in and dilute much of the profits.
The only square where you can make outsized returns is non-consensus and right.
You can’t beat the crowd by following the crowd.
Finding the underrated is a crucial skill in startups, I hope this post has somehow helped you understand the reasoning from multiple angles.
A question that you might have in your mind now is HOW - How can I find the underrated?. Let me answer that in another post.
That’s all for this week. Cheers!
Minh Phan 👋
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