A few days ago I woke up to a Twitter argument between several of my friends about what constitutes an appropriate gauge of incubator success. Since Tweets aren’t exactly the best forum for intelligent debate, I found it mostly amusing until Joe Stump, who was arguing against using capital raised as a legitimate measurement, Tweeted “Raising money isn’t any indication of success. Neither is getting a new credit card in the mail with a high limit.”
Taken at face value, it’s difficult to argue with Joe’s position, but as I laid in bed watching the debate play out, it occurred to me that much of Silicon Valley actually does treat raising money as an indication of success. Furthermore, the ramifications of this perception have created an ecosystem that often values hype over substance.
When I first mulled over the credit card analogy, I thought I had found the reason for using it as an appropriate barometer. While the ability to get a high limit credit card might not be a direct measurement of success, it does indicate that the person is creditworthy, or in this case investment worthy. Based on this, there is definitely a strong element of positive “signal” that is worth considering. Everyone would agree that it’s logical to bet on someone with good credit over someone with bad credit.
The problem is that this signal has become too loud. For all reasonable purposes, it has become the only signal. For example, I’ve heard numerous stories of entrepreneurs running profitable and growing companies that have difficulty hiring because engineers are choosing to join startups that they read about on tech blogs. More often than not, these startups have only raised a few hundred thousand and have accomplished very little other than getting some press coverage. Flipping this back to the credit card analogy, this is like choosing a founder with good credit and a bullhorn over a founder who doesn’t need credit at all because he has plenty of money on his own. Framed in this manner, we see it is an absurd choice, but this flawed analysis is extremely common.
Since this is the reality of Silicon Valley perception, and not just from engineers but usually from VCs and the tech press as well, we have inadvertently created a system that provides greater incentives for being “credit-worthy” rather than “business worthy.” Not only is this misguided, but it is also a much easier criteria to manipulate. Who needs business acumen, hell why even bother building a viable business at all, when hustling some capital and the press will make you the toast of the town?
Using the amount of capital raised as the primary measurement of incubator success only magnifies the problem. Instead of focusing on building viable companies, an incubator is much better off acting as a startup’s agent for raising money. Imagine two competing Incubators, we’ll call them A-Combinator and B-Combinator. A-Combinator focuses on building viable companies and helping them reach profitability. B-Combinator primarily focuses on helping their startups raise capital. A-C’s companies would never get press coverage while B-C’s companies would get endless coverage. Once B-C’s companies are in the hype cycle, everyone jumps on the bandwagon.
The two arguments against the “B-Combinator” model are that bad startups won’t be able to raise money and that hype-based companies have a short shelf life, but neither of these arguments are entirely true. Since it only takes a few hundred thousand and some press coverage to get into the hype cycle, it is relatively easy for even the least ambitious startups to make that happen.
Case in point, there are not one, but two incubator launched companies selling subscriptions to men’s underwear in a box, and both of them have been written up in TechCrunch. Since VCs and the various other players of the hype machine don’t want to be embarrassed, once founders/companies are in the loop, it then becomes in everyone’s best interest to keep the cycle moving, oftentimes to an acquisition or long enough for the incubator to cash out to a later stage investor.
The problem with a hype-based ecosystem is that, even assuming no malicious intent, players are all incentivized to maintain the charade. This often results in the actual value of companies in this system being significantly lower than their perceived value, thus creating a de facto Ponzi scheme. For companies that can ride the wave to fruition, late stage investors, acquiring companies, and/or public markets are left holding the bag.
Viewed as a commentary on Silicon Valley, it is unfortunate that intemperate promotion has become such a prevalent part of the culture. I’m not suggesting that every company that raises money is tainted, and I’ve written before about the benefits of venture capital. But there is a significant faction of the tech community that plays to this system and, regardless of good or bad intentions, the incentives are such that there now exists an entire ecosystem based on hype.
[Illustration by Hallie Bateman]