By Jason Calacanis
One question I get all the time from fellow entrepreneurs is “How much money should I have in the bank?”
In the startup industry we call this “runway,” and you’ll frequently hear management teams discuss how much runway they have in terms of months. Another name for the capital you have in the bank is “dry powder,” as in dry gunpowder your soldiers can use to kill and maim your enemies -- and win the war.
Startups should have 18 months of runway.
Under 18 months you’ll be distracted.
Over 18 months you might get distracted.
What Is Runway and Why It’s Important
Your runway in months is amount of capital you have in the bank divided by the amount of money you burn (or lose) each month.
For example, when I started Mahalo.com we were burning around $500K a month. With $20M in the bank, that means we had a whopping 40 months of runway. This is not typical. Mahalo was very well funded.
I did this because I thought that human-powered search, which we’ve since abandoned for video-based learning, would take a lot of capital and time to figure out.
It turns out I was more right than I could have ever known because, frankly, no one has figured out human-powered search, and raising that much capital allowed me to pivot the current business.
That’s what ruway does for you: it gives you time to figure it out.
[ Also, I was very hot in 2007, having come off the sale of Weblogs Inc. only 18 months after starting it. So I raised twice as much as I needed (hey, hate the game, not the player!). ]
Now, I still really believe in human-powered search -- especially given the horrifically unfair and poorly executed Google Panda update that’s made Google’s search results worse -- but I’m self-aware enough to know that I was five or 10 years too early.
I’m going to take another stab at human-powered search in 2015 or 2020. I’m a glutton for punishment I guess. :-)
Mahalo last raised money in -- wait for it -- 2007. In other words, we’ve been able to work for four years without worrying about raising money. We’ve still got over 18 months of runway, and at any point we could slow down our growth and be profitable (not that you want to do that when you’re swinging for the fences like we are). We could also raise more money if we needed it.
Having options is critical for entrepreneurs.
Sleep When You Can/Raise Money When You Can
If the number one rule of being a solider or surgeon is “sleep when you can, eat when you can,” then the number-one rule of entrepreneurs is “raise when you can.”
Folks are dogging Color.com right now for their $41M raise. Those folks are largely jealous, bitter or stupid -- or some combination of the three. If you can raise $41M from brilliant investors and give yourself four years to figure a big problem out, why wouldn’t you?
The answer is you would if you could, but you probably can’t (and neither could I!). We should be happy for the founders of Color and that they’re so baller they can do a deal like that. And don’t worry about the VCs investing. They want to make big, greedy, audacious bets -- that’s their job!
VCs and already-rich entrepreneurs play for grand slams -- not singles and doubles.
Bottom line: raise when you can.
When to Pull the Trigger on a Raise
I’ve never seen a market this hot. Not even during the insane 1999-2000 boom. Don’t overthink it. If you have less than 18 months of capital, raise now.
There are two important questions to ask when raising money:
a) Is the person you’re taking the money from smart?
b) Is the valuation good?
Once you answer both, here’s your roadmap:
1. If those two answers are yes, take the money.
2. If the one of the two answers is yes you should consider it, but keep looking for two yesses.
3. If both answers are no, don’t do it.
I’m a pragmatist when it comes to the split decision (one yes, one no). If you’re taking money at a great valuation from a stupid person or taking money at a lower valuation from a brilliant person, you need to think it through.
At the end of the day, the smart person should add enough value to make up for the valuation. It’s the better of the two scenarios in my mind (smart person over max valuation should be clear to everyone).
Now, the dumb investor is paying a premium so, in a way, you’re getting paid to deal with their (potential) nonsense. I’m less inclined to do this, but I understand if you do.
Regarding situation number three: Do not take money from stupid people at a low valuation.
Stupid, inexperienced people owning a lot of your company -- and having a lot of control -- is a recipe for insane board meetings. It’s also a recipe for them making poo-poo in the bed at the first sign of trouble. Don’t do it unless you want a constant stream of inane questions like “My wife likes service X, have we considered doing Y?” and “When I was running company A we did B and I think you should do what I did seven years ago.”
I’ve been on boards with stupid people -- it’s soul-crushing.
What Not to Do: Nothing
The worst thing to do in a hot market like this is to NOT take advantage of it.
Too much dry powder and runway means a management team, and specifically a CEO, can wander a little too much. I certainly did a little bit of wandering with Mahalo, but it was well worth it in retrospect. We never would have found our current, booming mission without the runway we established in 2007.
We discovered the power of educational videos by wandering -- but wandering in the trenches.
We posted a video on the search results page for “guitar hero cheat codes” that showed folks how to cheat. They liked that much more than when we explained it to them in text. That video has had over 2M views since we published it in fall 2007, and it cost $20 to make.
Given the revelation that high-quality videos that helped people could be made for a reasonable price ($20 to $200 each), we pivoted hard. Mahalo now publishes over 1,000 videos a week. And they’re really good. With an expert in them every time.
We would have never figured out the power of the YouTube ecosystem if one of our “guides” hadn’t made that video for the human-powered search page.
In other words, with no experimentation we would never have realized that, like Khan Academy discovered last year, the future of education is online video instruction (and Salman Khan himself stumbled upon it!).
Folks are going to go to their televisions and iPads and type “how do I do X” and watch a video in the coming years -- not search Google for articles on their desktop computers.
That’s why the brightest part of Google’s future is not Android, self-driving cars or Google+ -- it’s YouTube. In fact, in another 10 years YouTube will make as much money for Google as search does. That’s 100% guaranteed since a) folks spend more time on video than search and b) advertisers love (and spend more money on) video ads than search ads.
The future is about three things: mobile, social and video. Mahalo is two of the three now (we have educational iPad apps coming -- and they’re awesome), all because we had the runway to figure this out. We haven’t figured out how to make online education social -- or if people even want that -- but we’ll try next year thanks to our runway!
Why Investors Hate Too Much Runway
Most investors hate giving entrepreneurs, especially first-time ones, too much runway. In their world they sometimes call it “too long of a leash.” That’s something they won’t say in front of you, but that’s how they think: “You are a rabid dog and I don’t want you having an unlimited amount of rope.”
It’s not a dig, it’s a real concern since the great entrepreneurs are, by nature, going to have some level of curiosity (some have full-blown ADD while others are prone to mild distractions).
Bill Gross with a billion dollars in idealab is the perfect example: he went buck wild creating everything you could think of from electric cars to etoys to a company that gave away free, advertising-supported PCs!
If it weren’t for Bill Gross’s absolute brilliance and vision -- in the form of Overture and some other wins -- idealab could have been a bust.
There are few examples of entrepreneurs having too much runway in the past. Off the top of my head I recall Webvan, Boo.com and Kozmo having so much money that it felt like they were all over the place. However, the truth is those were all AMAZING businesses. Webvan is now FreshDirect, Boo.com is GiltGroup and Kozmo is Uber.com (sort of).
The “so much money it’s distracting” is rarely an issue.
Bottom line: As entrepreneurs we need to survive in order to thrive.
The goal of any entrepreneur should be to have as much runway as reasonably possible. If you can get 24, 36 or more months of capital at a great valuation -- which is the case now -- you should do it.
Eighteen months is the minimum you should have in the bank because if you have less than six months, your entire life becomes fundraising. If you have under 12 months, half your life becomes fundraising.
When you have 18 months in the bank, your entire life is the business.
Over 18 months you might become distracted, but that’s what we call “a high-class problem.” In other words, you wish for having Bill Gross and Color’s problem of too much cash.
What about in a Depressed Market?
If the market is depressed, like it was from 2002 to 2005, and valuations are low, you’re not going to want to dilute yourself that much. You might consider keeping less than 18 months in the bank to save some dilution.
However, I’d rather have more dilution and a greater chance of the plane taking off than having less dilution and crashing after take-off.
1. Keep your runway at 18 months.
2. Raise money when you can.
3. Raise money from smart people if you can.
4. Don’t raise money from dumb people -- unless they pay a massive premium.
5. Companies don’t fail because they have too much money in the bank (the Marc Andreessen rule).
LAUNCH coda # 30:
Business don’t fail because they have too much money in their bank accounts.