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Weird, Wacky and Fun Stuff is Being Tried

PART 1: Rise of Black Frankenstein!

copyright 2011 all rights reserved

Black Frankenswan
galapicon valley and The RISE of
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WHO
I am Steve Newcomb. I am most commonly known as the founder of Powerset, which is now the Microsoft Bing search engine. I have been part of building 12 other startups and none of my startups have ever failed. Many things dene me, but above all else is my endless appetite to learn and to discover new things.

WHERE
I live in South Berkeley in a normal house. I'll work anywhere I can get to the Inter-tubes or any place where I can meet someone interesting. I particularly like coffee shops, but I usually dont order coffee. I love iced tea, it is my elixir of choice (only with Splenda of course).

WHY
There are far too few entrepreneurs that stop long enough to share their stories and knowledge. If just a few of us stop to take the time to write down what we have learned so that we could pass it on, we would make the paths for future entrepreneurs just a little bit easier to blaze. The essays that I write are for the benet of founders of startups. My intent is to offer a no bullshit approach to advising people. I try to always include lessons learned from my experiences in creating my companies. If you are a rst time founder, or considering becoming one, I hope that my essays can give you raw insight into what it was like for me. And while I dont think that my experiences could ever represent all of the knowledge necessary to become a great founder, I do think that I have a few nuggets of uncommon and perhaps unique insights.

HOW
Get notied each time a new essay is released: phone: (415) 290-0787 email: steve.e.newcomb@gmail.com web: www.blognewcomb.com twitter: @stevenewcomb facebook: stevenewcomb linkedIn: stevenewcomb

WHAT
I am a man, 40 years old with brown hair that seems to have its own agenda. I stand 6 foot 1.5 inches, but I'm convinced I have shrunk at least 1/4 inch. Sometimes I have facial hair, sometimes I don't, it seems to depend on how close or how far I am away from being in the Caribbean.

BlogNewcomb
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PART 1: Rise of Black Frankenstein!

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BLACK FRANKENSwan
galapicon Valley and The RISE of
One of my favorite movie quotes comes from Men in Black, when agent Kay says to the newly minted Agent Jay: There's always an Arquillian Battle Cruiser, or a Corillian Death Ray, or an intergalactic plague that is about to wipe out all life on this miserable little planet. In some weird, and sometimes inverted way, thats how I feel about the Silicon Valley. Whether its the blog-o-sphere, the quora-sphere or the hackernews-o-sphere, the cognoscenti seem to constantly offer proof that theres always some new incubation model, some AngelGate dinner meeting, or some evil venture partner that is about to change life as we know it on our angsty little startup planet. Here are questions that I have: Why has YC become so hot? Why has their been an explosion of YC Brethren? and is any of this permanent or is it a sort of combinator bubble? Why is Yuri Milner and SV Angels offering $150K with no cap and no discount to all YC Startups? that seems crazy and unsustainable; but is it? Why did AngelGate happen? Why does it feel like there is some weird battle going on between YC, TechStars, Angels and VCs? What is really behind all of these things? Has something fundamental changed or is this some kind of blip in our path? What does all of this mean to us? founders... What should we do about it? But try as I might to name the one thing that is driving all of these changes, I couldnt - until now.

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A Darwinian Realization
A Darwinian Realization: In the past decade we have seen the rise, and now domination, of a new species of startups - what I call the FrankenBoomer Generation (which I dene in detail later). And the impact of this dramatic evolutionary shift is now radiating out to the rest of the species in our ecosystem - incubators, angels and venture capitalists. YC, TechStars, AngelGate, Yuri and the rest are not actually the change agents, but rather indicators of the ripples of this larger and more primal change agent radiating out into our ecosystem; they are the reactions to a larger reality; In effect, we are witnessing the startup equivalent of the dawn of a new epoch - the fall of the dinosaurs and the rise of the mammals and the radiating impacts of that shift; the really exciting thing is that we arent done yet - were right in the middle of it, and to me, thats really exciting, scary and thought-provoking.

Principles Behind the Theory

My theory: In Darwin speak, a period of rapid innovation, or wetter weather, gave rise to a rapid increase in the available technology, or vegetation, and in reaction, a new species rose that was more optimized to the new conditions. Darwins nches were a really good microcosmic example of the principle of fast-paced adaptive evolutionary radiation. What Darwin discovered was the radiating effects of weather conditions to vegetation, vegetation to species of nches and nch species variation to life forms dependent upon the nches via, amongst other things, nch poop.

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If you follow the analogy through it means that venture capitalists, angels and lawyers are the ones who eat founder poop... and in some weird way that made me feel like I was on the right track; One possible conclusion of Darwins key ndings is that when there is a dramatic shift from dry to wet weather patterns, a correlated dramatic shift in the species of nches occurs. Since the advent of the Internet, we have seen a similar dramatic shift in our weather - an exponential growth in innovation. So if the analogy holds, we should see a corresponding shift in the amount of vegetation, or technology, and ultimately in the species of startups found in the Valley; And if that has happened...has this evolutionary change yet radiated out to the rest of the ecosystem? What will happen to the founder poop eaters... chrrhmmm, I mean incubators, angels and venture capitalists who have become highly adapted to a different startup species than the one that dominates today? In Darwins world, evolution radiates out to all elements of the chain. So where are we in that radiation? But rst, I think its valuable to dig into my thinking behind exactly what I mean by a new species of startups.

Species Identication
There are Four Species of Startups - The following is a simple two dimensional characteristic set model where theoretically every startup falls into a unique combination of two characteristic sets for a total of four combinatorial species variations. As described below, startups are characterized by either being Black Swans (going after an unforeseen market), or Innovators Dilemmas (innovating in an existing market), and are also either Noveltechs (building new technology) or Frankensteins (mashing up existing technology) creating the following species:

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ID Noveltechs existing markets & novel technology

ID Frankentechs existing markets & existing technology

Black Novelswans new markets & novel technology

Black Frankenswans new markets & existing technology

Each of these four traits focus on different elements of a startup. Black Swan versus ID is about market focus, where Noveltechs versus Frankensteins are about the use of technology. Consider the following:

Black Swan (Black....Swan) - a startup going after a new, undened market; as described in The Black Swan by Nassim Nicholas Taleb. A very simple and famous example of a technical Black Swan is Google, who saw Search as an industry when the existing companies that dominated the Internet market saw Search as search - a feature. However, Black Swans do not have to rely on novel technology to be a Black Swan. An example of a non-technical Black Swan is Glee, the TV Show. They have created a winner

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that I would have never called (and frankly will never understand). Population Size - The number of Black Swans is a function of the number of available people who are innovative enough to recognize Black Swan opportunities, the readiness of innovative ideas for market and the availability of engineers to build the technology. Killer Exit - The Black Swan is often hailed as the best example of the type of companies Valley VCs are looking for - one that goes public, creates a new market, is worth billions and returns a 100x to investors. Lesser Exit - Lesser exits for Black Swans however are also possible, but are often bound by the number of existing big companies that may value the product as a strategic feature. Strategies - In terms of go to market strategies, rst to market often dominates, and close follower strategies are less common. Risks - Historically, Black Swans shared both market risk, for obvious reasons, and technology risk, because the new markets were created as a result of employing innovative and new technologies (i.e. they were often Noveltechs, see below). Funding - The funding strategy of a typical Black Swan varies, but generally investors look for new markets to target before they exist. Well known Black Swan VCs include Kleiner and Sequoia. Founders - Founders of Black Swans are often some form of outsiders people who left college early, or who have bucked the system. People who march to the beat of their own drum. Hiring - Employees, or at least early employees of Black Swans, are different in every company depending on what is being developed.

Innovators Dilemma (ID) - a startup going after an existing market as described in The Innovators Dilemma by Clayton Christiansen; a company
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that is going after an existing known market with a new, innovative approach which may or may not be associated with new, novel technology. A famous example of a technology-based ID is Amazon.com who reinvented selling books using novel online technology. We rarely notice nontechnology-based IDs, but they are everywhere around us. To give you an example, 18 Rabbits, a snack bar company, is currently capturing market share from incumbent snack bar company Clif Bar, not through any technology, but by offering an innovative way to mix new ingredients that is difcult for Clif Bar to copy for brand reasons. Population Size - The number of IDs are a function of the maturation cycles of products within existing industries, the level of innovative technology being developed and the number of employees at incumbents who realize the opportunity, have the founder instinct and whose signicant others are willing to let them take the risk. If one could map the sine curves of these movements it would be theoretically possible to predict the cycles of IDs coming into the market. Killer Exit - The best case scenario exit is to go public, displace an existing incumbent (and then purchase Clayton Christiansens second book The Innovators Solution). Lesser Exit - A middle case successful exit is to sell the company to one of the existing incumbents. Strategies - The go to market strategy for these companies are mixed between rst to market and close follower, but by denition are followers. Risks - The risk of failure is almost always encapsulated in the question well, what if so and so decides to do what youre doing... wont they just crush you? (BTW I hate that question - the answer is always Innovators Dilemma). Historically, Innovators Dilemmas had low market risk, but high technology risk, because by denition, the
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opportunity for the companies was created by the existence of breakthrough technology. Funding - The funding strategy of many Innovators Dilemma companies includes a purposeful selection of VCs that already sit on the boards of their potential acquirers or were the original backers of those companies. Founders - Founders of these types of companies often come from the incumbents who see the innovation coming as a result of working in the industry, recognize the dilemma in their own company and go off on their own to capitalize on their realization. Hiring - In terms of hiring, Innovators Dilemma companies often have a dual strategy of stealing the strongest people from the weakest of the incumbents and hiring fresh people almost right out of college.

Noveltech - a startup that builds novel technologies to create a product. A great example of a Noveltech is Nuance, which basically invented speech recognition as we know it. Education - In many cases, Noveltech CEOs have higher degrees, particularly in engineering or in whatever eld that is specic to the startup that is being built. Team - The team that is hired in a Noveltech usually includes at least one group of engineers highly specialized with advanced degrees. Age - Noveltech CEOs and team members tend to have a higher average age than Frankensteins. Attitude - I dont know why, but for some reason founders of Noveltechs seem to be the most curmudgeonly of all founders. Funding - at least ~$500K+ for alpha, ~$4 million++ for Beta and Market testing, then either raise Series B or sell.
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Beta - Noveltechs can take many months to years to get to the rst beta or even alpha of their product. Patents - Often Noveltechs have a war chest of patents or at least deep corporate secrets.

Frankensteins - a startup that combines existing technologies to create a novel product. Education - In many cases, Founders/CEOs of Frankensteins dont even graduate college. Team - Team members are dominated by all-around-athlete engineers rather than having a majority of highly-specialized engineers. Age - Most are under 30. Attitude - I dont know why, but for some reason founders of Frankensteins are happier, but seem to think the world owes them something. Funding - as low as~$20K to beta, ~$400K to get to market, then either raise Series A or sell. Beta - A few months down to a few hours. Patents - Unlikely to be a major strategy.

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How The Singularity Gave Birth to Black Frankenswan

An Arid Landscape in the 1990s supported Noveltechs not Frankensteins The Chart below depicts the different market segments for startups where the area of green represents the percentage species mixture and number of all startups.

In the 1990s

ID Noveltechs existing markets & novel technology

ID Frankentechs existing markets & existing technology

Black Novelswans new markets & novel technology

Black Frankenswans new markets & existing technology

It was an arid technical landscape - The Internet as both a technology and a marketplace was in its infancy and therefore the total amount of usable and available technologies was very small. It was an arid business landscape - The business models associated with the Internet were unknown, unproven and did not have wide support amongst entrenched incumbents.
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It was an arid talent landscape - The total number of engineers that understood Internet technologies were small. Noveltechs dominated - Because of arid technical, business and talent conditions, Frankensteins simply couldnt survive in such conditions. Both Black Swans and IDs existed - But IDs probably outnumbered Black Swans, simply by the nature of Black Swans being things nobody thought of before and IDs being things lots of people already knew, but few did anything about. Founder Poop Eaters Specialized for Noveltechs - The species of founder poop eaters such as lawyers, venture capitalists and angels created themselves in such a way to optimize a relationship with Noveltechs. Checksum - Go on Crunchbase and do a search of companies prior to 1997 and youll see what I mean. I couldnt nd a single Frankenstein on the list. They were all either ID Noveltechs or Black Novelswans. Netscape (Black Novelswans) Yahoo.com (Black Novelswans) Amazon.com (ID Noveltech); or Google.com (Black Novelswans) or eBay (ID Noveltech)

Then the weather, or rather innovation, changed - Throughout the remainder of the 1990s and continuing today, we see a rapid, exponential growth in innovation. As the Internet matured, the total number of innovations began to grow. This rapid period of innovation, or wet weather, has given rise to a rapid increase in the available technology, or the vegetation. In other words, the bellwethers of a Darwinian evolution, specically of adaptive radiating evolution, have taken shape:

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Business Models - the proliferation, maturation and simplication of a large number of Internet business models which became easily understood, shared and accepted amongst all species of the Valley ecosystem; Technology - the advent of super fast, super scaleable, super elegant, super easy to learn and use coding languages, common code libraries, widgets, and apis; Sharing - the advent of open source business models that made all of the code libraries above available to all; Coding - the advent of better programing languages that made it easier and easier to become an engineer; Productive Population - the massive shift in the total population of productive workforce created as a result of technical libraries that made junior engineers, or even non-engineers, as productive, and in some cases more productive than senior engineers were 10-15 years ago; Cloud Computing - the advent of cloud computing, security and other centralized technologies that changed the time to set up a scalable production website from months to minutes, and from large capital expenditures to pay as you go usage rentals; Founders - the scale of founders who understand Internet business models and coding and cloud computing. Today, if you go into Crunchbase, or just think about it for a moment, youll see the shift for yourself. Unlike other market segments (like green-tech, hardware, semiconductor) which have stayed much the same (depicted in green) Consumer Internet companies, depicted in blue, have shifted.

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Today

ID Noveltechs existing markets & novel technology

ID Frankentechs existing markets & existing technology

Black Novelswans new markets & novel technology

Black Frankenswans new markets & existing technology

The FrankenBoomer Generation Explodes - As indicated by the blue area, there has been a ginormous population explosion in the total amount of startups at the seed and angel stage dominated by Frankenstein companies, creating a wave of a new species of founders: FrankenBoomers. Unique to Consumer Internet - This species change only happened in the Consumer Internet space; other market segments like semiconductor, biotech, materials, food and greentech did not experience the same changes. Internet Noveltechs Lost in the Noise - While the explosion of Frankensteins has inverted the species mixture in the Valley, what happened to the actual population of Noveltechs? One theory
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postulates that it has remained almost constant - they are just hidden in the noise. Another says that those founders who would have created Noveltechs simply didnt; they created Frankensteins because they were cheaper, less risky and faster to fail or succeed. Startup Leaders Today are Frankensteinian Dominated - Consider the startups who dominate the news now. All of them are technically easy to build, the difference is that they saw the market differently, or they saw a different way to combine existing technology: GroupOn (Frankenstein) FourSquare (Frankenstein) Quora (Frankenstein) Greplin (Frankestein)

Interesting Exercise - go to the Crunchies nominations page http:// crunchies2010.techcrunch.com/ and go down the list. Old companies like Facebook and Twitter are on the list, but they seem to be kind of a hybrid Noveltech and Frankenstein. But the more you trend towards younger, newer companies, the more you trend toward Frankensteins.

Back to the Original Questions

Lets look at the questions I posed at the beginning of the essay to see how they might now be answered? Why has YC become so hot? Why has their been an explosion of YC Brethren? and is any of this permanent or is it a sort of combinator bubble? They are new species of Incubators reacting to the evolutionary shift. Permanency is always a function of IRR in our industry. Why is Yuri Milner and SV Angels offering $150K with no cap and no discount to all YC Startups? that seems crazy and unsustainable; but is it?

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They are new species of Angels reacting to the evolutionary shift. Permanency is always a function of IRR in our industry. Why did AngelGate happen? Why does it feel like there is some weird battle going on between YC, TechStars, Angels and VCs? AngelGate and the other battles between investor species are indicators of the tempestuous rippling effect of the radiating change going out throughout the valley.

Actionable Steps
What are the clear actionable things we can take away from this realization? How can we benet? What dangers exist now that didnt exist before? What questions should we ask?

Use knowledge to your advantage - One of the impacts of this shift is going to be that it will upset and likely change the existing ecosystem of investing particularly early stage investing. The old species of investors will clash and go into battle with the new species of investors and that will likely result in higher valuations and seemingly irrational investing. If I were a FrankenBoomer founder creating a new startup, I would simply take advantage of this for my own benet while making sure that I dont screw myself in the process. Control over Sale of Company: One of the areas that is most likely to come under re is the term in the investors rights agreements that give investors or board members the right to stop an acquisition even if the investors dont have a controlling percentage ownership. Old investor species will have difculty letting go of this, new investors species will likely bend on this one. High Valuations - High valuations are almost always good for founders, unless it limits your exit options. Look for old investor
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species to claim that you are stupid for raising at high valuations, look for new investor species to be irrational and be valuation insensitive. In reality, super high valuations only screw a founder if the founder gives minority VCs the right to block a sale of a company or if the founder is so concentrating on equity preservation that they arent running their business properly. Rolling Closes - Rolling closes with ratcheting up valuations and crazy open ended, no cap, no discount bridges are likely to become more standard amongst new species of investors and irrational old species of investors who are ghting to maintain their relevance. Weird Money - There are going to be some really weird players coming into our ecosystem and offering money. Look for companies, investor groups and anything else that has a lot of money and doesnt know what to do with it making an attempt at getting into the Valley ecosystem. Specically look for big money from New York to make a move on the Valley, bringing with them New York rules and players; for that matter, New York itself is likely to become more of a competitor to the Valley, along with its cousin Boston. Big Money - Old style angel investors will become like local book stores in that they will be threatened by new species of investors who act like Walmarts.

Conclusions and Questions

We have, in fact, seen a wholesale shift in the mixture of the types of startup species that exist. While the 1990s were dominated by Noveltechs, we now live in a world of the FrankenBoomer Generation where Black Frankenswans and ID Frankentechs feast on the technology vegetation created by the Singularity.

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Large Pool of Available Technology is Permanent - This wet weather pattern and the corresponding vegetation seems to have the hallmarks of a climactic rather than seasonal shift. The growth of available, usable mashup-able technologies is not likely to slow down anytime soon, so it seems likely that the trend towards Frankensteins is not a fad, but rather a long term trend. The Cost of Testing a Beta is Permanently Cheaper - If thats true, then it logically follows that the pool of mashup-able technologies will only get larger (and likely exponentially larger) and betas will become even cheaper. A Permanent Increase in the Demand to Want to be a Founder - If thats true, then it only gets easier to try to do a startup, so it seems likely that the trend towards an ever growing population of people who want to create seed and beta stage startups is likely to be a long term trend. A Permanent Increase in the Demand for Early Stage Financing - If thats true then we have a huge bubble of FrankenBoomers that will be coming at every stage of nancing including seed, angel and venture capital nancing. But thats where it ends. There is a core misalignment in what the supply of people who want to create startups and what drives the supply of money from investors. For startups, its all the things I mention above, but for investors it ultimately boils down to return on investment. No matter how many people want to be founders of a new company, without money, its all irrelevant. So there are a couple of possibilities: No Ripples Beyond Series A - The evolutionary impacts of the FrankenBoomer shift has, to date, shown no indication that changes have radiated beyond Series A investing. Regardless of that fact that there has been an exponential growth in founders attempting to mash up new startups, there has been little or no growth in the
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number of companies hitting Series B, there has been little or no impact on the total dollars of startup acquisitions and little or no impact on the public markets. The Bubble - So what we have is this huge bubble of early stage companies at seed, angel and somewhat at Series A, but no impacts are really felt later than that from the FrankenBoomers; Physics of Macro Market Physics - The physics of market dynamics mean that the total wallet size and the total number of companies going public, or getting acquired will always stay about the same; Therefore, a ltering effect happens that makes the FrankenBoomer Generations impacts moot when considering large scale markets. A Very Stoppable Force Meets Immovable Logic - Either the fail rate of the FrankenBoomers will dramatically grow in line with its own growth in numbers, or the average size of exits will decline. Either way there will be a balancing of the system. These physics are not likely to change. Expect IRR for Early Stage to Be Trending Down for Old Species of Early Stage Investors - So if thats true then a correlated shift downward should happen to early stage investors; Old species, relying on the 2/20 model will nd it difcult to survive and raise new funds once the current funds are put to use. A New Early Stage Investors Species - New fund models, however, are more likely to nd a way to survive. This is in essence perhaps one of the most important potential nuggets of this essay. The new species of early stage investors that adapt their nancial model to the new species of founders are likely to be the ones that survive.

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The Next Essay

Even though I still have much more to say and I still have many questions to pose this essay is getting ridiculously long. So I will release my other thoughts in short(ish) essays that will be released in sections designed to be long enough to get make a worthy point, but short enough to minimize death threats to me. The next essay I plan to release is titled YC Makes Yummier Primordial Soup. It delves into the radiating impacts of the rise of Black Frankenswans and ID Frankentechs Startups, the impacts of the new FrankenBoomers species of founders, and the creation of new species of FrankenBoomer poop eaters, chrremm, investors - the most prominent examples being two new, but separate species - YCombinator and TechStars.

Special Thanks: Although it in no way means that these people endorse, believe in or even like me, I would like to say thank you to them for debating, arguing, agreeing and disagreeing with me as I prepared this essay.
Lucinda Newcomb Aaron Brodeur Emily Melton Donna Boyer Andre Marquis Jennifer Walske Archit Bhargava Brent Schulkin Shawn Broderick Reid Hoffman Katie Rae Franco Salvetti Benjamin Black Cliff Moon Sahil Jain Naval Ravikant Babak Nivi Darshan Shanker David Cohen Will Fitzgerald Pejman Nozad Kalvin Wang Natasha Mooney Dan Birken Ryan Mickle Aditya Mahesh Tibet Sprague Thomas Korte Yin Yin Wu Alex Le Siqi Chen Justin Joshimura Brent Locks Marcus Ogawa Phillip Mobin Chris McCann

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