Growth Stage Investing: What VCs Look For After Product-Market Fit | Real Advice From Top Firms

Well, I think the comment about cycles is really important. The macro over the last 3 years has been— 4 years has been brutal. And it's initially started at the later stages, and it's worked its way down finally into the early stages. So, this is a cycle. I would say the macro is beginning to improve, the clouds are starting to open. But at that early stage, it's really all about technology. Do you take the technology risk? Can you solve the technology risk at the seed stage? And if you solve that, then you have a chance to get to focus on go-to-market. That's probably the biggest issue right now is that GenAI put its head up and everybody went squirrel. And so if you were not working down that path, it was really difficult to get capital to move from seed to A in the last year.

Yeah, I mean, earlier, like, when I think about all the seed companies that did back-to-back-to-back bridges. And as these floods of funding opens up, like, what's going to happen? All of them try to go through that, you know, limited door.

Yeah, you know, for us, we invest in Series A and B, so our job is to build relationships with Series A companies. So when they do go to raise, it's not, hey, we have a, we have a term sheet and, uh, you have 2 days to come up with a decision. So we like to build those relationships And yet right now it's a very hard time for seed companies raising a Series A. But I'll tell you, for us, when we talk to seed companies, we ask them, what is your— we want them to articulate what their strike zone is for Series A, because that's where we come and invest. And from our vantage point, we haven't changed that during 2020, 2021, when things went off the rails and a lot of bridges, a lot of saves, a lot of rounds that probably shouldn't have been done. within cybersecurity. For us, you know, we, we look for $1 to $2 million of ARR. We look for 6 to 10 very referenceable accounts, and we look for a company that has their technology deployed at some scale with these customers so we can reference them. And that's really the strike zone that we look for. Now, there's exceptions to all those rules, and that what I just said doesn't apply to AI. GenAI companies throw all that out the window. But that's kind of what we look for.

Yeah, that was my question for Samir if he was here. But maybe Murali, if you can try to address that AI side too. But in general, what do you expect? I think the Iconiq Group invests in so many different stages in different ways. How do you see when all these companies are going to—

Yeah, absolutely. So our firm kind of approaches, we want to partner with companies post-product market fit, really at the growth kind of expansion stage when they're seeing that repeatable, scalable go-to-market motion, and always leading with product first. And so that gives us the opportunity to typically lead investments as early as Series A, but more often than not, kind of Series B to IPO and beyond. And the and beyond part, to your earlier point, is being very long-term shareholders. I think for a lot of reasons, we really believe that an IPO is just a marketing event. And there's a lot more in terms of the company's duration, the durability of the business when we partner with them at this stage to see kind of a long generational kind of outcome for everyone involved. And so that's the and beyond part. To answer the question a couple different ways, first in terms of the market, I think there's a couple things that we've kind of identified that I think has changed. One is just the rate of innovation, as Ken was kind of alluding to, has skyrocketed. And what that's done is it's given entrepreneurs the ability to be able to build companies easier and easier, but also innovate quicker and quicker and more efficiently through the use of AI, through the use of different technologies. And it's kind of made it harder as a result in terms of the funnel to get to that kind of growth stage. And so that's kind of part one. I think part two is also thinking about what it takes to really find product market fit. It's kind of a continuous process. And more often than not, you see at all stages, whether it's seed, Series A, Series B, and beyond, companies kind of having to refine that muscle is what drives that funnel over time. I think the last piece is just in terms of— I think Ken was alluding to this and same with Ernie in terms of the interest rate environments, but that's shifted a lot and really impacts the growth stage more than even the earlier stage because our job is to really think about the path for what this company can eventually look like as a public company and how it will trade and how it will be valued. And so when we think about Businesses, the interest rate environment probably impacts us a little bit more acutely. I don't know if that's a fair statement, maybe relative to earlier stage funds as well.

Thank you. Yeah. I mean, on the subject, lastly, Ken, you have experience in hardware side too. And I think you work with founders a lot in the past. So again, when you think about all these seed stage companies, we're going to transition to— a different part of that cycle. Is it anything different for a hardware company or a company regarding founder team? Are there anything they need to do to address that?

Well, the major difference with hardware companies is, in my view, I look for hardware companies where, you know, the hardware is really just real estate. It's the opportunity to get proximity to data. It's where you have to be to get to the data. And if you can get to the data, then you can do cool things with software and you get into that nice sort of constructive tension between hardware and software where the one pushes the others and you keep going. But the major difference for hardware plays is typically going to be capital required. And you have to be able to convince me that you have a view towards the size of the opportunity, the size of the market, the amount of capital that needs to be raised, and then you have a thesis that walks. And so that's a big deal. Particularly, this is an issue when liquidity is tight and interest rates are high. But fundamentally, it's really the same. You start with— for me, my bias, my strong bias is data. Can you convince me that you have access to proprietary data, or you have some sense of governance, you have a team that understands how to do data management, you have strong data architecture capability? Because at the end of the day, the gold, the water, the diamonds in this world is all about the data.

Yeah. Ernie, I think you see more a little earlier stage among everyone here. When you look at those like close to Series A companies and you are deciding about the Series A, what are some of the common mistakes you see that the founders do in the earlier stages that puts them at a disadvantage and are avoidable?

Yeah, there's probably a bunch of things here, everything from raising a seed round that is way too high from a valuation perspective that, you know, when Murley comes in, the numbers are there. You can actually apply multiples. When you're looking at seed and even Series A, it's a little bit more black magic. So you look at a Series A company with $1 million of ARR, and there's $60 million pre-money. Well, those numbers don't really make any sense. You're really betting on the founders. You're betting on the market. You're betting on those early customers and some semblance of product-market fit. So I think a lot of seed stage companies, they haven't— they may have pivoted a few times. They don't have a vector towards product market fit. We expect that to happen by the end of the Series A. But they're kind of all over the map. And I've seen this. I do have one seed company. And I've seen the multiple pivots, the lack of repeatability in their go-to-market. So those are a spectrum of things I've seen that are mistakes. Right.

Merli, like you deal with them a little later. Are there any like dilution-related issues that like not enough employment, employee stock pool, anything that puts you in a different path than earlier investors that creates conflicts for the founders?

You know, I think it's— the short answer is yes, there's always situations that arise. I think the Number one thing to— advice I guess I would share is intentionality and being just really thoughtful. We actually had a conversation among the panel before in preparation for this, and all of us shared this as well, which is being really intentional about who you bring to the cap table, who you bring as an investor, what their intentions are with the company, and also how they're structuring the equity into investing and partnering with you. There's a lot of different ways in which you can partner with an investor, some that are probably a little bit more predatory and some that are a little bit more friendly to a founder, and being really intentional about it is probably the best piece of advice. The second thing that I would share is when we think about it from the growth stage mindset, I think there is also a lot of thought behind what's in the best interest for the company's durable growth and creating all incentives kind of aligned towards one main goal, which is both for the founders, the executives, but also all the employees, all the common stock shareholders in the company. And keep in mind, most of the people on this stage come into businesses with some liquidity preference, which for those of you that aren't familiar is usually the fact that in a liquidity event, we get our money back first before maybe the employees in most typical situations due to the protection of our capital. However, it's really important to think about how do we actually create all incentives kind of aligned towards a much larger goal, and making sure that that kind of setup and structure, whether it's through dilution, whether it's through options, grants, and anything else that might be taken into account, like a SAFE note, are all really thoughtful and intentional about how they're structured.

Yeah. And if I can, I'll add to that. Those are really all great points. And to get really down in the muck a little bit, one of the things that I observe where the impacts are fairly negative for all concerned, particularly employees, is where teams stack SAFE after SAFE after SAFE up. They avoid doing the price round for whatever reason. And then you ultimately get to the point where you get a price round, and then one of us coming in says, we really need to clean up this cap table. Yeah. And that's where A lot of damage can be done. And none of us like to do that, but the reality is, if you have 100 different investors across 5 different SAFE notes— Different valuations. Yeah, the dilution, different valuations, et cetera, et cetera. The expectations of the employees who've been there fighting with you all along can be dashed, and you really have to manage how you're going to take that next step, what the pool is going to be, the option pool, etc. So I won't get too far into the weeds, but I would say I've seen some situations where teams have broken apart fundamentally because the sort of cap table management along the way wasn't done well.

Yeah. I mean, I know we invest in a lot of early-stage companies, and I think in 2023 and 2024, there were almost close to a dozen cases where we were in conflict with later-stage investors, which made us now look at things differently and creating more problems. It's easier for, you know, for the SAFE is easy, but, you know, like the things that can happen, maybe Ernie, you can make a few comments about like what can happen in the SAFE that a lot of founders are not aware of when you keep doing it.

Well, I would say things shifted back in 2020, even through 2022. many early-stage companies, the easy button was to do a bridge, whether via SAFE, a convertible note. My firm has— we've gotten away from doing SAFE. We don't want to do SAFEs, and we rarely do convertible notes. So what I'm seeing now is these early-stage companies either do an extension of their former round or like a dashed one. Yeah. So maybe the price per share goes up a tiny bit to show A little love to the early investors, but for the most part, the days of just free SAFEs going out the door, those are done. Because at the end of the day, it's— Merle was talking about our preference in the stack, and a SAFE is really, from an investor standpoint, is risky. So I'd prefer to do convertible note there. But those days are over, and I think that's to your point on that statistic on right now is the lowest number of companies going from seed to Series A. Part of it is because of that dynamic.

Yeah, I would just say we would never invest in a SAFE at Sway.

Well, there you go. Yeah. Ken, you talked about governance. And governance often is not something that the seed stage founders think about a lot. But can you comment on what is a good way to build a board? Particularly, both in terms of timing and strategy so that that board becomes not a distraction, but a positive force for the founders in that Series A beyond?

Yeah, this is so critical and it's critical from both sides. But early on, getting the right people around your board table is almost next to building your product, job one for a founder. A, you need people that can actually add value. They're energized about what you're doing. They're interested in what you're doing and they have a skill set to actually contribute. So I do look for board members, just like I look for founders, that are missionaries, not mercenaries. Mm-hmm. And so— and you've got to remember that you're going to have more board members as you have success. It begets more board members. So you want to make sure that you have a balance. And that balance is usually going to be around the independent, finding a really strong independent that understands governance, understands the game, is committed to being an independent board member and a sage voice around the table. But also, the other skill set I look for in an independent is, have they done it before? Do they understand that a lot of the work that they will have to do as an independent may happen outside the boardroom? They may have to actually spend time talking to the other board members, mediating, building relationship, Good boards are effective teams, and you got to figure out how to get the right group of people with the right pedigree, the right interests, the right demeanor, so that they can actually become an effective team to help your company. Because remember, they're going to have conversations without you when you're out of the room, and you have to have trust that they have your best interests and the best interests of the company at heart. Because if that trust isn't there, Things get really, really weird. I'll stop there.

Yeah, I mean, this is such an important subject. Maybe like Ernie, like you, as you are deciding on the Series A, like what part of that decision-making process involves the governance and the board? Like how effective a good board can be?

Yeah, I mean, everything Ken said is spot on. The only thing I would add from my perspective is For our earlier-stage companies, a board meeting is— when I go to the board meeting, I already know everything. That's a formality. So we have our companies do what we call monthly flash calls. It's an hour mini board meeting, and we don't look and admire the numbers. We talk about strategy, whatever's on the mind of the founders. And then I've also, with some of my companies, every 2 weeks we have a standing call, and if we don't need it, we just cancel it. And then I have one of my larger growth stage companies that's almost at $100 million here. We have the whole board on a text chain. So when I mean once or twice a week. So it's those touchpoints that I think add to the success of the company in addition to the required governance component.

Yeah. And while you're talking on that subject, especially if you can give some examples in cases where the the board can operate independently outside of the boardroom and how can be critical in times of trouble?

Yeah, absolutely. I think one of the— I'll answer that in a second, but a really important preamble to that is when I think about board composition at the growth stage of investing, we really look closely at who are the folks around the table, around the room today that are giving the advice for that founder. And we look at that pretty seriously because To Ken and Ernie's points, that's the advice and the guidance that that entrepreneur, that individual, that team is getting time and time again. And we actually take that into serious consideration when we think about partnering with companies at the later stages. And so that's part one. I think in terms of what that has yielded is many times there's going to be— to answer the question more directly, there's going to be a lot of environments when you're in fundraise mode, Most likely, more often than not, things are going up and to the right and in a really positive direction. However, the reality is things don't always land in that trajectory time and time again. And so really understanding what the individual, what the team, the board that you have is like when times are tough, not just when times are up and to the right, is really important. And I've found that having a really collective, collaborative, and very intentional and thoughtful board is super valuable in terms of being constructive, and the key word being constructive, where they're giving that advice, they're giving that guidance, not just when things are doing well, but also encouraging you and pushing the entrepreneurs that they're working with to be really thoughtful about certain areas that they may not have thought about or may have missed. I think the last piece that we've seen is as companies grow from later stages onwards, the composition of the board, as Ken was alluding to, has a lot of different folks around the table. You have people who are thinking about it from, met the founder when they were just like an idea in a pitch deck. You have people that have met the founder when there were 6 or 7 reference customers. You've met people when the business is north of $10 million of annual recurring revenue. And people that have joined probably pre-IPO and independents who have operating expertise. And that kind of collective diversity mindset provides heterogeneity that is really valuable in terms of the board composition, which I think is super valuable. I think the last piece that I think my fellow panelists articulated, but something that really is a deep view that I think about sometimes is choosing your board member is like marriage without divorce. It's like there's no way to just really immediately— once you sign the term sheet, once you wire the money, this is a partner that you have for a very, very long time and for the rest of life. Ideally, not just in terms of the investment period, but hopefully a relationship that you can carry on thereafter. And so being really intentional in terms of who you're choosing, I think is super important and valuable.

Yeah.

If I can add one thing, you made a good point with, we say nothing goes in a straight line because when everything's going well, it's great. But what we've seen over the last few years, we've had companies have to do a riff of 50%, 60% of their workforce. And for a founder CEO, for a CEO, that's really hard to do, especially if it's a first-time founder. So they need a strong board that'll support them and that'll help them make the right decision there. Because when things are going bad, that's when people's true colors kind of show.

I also want to talk about the founders because a founder is not It's supposed to be there all the time. Ernie, you and I, I think we, you know, one of our portfolio companies you mentored at the seed stage, and we discussed about when to change the CEO. Like, do you, first of all, do you change the CEO before a round, after a round? Like, how do you go through that process? How do you communicate? It's a tough subject.

Yeah. I mean, in a perfect world, we try not to if everything's going well, but we've had to do it several times. And the time you don't want to do that is when the company's financially stressed and not doing well, because then it's hard to get a seasoned CEO to come in and say, hey, here's a pile of you know what. It's like you want to set them up for success. So if we do change a CEO and We do have time on our hands. We want to try to do it with a fundraise so then they're well-capitalized to make the changes they need to.

Yeah. I mean, if you can add on, maybe. Yeah.

I think this is a really critical point. That's one of the things that we talk about, I talk about early on when I engage with founders. I want to get texture for like, why are they on this journey? Are they on this journey to be a CEO? Because some people, that's their aspiration. They want to be a CEO no matter what. And other people are missionary. They have a thought, they have a dream, they have something that they think can really have an impact, and they're willing to do whatever it takes to make that happen. And the conversation that I've had to have with some CEOs is like, well, okay, do you want to be a CEO? Because this thing's going in the— not going in the right direction. You can have a nice little company. but it's not going to be a great company? Or do you want to be part of a great company and be wealthy, really, really wealthy? Yeah. And so, you know, and I would say, so I test with potential founders, like, what's their mission? What's their vision? Where are they going? And why are they doing this? Because you want to understand a little bit about what happens when things get tough, as was discussed. Because when it gets tough is when the true colors come out. So But also, it's important to understand if it's a founding team, how do they feel about the— as a team, how do they feel? Because businesses need different things at different times. Sometimes growth is a— is, is, is, you know, the best thing that can happen, but it can be the worst thing because the team can't actually execute to the scale that's in front of you. And that's when you need more experienced talent. bigger talent, broader shoulders. And people can get very, very mercenary about, well, no, I'm the chief revenue officer. No, I'm the chief technical officer. I was early. You can't put somebody over me. When exactly that's what you have to do to make sure that the business gets to the height. So it's really important to test. We try to do it right up front. I try to get a sense of where the founder and the team are.

Before you write the check.

Yeah. And so, because inevitably, inevitably, every great company that you see, it's very rare. I'm founder forward. I like to support founders. I like founders to make it to the end. But it happens so rarely that if you don't have these conversations, you know, you're kind of— you're not being honest.

Murli, if I read it right, you'd sourced $1 billion of deals in the last 6 years for your firm. What is a good place, any tips you can give the founders to be in that better deal sourcing path for finding firms like you?

Yeah, thank you. I think the way that we think about it is we want to partner with a lot of the attributes that Ken and Ernie have already articulated and have thought about. I think the underlying question here is really what we look for and what, as a founder, can you do to get at that stage. And I think the honest truth is just being maniacally focused on your product, maniacally focused on your customers, and execution. I think optimizing for an investment, optimizing for a fundraise is kind of a lagging indicator or an outcome, not really the means at which executing and really achieving will kind of be successful. So to Ken's themes around being a missionary, not a mercenary, I think deeply resonates. And I was smiling because I really admire a lot of the kind of heuristics, the attributes that are demonstrated by founders that have that mindset, which is being really focused on what the customer wants, what the product is serving, how you're innovating, and hiring leadership around that kind of vision and mission. And I think for us, that's what we typically look for. And when I think about the relationships that we develop, more often than not, we're actually meeting companies at even sometimes the stealth or seed stage well before an opportunity to invest because we really want to get to know the founder, the arc of their journey, or the executive in terms of their business and what gets us excited in our conviction. in the company over many years. And so more often than not, we meet a lot of companies very early on to develop that relationship and actually demonstrate the value of our platform well in advance of actually partnering with the company. And that's how we kind of think about the curve. But I think it's a lot of the attributes that my fellow panelists have kind of already shared today. And my advice would basically be focus on execution, focus on your customers, focus on your product, don't focus on the investment. Yeah.

That's a great point. I just want to— that's one of the reasons ICONIQ's as strong as they are is because we may work with you or get engaged with you early. We may not participate in a round. We may not win, or we may not choose to. We may pass. But we typically try to maintain the relationship because as things go forward, there may be another window where we say, okay, yeah, now this is the right time for us that we can be helpful here. So just, it's really important that founders understand that we're dealing with VCs, that that first touchpoint may not be the last touchpoint. So you always want to maintain the relationship. And as VCs, I feel the same way. We need to maintain the relationship because it might catch fire, or we might be able— we might have a different— our thesis might change. We might have a different perspective on a space. So passing doesn't mean forever.

Yeah. I think we have only like A few minutes left, so, you know, I mean, maybe 90 seconds, Ernie. Like, what should the seed stage founders listening to you, to us today, you know, remember from this? Like, what is the most important things?

Most important thing is have a good founding team, stay focused. So a lot of seed companies, they'll start trying to do 10 different things because they have 10 different potential customers. I say stay focused on One thing, go all in on it, and just execute. And to me, that's— you have limited bandwidth, limited resources. You need to stay maniacally focused and really execute there. And I think the rest will fall in in time.

Yeah. Ken, on that point, like, most important takeaways from today's discussion for an early-stage founder?

I'm going to piggyback. I really look for a team. A founder that comes to me as a lone wolf founder, I worry about because they haven't actually been able to coalesce a group of people that are as passionate as they are. And that's not a great sign for going forward. So I really want to see the team. What's the skill sets of the team? And so for me, team is really important.

Marley? Yeah,

you haven't heard this before, but team.

Massage team, what is that?

It kind of tells you what we look for. But jokes aside, I think a lot of really good themes that I really resonate with my fellow panelists. I think the piece around being a missionary, not a mercenary. I think the idea of being as intentional as you possibly can, being really focused. Those are the themes behind an individual, behind a team that is probably really valuable. And at the end of the day, you know, we could talk about a lot of different ideas, talk about a lot of different problems, but execution is really what enables businesses, founders, executives to be able to take a seed company to the Series A, to IPO, and beyond. And for us, I think that's why we're— I think we're all saying team.

Yeah, thank you. I mean, this was a great discussion. I think by design we are not going to have Q&A, but, you know, panelists will be outside If you have any specific questions for any of us, we'll be hanging out in front of the door. But please help me say thank you for this great discussion. Thank you. Thank you, gentlemen.

Thank you.