The Startup Genome Is Taking On Data Driven Investment With The Investor Compass

Over the last year the Startup Genome has produced frameworks, reports and tools to enable startups to make better decisions and be more successful. Our goal has been to take much of the entrepreneurial wisdom amassed in Silicon Valley and put more structure, science and data behind it, enabling us to better separate myth from fact and share the learnings with the rest of the world. Entrepreneurship will never become a “paint by numbers” activity, as there is simply too much uncertainty and the world changes too fast. But by providing entrepreneurs with frameworks like the stages of the Startup Lifecycle, failure patterns like premature scaling and benchmarking tools like the Startup Compass we can improve the intuition of entrepreneurs and their ability to make sense of incoming information about their business.

Startups, however, do not succeed alone. It takes a village to raise a child and it takes an ecosystem to create a startup. But just like entrepreneurs, startup ecosystem players like investors, advisors and service providers have relied mostly on gut-level pattern recognition when evaluating and working with startups. And they regularly go through the time consuming process of asking entrepreneurs hundreds of questions in hopes of finding a few signals in the noise to guide their decisions.

We believe many parts of the interaction between startups and investors can be streamlined to enable these ecosystem players to work more efficiently with startups. Today, to solve some of these problems we are releasing a new Startup Genome tool into private beta: the Investor Compass.

The Investor Compass allows investors, advisors and service providers to track the progress of all the companies they work with on a single dashboard. Since all of these companies have added hundreds of key data points via the Startup Compass we can run a number of automated analyses including color coded benchmarks for every startup’s KPIs, a risk assessment for premature scaling and dozens of red flag due diligence tests, that would ordinarily take hours conversation and manual labor. This augmented view of a portfolio’s performance enables investors and advisors to quickly see who is doing well and who isn’t, and then decide what actions they need to take.

In our last post we shared findings on the explosion of startup ecosystems around the world. This has been followed by commensurate growth in individuals becoming angel investors. Last year angel investors invested in more than 30,000 startups. With the passing of the JOBS act and the imminent rise of the equity crowdfunding market, we can only expect another boom in the number of startups and angel investors. The scale on the horizon of early stage investing makes the current investment evaluation tools of intuition and social proof unsustainable for rookie and veteran investors alike.

A much larger ecosystem will mean nodes of social proof will be overflooded and investors will have difficulty sorting through the noise causing many good startups to fall through the cracks.
Increased startup capital efficiency amplifies this problem by enlarging the investment funnel, with a fixed amount of capital needing to be allocated across many more startups. Additionally many of these new startup investors don’t have very good intuition about what a good startup looks like. Benchmarks of the right metrics and automated due diligence tests can allow inexperienced investors to approximate the intuition of of more experienced investors, and can save precious time for the more experienced. A data driven approach looks to be a piece of the puzzle to handling increasing deal volume and establish scalable standards.

One distinguishing characteristic of data applications is they get more useful the more they are used. The Investor Compass relies on benchmarks from the Startup Compass, and since we launched it a few months ago data the product has been used by over 17,000 businesses. We believe this shift to a quantitative alternative with the Investor Compass is a major step towards opening up the data driven business frontier.

Considering this frontier is fast approaching we should put into perspective some of the limits of data tools, especially when applied to the innovation space. First of all, since startups evolve along developmental stages where the fight for a startup is mostly against itself, then predicting success in the early stages is not a goal worth aiming for. Each stage presents its own new set of challenges, and success in one stage rarely makes a company any more likely to succeed in the next. For instance, just because a product has strong uptake with early adopters, doesn’t mean they are going to be able to successfully scale the company from a marketing or organizational perspective. Rather what is feasible is predicting the probability of reaching the next stage. A large part of that is avoiding stepping on the many landmines and pitfalls that many companies who have tracked similar territory have fallen prey to. It is these patterns that startups can uncover by finding poor performing benchmarks in the Startup Compass and that we’ve begun to index in the Investor Compass with more than automatic 50 due diligence tests. In this sense, it could be argued that, success, at least in part, exists in the negative space of failure. In response, many have rebutted that breakthrough companies are defined by the rules of convention they brake. Yet, if companies are breaking rules, they shouldn’t be doing so unwittingly, and that is what we can help them recognize. Furthermore, innovation does not come from entirely throwing out the proverbial rulebook of convention. Rather, innovative companies bet their success on flipping a few key assumptions on their head, and keep the much of the rest fairly standard.

At the same time we should not underestimate the power of data to enable new novel applications. Every new industry that data flows into it seems to disrupt. The game of baseball changed when Billy Beane brought in the quants. Wall Street is now run primarily by high frequency trading algorithms designed by quants. Why hasn’t data disrupted the startup world yet?

1) We haven’t been measuring the right metrics.

Most attempts to quantitatively analyze startups have failed because people have tried to apply the same financial models to startups that are traditionally used for large publicly traded companies. But startups are not small versions of large companies. This is the dollhouse fallacy at work. Revenue growth doesn’t count as progress for startups. The Startup Genome describes progress for a startup as evolving through 7 developmental stages on the path to becoming a large company: Discovery, Validation, Efficiency, Scale, Sustain, Conversation, Decline. In the the first 4 stages of a startup’s lifecycle, the metrics that are most relevant for measuring progress are the ones that describe how customers interact with the product. Only after the scale stage has a businesses stabilized enough for financial models to behave properly.

2) It’s been difficult to access, aggregate and analyze the right metrics.

Currently the Startup Genome Compass gets this customer interaction data through a survey, but we don’t plan to for much longer. A big wave has been brewing that is now beginning to crest.

Today, nearly every single software application a startup uses lives in the cloud. Soon all of this data will be easily accessible through APIs. This is a trend the Startup Genome will be doubling down on. Over the next year we will build APIs that will allow startups to automatically share data with us from Google Analytics, Salesforce, Quickbooks and many other applications. In return we will offer companies ever more precise insights for how they can run their company better and be more successful. Once this data stream is unlocked a new world of data driven business will soon be upon us. To hit these product milestones the Startup Genome is now raising a seed round on angel list.

If you work with startups as an investor, advisor or service provider you can sign up for the private beta of the Investor Compass here. And if you are entrepreneur you can invite your stakeholders to stay up to date on your progress here.

Let us know how you use it and how you would like to see it evolve. We look forward to exploring this possibility space with you.