VCs Evaluating Startups, Breaking From the Herd: A Dialogue Between Funds

In 2017, Cabra VC fund invested in Tickets Cloud, a portfolio company within Starta Ventures that creates technological solutions for ticket sales management. With an innovative business model, Tickets Cloud squeezed out many strong competitors in the Russian market to become a leader in the space, eventually scaling up to other countries.

Alexey Aleksanov launched his career by developing an analytical financial platform at RBC. He then made the decisive leap into entrepreneurship by founding companies in industries ranging from engineering and manufacturing to fintech. He co-founded Cabra VC Foundation in 2016, where he brings over 16 years of experience in business development, partnerships, and corporate sales.

Who is suitable to make venture capital investments?

A classic portrait of a venture investor is a person who has both liquid capital and a portfolio of investments in different asset classes. They also have additional funds — five to ten percent of total capital — which can be placed in the high-risk venture sector for the long term.

What options does a novice investor have in venture capital?

There are three forms of investing in which early investors can a) get a stream of projects and b) not be the only investor.

The first form of investing is with angel groups. These are communities of professional investors who have dozens of early investments behind them. Another option is accelerators that invest in recruited startups. Lastly, new investors can put capital into funds that invest in companies and offer shares to private investors.

Cabra VC invested in Tickets Cloud, which is a portfolio company of Starta Ventures. What did you like about this startup as an investor?

It was a very early deal. The product that is now on the market was not yet created, but I liked the founder, the team, and the market. The team had deep expertise in the industry. There have been no changes in their vertical for a long time, and what they proposed greatly changed the market. For example, every seat in select concert venues became available to an unlimited number of sellers in real time. This model follows Amadeus and Saber, which made such a revolution in the airline ticket market when tickets from all airlines became available online to all sellers at the same time. It is only a matter of time before old models will be replaced by more effective methods of communication and technology.

As for Tickets Cloud, market analysis indicated a lack of competitive solutions. Since there were no guaranteed ticket sales, there was a demand from concert organizers and venues to get rid of large discounts for 3rd party sellers. With TicketsCloud, it was clear that they could scale outside of Russian market. Now they operate in the US and Europe.

I also worked very closely with the Tickets Cloud team; we talked for several months and looked at the project from different angles. When we build relationships with startups, it’s important for us to see if they follow our recommendations that result in solutions.

I would like to draw attention to the investment stage, so that everyone understands how this food chain works. First, the founder of Tickets Cloud, Egor, found business angels who believed in the idea and initially invested in the project. Then, Egor came to Starta Ventures to work with venture capitalists who helped him with fundraising, structuring the company, hiring, and finances. At the time, the Cabra VC fund was a lead investor. It is always very comfortable for us to work with graduates of accelerators. Since they are pre-selected, they accelerate their operation processes and get more support from mentors and coaches.

You posted on Facebook: “For me, a sign of a good company is a well-developed decision-making system and well-organized operational processes that implement these decisions. Many deals have proven that even the most unlikely ideas, but well-built in terms of testing hypotheses, testing the product itself, and organizing the development process, can take a company to incredible heights.” Can you give an example of a company where an unlikely idea was noticed, and at the same time the operational processes were built well?

Our focus now is on customer acquisition technology, and I am looking for companies through that lense. For example, if a man comes to the store and is poorly served at the start, this affects conversion, the number of repeat orders decreases, and this is very critical for a rapidly growing company. One study found that 60 percent of people leave a site when they have items in their shopping cart when it takes more than three seconds to load the site. Product managers “hang” various analytical tools on the site, which makes it terribly slow. Our portfolio company is making a platform where you can hang these services and avoid freezing the site itself. Using this, conversion increased dramatically. This is how a whole company grew up from scratch. There was no stated need in the market, but here the product was created, well packaged, and delivered to customers.

Let’s say a person is not a business angel or involved in a fund, but they want to find a company that has well-established processes and invest in it. What is the probability of finding such a startup on your own?

In order for us to invest in at least eight to ten new companies per year, we need to look at 1,500 to 2,000 companies. I personally communicate with 600–700 entrepreneurs a year. I need to understand whether or not these companies will suit us in the future. I have a document where I keep track of experts in certain fields — people I meet with at various conferences, panel discussions, or demo days. In fact, a lot of founders come from those startups that we turned down. I truly appreciate entrepreneurs for bringing cool founders to us even after we turn them down.

What are the main differences between investing with a fund and investing independently?

Imagine a startup raises a $2 million round. The fund will offer $500,000, and you individually invest 20,000.

It is better to invest with a fund from the perspective of an investor because there is more leverage and influence. It is also better for the founder, who wants to minimize their interactions due to a presumably full plate.

The fund very often has more rights, but the structure of the deal is very important. We have seen more than once that when the first investors do not receive anything, everything is taken by the founders or last-round investors. A small investor with an insufficient number of rights does not always understand what is happening in the company and may lose money, even if the company is successful.

Let’s say you are an engineer at Google with a salary of $250,000 a year. Where would you start your venture capital path?

There are essentially two approaches to angel investments. First, personal involvement in a startup’s business, and simply placing funds without participating in operational processes. In this case, you would start with angel clubs or an independent search. The second approach is to collect a portfolio on AngelList or go with a fund that will collect the portfolio for you and work more closely with companies. This is what funds like Starta Ventures or Cabra VC do. We suggest joining our deals with a small check as a co-investor.

I see an interesting effect with venture capital on other asset classes. When people collect a portfolio of stocks and bonds of public companies, they do not think about communication; numbers, reports, and facts influence the decision. When they invest in property, nobody is interested in communicating with an agent, developer, everyone is interested in the market, the parameters of the object, location, and profitability. In the venture world, like nowhere else, I see more romanticism from a large number of angels.

How do you diversify your portfolio most efficiently?

There are a lot of diversification principles. You can approach the formation of a portfolio in terms of stages. Make investments in both the early stage and more mature stage companies. With funds such as Cabra VC or Starta Ventures, you can close 15–20 transactions in one and a half to two years. It could be companies with MRR at $100K. With accelerators, you can invest in 20–50 companies that are only testing hypotheses, but companies might not have any revenue.

You can work with later-stage companies and buy secondaries (shares of private companies in the secondary market).

It is interesting to note the difference in investment risks at different stages. At the early stages, companies die because they can’t find a product-market fit; and later, when, given the existing product and revenue, companies cannot scale to a large number of customers. And then, at very late stages, investment bankers and large funds have other risks; in their companies, for example, the economy does not converge. Businesses fail to raise the next round at all stages. There are simply different reasons for failures, but the percentage of failure when startups transition from round to round varies at the same level of 50–70%.

If I need to evaluate a startup, should I seek help from a fund or an angel group?

It’s a matter of price because a lot of time is spent on this. It requires a lot of expertise. You can view 2,000 companies in one year, or in ten years. So working at a fund, I have looked at about 10,000 companies in five years.

Angel communities are quite powerful structures in terms of expertise. If we are talking about experienced angels, each of them can have deep expertise in a narrow segment. Therefore, our Cabra VC fund, like Starta Ventures fund, works with the angel community. For this, our new fund has allocated a small part for angels, so that we can strengthen our expertise in certain segments that interest us.

There was an investor at Starta Ventures who said that venture capitalists are divided into hedgehogs and foxes. They say 95 percent are hedgehogs, because they are gatherers and follow trends, and 5 percent are foxes who hunt for unusual deals, but make 20x the profit because they are going against everyone. What do you consider yourself?

Unusual deals often go unnoticed precisely because sometimes the founder cannot tell the value of the product on his own. Not everyone wants to do it, and not everyone understands how to ask the right questions. One goal is to find where the founder hid this stone. And this is the issue when working with early-stage startups. We have such a cognitive bias that whatever we know, everyone else knows it, so we don’t say it. Here is the abyss where people misunderstand us, and that’s where I look for a gem.

When we work on a deal with partners, we refine and polish the guidelines that we have formed every day. And this is one of the keys: to develop something all the time and all the time to doubt everything. Are we doing the right thing? Or maybe there is another approach? Let’s do something differently. No, this one doesn’t work yet. You can’t do the same thing all the time and wait for a different result, and you can’t do what everyone else does and wait for greater returns.

How many times can you test a product to understand that you either need to stop or keep trying?

Not an easy question. There is no binary answer. Rather, it is important to inspect the reasoning behind your actions. This does not only apply to founders, it is the common nature of people. We cannot judge ourselves. And in this regard, my developed skill is to look at some non-obvious things that make founders think. I ask them a question and ask them not to answer right away, but to think about it and answer when they are ready. When founders discover new solutions for themselves, it’s much better than if I had given them a template.