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Are Angels More Likely Than VCs to Drive Entrepreneurial Experimentation? [pdf] (static1.squarespace.com)
93 points by georgecmu 33 days ago | hide | past | favorite | 74 comments

Can anyone translate this into language I can understand?

> Experimentation is contrasted with another mode of learning that I term Analysis. Classical competitive strategy emphasizes learning through analysis (Porter, 1980) whereby, instead of generating real options, entrepreneurs generate option sets and arrive at a decision through optimization (see Delmar and Shane, 2003, for an example). In my study, analysis includes gathering market, product, and regulatory data or developing business plans. Gans et al. (2019) distinguish analysis from experimentation in two important ways. Analysis is “commitment-free” whereas in experiments some irreversible investment in the ideas being tested is inescapable. In turn, the commitment-free nature of analysis implies that it can only yield noisy information, whereas experiments produce high-fidelity signals. I add a third difference, which is that analysis, in and of itself, conforms to standard and routinized practices,⁶ whereas experiments are, by definition, innovative and require counterfactual thinking (Camuffo et al., 2020). This delineation between the two modes of learning described above is also present in the practitioner literature (Bhidé, 2000; Blank, 2013; Ries, 2011).

I've been in the software business for a long time. I've been in startups and big companies, and worked with angels and VCs. But I have no idea what any of this means!

What is the market for a paper like this? And why can't it be written in plain English?

>Can anyone translate this into language I can understand?

(1) "classical competitive analysis" (Porter) would be basing business decisions on market trends.

(2) "experimentation" is what many of today's startups call "MVP minimum viable product" + "iteration", or "lean startup" popularized by Eric Ries[1].

So (1) would be more theoretical work in spreadsheets to model market size, risks, projected revenue, etc -- vs -- (2) would be start building something small in Javascript/PHP/C++ on AWS and keep iterating on features to see what "sticks"

The (2) experimentation is emphasized lately because cloud infrastructure like AWS makes software experiments very cheap and fast to test business ideas.

But (1) classical analysis is often the only choice especially for building physical products requiring upfront heavy capital investment. You can't "cheaply iterate" to build airplanes or launch a constellation of commercial communications satellites. You have to commit billions to build them first based on theoretical market projections and hope customers will buy it. E.g. both Airbus A380 and Boeing 787 were designed by working backwards from market data analysis. Neither had the money to iterate by having the factory build 10 different airplanes.

>What is the market for a paper like this? And why can't it be written in plain English?

Based on the author's bio, the primary "market" appears to be his PhD thesis advisors: https://www.rotman.utoronto.ca/Degrees/PhD/PhDStudentBios/Am...

The secondary market might be HN readers who have no impact on his academic career.

[1] https://www.amazon.com/Lean-Startup-Entrepreneurs-Continuous...

But (1) classical analysis is often the only choice especially for building physical products requiring upfront heavy capital investment. You can't "cheaply iterate" to build airplanes or launch a constellation of commercial communications satellites. You have to commit billions to build them first based on theoretical market projections and hope customers will buy it. E.g. both Airbus A380 and Boeing 787 were designed by working backwards from market data analysis. Neither had the money to iterate by having the factory build 10 different airplanes.

But this is exactly what SpaceX is doing? Ditto with Starlink.

>But this is exactly what SpaceX is doing? Ditto with Starlink.

No, not the same.

For SpaceX, Elon spent almost all of of his $160 million PayPal wealth on 3 failed rockets before the 4th finally worked. And that 4th successful rocket test only demonstrated a proof-of-concept and didn't have a real payload from paying customers. That's an example of R&D in physical materials not iterating cheaply like the software world.

For Starlink, some google search finds this: "Despite the heavy investment needed to build Starlink, the company's leadership estimates Starlink will cost about $10 billion or more to build"

$10 billion is not cheap to build/iterate.

Compare to the software world... Kevin Systrom building an iOS app for location check in (Burbn) and then pivoting to a different idea of photo filters (Instagram) is way cheaper than spending millions/billions on destroying rockets and launching satellites.

It is ten billion dollars to build the old system, but the individual satellites can be iterated over.

Ditto with Starship.

Yes, they are all more expensive than software, often much more so to iterate over, but fundamentally what SpaceX do is iterative development.

>, but fundamentally what SpaceX do is iterative development.

Yes, SpaceX and many other companies (aircraft companies, car companies, etc) also "iterate" ... but you're losing sight of the original question[1] that was ask by gp (Stratoscope) and the context of "iterative development" for this thread.

The author of the paper was trying to explain the difference between "classical analysis" vs "experimentation" to drive new business strategy.

Yes the companies forced to do "classical analysis" _also_ do product "experimentation/iteration". However, when the author breaks out "experimentation/iteration" as a separate type of "business learning", he's talking about Eric Ries' version of "fast & cheap iteration" and not SpaceX's slower more expensive iteration.

>It is ten billion dollars to build the old system, [...] Yes, they are all more expensive than software,

And these are the real-world financial constraints that bias "classical analysis" over cheap iteration of the author's two learning styles.

[1] https://news.ycombinator.com/item?id=27232118

You kinda can “iterate cheaply” for SOME constellations. If your satellite can scale down to cubesat or smaller, it’s becoming feasible to iterate relatively cheaply.

I’m thinking of the space IoT startup Swarm (of radio space piracy infamy).

He's just saying...

Two ways to learn about the market.

1 - Analysis He's defining as using data from existing companies, economic trends, etc. Much of this data is relatively low cost and can be fine quickly.

Analysis tends to provide insight into existing supply and demand. E.g. How many companies are selling electric cars? How much did the sales increase/decrease this year?

Based on analysis, a startup might want to create a new charging station.

2 - Experiments This is where someone puts an offer into the market and sees if there are buyers.

Usually these are for unique features, or possibly new products.

Example: clubhouse was an experiment

He's saying experiments usually cost more, because in theory you are at least prototyping + spending money on marketing/sales + support of early buyers.

____ Analysis looks to identify useful patterns in what is already happening, so factual.

Experiments try to find gaps that look for needs that aren't being met, so no behavior yet... So "counter factual".

____ Possibly he's also saying that deeper innovation happens based on experimentation.

And he's further asking: Do angel investors support experimentation more than other types of investors.

If it helps, skip to section 6 for the conclusions (spoiler: Angels are). The section you've quoted is academic signaling (in 'entrepreneurship research') to context and differentiate this paper from other research and entrepreneurship books/papers. And yes, I strongly agree with you: perhaps someday academia will embrace plain English and real hyperlinks.

And, in the fields which make heavy use of mathematical abstractions, “open-source” proofs written in a language amenable to automated proof assistants.

It is written like an undergraduate essay, which is what it seems to be. Judging by the responses it seems like most people haven't actually read it beyond the title.

My understanding: how will your company learn and innovate? Hire McKinsey to create a plan for you (analysis) or give a small team resources and autonomy to try something new (experimentation)?

Why not both?

This is just anecdata: but I’d say yes. I had a number of friends trying to get VC money for things which haven’t been done before: either you gotta be someone already in VC space, eg a successful founder or you have to pitch an idea that’s been validated already somewhere for example.

VCs are quite risk averse in my opinion, at least at the seed stage.

I had the same experience. A VC explicitly told me that he doesn’t fund any startup that is trying to create a new market, because he doesn’t know if that market actually exist and if it does he doesn’t know if it is profitable. Instead funding a startup that plays in an already existing market, as long as the startup does thing “better or in a unique way” is a much safer play.

We angels love to exploit what VCs won't touch with a ten-foot pole ;-)

If you are a founder—any industry—hit me up and hopefully I'll fund you! Email m@zorinaq.com

I don't care if I don't know an industry. I look mostly for qualities and unique characteristics in the founders themselves.

What do you look for in a founder and how is it fundamentally different to a VC? Any examples of investments you made. Some angels became eventually super successful and then set up their own VCs. Would that be part of your plan later on?

Email sent.

Dude you asked for it :)

"X, but with blockchain" seems to be be the new "X, but on the internet" for getting VC funding.

Is this a recent change or something that's not visible to people outside? I'm asking while seemingly recalling some bizarre VC investments (say, MoviePass) from the past decade or so.

Different VCs work at different stages and take on different types of risk depending on what they know and have done.


The earliest investors (mostly angels, usually not VCs) are taking the risk of "can you ship?"

The next round (some angles, but mostly VCs) are taking the risks of "is there any market for this?" and "can you sell to a few customers in that market?"

The next round (almost entirely VCs) are taking the triple risks of "is this a real market?", "can you sell to LOTS of customers?" and "can you scale a business quickly?"

And every round (exclusively VCs) are taking the dual risk of "can you expand your customer base into adjacent segments?" and "do your economies of scale eventually work?"

Unfortunately, no stage proves the next one, sometimes what looked like market early on turns out not to be one (many of the dotcoms), sometimes the math never works out (MoviePass, 98% of the dotcoms), sometimes the people who got you there can't get you to the next level and can't admit it, and there's the occasional frauds that slip through (Theranos).

There are hundreds of other, more nuanced reasons investments fail but those are the big ones.

A few bizzare investments doesn't give good insight into what the majority of investments look like.

You need to a background check on the founders. If they had already exited successfully, then anything gets funded.

Yes and no :)

Avoiding category-creation risk is true of most investors most of the times

For VCs, it's understandable given investors see so many co's pitch and it's one less risk to worry about. The later the stage and bigger the check, even more pressure.

Earlier stage is always more welcoming than later stage. Risk is lower for angels b/c betting on team means the startup can pivot (harder later) and can always exit for lower amounts ($20-30M exit for a $50K check is more of a 5X return than the goal of 10-100X return-the-fund, but a few of these still works and is more doable)

Contrary to common belief, the main job of VCs is not to fuel innovation, it is to protect the money of their clients from the potential disruption.

Angels, on the other hand, are more likely to have a wider range of internal motivations and less constraints.

Some of them might be open to real innovation instead of hedging against it.

VC = generate high returns for LPs. Not protection of money, but seeking high returns. Not necessarily protection from innovation unless their investment is threatened by it.

I see what you are trying to say but misworded it. Their goal is to generate high returns instead of innovation. If innovation will generate returns then they will invest. Their role is the riskier are the higher percentage earning investments in a portfolio for an endowment (historically).

That said angels can only do the front end very high risk of the investment curve. They can’t carry the company to fruition.

My reading is that VC's customers have portfolios that include successful companies. VCs are thus disincentivized from disrupting those companies, even if it makes a good return for the new company.

This is simply not true. I don't know where you guys are reading this stuff.

> VCs are thus disincentivized from disrupting those companies, even if it makes a good return for the new company.

How do you think Uber, AirBnb, etc. were all funded?

I haven't heard of VCs doing that. For that to happen I would imagine that the LPs have a considerable position to flex like that. I would also imagine that we be an edge case far from the rule.

> the main job of VCs is not to fuel innovation, it is to protect the money of their clients from the potential disruption.

Huh? VCs clients are pension funds, fund of funds, etc. Their main job is to return those LPs a return on investment. Nothing more. Very few of those LPs have deliberate plans to avoid disruption. Unless you're talking about CVC specifically.

Unless I'm mistaken about your use the word "client", this is just plain wrong.

I'll try to reword it in the hope of being clearer.

The observation is that disruptive innovation is inevitable.

The role of VCs is to protect against this risk.

You can't protect money by letting it in the bank, investing and hedging is the only viable option.

> The observation is that disruptive innovation is inevitable.

Makes sense, agreed.

> The role of VCs is to protect against this risk.

Protect who though?

Are you just saying that a LP has to allocate funds to a VC asset class in order to hedge against worse returns in other asset classes? In other words, if I'm a pension fund, I don't put all of my capital into Marriott because I need to allocate some of it into AirBnb, since Marriott's market cap will likely go down as a result of ABNB's success? Hence - the hedge.

I am not talking about individual VCs, but in general, all of them, their collective role is to protect money (from their clients) from potential disruptive innovation.

The goal is not to create value or even to make money, but to not lose it.

> but to not lose it.

But for who? You keep saying "from their clients", but I don't think you understand how the VC model works or care to explain what you mean by "protect".

Here's an example:

The California State Teacher's Retirement System, or CalSTRS (called an LP) committed money into Shashta Ventures. Shasta ventures then invested in several Series A and Series B startups (presumably "disruptive innovation"). Sashta then profits from selling those companies and takes a part of that profit for themselves and gives another part to CalSTRS.

So. No, they're not "protecting it from their clients". VCs clients are their LPs and their goal is purely to profit from M&A/IPO activity and return that for themselves and their LPs.

There isn't any dirty little secret about the industry - its that simple.

This is not a secret but a common misunderstanding about alignment.

VCs (and their clients) are aligned against innovation, contrary to what we might read naïvely.

They are investing in "innovative" companies to protect their money against the innovation and also to control them.

Providing no evidence nor having experience in this area for why this is the case other than repeating the same thing over and over again isn't a very compelling argument.

For the record, I'm an angel investor and work with VCs. What you're saying makes no sense to me.

I rest my case.

This is a good way to describe it.

To use concrete examples, while I know there are always internal believers, perhaps decision makers at Visa invested in Stripe and at USAA invested in Coinbase to hedge downside of disruption, not because they want to encourage those technologies.

> perhaps decision makers at Visa invested in Stripe and at USAA invested in Coinbase to hedge downside of disruption,

PS - Those are examples of CVC. Which IMHO have very different goals than traditional VCs.

Ah yes, I was agreeing with your points about CVC. I probably should have responded to the parent thread but had to run so clicked submit.

Yea but they tend to maximise profit. I was invited to join a swiss VC group and the way they do it is you don't get to have an idea. You do market analysis and form groups during 1 year of the scholarship and then build the product with a pyramid scheme return.

If you have your own idea it's believed that you love the idea a little too much unfortunately.

To a financial manager, avoiding disruption and diversifying is the same thing.

I don't see how this is wrong.

Making a return is protecting money, and in this case this is done by hedging against innovation.

My take is they sell a product to pension fund managers who need to invest in sophisticated asset classes to justify their jobs.

Yes, and also they manage to kill the companies who refuse to play the game.

VCs are not the friends of innovation.

As an Angel.Yes.I take bets VCs would not. Also it's not a business for me as it is for a VC. Yes of course I primarily do it for returns but a very close if not equal second is that i take pleasure from risky bets and giving entrepreneurs hope ,it's fun and I always learn something even if I lose money...and being in the UK the tax breaks are good at limiting the downside.


I would have guessed it's the other way around.

Since VCs have usually more money on their hand, they can diversify more and take bets.

We both take bets.

Yes they take far more than I do.

I take more risky bets in the sense that I would fund pre-revenue companies (higher % lets say).

Having said that recently there has been explosion on seed stage VCs trying to grab angel money directly and deploy to startups through funds with tax incentives.

Not my thing, prefer to go direct, they have resulted in more inflated valuations and competition though but good for the startup not necessary your average joe angel like me.

> and being in the UK the tax breaks are good at limiting the downside.

Pray tell?

It's hard to raise a round unless you've done the experimentation already and proved your hypothesis. You really need to be on the other side of the experiment, with a proven business that has traction and revenue before many VCs and angels will talk to you seriously. 20 years ago you could raise a seed round with no more than an idea (I worked for a couple of businesses that did exactly that). Those days are gone.

Exactly, in my experience - Europe - a VC is only interested in scale-ups...

I am currently negotiating a buy-in for my SaaS, so for validation purposes I contacted a few VCs in our domain, and received a few replies stating they required at least 500k to 1 million ARR.

It would be my assumption that - in Europe - you don't really need VC money if you're making this amount of ARR, unless your margin is so low, or you are growing so fast that there is a huge risk involved.

To me getting VC money at 500k/1 million ARR sounds like a very expensive loan where the VC has limited risk (the investment) and unlimited upside. If I would be at that amount of ARR and in the need for some credit, I'd rather go to the bank and pay for a credit line for a couple of million that we can use when/if we need it, especially at the current cheap interest rates...

Update - addendum: Just to clarify: I am a big fan of external capital if it also includes proper engagement, preferably an org that has a huge network and/or proper domain knowledge.

I think you misunderstand venture. VC has two broad categories: experimentation and growth. As a VC I'm happy to invest in a company with zero revenue, in the promise that they'll figure out something valuable. If I'm investing in a business that's figured it out, I'm looking for growth. The numbers don't have to be at a certain ARR level, but need to show strong growth.

It's likely the business you're pitching has an offering, but the revenues are pretty flat or growing slowly. You're in that weird in between zone that isn't interesting to VCs. You need to keep iterating on the offering until you find something with the right growth potential, otherwise you're stuck just staying a small business.

I wanted to reply, but I did not want to disclose everything on HN, so I've sent you an email.

Aren't angels normally principals, whereas VCs are agents? There's a heck of a big difference between investing your own money and investing someone else's.

Your own money you only need to justify to yourself. Someone else's needs justifications that are socially viable.

VC here. The comments made about VCs being stewards of other peoples money, and therefore having a different risk tolerance are completely true. There needs to be some solid POC or a well known and trusted team or it is a no-go. But it is not about VCs being dumb finance guys -- some of us are very technical, myself I was a repeat founder and have an advanced technical degree. We invest more money in each deal than angels might in their entire lifetime, and actively help run and scale a company. I certainly have a lot of respect for non-shotgun angel investors, but one is a hobby, and one is a career!

Lots of VC funds do first round investments though

Yes they do, I am only speaking about my own firm. Although in my sector it is generally rarer than with software.

99% of VCs are hype-driven business sheep, they are overly obsessed with the size of existing markets.

Don’t get programmed by what they are promoting. The most successful companies don’t discover markets, they create them.

If you need the venture $, find the 1%.

hype-driven business sheep

That makes them sound like something out of a Jeff Minter game.

Hell, yes. Next question?

(FWIW, I have started and been part of the founding team for several companies, both angel and VC-backed. VCs are not nearly as interested in innovation or building a good company as they are in establishing control to set up a successful exit. That's not necessarily bad, it's just that they're more mercenary by nature.

Many more angels are willing to put up with early losses to develop the tech/company, then the VCs come in to fund growth and they get washed out after taking the lion's share of the risk. Sad, but true.)

Government investment seems to provide the most bang for your buck.

That is blamed for some of the problems with tech in Canada and anecdotally, the government money drives a lot of strange behaviour.


Anecdata: I work at a uk startup and quite a lot of our product development has been funded by HMG. It’s worked really well for helping us work through technical challenges and has enabled us to reach product/market fit for our key products.

the paper is focusing on experimentation in the context of commercial startups, but arguably more high-risk and potentially high-utility experimentation may happen in other contexts, such as universities, that tend to be largely government funded.

consider silicon valley. government allocates funding for long-term high risk research programs toward various defence objectives. this funds fundamental research in universities.

some researchers then spin off startups to develop products for defence applications -- so the government takes the risk to fund any long-term blue-sky research and then is also willing to as the first customer and provider of contracts for any startups that figure out how to industrialise/commercialise the research for defence applications (electronic warfare...).

see e.g. https://steveblank.com/secret-history/

similarly, consider the development of tcp/ip. pretty handy thing. no startup managed to capture the rights to tcp/ip and change rent to all users of the internet, so arguably from the perspective of commercial startups tcp/ip is a failure.

Based on your personal observation or some reading? If the later, can you point me to some sources?

Yes. The internet for one. Thats kind of the big one thats easy to point to. Other things like infrastructure is often over looked. The Hoover Damn provided so much power.

Is this analysis useful?

My understanding is that the quality varies greatly from investor to investor regardless of being a VC versus an angel, and their reputation is the greatest indicator of how helpful they'll be. I'm sure an investor from Sequoia is going to be much more helpful than Random Joe Angel.

So I feel like this is a field where individual characteristics are key, and this paper turning to statistics, generalizing over many angels and many VCs, makes little sense. What am I missing?

Just thinking about it logically and you can see that it is. An angel has put signifigant personal investment into a project, they want to see it succeed both for themselves and for the entrepreneur according to their vision. In that sense it is a partnership. With VC's increasingly today its possible that the investment in the business is some type of metastrategy for their portfolio so they may not care if one particular business succeeds or fails.

Most VCs are MBAs and can’t really evaluate technical risk. So they mostly get involved in companies where: you know you’ll be able to ship, but not how you’ll get users (an MBA skill) or you have some external validation of your credentials (eg you were a professor of quantum computing at MIT, fine, take $25 million and see if you can build a quantum computer).

In some countries, it's actual (theological) angels that are more likely to occur than the other too, as there are neither VCs not angel investors.

Initially thought this had something to do with religion driving entrepreneurship, but (of course) it's about angel investing.

Dumb brain.

That’s pretty much what Max Weber’s thesis was. Have you read him?


how many VCs can fit on the head of a pin?

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