The new new startup economics

While speaking on a panel last week at the BizSpark European Entrepreneurship conference in London, I mentioned how in 1999 we raised $36m of Venture Capital at Zagat in order to get from idea (expressed in PowerPoint) to paying customers. I asserted that back then in the stone ages, you had to: buy lots of servers (usually at overcapacity if you had some peak and valleys in traffic), hire lots of expensive people, and spend a ton on marketing to reach the masses.

Then I asserted that how those numbers started to change due to the cloud and the infrastructure around it (Skype, outsourcing, etc). I talked briefly how I started a successful company in 2002 for only $300k of investment and another in 2007 for only $100k of investment. I also recently invested in a company where the total raise was only about $25k and in less than six months went from idea to revenue generating customers.

The panel moderator, David Rowan (Editor, Wired UK), then asked another panelist, Bernard Dalle a longtime VC from Index Ventures, if his fund is seeing a slowdown in investment. He mentioned his recent investments in Path and Flipboard raised millions of dollars. Is there a disconnect between what Bernard and I said?

Another panelist, Rob Fraser, CTO of Microsoft, mentioned how the cloud does change everything. Rob, Bernard, and I went on to explain that you still need to spend a lot of money, but the big, game changing difference is that you don’t need to spend it all up front.

At Zagat in late 1999, I spent well over a million dollars on infrastructure (server farm, switches, priority based load balancer, etc, etc) in order to be able to “scale” when we hit the millions and millions of users when we launched a few months later. As I “scaled” from 100 simultaneous users to 1000 simultaneous to 5000 simultaneous users over the course of a few months, I was still running on the multi-million dollar infrastructure. Since we had a spike in traffic at lunch and dinner times (go figure) and after Super Bowl ads, etc, we had to have a large server farm. It took us a year to start adding more servers to the farm to accommodate the nearly billion monthly unique page views.

Contrast this with today’s startup economics. Today everything is cheaper and better. You can augment your staff with programmers in far away places and keep in touch via Skype, etc. But most importantly, with the cloud, you only have to pay as you go with the server infrastructure.

In order to get started today, it is virtually free. Just sign up with one of the incubator programs at AWS or Azure and you are ready to go live. Once you grow out of the simple startup incubator phase (and you will pretty quickly), you start to pay only for the bandwidth/compute cycles that you need (and can peak and valley as you like.) You can start out with only a few thousand dollars and slowly increase your infrastructure spending over time as you grow.

Our point on the panel is that you may well wind up spending the same amount of money as I did in 1999, but not all at once, most likely over the course of several years. This drastically changes the economics of startups: you no longer need to go to VCs for lots of money in order to get from idea to customers. Now you can get to idea to at least beta testers on your own dime (or a small amount of Angel Investment) and go to the VCs later on. If you never get to that later stage, you never would have had to spend that $20-$36m in VC.

Welcome to the new new startup economics.