20VC Greylock's Jerry Chen on The 2 Fundamentals To Assessing Startup Risk, Why Good Investors Have To Be Optimistic & Why VCs Get In Trouble When They Move Outside Their Strike Zone

In this episode of "20 minutes VC," Harry Stebbings interviews Jerry Chen, a partner at Greylock and former VP at VMware, who shares his journey from witnessing the dot-com boom and bust at Axel Partners to scaling VMware and now investing in enterprise SaaS, AI, and cloud infrastructure. They discuss the importance of risk assessment in venture capital, distinguishing between quantifiable risks and unquantifiable uncertainties, and the strategies for startups to compete against giants like AWS. Jerry emphasizes the need for product-market fit, the significance of go-to-market strategies, and the concept of creating nonlinear value for customers. He also touches on the personal traits that make an effective VC and board member, including being a fast learner and maintaining integrity. The episode also briefly mentions Ring's innovative home security products and Cooley's legal services for startups and VCs.

• Harry Stebbings hosts the 20 minutes VC podcast and invites listeners to engage on Instagram.
• Jerry Chen is introduced as a partner at Greylock, a leading venture capital fund.
• Jerry's background includes investments in enterprise SaaS, AI, and cloud infrastructure.
• He has a notable history at VMware and has written about strategic investment.

"So I'm very thrilled to welcome Jerry Chen, partner at Greylock, one of the world's most successful vc funds with prior investments in, I mean, check this out. Facebook, Instagram, LinkedIn, Airbnb, Dropbox, App Dynamics."

This quote introduces Jerry Chen and highlights Greylock's successful investment track record, suggesting Jerry's expertise in the field.

• Jerry's initial experience in venture capital was during the dot-com boom at Axel Partners.
• He witnessed the dot-com bust and a challenging venture climate.
• After a decade at VMware, he was persuaded by Anil Bushry to return to venture capital in 2013.

"My first foray was actually back in 2000. I was a young investor at Axel Partners at the peak of the dot-com days... And then after that, I actually never wanted to venture again."

Jerry recounts his early experience in venture capital during a tumultuous time in the industry and his initial reluctance to return to the field.

• The dot-com boom provided optimism and a sense of limitless potential.
• The bust taught the importance of economics, fundamentals, and creating customer value.
• Jerry emphasizes the need for good governance and the role of a board member.

"Then on the flip side, when the crash happened, we really realized, like, okay, you need to temper that optimism with economics and fundamentals."

This quote reflects on the lessons learned from the dot-com bust, highlighting the importance of grounding optimism with sound business principles.

• Jerry's reluctance to continue in venture capital stemmed from the difficulty of witnessing company failures without the ability to help.
• His time at VMware allowed him to gain the experience necessary to be an effective board member and advisor.
• Jerry believes in the importance of being hands-on in building and leading teams.

"And I also realized that without being on the other side of the table, without shipping product, hiring employees, firing employees, I was not going to be a great board member, a great advisor to these founders."

Jerry explains that his operational experience was crucial in shaping his ability to contribute meaningfully as a venture capitalist.

• Being a top priority for customers is crucial for a startup's success.
• Differentiation in enterprise sales can be achieved by being better, cheaper, or different.
• The goal is to create significant value for customers, ensuring the company's success.

"You got to do something better, do something cheaper, or do something different... And then if you're good enough, you're actually creating value for the customer."

Jerry shares insights on what it takes for a startup to succeed in the enterprise market, emphasizing the importance of offering distinct value to customers.

• The idea that a product must be significantly better than existing solutions to succeed.
• Factors such as cost, learning curve, and installation act as barriers to adoption (drags).
• The product's advantages (drivers) must outweigh these barriers to gain market traction.
• The extent of being better varies by market; commodity markets require a more substantial edge.

"I think that's more of a catchy slogan to quantify. I hope it's ten x better or five x or 50 x, but it has to be dramatically better, because with every new product, Harry, there's always drivers and drags, right?"

This quote underscores that while "ten x better" is a popularized concept, the critical point is that a new product must offer substantial improvements over existing ones, considering both the incentives to switch and the barriers to adoption.

• Conscious assessment of risks when investing in companies is crucial.
• Distinguishing between quantifiable risks (probabilities) and unquantifiable risks (uncertainties).
• Different types of ventures carry different risk profiles, e.g., enterprise software vs. consumer applications vs. frontier technologies.
• Applying appropriate frameworks for evaluating risks based on investment types is essential.

"And I think the way I think about every investment is when we go in looking at a company or a project, you have to be very conscious about what risk you're underwriting and not say, hey, we're going to do this deal or invest in this company, back this founder."

This quote highlights the importance of being aware of the specific risks involved in an investment and making informed decisions based on those risks.

• The relationship between the level of uncertainty in an investment and its pricing.
• Greater uncertainty, especially in unproven markets, can lead to lower prices due to higher risks.
• Known markets with quantifiable risks may have more stable pricing reflecting the ability to execute and compete.

"I think price more or less reflects the risk."

This quote suggests that investment prices generally correspond with the level of risk, with higher uncertainty often leading to lower valuation due to the greater risk involved.

• The difficulty lies in accurately collecting data and being objective about the truth of the risks.
• Balancing a portfolio according to one's risk tolerance and investment style.
• The importance of self-awareness in choosing investments that align with personal and firm strategies.

"I think the hardest part of risk assessment is collecting the data and being a servant to the truth, if you will, saying, okay, what does the data show in terms of what you can quantify, what you're willing to underwrite for things you don't know, what risk you're willing to take."

This quote emphasizes the challenge of gathering accurate data for risk assessment and the need for honesty and objectivity in evaluating risks for investment decisions.

• Market execution, product adoption, and team experience are generally acceptable risks if properly evaluated.
• Unacceptable risks often involve questions around a founding team's integrity or honesty.
• The long-term nature of investments necessitates trust in the people involved.

"Like I said, risk for market execution, product adoption risk, those are all acceptable. Just make sure you're weighing them correctly."

This quote indicates that while certain risks are acceptable in venture capital investments, they must be carefully weighed and considered.

• The challenge for startups to establish distribution channels before incumbents can develop competing technologies.
• The interview is cut off before Jerry Chen can fully elaborate on this topic.

"Jerry? Gosh, yeah. You know that"

This incomplete quote introduces the topic of startups competing with established companies, but the speaker is unable to finish their thought, leaving the discussion on this subject unresolved.

• Distribution technology is crucial for leveraging technology in ways incumbents can't compete with.
• Platform shifts are essentially shifts in distribution, changing how products are sold or delivered.
• Early examples include selling software to mainframes, PCs, through browsers, and App Stores.
• Recent interests in distribution shifts include AR/VR, smart homes, and smart cars as they represent new nodes of distribution.
• Startups can capitalize on platform and distribution shifts to reach customers directly, bypassing incumbents.
• Incumbents typically control the prior generation's technology and distribution channels.

"I think distribution matters because a, you're actually trying to kind of leverage your technology in a way that basically the incumbents can't compete against."

This quote emphasizes the strategic advantage of leveraging new distribution technologies to outmaneuver established competitors.

• Go-to-market strategy is as important as product-market fit and product-founder fit.
• It's crucial that the product fits the sales channel and customer consumption preferences.
• A mismatch between product value and sales channel can lead to unsustainable economics.
• Products must be designed with the appropriate go-to-market channel in mind for scalability.
• Investors and board members must consider unit value and the right go-to-market strategy for the product, market, and customer base.

"Go to market matters because [...] I also care about product go to market fit, which means that the product you're building also fits the channel you're selling the product through and how your consumer, your customer, wants to consume it."

This quote underscores the importance of aligning the product with the sales channel and customer consumption methods to ensure sustainable business growth.

• Unit of value is the core unit that adds value to the customer.
• It can vary from individual users to entire companies, depending on the product and buyer.
• The unit of value should make sense for the product, whether it's for a single user or enterprise-wide.
• Products designed for individual users have a smaller unit of value, while enterprise products have a larger one.

"It's the core unit, the minimum unit that adds value to your customer."

This quote defines the unit of value as the smallest increment of a product that provides value to the customer, highlighting its importance in product design and go-to-market strategies.

• The goal is to create a business model that scales and avoids the "hamster wheel" of constant effort without progress.
• Nonlinear value is created when a product or service becomes more valuable as more people use it.
• Network effects and platform effects are examples of nonlinear value.
• Founders should aim to create products that increase in value with usage, encouraging customer retention and allowing for competitive pricing.

"The goal for any business is to create a business model that works for you."

This quote speaks to the importance of developing a business model that facilitates growth and value creation, rather than one that requires constant input without yielding proportional returns.

• Founders must be thoughtful from the start about creating nonlinear value but recognize that it evolves over time.
• Initially, the focus should be on getting the product used by customers.
• As the company grows, the focus should shift to consciously creating nonlinear value.
• Understanding the timing and evolution of the business is crucial for creating value at different stages.

"You have to be thoughtful, I think, from the beginning how you think you create nonlinear value, but realize that the early days you're still in the kind of the flat part of the curve."

This quote advises founders to consider how to create nonlinear value from the beginning, but also to recognize that it's a process that develops over time as the company matures.

• Founders should have a vision but must also be willing to iterate based on feedback and data.
• Successful founders are learners who are stubborn with their vision but flexible based on evidence.
• Balancing founder vision with realism is key, and founders must be willing to adapt when necessary.

"The founders I love working with are the guys and the girls, the men and women who are learners, right, that they actually have a strong vision. They're very opinionated, they have a point of view of how the world should work."

This quote highlights the ideal balance for founders between having a strong, opinionated vision and being open to learning and adapting based on new information.

• The role of a board member is multifaceted, catering to both the executive team and fellow board members/investors.
• Effective board members ask critical questions and focus on key issues that significantly impact the company.
• Over time, board members learn to adapt their approach to suit the varying needs of different founders and company lifecycle stages.
• Collaboration with peers, even those from competing VC firms, is essential for board effectiveness.

"Just, you know, be that honest thought partner saying, hey, Harry, here's the three questions that matter. Let's just focus on those things, not worry about the rest of the noise and the details."

This quote emphasizes the importance of focusing on the most critical issues and filtering out less relevant details to guide the company effectively.

"But also, I've learned to work with my peers. Right, because you're collaborating with a bunch of other investors or some outside board members around the table."

The quote highlights the learned skill of collaboration with other investors and board members, which is crucial for a board member's role.

• Jerry Chen cannot pick a single favorite book due to his extensive reading habits.
• He recently purchased "Skin in the Game" by Nassim Taleb, suggesting it as a potential read.

"But I will tell you the book I just bought was Naseem Taleb's new one, skin in the game."

This quote indicates Jerry's interest in Nassim Taleb's work and his recommendation for others to read "Skin in the Game."

• Personal growth can stem from family background, such as the work ethic learned from immigrant parents.
• Professional milestones, like witnessing a company's public offering, can be transformational, highlighting the importance of building enduring and impactful companies.

"And I think just sitting there with the rest of the exec team at VMware and having that realization, this thing that you were heads down working for the past x years of your life is real and enduring, was pretty transformational."

The quote reflects on a significant career moment at VMware's IPO that underscored the value of creating lasting and meaningful work.

• Jerry believes that Amazon's AWS cloud service is beatable in specific product areas and markets, contrary to some common perceptions in the industry.

"I would say that a lot of founders investors don't think you can beat Amazon's cloud AWS, but actually think AWS is very beatable in certain product areas, in certain markets."

This quote reveals Jerry's contrarian belief in the possibility of competing successfully with Amazon in the cloud computing space.

• The difficulty lies in distinguishing between good and great investment opportunities and having to reject good companies to focus on the truly exceptional ones.

"The good is the enemy of great. As a vc, you have to say no to a bunch of good companies, good investments, to say yes to the great ones."

The quote captures the challenging aspect of venture capital, which is making the tough decisions to pass on good opportunities in pursuit of great ones.

• Jerry's strength is his ability to process vast amounts of information and create structured frameworks, while his weakness is a tendency to become easily distracted.

"I think I can consume a ton of information, be it blogs, podcasts, data. And I can organize all those things into, like, a framework."

This quote describes Jerry's analytical skill in synthesizing information effectively.

"I get really distracted pretty easily. Like, I'm not even sure what we're talking about right now."

The quote candidly acknowledges Jerry's challenge with maintaining focus, a personal area for improvement.

• Making investment decisions is often straightforward; the real challenge lies in convincing founders to choose you as their investor.

"The hard part is convincing the founder to say yes to you."

This quote underscores the competitive nature of venture capital, where securing a deal requires not just identifying potential but also winning the trust of founders.