How Silicon Valley Venture Capitalists Try to Find the Next Google

Thousands of business plans are submitted to venture capital firms every year. Approximately 20 will get reviewed by the full partners of a larger, well-known firm. Half of those might get funded.

What does it take to make the cut?

Suffice it to say that if there were a formula, some enterprising coder would have figured it out by now and would be selling it. Plenty of people have worked to identify the key components of a successful pitch. But the reality is that technology is moving too fast, in too many markets to make that sort of quantitative approach a sure thing.

The process is similar to that for all emergent systems: the players, the VCs and the aspiring entrepreneurs are co-evolutionary. They feed off of each other and the environment in which they operate. Cognizance of that developing world is critical, but so are timeless attributes like knowledge of people, emotion, desire and need. JL

Katrina Brooker reports in Newsweek:

Everyone can tell you why something is going to fail. The real trick is, can you create the conviction on why something might succeed?

One sunny day in March, Gagan Biyani, the young and hugely ambitious CEO of Sprig—a company so new you probably have never heard of it—stepped into the main conference room at 2550 Sand Hill Road in Menlo Park, California. Here, inside this nondescript Silicon Valley office, everything was about to change for Biyani, and his small company. He was here to pitch his business plan to Greylock Partners.

The room is ordinary—a white board, table, some chairs—but through the eyes of a fledgling CEO, it becomes transformed. “Coming in, the first person I see is Reid, right?... And then David is over here; Aneel is there,” Biyani says breathlessly. “It was the biggest moment of my life.” Gathered here on that day were some of the most powerful venture capitalists in the valley: David Sze, Aneel Bhusri, Reid Hoffman and every other partner at Greylock. These are the guys who backed Facebook, LinkedIn, Instagram, Pandora, Dropbox, Airbnb—at a time when they were not much bigger than Sprig. For a striving founder of a startup, pitching your business plan here is a bit like being a rookie pitcher stepping onto the mound at Yankee Stadium—with Babe Ruth walking up to the plate.

Out of thousands of business plans Greylock sees each year, only 20 or so make it to a full partnership meeting. Of those, only half get funded. Biyani was determined to show that Sprig was worthy. But more than just his shot at the big leagues, what Biyani got that day was an up-close look at how Greylock picks its bets.

Here’s one surprising lesson Biyani learned: If the partners start arguing about your pitch, you’re probably doing pretty well. That means they are intrigued enough to be grinding the details. Of course, Biyani didn’t know this at the time, which made it particularly unnerving when Bhusri began drilling down into the fundamentals of his business plan. Biyani has wildly ambitious plans for Sprig: He wants it to be the Uber of food—delivering meals anywhere, anytime with the swipe of a phone. But this is an unproven concept in an unproven market. The risks are huge: Sprig will cost millions to build; it won’t make a penny for years; its logistics are a nightmare.

Bhusri had questions. He is the co-founder and CEO of Workday (another big win for Greylock), and few people in the world know more about starting a tech company. He probed into the viability of Sprig’s concept, its market. Biyani had answers—he’d been preparing for months. But Bhusri didn’t let up, and going back and forth with one of the world’s top venture capitalists was intense. Then something unexpected happened. Sze—who once fought hard to get Greylock into Facebook—jumped in and started arguing the case for Sprig. For Biyani, this was a surreal moment. He watched as two of the biggest operators in Silicon Valley went toe-to-toe over his fledgling company.

When his pitch was over, the young CEO walked out feeling strangely elated. “I have never seen so much intellectual horsepower in one room in my life,” he says. Shortly after, he got an offer: Greylock was in for $10 million.

For a startup, getting Greylock’s backing means more than just an infusion of cash. “It’s like your company’s been blessed by the pope,” says Nirav Tolia, founder of Nextdoor, a social media site that got funded by Greylock two years ago. When that news got out, he was flooded with offers from other VCs wanting to get into the deal. “Firms will say, ‘I don’t even know what Nextdoor is, but I know David Sze is on the board, so I am going to write a check.’” When Glenn Kelman, CEO of real estate startup Redfin, got funding from Greylock, one partner asked him to write down his wish list of people for his board. Shortly after, his top pick—Austin Ligon, founder of Carmax—was in. “I felt like we could have gotten Barack Obama if I had listed him,” recalls Kelman. Peter Chernin, ex-chief operating officer of Fox, joined the board of Pandora because of Greylock’s backing. “They are good at choosing companies and good at building companies,” he explains.

Hard to imagine now, but there was a time when Facebook, LinkedIn, Instagram, Pandora and Tumblr were ideas that, to many, seemed crazy. But where others might see lunacy, Greylock has seen opportunity. Take Airbnb. At the time Greylock invested in 2009, the idea seemed totally bizarre: Who would rent out his home to strangers online? Last year, 6 million people used the service to bunk up on the cheap, from Las Vegas to Kathmandu. The company, still private, was valued in January at close to $10 billion.

“When the idea is big enough and edgy enough—it’s either madness or genius,” says Hoffman. “What you are trying to figure out is which one it is.”

Reid Hoffman, center, the founder of LinkedIn when his stock was listed Mark Lennihan/AP

Heighten the Conflict

“There is a lot of mythology about how firms decide,” says Sze one recent afternoon at his Sand Hill Road offices. The space is, for the most part, nondescript—tidy rooms and cubicles above a New Republic bank branch. There is something unusual installed on one wall: the shape of a slender tree painted black, branches blossoming outward. At the end of each branch is a small wall mount holding every cellphone and mobile device Sze has owned—from a brick-sized US West to the Apple Newton to the iPhone. It is a physical reminder of how quickly technology has transformed just about every part of our world over these past 20 years. For much of that time, Sze has been deep inside this revolution, finding the companies that are driving it.

“A lot of these voting systems are consensus oriented, where you need to have 100 percent unification of the group,” observes Sze. Greylock’s system is different. A few years ago, the partners analyzed their pitch meetings, looking at ones that had led to their best deals and their worst. The deals fell into three categories: ones everyone hated, ones everyone loved and ones they fought over. It was this last group that yielded Greylock’s biggest wins. Facebook, Pandora, Airbnb were all hotly contested pitches. On Airbnb, Sze clashed with Hoffman, certain the idea would never work. Luckily for Greylock, Hoffman doesn’t back down easily. “We are looking for outliers and extremes,” explains Sze. “So we try to heighten this conflict.”

There are few groups that know more about how tech startups fail or fly. Each of Greylock’s 11 investing partners has either founded a major startup or was early into one. Sze was one of the first employees at Excite, a pre-Google search engine. Other partners come out of eBay, Yahoo, Mozilla, Twitter, Facebook and LinkedIn. “Our bet is that people who have been in these operating roles, that have lived it day in and day out, they are going to go, ‘Oh, I can see why this could be great,’” explains Sze.

When Sze came to Greylock in 2000, the world was very different. There was no iPhone, no Twitter, no Facebook, and laptops felt as heavy as a block of cement. The firm was different too. It was well known on the East Coast, having made a name for itself investing in Teradyne, Neutrogena, Prime Computers—many of the big venture deals of the 1980s and 1990s. But on the West Coast, it wasn’t a real player.

Greylock hired Sze to change that. A graduate of Yale University and Stanford Business School, he had recently left Excite and was just building his reputation in the VC world. Back then, no one in Silicon Valley took Greylock that seriously, and if you are not in the inner ring, you don’t get first crack at the best companies. “It wouldn’t have occurred to me to go pitch Greylock,” recalls Hoffman, who was looking for investors for LinkedIn in 2004. Coming out of PayPal, Hoffman had his pick of investors, but a conversation with Sze sold him. The young VC talked about LinkedIn in a way that was completely different from what the other investors were seeing. He was deeply interested in the mechanics of the company—whom it should hire, how it could attract users, even what the site should look like. It was more like talking to a fellow entrepreneur than to an investor, Hoffman says. “You want to pick people you want to be in the foxhole with,” he explains. Hoffman decided to become a partner at Greylock after LinkedIn went public.

And then along came Facebook. The first time its pitch book came Sze’s way—in 2005—he blew it off. “I had a chance to look at it”—when it was valued at $100 million—“and turned it down because I was working on closing another deal,” he recalls. A year later, Facebook’s valuation jumped to $550 million. When Mark Zuckerberg came around for his next round of funding, Sze was determined to get in the door.

In the history of the firm, few deals have been as contentious as this Facebook meeting. What made the partners so tense was the huge price tag for a business that was still unproven and had plenty of competition—MySpace, Friendster, Tickle. It wasn’t at all clear Facebook would emerge the winner. But Sze seized the moment and eloquently articulated something many of his partners were having trouble seeing. He described in detail how social media would build on itself, how it would spread beyond colleges, how people craved ways to connect.

The partners agreed to the deal and wrote one of the biggest checks in the partnership’s history—$10 million. Jim Breyer, the partner at Accel who funded Facebook’s earlier venture round, remembers one of the partners calling him later: “He said, I just want to do a double-check: Are we getting a fair deal?”

In Stealth Mode

“Last night I got about three and a half hours of sleep,” says Hoffman over breakfast at the Rosewood Hotel in Menlo Park. In front of him, a huge wall of windows is serving up a wide view of Silicon Valley—a brown, shrubby stretch clear out to the Santa Cruz Mountains. In these parts, Hoffman is a legend. Entrepreneurs see him as a champion of striving start-ups. In pitch meetings he is known for putting jittery founders at ease. One recalls Hoffman joking with him about their shared passion for Settlers of Catan—a board game wildly popular with the geek set. Once, on his personal website devoted to boosting entrepreneurs, he posted his original LinkedIn pitch deck, annotated with notes on what he got wrong in 2004 and how he would change his pitch now.

On this particular morning, Hoffman has a lot on his calendar. In addition to his role at Greylock, he has remained chairman at LinkedIn, and he’s about to fly to Korea to meet with Samsung to discuss the LinkedIn app for its phones. But before he leaves, Hoffman needs to lock down unfinished Greylock business. For the past three days, he has been chasing a startup that has been operating “in stealth mode”—that’s Silicon Valley–speak for not telling anyone what you are up to. But he got all the details over breakfast with one of the co-founders, and he is certain it’s something to jump on. Hoffman quickly convened a pitch meeting. That went well, but now he is pushing Greylock to move fast to figure out whether it should make an offer. In this world, the best startups don’t stay available for long. Two of Greylock’s rival venture firms had already lobbed in offers.

The competition among top VCs is fiercer than ever. Greylock’s top rivals—Sequoia, Accel, Benchmark, Andreesen Horowitz—vie with it on just about every big deal. Thanks in part to the colossal valuations of companies like Twitter and Facebook, investors are flooding the Valley with capital, and top venture firms have raised huge new funds. Andreesen Horowitz recently launched a $1.5 billion fund. Last fall, Greylock raised $1 billion; it now has $2.6 billion under management. There is so much capital available that top startups often get multiple offers—Sprig, for example, had three besides Greylock’s. So perhaps the question here is not how do VCs choose startups but, rather, how do entrepreneurs choose investors.

“I don’t know if you know my history with VCs, but it’s not entirely friendly,” says Ev Williams, co-founder of Twitter, whose backers famously ousted him. This winter, Williams went looking for investors for his new company, Medium. He had his pick of investors. Who wouldn’t fund the next Twitter? He didn’t really need the money, though—thanks to the Twitter IPO, he is worth more than $2 billion. This time, he was looking for something less tangible. “To me, character was one of the very most important things,” he says. Before deciding on his investors, he called around to other entrepreneurs to get reference checks on VCs. One call had particular impact. Williams spoke to Kevin Rose, a co-founder of Digg. Greylock had been one of its venture firms. Williams wanted to know one thing: How had David Sze—the partner who got Greylock in on the deal—treated the foundering CEO as his company was unraveling? That is, of course, when you see a VC’s real mettle—when he’s about to lose all his money. “The thing I heard, time after time, was David was always trying to do the right thing for the entrepreneur,” says Williams. “People don’t universally say that about all investors.”

In January, Williams announced that Greylock would be Medium’s lead investor. In the strange calculus and karma of Silicon Valley, if Medium comes anywhere close to Twitter’s success, Greylock’s investment in Digg still might pay off.

We All Need Good Poaching

“Hey Josh, when you were at Twitter is this how you guys used to do it?”

It is a bright spring morning in San Francisco, and Josh Elman, a young partner at Greylock, is sitting in a room full of product engineers, designers and managers at Nextdoor—a startup that aims to do for neighbors what LinkedIn did for job seekers. The wide-open loft space has huge windows. Covering one wall is an essay titled “Our Manifesto.” Coders click away at their computers—the dress code, flannel shirts or ironic T-shirts, Buddy Holly glasses. One guy has a Mohawk.

“Wait, I think it’s more helpful if we look at Facebook,” Elman clicks at his laptop. Dressed in an orange T-shirt with kittens printed across the front, jeans and sneakers Elman, 38, looks as if he could be one of the engineers or managers listening to him. And not so long ago he was. Elman used to be Twitter’s growth hacker—Silicon Valley-speak for the guy who gets people to use your site. Before that he launched Facebook Connect, and before that he was one of the first product managers at LinkedIn. There are few people in the world who know as much about building a social media platform. And today he’s here to show Nextdoor how he did it, so they can do it again.

Greylock has big hopes for Nextdoor. Greylock made a $15 million investment a little over a year ago, and since then the company has been moving fast. Nextdoor is part of a wave of second-generation social media platforms building on the foundations that Facebook and LinkedIn laid down. It aims to capture local markets—one of the hot sectors in consumer technology right now. Say your dog is lost, or you are having a tag sale; instead of posting fliers all over the neighborhood, you can post on Nextdoor. It has no revenues, nor any plan for how to generate them, but Nextdoor has enough cash to survive for years. Six months after its Greylock round, Nextdoor raised another $60 million from Kleiner Perkins Caufield & Byers and other investors.

Yet for all its promise and funding, it’s important to remember that nothing is ever certain in the startup world. There are always unexpected twists: In May, for instance, Nextdoor’s Tolia was charged with a felony hit-and-run. He allegedly made a lane change on the highway that caused another car to hit the median; the two vehicles did not collide. He is pleading not guilty.

For Nextdoor to succeed it must keep to its mission: growing fast. Right now, it has a huge team focusing on getting as many people to use the site as quickly as possible. At the moment, the company is in 35,000 neighborhoods across the country (it does not disclose total users). That’s a start, but to be a big player in social media, it will need a lot more. Facebook now has over a billion users a month.

“OK, so when I was doing this at Facebook, we put a lot of buttons here,” Elman points to his screen. “I’m looking now, and I see they’ve made it cleaner. I like it.”

Few VCs will go deep into the trenches the way Greylock does. Once the pomp of the pitch is over and the money is in the bank, the real hard work of building a company begins. And this is where Greylock gives its companies a huge edge. Because they used to be entrepreneurs too, the partners know what it takes to go from scrappy idea to real business. “What would you pay to have someone in the room who has had to deal with all the situations you are dealing with and has done that at two of the most successful Internet companies of all time?” asks Tolia. At one point, Nextdoor had a disastrous episode when it tried out a new feature on its site and its users hated it. Sze walked the team through a similar problem Facebook experienced when some of its new features riled users. Recently, when one of Nextdoor’s managers announced he was leaving, Sze helped persuade him to stay.

“When things aren’t going your way, you really appreciate their clout,” says Kelman. When he was looking for a chief financial officer, he was too small to get much attention from his recruiting firm. One of the Greylock partners called on his behalf, and a short time later, Redfin hired Chris Nielsen, the former CFO of Zappos.

Recruiting is a particular point of emphasis for Greylock. The competition for talent in Silicon Valley right now is brutal. There are not enough coders and engineers in the U.S. to meet the huge demand at tech companies. For startups, this is particularly tough because bigger tech companies can pay enormous salaries. One entrepreneur trying to poach an engineer from one big tech company was stunned to find out the guy was making over $1 million a year. Right now, there are 40 openings for top executives across Greylock’s portfolio and dozens more for engineers and coders.

To help its companies find top talent, Greylock has built an in-house recruiting team. In 2011 it hired Jeff Markowitz and Dan Portillo—two top tech recruiters with huge networks in the valley. They have been able to draw big names to Greylock’s startups. Some recent coups: Tom Reilly, who sold his company to Hewlett-Packard as CEO of Cloudera; Dan Clancy, a top Google engineer, as Nextdoor’s engineering chief; Brent Ayrey, vice president of product innovation at Netflix, to run innovation at Creative Live. To get midlevel engineers and designers, Greylock trains its entrepreneurs to recruit for themselves. One guide provides tips such as “the 100 rule”—the number of people you need to talk to in order to get 15 viable candidates.

Fly Against the Swarm

It’s late in the afternoon at Hatch Today, an incubator in San Francisco. Here are the front-line trenches of the startup world. Scattered across a cramped, crowded space are rows and rows of small tables. Clusters of people, young and old, squeeze around them, busily clicking away at their laptops. Some have planted banners—HashGo, WeblishPal, Swapdom—names of companies we might never know. No one seems to notice the quiet guy seated under a banner that reads Sprig—even though he is probably the most powerful person in the room. Simon Rothman, one of Greylock’s partners, has been here all day, helping Sprig figure out how to put the firm’s $10 million to work.

“This is a business that has pace, it’s moving fast. This is one of the rare cases like Uber or Lyft that resonates,” explains Rothman, who used to run eBay Motors. If all goes well, it won’t be long before Sprig leaves its incubator and sets up shop in its own digs. Here Greylock can help too. It has a real estate agent who helps its companies find space. But whether it will be Greylock’s next big win is the billion-dollar question.

“Everyone can tell you why something is going to fail,” says Sze. “The real trick is, can you create the conviction on why something might succeed?”