Size markets using narratives, not numbers

Anyone who has pitched VCs knows they are obsessed with market size.  If you can’t make the case that you’re addressing a possible billion dollar market, you’ll have difficulty getting VCs to invest. (Smaller, venture-style investors like angels and seed funds also prioritize market size but are usually more flexible – they’ll often invest when the market is “only” ~$100M).  This is perfectly rational since VC returns tend to be driven by a few big hits in big markets.

For early-stage companies, you should never rely on quantitative analysis to estimate market size. Venture-style startups are bets on broad, secular trends. Good VCs understand this. Bad VCs don’t, and waste time on things like interviewing potential customers and building spreadsheets that estimate market size from the bottom-up.

The only way to understand and predict large new markets is through narratives. Some popular current narratives include: people are spending more and more time online and somehow brand advertisers will find a way to effectively influence them; social link sharing is becoming an increasingly significant source of website traffic and somehow will be monetized; mobile devices are becoming powerful enough to replace laptops for most tasks and will unleash a flood of new applications and business models.

As an entrepreneur, you shouldn’t raise VC unless you truly believe a narrative where your company is a billion dollar business. But deploying narratives is also an important tactic. VCs are financiers — quantitative analysis is their home turf. If you are arguing market size with a VC using a spreadsheet, you’ve already lost the debate.

21 thoughts on “Size markets using narratives, not numbers

  1. My practical side says $1e9 is looney tunes. My irrational greedy genius side laughs at only 9 zeroes, I can change the world!

    So at what point should a founder and startup evaluate market cap? I’m struggling (having fun) sampling the surface of social web information and network applications. Once I score the alpha of that first utility it’s still a pretty far reach to sell it as a $1e9 market. Some things are inherently hard to evaluate, like what’s the financial value of email? What’s the social value of email?

  2. Nor a bet on a specific revenue model or when that revenue starts.

    Of course most VCs will still require the spreadsheet, if nothing else because the partners will require it of them, but as Nivi says the Market Trends Narrative is a good way to suss out how much the investor believes in your team and vision. This will be critical down the road when the going gets tough.

  3. AS the folks from 37Signals say in their book “Rework” these spreadsheets should be just labeled guesses. Once you accept that – then all you are left with is the narrative.

    I get you completely there.

    Can you reply with your narrative for Hunch?

    I don’t ask this to question you in any way – I’m just interested to hear how someone who has been successful at this stuff looks at their own business.

  4. well first I’d say you don’t have to raise VC or any outside money at all. that gives you the flexibility to go for smaller markets and still have a big success.

    I would say you really need to evaluate the market size when & if you are raising outside money.

  5. Sure, the core thesis of Hunch is that by taking what companies like Firefly did and Netlix/Amazon did with recommendations but radically increasing & widening the input data we can eventually get to know users much better and make great predictions/recommendations for them. This can have a big impact on lots of billion dollar markets including search, ecommerce, social networking etc.

  6. Excellent advice, Chris. Timely for me as I’m in meetings lately, sitting across the table from investors who can and cannot see the larger trends.

    I think it’s easy for entrepreneurs to get caught up in presenting numbers (“that’s what VC’s want to see, right?”), as you get caught up in sales mode and want to have all the answers.

    Like you say, you’re better off with a compelling story and the team to execute.

  7. Are you saying that VC’s shouldn’t contact potential customers as part of their overall diligence? Or just not as part of their market sizing?

    I would agree regarding market sizing – the bottoms up approach never works. However, I’ve found contacting potential customers is a great way to validate or contradict the qualitative narrative that both the entrepreneur and myself might share.

  8. Terrific point. Takes great courage for entrepreneurs to speak in narratives, but is absolutely right. Lost in the explosion of Venture activity is the pursuit of enormous markets. One of the concerns I have with the new crop of entrepreneurs (and I have few concerns in general) is that they still haven’t learned enough about venture economics and how important it is to have huge returns for just a few companies.

    BTW, I’ve always understood that the movie industry was a $100bn industry and that consumption patterns were changing, piracy was a growing concern, and globalization was having a greater and greater impact. However, it has not been easy for me to always understand how I could tell a a billion dollar story. I think that’s also important.

    Market size is critical. So is potential revenue size. See Ken Auletta’s Googled where Larry Page predicted $10bn in revenue when they had barely begun.

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