Summary: In this installment of the series “Zebras & Horses”, Lance defines the market environment and why it is important for founders to understand what it is.
It is widely acknowledged that investors will overlook some parameters of uncertainty in a startup depending on the market environment we are in. How do we define the market environment?
The aggregate of all Venture Capitalists, Private Equity fund managers, and angel investors’ appetite for risk/uncertainty, plus the trends, sectors, and focus areas that they are looking for, is the market environment.
This appetite for risk/uncertainty can be seen as either a personal preference or a business imperative which makes the market environment tricky to understand for new founders.
For example, a Venture Capitalist may overlook margins when investing in a software business.1 They also might allocate capital to a business that is pre-product or pre-revenue if they see a huge opportunity.2
This is a great example because, in software businesses, margins get better as the company scales. Even if margins aren't great in the early days, you can overlook uncertainty about gross profit in the name of pursuing a large market. In an episode of Greylock Partners’ podcast Greymatter, Reid Hoffman talked about how he argued with other board members of Airbnb about how the business didn’t need to calculate their operating margins.