VC Fundamentals: Consumer Investing Master Class with Sarah Tavel, General Partner at Benchmark
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Welcome, Limited Partners. We have an awesome, awesome episode today on consumer investing. No intro at all. We are going to dive right into it. So we've got a very special guest with us today. Our guest is Sarah Tavel. She's a general partner at Benchmark, focused on investing in consumer businesses with a particular focus on marketplaces and social, software as a service, and the future of work, which makes her a perfect guest for today's deep dive on consumer investing. Sarah Tavel

Sarah was previously a general partner at Greylock and was one of the first 30 employees at Pinterest. There, she was the product lead for search, recommendations, machine vision, pin quality, and launched the product internationally. As we mentioned in our Pinterest episode on the main show, Sarah discovered Pinterest while she was an investor at Bessemer, co-led the Series A, and then in a very unusual move from what most venture capitalists would ever do, she actually went and joined the company. Sarah was also a general partner at Greylock and was one of the first 30 employees at Pinterest.

So we're going to dig into some of that. And one other fun fact about Sarah, while she was in college at Harvard, she was the captain of the women's rugby team, as many of you know from her Twitter avatar. So Sarah, welcome to the show.

Thanks, you guys. It's so fun to be here. That's the ultimate conviction investing. It's my new threat when I meet with a founder is, you know, if I like it too much, not only will I invest, but I'll ask to join. But, you know, so far... Do you ever have a founder, like, accuse you of not loving them enough that you haven't, you know, quit Benchmark and gone to join them? Thankfully, not yet. Yeah.

It was one of those things that you can never predict where the journey goes and so grateful for it. I bet. Well, as longtime LPs know, we had Sarah's partner Chathan from Benchmark on the show to talk about early stage enterprise investing. So it seemed only right to have her on for the flip side of consumer here. So the way that this is going to be sort of architected as we move through the show, we're going to start with a broad overview of consumer investing in general, the what is it, what

How would you go about, you know, identifying opportunities and classifying them? And why, you know, what sort of returns can you get from investing in consumer versus enterprise? And then we'll dive into a few specific sub segments, especially marketplaces where Sarah has recently published some fantastic writing that is linked from the show notes.

Let's dive into it. So Sarah, why is investing in consumer-facing companies interesting as a venture investor looking for returns for your LPs? There are two big things that come to mind for me with consumer, and kind of really just two dynamics. The first is just the size of the market. The whole idea of consumer is that all consumers are potential customers. When you think about

building massive companies that reach tremendous scale. There's really no bigger scale than you can ask for than consumers in terms of spend, the time. It has the potential of you can unlock an opportunity that is universal. You have the opportunity to build something really, really big. Then

The second thing is that a lot of consumer companies, at least the ones that we focus on, have a dynamic that leads to win or take most outcomes. And that's largely thanks to network effects. So

the Facebooks of this world, or more economies of scale. So you can think of Amazon as an example. And so you bring those two attributes together where you have a company that has a massive market to go after and can escape competition. And that just leads to the type of asymmetric outcomes that drive big returns in venture. And that's why we focus on those types of opportunities.

Digging a little deeper there. So enormous markets that have winner take all or winner take most possibilities. There's higher upside. Is there higher risk? Like, do you think about this as a category that's sort of higher beta than enterprise investing? You know, there's higher risk for a couple reasons.

One is that there's something that's more about taste or there's this we kind of talk about capturing lightning in a bottle in consumer where it's so hard to know where a hit, as they call it, might come from where.

where you never could have looked at a market sizing diagram or a Gartner report and then deduced from that that there should be a social network that starts with colleges and spreads from there. You never would have thought a company like Cameo, there's rarely a top-down or bottoms-up analysis that leads to an insight that creates an experience which captures something and leads to tremendous consumer growth.

And so that's just like capturing lightning in the bottle. And then there's so much to there's it's so hard to go from there and then actually reach escape velocity, unlock a monetization model. There's so many more steps or hurdles that there's a much higher rate of companies being started going after consumer opportunities now.

iterating, iterating, iterating, and never quite unlocking or capturing that lightning in a bottle. Whereas on the B2B side, Chetan, Eric, and Peter on the benchmark team, they sometimes joke that they're coal diggers where it's much clearer oftentimes where you're digging. And there's a

much higher... You're looking for diamonds, they're looking for the coal byproducts. That's a great way of, yes, exactly. And so you're, you know, there's a much higher recipe for success of in B2B of find a great founder who really knows his space and has, you know, is able to kind of get that go-to-market motion going and start to build equity value. Whereas on the consumer side, there's no recipe for success. You know, we've done...

what been like a hundred acquired episodes now. And I think most of the enterprise companies like are the initial business plan or like some version of the initial business plan. Most of the consumer companies are wild pivots, you know, uh, Pinterest being a great example, right? Like Ben initially wanted to digitize, uh, like the LL Bean catalogs, right? Yeah, no, that's exactly right. It was a tote. Yeah, that's right. That's right. Yeah.

Yeah, and so you're right. And I think that's part of it is that there's always, I mean, sometimes in the very rare occasions you have a Facebook or an Instagram. Well, actually, I shouldn't even say that because Instagram itself was a pivot. Also a major pivot. You're absolutely right. What happens, and this is, I think the best consumer founders are really heat-seeking missiles. They launch something, but they have to...

Just dig and dig and dig and dig back to using our diamond metaphor to find that insight that they can distill into something that leads to something more. So Tote, as an example, with Pinterest, I remember I met the Pinterest team when they were building Tote.

As you said, it was a, they were trying to take the offline paper catalog and bring it online into the iPhone because it was this beautiful device and it felt like there was something missing. But it wasn't, it wasn't a viral product. And it, but what they found, what they realized was that people were using it to share products because there was no other way to do that. And

And that was like, you know, one of those insights were like, there's something here. How do we explore that? And the best consumer founders just keep on doing that. And that that's how they have a chance of unlocking something. But it's no it's I mean, as we talked about, there's so many more examples of not getting there than getting there. Yeah. Well, let's stick on the the venture investing side for a moment here.

In these opportunities where you're looking for diamonds and you really need to find founders who are just refining and refining and refining that core insight, should you build a whole portfolio of consumer investments? And how do you think about that at Benchmark?

So that's where what stage of investing you're in changes your strategy. For us at Benchmark, we have no leverage in our system. There's no principals. There's no talent partners. We don't delegate any part of our job. We think that our core job is to be the best board member we can be to the companies that we partner with. And so it means that each board seat we take is a very big commitment.

And so we have to wait until there's a little bit more evidence that there is something happening. And for us, it's all about identifying what that moment is. Whereas if you're at the seed stage, you have to accept.

that you're going to be getting involved during a time when there's a lot more risk to the company, that there's a much higher likelihood that the company is not going to get to that lightning in a bottle moment than there is that they will. And so you have to accept that there's going to be a portfolio that you build and hope that if you're hunting in the right places or with the right founders, that you'll get one of those companies that does work.

So, yeah, it's so interesting, as you mentioned, risk, given the moment at which you guys invest in consumer, which is after something is already figured out, you know, unlike at the seed stage, things could go vastly wildly.

but you generally don't take product market fit risk. Does that feel like a... On the consumer side. On the B2B side, we're often as early as you can get. I would say actually about a third of the companies we invest in on the B2B side are the first check. It's a slide deck. There's nothing. But on the consumer side, it just...

The moments, as we talked about before, the moments of de-risking are different. And so we have a different entry point basically for when we get involved. Which makes total sense. So as you think about risk within the overall portfolio, given you're investing at this later point in consumer, do you think there's a similar amount of existential risk as when you invest on enterprise at the earlier stage? Or is it still different? Is it still more, you know, Grand Slam versus strikeout driven? Yeah.

as much as what I've said is true, there are more guidelines and not rules. And when I think about, you know, I lend investments, not announce, I have a practice of not announcing my investments, that it was super, super early stage consumer company. I mean, I think it had

a few thousand MAUs, just to give you a sense. So that company has as much risk as you could ask for. It's basically starting from the beginning. And then when I think about two of our current biggest consumer hits,

Nextdoor and Discord, both of them were actually pivots. - Pivots. - Yeah, and so we invested in a company that, in Discord's case, was actually a gaming company, in Nextdoor's case was a fan, like a sports fan company that didn't end up succeeding, and from the ashes of that initial idea,

found something new that ended up unlocking a new opportunity. And so the irony, of course, is that those were, you know, pre-launch consumer investments ended up working. And so there's, you know, so I hesitate to answer your question because the truth is, is that there's more, there's emotion that we're comfortable with, but we end up actually going a lot earlier than even I articulated. Yeah.

That's a great transition and sort of begs the natural question. And I keep going back to this diamond mining metaphor because I just think it's perfect.

when these consumer businesses are are in the business of finding something that isn't in any sort of research report and then You know 10 to 20 years later. It's one of the biggest Total addressable markets there is how do you evaluate that in a venture capital context? When the the classic notion is we invest in big markets and big total addressable markets. Oh, there's so much to unpack there. Um, I

You know, one of the hard things of unpacking that is that

Whether a company, you know, consumer is this big umbrella. Like there's so many different types of consumer companies, right? And so if we're talking about a marketplace, I'd have a different answer for you. If we're talking about a social product, I'd have a different answer for you. If we're talking about a gaming company, I'd have a different answer for you. The thing that I focus the most on, and I don't think this is actually unique to me, I think this is something that is consistent across all the partners at Benchmark, is

being, you know, just very focused on understanding, kind of deducing from first principles almost what makes, what at the earliest, earliest stages can you see in a founder, in the product they've built, in the market that they're going after that maximizes the chances that that company, that founding team will be able to go to the distance.

And it's funny because a lot of the lessons that we take from that thinking are actually contrarian to what a lot of people think about in venture. And so as an example, you talked about big market. Most VCs you talk to, most kind of people think that you have to go after a big market. And founders will come in and they'll have their market sizing slide.

And it'll show these big $100 billion market numbers. And when I see that, my eyes completely glaze over because I'd much, much rather, you know, for a marketplace in particular, but I think this transcends marketplaces, I'd much rather someone have a core insight into a small market. I kind of, I describe it as like the thimble marketplace.

of a market and have adjacencies, have the ability to expand beyond that than to be going after a big market from the beginning. I just think if we kind of loop back to

That idea, the premise that we started this conversation with, which is driving towards winner-take-most markets, if you're going after a huge market, it's just going to be, you're boiling the ocean. And so the only way to have a chance to do that is to start with something very small. But that's contrarian. That's not what you'll hear from 9 out of 10 VCs, I'd assume.

I think I've heard your former partner Bill talk about this with regard to Yelp as having done this really well in the beginning of like, there was a competitor out there or maybe multiple competitors that were like, throwing up review sites for everything in every city, but there was nothing going on on them. There was no no, it wasn't alive. And

And then the Yelp team went to nightclubs in San Francisco, like the actual team, and then they all left reviews. And they made sure that only for this super narrow, super small market, there was something going on. And then it bled out from there. Yeah, you nailed it. I wrote a blog post recently about this hierarchy of marketplace, which I know we'll get into. And in it, I talk about GMV being a vanity metric. And

And what I mean by that, you know, vanity metrics, why are they bad? They're bad for two reasons. One is that they don't actually tell you if you're on the right track. They kind of feel good, but they're not really telling you whether you're building enduring value. And then they're bad when you then try to optimize for that. If you think about

the vanity metric as the scoreboard and you're just trying to make those points go up, you're going to be led in a very, you know, in the wrong direction. And to your point, like one of the things that you see a lot of people do is if you want to drive GMV quickly, and if you want to, you think that you have to hit a million dollars of annualized GMV to raise your series A, then the easiest way to do that is to go after a really big market.

Or to use your example, to launch your market, your company in 20 different cities at the same time, because the marginal cost to acquire your first users, usually it's going to be pretty low. And so you can just grow

and aggregate GMV across a bunch of different cities or a bunch of different categories or in a really big city. But the challenge is that even though that feels good in the beginning and it might make that curve go up and to the right, it's actually going to make your job so much harder to get to that winner-take-most scenario that we described. And so it's really, really dangerous.

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So we're going to skip right ahead to your Marketplace's set of blog posts right now. So Sarah, before you joined and after you joined, I mean, in its current heyday, one of the best Marketplace investors of all time, including sort of eBay in the dot-com days, Uber recently, Tinder, Grubhub, Upwork. You've personally led investments in Hipcamp and Sonder. And I think Hipcamp fits that description perfectly of small...

passionate market that doesn't look like a big market, but there's actually a big shadow market, particularly right now when we're looking to travel in this coronavirus era. And it turns out camping actually feels like a much better alternative. But anyway, coming back to this,

Let's talk about this level one that you were first proposing in this three levels of your marketplace hierarchy. And this is for people picturing the food pyramid. This is the bottom. These are the carbs. So in your post, you say, much like MAUs is a vanity metric for consumer social companies, I believe GMV, which for folks who aren't starting marketplace businesses, that's gross merchandise volume, total top line or total amount of transactions is a vanity metric.

What should founders pay attention to, if not GMV, if that's the vanity? What I talk about in the post and what I think about is I call it happiness. And my point is, you know, GMV, it's not to say that it's not a useful measure.

But it's not the thing that you want to drive towards. If you're just driving towards maximizing GMV, you're going to end up with the scenarios that we described earlier where you're getting big numbers, but you're not actually creating any enduring value. And instead, what you want to do is focus on creating what I think of as happiness.

And, you know, happiness, it's a funny word to use. It's one that I actually hesitated a lot on. I was thinking liquidity or value. But happiness to me is something that incorporates the holistic experience that you create for your buyers and your sellers. It's almost the delta experience.

in a way of kind of the value you create and the value you capture from your marketplace. And so you're creating this experience that's just delightful. You're creating something that's just so much easier to use than anybody else has, than any other substitute.

It's super easy to find. You come on and there's more selection. It's easier to find the match. The quality of the match is actually strong, like very, very strong. If there's a problem with the match, it's taken care of. There's no friction. There's so many things that come into place when you think about really successful teams

marketplaces or successful experiences that have disrupted incumbents that were a lot bigger. Look at taxis. Taxis were huge before Uber. And there's this graph that I found on New York City, where I'm from New York City. And man, New York City feels like the taxi capital of the United States. And as a New Yorker, I'll admit when Uber first started, I was like, pfft.

That sounds good for San Francisco, but it's never going to work in New York City. And yet it came to New York. I think it actually didn't work well in New York City to start. It was only later. But it's shocking how quickly it eclipsed.

taxis in New York City. And it's because the experience, you know, is just so, the friction they've removed, the experience of having the car come to you, no friction with the payments, you know, you're going to have a good driver. And when they got to enough scale, it was cheaper than a taxi. And so you kind of bring all those things together. And it doesn't matter how big the incumbent is or what scale it is. It matters how happy you make the consumer.

Really, it usually comes down to the buy side. And that's what disrupts. And so that's what I think founders have to focus on level one.

It makes me think of, ironically, an enterprise company too, and Zoom. Delivering happiness is Zoom's whole, of course, stolen from Zappos, but Zoom and Eric's whole ethos. And it's so true there too, right? Huge market, but super saturated, WebEx, Google Meet, all the like, why would... And there were all these other startups. Why would another video conferencing startup succeed? But yeah, it was because they actually just delivered a much better experience. Yeah.

Yeah. And that's, you know, I think it's one of the lessons that's so important is that, especially when you're a startup, it can feel, when you're starting a company, it can feel like there's all these huge incumbents out there and how, you know, they have such scale. How could you possibly disrupt them? You're so right to point out the Zoom tagline. It's so about, if you can create

an experience that leapfrogs the incumbents in terms of how happy you make the user, you absolutely can disrupt. And so much about that is about focusing on something that's really, really small. You know, it's like if you try to make everybody happy, you'll make no one happy. And so you're really focusing. That's kind of like the

boil the thimble that we talked about earlier, you're really, really focusing on this kind of small constrained market, nailing that, and then going from strength and expanding, but you've got to start small.

All right. I have to ask the questions in the back of my mind. Like, I can think of lots of thimbles to boil. My mind is constantly drifting to like the most niche of niche markets to try and, you know, polish something for the very small set of people. How do I have any idea if that's going to be a thimble that eventually scales to an ocean? Yeah, I love the question. What I think about is, you know, I start actually from the brand and the mission that you're going after.

Amazon started with books. Uber started with Uber black cars. Airbnb, I mean, all these companies actually start off with these things that look small. But what drives them into bigger markets, even Etsy, gosh, Etsy, for the longest time,

Etsy, you know, you would have thought that Etsy was not going to be a big company. And I think people probably, you know, I use that mental model a lot when we made our investment in HipCamp. You know, people can think from the outside that it's a much, you know, that it's a small market until you start to really dig in and realize how much bigger the opportunity is. And it's because you want to start with something small.

that thimble, but you also want to make sure that it's not a dead end. And that actually, if you pull the thread on the need of the buyer, that's driving them towards your product, your marketplace, that if you keep on pulling that thread, you'll be able to unlock more and more repeat use cases.

that will let you unlock a bigger and bigger opportunity. And if pulling that thread, and sorry, I should say that you have to do that that's consistent with your brand. And I think we can, you know, Etsy got into trouble doing this because Etsy at one point, this is my own kind of inferring from timeline and news that I read. It felt to me like Etsy kind of in the run up to their IPO, started to

started to just chase GMV. They kind of forgot happiness and went after GMV. And they started to let a lot of, you know, sellers onto the platform that weren't creators, that weren't handcrafting the things that they sold, which was all about what Etsy's brand was about. And that diluted the experience. Even though it created more repeat usage and drove GMV, it actually degraded the brand that they were building. And really, they had, you know,

problems, you know, they hurt trust on the buyer and the seller side. So you want to be able to pull the thread, but you still have to be consistent with the brand that you're creating. And if you're able to do that, you can unlock bigger and bigger opportunity over time. So how do you square that with Etsy shouldn't have let non hyper creative, passionate indie creators onto the platform, but Uber was fine letting Uber X drivers come onto the platform?

Well, Uber, it was consistent with their brand. So what's Uber about? Uber is about, you know, this incredible experience, this frictionless experience of getting you from point A to point B. And so how they do that can change. But like now they have scooters, you know, now they let you see what the public transportation options are, but it's still...

Uber itself, it's still this idea of getting from point A to point B. They'd have a better way of putting it than I just did. Whereas Etsy was about, you know, it was always about the handcrafted experience. And so when they started to let this mass manufactured stuff in from China or Turkey, I remember fighting, you know, I was at Pinterest responsible for the discovery experience at the time. And I remember having battles with Etsy during this time because there was just this terrible crap happening.

that was being pinned to Pinterest. And I knew that it was not handcrafted. I knew it was like mass manufactured. And I was like, so I couldn't believe that Etsy was letting it onto the platform. But it's and so that was the experience. It was inconsistent with their brand. And that's that's the key. Got it.

All right, well, let's move on to level two. So I know level two is all about sort of this moment of tipping where you go from trying to figure out if you're on to something and paying exclusive attention to sort of the happiness or sort of heat and passion you're creating to, oh my gosh, it's working, we should scale.

How should founders think about that moment? How do you identify when that is, when you should change the type of activities your company is doing? You know, people talk about minimum viable product. What I think about for marketplaces, I call it minimum viable happiness.

And the idea is like, how do you know? I mean, we're talking about happiness, but man, like that is at one point I called it the hippie version of liquidity because like, what is, you know, how do you, how do you articulate, how do you measure happiness? It's, you know, it's must be frustrating for engineers to hear, hear that's the optimization function. Send out an NPS score. Oh, don't get me started with NPS. I'm happy to talk about NPS. I, I, um, I have a bone to pick with it, but you know, what I ended up

coming down to is retention. My friend Casey Winters, who I worked with at Pinterest and is now the chief product officer at Eventbrite and just a great marketplace thinker, he said something when I was talking to him about happiness. He said that he told his team that product market fit isn't when your users stop complaining, it's when they stop leaving.

And I think that is a great distillation of it, which is that the marketplaces I've seen that have succeeded have all reached two points, which is one,

They, the cohorts that they have a plateau. So you get to a point where, you know, you don't have to, you don't have to retain everybody like you never do with a marketplace, but you want to get to a point where you, where you get to some, some, some point where you're making enough of your users happy on either the buy side or the sell side that they retain.

That's number one. And then the second side, I actually think that a lot of the time you'll see one side that has actually net revenue retention or net usage retention that's above 100%.

So you have one side that has more than 100% net revenue retention, and you have another side that you do have plateauing. It may not be at 100% net revenue retention, but it works well enough that you can kind of see how the uneconomics will work for you to pay back your go-to-market motion and keep on putting more and more into growing. Yeah.

To just illustrate an example for that, like if Uber one month acquires a million riders and by, you know, six months in, it's plateaued where only half of those riders are still using the service. But each one is spending more than twice as much money on the service. Then it satisfies that that rule because you're the total revenue from that cohort has has stayed flat or increased.

And what's interesting is that for different verticals, you'll have different dynamics. So Uber is a great example where the net revenue retention that you're going to see above 100% is going to be on the demand side. And you're going to have, you know, you're going to have retention that plateaus on the supply side, the driver's side, but there's a lot more acquisition you have to do on the driver's side all the time.

On travel, on the other hand, like take Airbnb, Airbnb is actually going to have that net revenue retention occur on the supply side because the repeat usage for staying at an Airbnb is just not very high.

And it's not because of the nature of the, it's not because of Airbnb's product and losing those consumers to substitutes. It's because people just don't travel that often. And so you want to get as much share of wallet as possible, but you're still going to see cohorts that take a long time to show the evidence of repeat usage.

And so it's much more about on that side, you know, seeing some plateauing, but really it's about the net revenue retention you'll have on the supply side and having really scalable, ideally free sources on the demand side. Got it.

All right. So when should I give up? Like what if it's not plateauing? I've tried a few things. I mean, and when I say plateauing, my retention is never plateauing. So every month, every cohort continues to lose people and I never get that base that stick with me. When should I do minor pivots? When should I do major pivots? When should I throw in the towel?

Well, the throwing in the towel is something I can never tell someone to do. That is the founder journey. And I think it's classic, like it doesn't work until it works. But, you know, I think it's back to then finding when you're in that stage where you're not having your cohorts plateau, then you just have to keep on digging deeper and deeper and deeper to understand why.

Where are you making people most happy? I would always think about looking at a cross-section of all your cohorts and seeing is there a use case within our existing use case that actually has the strongest product market fit, the strongest retention? And then seeing if there's enough there that you can actually double down on that specific use case, that specific persona, and expand from there. You have to, if you are...

in a place where your cohorts aren't retaining and you've got what people describe as a leaky bucket, focusing on growth will just hide what's actually happening. And you've just got to keep on iterating to figure out that core insight that drives the retention. Makes sense. There is one thing, though, that I feel like we should talk about with tipping. Because tipping, you know, what does tipping mean? It's like one of those things that...

had always heard about, but never really thought through what's involved. And it's actually a big part of why I ended up focusing on this idea of happiness, which is, you know,

network effects, I find that they can be theoretical in the beginning where, you know, you kind of, you draw out your flywheel and you think, yeah, I can see this is a network effect. Like here's how my flywheel, if I get more supply than it drives a man, if I get, you know, like you can kind of see this. But in the beginning, when you're building a marketplace, you're having to do all these things that don't scale to try to get that flywheel to spin. Right.

But the moment of tipping, and if any of the listeners have experienced this, I've been lucky enough to experience it as a board member, just kind of seeing it happen, is this magical moment that only happens with businesses that have network effects, where all of a sudden something tips, where it's just you wake up one day and your job starts getting easier, not harder.

You know, where you start to see your cohorts get stronger. They're starting to tip. So take the Uber example of, you know, a driver who is using, you know, Uber Black, using it to do rides between their day job rides. And then all of a sudden they realize, wow, Uber Black is sending me so many rides that I actually don't need my old job. I can just drive Uber all the time. And so they tip.

And then there's this other tipping point that you get to where it's not just within your existing cohorts. You start to see new cohorts come to you more and more through organic channels. And why is that happening? It's happening because as your network effect starts to come alive, and what I mean by that

Is that you just reach this point where the network effect is driving the happiness that you're able to create for your buyers and your suppliers to a higher and higher level that all of a sudden you just become so much better than any substitute.

that it's a no brain, it becomes increasingly a no brainer for the buyers and sellers to come onto your platform. That's when you've kind of pushed the rock up the mountain and it starts to fall down the other side. That's that magic moment that you have to get to in level two. And it just comes back to,

focusing on happiness. And it's this funny thing, which is that as you focus on happiness, and as you drive your car, you start to create more and more happiness for the buy and the supply side, you actually start to have growth as a positive externality of going after happiness. Does that make sense?

Yeah, describe what you mean by externality there. It's a concept in economics where you're actually, you're going after something. You have another goal, in this case happiness. But as a second order effect of going after the happiness, you get growth. And the important thing is that if you are actually going after growth, you'll never get happiness.

You know, it's not, you just can't get that way. You can't get to happiness that way. But if you focus on happiness and you drive towards happiness, you'll get to this point where the growth starts coming without you even trying to do. I actually shouldn't say without you trying to make it happen because I get into some of the ways in which you have to, you know, use things like I call them tipping loops. So growth loops and happiness loops to get, you know, your product to grow. But then it accelerates on its own.

Yeah, that makes total sense. Like you've delighted people so much that for the set of people that your product solves a problem or performs a job for them, you're just the best out there. And so you're going to get all this inbound organic that, you know, you could never hope to have achieved if you had a GMV first mindset where you were just trying to launch and add stacks of revenue month over month without focusing on that product.

That's exactly it. And it's a great point, which is that when you're just chasing growth, it diffuses your focus. It doesn't tell you where to focus. But when you're actually focused, when you're thinking about growth as a means to increasing happiness, it focuses your efforts in the right ways towards going after the right type of growth.

This feels like the moment that a company would start really thinking about level three, which I'm going to paraphrase here. And it's going to be maybe too aggressive of a paraphrasing. But when you know you have an advantage, press it. Does that feel like encapsulation? Yeah, that's a good encapsulation. And I'll provide the why.

Which is, there's this company, Shipstead, that did this analysis. So Shipstead is this kind of Norwegian conglomerate. I believe they started off as a newspaper company and then they were smart enough to

to jump on the internet bandwagon by launching these online classified sites. And they have this incredible portfolio of online classifieds. It's very similar to NASPR. Yeah, like the NASPRs of Norway, right? Yes, exactly. And they did this analysis. Online classifieds, you can think of them as like the Craigslist or the OLXs of the world.

And they did this analysis where they looked across their portfolio of online classifieds and realized that how profitable one of their online classified sites was, was a function of how much bigger that site was relative to the number two in its particular market.

it's kind of back to that winner take most idea, which is that the bigger you are relative to the number two, the more value you're able to create and therefore capture. And so to your point, Ben, when if you have that opportunity, and you're something's tipping, you're you're ahead of your competition, then you've just got to double down on that and and

push and push and push. And it's not enough to be number one. You have to be number one by a mile in order to really create the value that we all look for in these companies. And so does that manifest in, you know, if you have way more supply and way more demand,

as a function of creating the most delightful experience, then you can do things like raise your take rate as the marketplace. Yes, that's true. But the bigger thing ends up being on the acquisition side and the retention side. So it's much more about once you reach that point where you're number one by a long shot, then...

You don't have to compete to acquire the buyers because they're coming to you. You don't have to compete to acquire the suppliers because they're coming to you. And what happened, you know, Bill has a great story of seeing this with OpenTable where his OpenTable penetrated a city, you know, and got, you know, more and more of the restaurants in OpenTable. What they saw is that as a supply penetration went up, buyer engagement went up too. So it went from being, let's call it,

one, I'm totally making up these numbers, one reservation per user per month to that number actually going up and up and up as OpenTable penetrated the market. And so it's this dynamic where as you increase penetration, you actually create more value for your demand side. You see more engagement, more transactions, more retention on the demand side, which then has that positive effect on the supply side too. I see. And so even without doing something like raising a take rate

by being bigger and having more liquidity flowing through the marketplace, you have a better cost structure than your competitors because your acquisition is cheaper, your customers retain longer. They perhaps, to the point you just made, make more transactions on your marketplace. So even if you don't decide to capture more, you just have a better cost structure. Exactly. Maybe as simplified as possible, your LTV goes up while your CAC goes down.

That's probably the best way that I've heard that put ever. Or the most acute boiling down to a single way to think about it. Yeah. That's awesome.

Okay, well, this is a phenomenal way to sort of think about marketplaces structurally. There's a blog post that, you know, we've mentioned your partner Bill Gurley a few times here that Bill wrote that's sort of the 10 commandments of how to evaluate a marketplace opportunity. Have you found yourself using that? I know David and I have used it in the past, specifically the dog vacay example, which is so funny given sort of our rover connection. What is still sort of relevant from that? And do you still use it?

And one of the threads that I hope people hear through this conversation is that

The frameworks that the Ten Commandments, the two hierarchy posts that I've published, you know, even Chetan's tweets dissecting all the S1s and 10Ks. They're legendary. They're legendary. I call them the putacuntas. The idea is distilling the timeless elements that make in these enduring iconic companies. And they really are timeless. It's a little bit like trying to understand the physics behind

of something and what people will build with those physics will change, you know, the bridges, the buildings, but the physics don't change. And so I suspect that Bill's 10 commandments will be around for decades, and people will still be able to refer to them in the same way that I hope my hierarchy posts will stand up. And I think Chathan's tweets and

and the other conversations we have internally do in terms of founders and building teams and organizations.

Well, Sarah, you do a lot more than just marketplace investing. And so we're going to do a little bit of a lightning round here on a question or two from lots of other consumer investing categories you do, starting with social. You've written sort of your previous tome about a hierarchy of investing from your hierarchy of engagement post about social. My biggest question for you is,

Why is social sort of the holy grail of consumer investing? Why is it that that's created some, if not the best returns of all time for startup investors?

I think it comes back to the two principles that I mentioned before, which is consumer social is a unifying theme that can unite all consumers. It's free, so that's even more so the case. Many consumer companies, you have to pay money for the products, and so that sometimes reduces the total universe of people you can go after. But social is free. And so you have a case where every single consumer

human that has a computer is a, is part of the addressable market. And you have network effects, which means that kind of just pull away and reach escape velocity. And maybe I'd add a third thing, which is that there's no cogs there. You know, you're not, it's, there's no operational complexity. You're, it's all about bits, um,

Zero marginal costs. Beautiful saying.

Yeah. Well, there's a concept you've blogged a lot about, which is participatory social. And, you know, when listeners out there think about network effects and social, of course, they're going to think first of Facebook. There are zero chance that somebody goes after Facebook and beats them by creating a network of your friends that have pictures and interests and, you know, launch and hope for the best. So participatory social is a bit of a flank on Facebook. What is that?

The insight that drove the post was when I think about Facebook, when I think about Instagram, when I think about a lot of other social, a lot of other experiences that we spend our time in, they were kind of created during a time where the dominant mode on these platforms was social.

what I kind of describe as 99% read, 1% write. And what I mean by that is mostly what people are doing is they're leaning back and they're reading someone else's content as opposed to actually engaging with that content, participating in the product.

And Facebook even did their own research and realized that people feel kind of crappy when they do that. They spend a lot of time looking at someone else's life and how much better it is. And are people kind of presenting a part of their lives? And just by consuming someone else's content, it doesn't create a sense of belonging. It doesn't create that

that sense of connection in the way that when you actually participate, when you do the right side, you know, commenting, messaging, liking, you know, whatever, whatever those actions may be,

That's when you create an experience that's really, that feels good and is good, you know, creates that sense of belonging. And so, you know, Facebook has done a lot to try to move the slider from 99% read to 96% to 93% by, you know, adding commenting or the reactions and all those things. But

it's still fundamentally an experience where it's more about read than write. And so, and when I think about things like Fortnite or Discord, or, you know, there's so many examples of that. What you see are experiences that are more about participation, more about the leaning in of the consumer to engage with some other people, to create that sense of belonging. I feel like that's the flank that is vulnerable for Facebook.

And I think gaming is the place where we're seeing it most best exploited. And that's incredibly interesting to me. Yeah, that's a great transition to a question that I had on gaming, where, you know, in the work that I do every day at Pioneer Square Labs, we're looking to solve problems. We start businesses that solve problems.

And gaming can be a multi-billion dollar business that doesn't seem to solve a problem other than being more entertaining than that other thing you could have done with your time. And so how do you think about like whether a game is going to tip or whether, you know, how do you invest in games at all? There's two things to unpack there. One, I just want to say something, which is it doesn't solve a problem, but it solves a need. Yeah.

And what are the human needs we have? We all want to, we want autonomy. We want to be able to really become the best at something. You know, we're all vulnerable to the seven deadly sins, you know, we like to, you know, be lazy and stay home and, you know, instead of having to go and work out like that's, you know, so there's this vulnerability that we all have as humans,

that I think gaming really plays to, especially for young kids. I mean, if you think about it, with helicopter parenting, you know, you've got a situation where kids don't have a lot of autonomy. They don't feel like they can do, you know, stuff in the real world, especially right now, gosh, with children in place. And so gaming is this outlet, this place where you can go to that lets you fulfill that core human need.

More so than many other things. And so then the question is, well, how do you invest in those companies? And that is incredibly difficult. My partner, Mitch, I'd say is the best at them, at doing that without question. Possibly in the world. I mean, being an early investor in Riot, which makes League of Legends.

Yes. And he gets it wrong a lot. I mean, it's just, it's really, really difficult. One thing that I think is interesting, or one thing that I, you know, a hypothesis I have is that part of it is that games are, you know, have just been this art. It has been this capturing lightning in a bottle for a long time. And it's been, you know, I think people who, there's more of an aesthetic aspect

But I believe that the next generation of games are going to have more social DNA to them. Thus far, the social world and the gaming world have been very separate. They've been separate cultures. They've been separate cities. They've just been very separate. But I think that over time, we're seeing this, of course, with Minecraft and Fortnite, that

and Roblox, that those cultures, those ways of building are converging. And it may end up being that a lot of the things that we've learned to look for in social are going to start being more and more useful in evaluating the games, the gaming world and gaming startups. And that's what I get excited about. Yeah, it almost feels to me, at least like there've been these two kind of open secrets in the gaming world for a long time. One being that

Gaming is at least as good, if not probably much better a business than Hollywood. Like if you think about like, what is the need gaming is solving? Like what is the job it's doing? It's entertainment. And it, these are,

that have such a longer life, a longer entertainment span for consumers, a better monetization model than the old, you know. More network effects. Yeah, more network effects than like making a flat piece of content. And then two, yeah, seriously, yeah, like the, I was watching this amazing little documentary on YouTube of the making of NBA Jam. Do you guys remember that? That game from back in the 90s? Of course you were.

I don't know it. It's a, it was like an arcade. It was, it was started as an arcade game, like in the arcades, like a, like a cabinet. It was a two on two basketball game. It was one of the first really big basketball games. They made a billion dollars in the arcades on NBA jam because people played it together. Like you were there with your friends, you were competing against one another. And that like just drove people.

so much of the usage and ultimately monetization of this game. They made a billion. This was like 1996 or something. Yeah. Yeah. No, it's such a great point. It reminds me like there was a while, I don't know how many years ago, Reed Hastings said that the biggest competition for Netflix is sleep.

that's not true anymore. The competition for Netflix is gaming. There's something sad almost about someone staying home the entire weekend and watching a series on TV, or on Netflix, I should say, because there's something, it's more isolated. It's not social. And then you think about

people spending hours on League of Legends or Fortnite or Roblox or Minecraft, there's something that's so much more social about that. And the amount of time, the blocks of time that it takes to play Fortnite, it's 20, 25 minutes to go through the whole battle, which is what it would take to watch... I wish it took me that long to make it through a game of Fortnite. It's... 60 seconds for Ben. Yeah.

And so that's like, you know, competing against the zero sum game, which is how much time people have in their day. And I think that the gravitational pull is going to be increasingly on the gaming side. Yeah.

Okay, a couple other categories I want to cover. I mentioned in your bio you invest in consumer SaaS, which consumers don't pay for things, Sarah, especially not software. And so what do you mean consumer SaaS? Oh, well, what I actually meant is I invest in SaaS. There's a parentheses there, or sorry, a comma, a comma. But look, you know, I think with consumer SaaS, we're talking about subscription, consumer subscriptions, like the comms of the world.

Netflix, as we talked about. It's an opportunity, but it's not one that I am going after by itself. It's more a means of monetization. You wouldn't have thought that Discord would be a consumer subscription app, but that's how they're monetizing now. It's a mechanism for

monetizing and but it's it's something that lies on top of the actual thing that you're building to sort of bifurcate let's let's take three buckets here and the first bucket we'll put aside for a moment which is consumers paying for their own Dropbox subscription or something like that so then there's these two elements and let's let's name them discord and calm discord being it's an application that you use that has some form of subscription for a pro tier and then calm being paying for content it's a really rich Netflix effectively

Yeah. Which of those latter two categories are more interesting to you? I mean, certainly like Discord, it's hard. It's hard to argue with. Right. I mean, what what is incredible about Discord, if we compare Calm versus Discord, like the retention curves for Discord are, you know, it's a messaging app. People use it, you know, for hours a day.

It's one of those persistent experiences where once you have a group of friends on it, you're on it for life. Because the other thing with Discord is that there's a network effect to the business, right?

There may be other messaging apps that emerge, but Discord's dominance in gaming, in the gaming vertical, and now increasingly other verticals, is one of those winner-take-most scenarios. Whereas what happens with Calm is that for a while, Calm was the leader.

For a while, Headspace was the leader, and then Calm was the leader. And now there's dozens and dozens of other companies that are going after the same opportunity because they don't have a network effect. What they try to do is create some economies of scale and then be the best at paying to acquire users and then converting those users in a way that maximizes LTV. But you always end up having a huge amount of churn because people stop paying for things

And there's always going to be cheaper competitors or you're going to be dividing and conquering the market into smaller and smaller consumer segments. And so I find those companies, companies where what they're trying to build their value around is the brand that they're creating. And there's kind of diminishing marginal returns of additional content, which is what happens with these companies. I find those challenging. Yeah.

Have you guys spent much time looking at companies in the podcasting space? A little bit. I've been not particularly excited about podcasting opportunities. I've evolved that view, but tell me, what are you thinking about? Oh, I just think that there's a lot of intersection of all of these themes in podcasting where a lot of...

podcast businesses until now have looked like calm type businesses. I get nothing wrong with that, but like fairly flat. But one of the beautiful things about podcasting is, is the communities that can build up around them. And I feel like people are starting to figure this out. And I think we're going to see a lot more media companies with communities attached to them be built in the podcasting space and maybe their platforms around that. Yeah. And I think it's, it's a great insight that, you know,

I think it's a great point and it's something, you know, it reminds me, there's been a number of companies that have tried

you know that have been mostly about brands um until recently you know and part of what is hard for podcasting is that it's dependent on the rss protocol which means that your distribution is is distributed you don't actually have a mechanism to really get create that community get get feedback from the people who listen you don't get a lot of data back like i'm sure you guys live with this all the time you don't get a lot of data back on what works and what doesn't and so

it's been harder to build that enduring value and to really own your customer, which is a big part of creating enduring value. But what you said is happening more and more. And certainly Spotify seems to be jumping on this. I do think there's going to be a lot more value that gets created. Love it.

Well, Sarah, as we drift toward a close here, I have two sort of wrap-up questions, and I'll ask them both at the same time in case you want to weave them together. The first is, we're sitting here recording on June 23rd, 2020. Do you think about consumer investing any differently than you did in January of this year? And if so, how? And then, you know, what new opportunities are available to consumer startups today that may not have been available then?

I wrote a blog. Of course you did. I hate that. You know, and I

You know, and it's because, you know, sometimes like you have to write, I write to help me synthesize and process. And, you know, it's such an interesting time in consumer. And it's interesting because, you know, the blog post I wrote, I called it a rocks, sand and water way of thinking about consumer opportunities. And what I mean by rocks, sand and water is kind of imagine a

a cup, a jar, and that's your 24 hours of the day. And you fill that cup, that jar with rocks, which are modes of time where it's kind of a block, a big block of time. You know, you're doing a call, you're doing a podcast, you're commuting, you're going out to a restaurant with friends, you're on Fortnite for half an hour, you're watching Netflix, whatever it may be. Those are big blocks of time.

And then you also fill gaps of your day with the sand activities. So, uh, checking Twitter, checking Instagram, uh, writing a SMS to one of your friends, you know, those types of things. And then watching a Quibi video. Exactly. Watching a Quibi video. Um,

And then you have what I call water, which are things that actually overlay. So you can in water, I think of as mostly audio. You can imagine it becomes AR eventually, but you can be working out. So a rock, because it's something where you have to devote a big block of time, but you can also listen to something while you're doing it. And so I provide that framework because what's

happened right now in June that's different than what was true in January of this year is that a big section of rocks have been obliterated. And what I mean by that is the offline rocks, the things of going out with friends, of going to a concert, of driving to work, of all those types of things you can't do anymore.

And because you can't do it suddenly, the cup that used to be filled with a certain mixture of those rocks, sand and water activities I described have this, you know,

Yeah.

in these consumer companies and the startups too, because it's easier now than it's been since the birth of the iPhone to find new consumer minutes. But then the challenge as a founder and then as an investor is to know, well, what happens once the inevitable happens, which, you know, let's all pray happens sooner rather than later, which is that we get a vaccine and we're able to hang out and hug our friends again.

And then all of a sudden, the competition for those rock slots or even, you know, anything becomes increases again, you know, and it's, it's actually interesting to think about happiness. It's a framework that can overlay on this framework, which is, you're going to be competing against things that weren't available. And suddenly, so the, you know, happiness is a relative concept.

And so how do you survive? What are the consumer companies that are going to thrive after shelter in place instead of just survive? And that's such a hard, hard thing to think about. I find myself sometimes meeting with consumer companies and thinking to myself, gosh, if shelter in place lasted for two years, the answer is yes, absolutely invests.

And if it was over tomorrow, then it would be no. That's so hard for the founders. And it's so hard as an investor because there's this thing that's so outside of your control

And kind of the advice that I give founders who are doing this is you've just got to – this is a window that's open for you. And you've got to try to reach that tipping point as quickly as you can because this window will close. This is not something any of us could have predicted, but you've got to take advantage of it while it's open. Yeah. Yeah.

It's a period of dislocation. So the big rocks, many of them have been dislocated. We don't know for how long. There are opportunities there. The big rocks are starting to shift back into place. And it's so many unknowns about what the rocks and sand and water will look like in that cup. That's exactly it. When it does settle. Well, Sarah, you're an unbelievable frameworks thinker, an incredible consumer investor. Thank you for spending the time with us. Thank you. Where can people reach out to you?

My DMs are open. Awesome. We'll put your Twitter handle in the show notes here. Please. Awesome. All right. Thanks so much. Thanks so much, you guys. Thanks, Sarah.