David Gardner (Cofounders Capital): We have a joke that if we don’t understand something in the first 2 minutes, we won’t invest.
30 Jul, 2021
Tom Kelly is Partner at IDEO and Founder and Chairman at Design for Ventures (D4V). He joined IDEO in 1987. He is also is the best-selling author of Creative Confidence, The Art of Innovation, and The Ten Faces of Innovation. He is also Executive Fellow at the Haas School of Business at UC Berkeley and holds a similar role at the University of Tokyo.
I’ve worked around venture capital almost my whole career – I live and work in Silicon Valley all my entire adult life. In the IDEO, we’re always working with startups that were venture-funded, that’s how I got to know some of the VC firms over the years. And it’s always looked like an interesting part of the equation that makes startups successful. When I started going to Japan I discovered that entrepreneurship is not as widespread in Japan as in the USA. There are metrics of entrepreneurship where Japan is not performing as well as some other countries. I was going to Japan every month for 5 years. About a year into my trips I met this remarkable guy named Makoto Takano, we call him Mak. He is from the financial services community, he runs a multi-billion dollar Japanese bond fund. I was having breakfast with Mak, and he said, ”Tom, I have a proposal for you. I think we should start a venture capital firm together.” I’ve been kind of wanting this all along, and I said, “I’m in! Yes! We’re doing this. But, just me saying it, doesn’t make it so: I work for a 750-person design firm IDEO, we have 36 partners – there’s a team we have to bring around. Will you help me?” He said, “Yes.” And the next thing we knew – we had a venture firm D4V, Design for Ventures. It was a global design meeting Japan entrepreneurship. That’s how our firm began.
We see about 500 companies a year. We’ve invested so far in 43 companies and we have pretty finished our new Investments for fund 1 (we’re in the process of raising the fund 2).
There are some really interesting ones, and it’s hard to pick one. I still live in America right now, but I love Japan and my wife is Japanese – I’m really grounded in Japan. If it was happening in Silicon Valley, with a different mindset, I may or may not have invested in it, but it was really funny startup called Unbereal. It is a karaoke app, in which you have your own 3D avatar, some animated character. So, you can sing your song, and people don’t see you, just your avatar, and you get all this positive feedback. It is distinctively Japanese. But it’s really fun and joyous in a way that is hard to describe – to sit with friends, do this and watch this. You can be with the person singing but you see their avatar on the screen. I’m optimistic about the chances of Unbereal.
A little bit of both. Partially because of IDEO’s global reputation, we see a lot of people processed through our connection. Also, I do a lot of speaking, at least in the normal world where are you still going physically speaking to different places. We have a team of venture capitalists in the startup community in Japan all the time and we are always looking for things. We have some media presence, especially in social media. It all drives interest in our direction.
We ourselves are a startup, and we’ve been looking at seed and early stage. One very clear filter is Japan – we call it Japan+: the majority of the people we invest in are Japanese and based in Japan. There are some exceptions to that – companies who choose Japan as their first market or one of their early markets. We have 2 investments where Japanese entrepreneurs are somewhere along the line having moved somewhere else, to the Sutton Valley, so we followed them. Because our uniqueness as a firm is based on our connection to IDEO and our design capability, we are looking for companies where, as we think, design could make a difference, where our knowledge of design, our design thinking could help add value. We want to make investments into people we can make some contribution to make them successful. Of course, we’re looking for a certain type of founders, who have that mix of confidence and competence. These are our major criteria.
The lens through which we look at the startups is not 100% industry focus, but we have 5 areas of interest. The first one is digital disruption and industry transformation: these are people who are setting out to reinvent an industry. There are a lot of industries – maybe more in Japan than in some other places in the world – that are still doing things in a kind of analog way. The more that is true, the more opportunity it is for a startup to come in and disrupt. So, this is about reinventing legacy industries in digital ways. There is a category called New Lifestyles and Cultures, and this is the B2C category, and they meet the same challenges. The third one is Financial Tools and Wellbeing; we try to lean a little towards the finance companies that are aimed at helping people with their personal finance, helping young people think about budgeting or helping people with their savings plans for retirement. Lifelong Learning and Empowerment is the fourth category. IDEO CEO is an educator herself – she earned her degree from Stanford in education. IDEO as a whole is very interested in design for learning, and D4V, as its partner, is very supportive of that. We’re interested in Continuing education and Edtech. And the last one is Public and Personal Health. This global pandemic has reminded us how incredibly important health is. I feel like Healthcare is one of the most important industries in the world. It is now very open to innovation – anything that can help us make Healthcare more efficient or make Healthcare safer, like low touch or remote health care shows great openness to innovation.
We try to get through due diligence in about a month – from first pitch to investment decision. I think that our screening process would be familiar to most startups. We first receive a pitch deck and we screen from there. We don’t have the chance to meet all the founders from those 700 or so applications. We have a first contact in person or through Zoom and then do first overdue diligence and then write a deal memo to use it for discussion for the operating team and GPs. Based on that we go deeper on due diligence, do research and talk to all the smart people we can about a company or an industry. Sometimes the technology is beyond our competence, like we’re looking at quantum computing investment, but have no quantum computing experts in our team. After this deeper due diligence, we have an investment committee meeting with all GPs present. We quite often make the decision in that meeting; occasionally there can be a question that needs to be answered before we can make a final decision or somebody will think about it overnight, but usually, we’re pretty prompt once we have his committee meeting.
With the first fund, it was about $200K to $1M (issued in Japanese Yen) for the initial investment, and then, of course, for the company, we love we do follow, and it can get 3-4 times that amount.
More is better! One of the most successful Japanese startups in the last 3 years has been Mercari: if you’ve made an investment in the right time, you got 100x on it. Ultimately it is more important what’s the multiplication on the fund because it’s a portfolio approach. If you can get 3x or 4x, it starts to be interesting at least.
Well, it depends on a company, its current valuation stage, and, quite frankly, how much we can get access to. You have to compete for hot companies, and there is a negotiation about how big is the slice that we’re allowed to have. Our rangers have been between1.5-2% to 10-11%.
It’s a lot of team’s impressions. We’re looking for a certain kind of passion. In Japan, people can be quite understated, while in the Silicone Valley people can be too passionate. But Japanese people can be understated, so we have to drive out a little because it’s not always exactly on the surface. We’re looking for people who really believe in what they’re doing. Also, we’re looking for people who have no big barrier in the way to them to scale, who have enough core expertise in their area. In AI industry we want people that already have on their team people with that expertise because those kinds of specialists could be hard to acquire.
In my IDEO life, we worked with one person startups a few times in the past. We made an investment recently – a woman founder in Japan with a strong social purpose, who, we felt, can bring us to venture capital returns. I can only think of one offhand out of the 43 that we’ve been invested in. It’s a long shot, partly because in a venture the lifecycle takes about 10 years, and we need to invest in enterprises that are going to go through the whole cycle in that period and reach the stage in which they have achieved some success, they find a buyer or they go public – some next stage. When you are investing in a one-person venture you have to be thinking about how long that ran is going to be, how long will it take them to put a whole team, etc., etc. It makes them a little bit scary from the VC’s standpoint.
I met Jobs a number of times. But that’s what they call that a false dichotomy: you have to have both. I think this is important for entrepreneurs to acknowledge that they have limits to their own abilities. I believe that Steve Jobs was the best corporate storyteller I’ve ever met. He could stand on the stage of Apple Worldwide Developers Conference – and he could sell anything! I remember the iPod presentation, and Jobs asking, “Do you know what is this?” I thought, “Yea, that’s going to be another MP3 player…” – there was plenty out there, with better names. I thought that I don’t need one of these, because I’ve got my Sony Walkman, and Discman and it seemed like they completely satisfied my portable music needs. And Jobs said, “This is a 1000 songs in your pocket.” And those 5 words – “1000 Songs In Your Pocket” flip me from skeptical to get to have one. That is a gift – not that many people in the history of the world can do that. Jobs was amazing! The original Apple – we’re still working with Apple since when it was a startup in 1980s – early Apple doesn’t get off the ground without Wozniak, whose technical capability enabled them to come very-very quickly to speed with things. You need both of those. I’ve seen it over and over again – a very successful pair of entrepreneurs, like Donna Dubinsky who worked with Jeff Hawkins on Palm. They were both smart, both had technical background, but one was the spokesperson, and marketing, and a public face, while another was a brilliant technical mind, and the two of them together had multiple successes. This is good news for founders: you don’t have to have everything inside of your head, but you have to be self-aware enough to know where you need help or collaboration. That’s why I have trouble choosing between those two. As an investor, if I’ve only got one of them, maybe I don’t invest.
There are more red flags than non-red flags. We invest in roughly 1 out of 100 people we talked to. We don’t invest in the founders who don’t seem to be excited enough about their venture, in which case I can’t get excited. We don’t like companies that are accounting for some change in government regulation, like “in 2 years from now that won’t be a problem,” things like that. But if you’re dead in the water without that change? My favorite companies are ones that take advantage of some very recent breakthrough in some other field; that’s what Steven Johnson calls “adjacent possibilities.” As soon as people have broadband in their homes, it could be possible to do live streaming – and Netflix capitalized on that. It’s very attractive when you find a startup that couldn’t have begun 5 years ago, and therefore there’s not much competition yet. We have the same situation now, with COVID-19: there are definitely startups who will take advantage of this moment, like the greater concern for safety or the desire to have no touch transactions, etc. This new thing, COVID, has changed the world a little bit, and with that change comes opportunity, in spite of all the horrible downsides of that. We’re looking for people who take the newness of that opportunity because it’s more of a blue ocean.
In our fund, we have a collegial process by which we select companies. There are companies that I would have voted for, but we didn’t choose. I had no huge regrets yet. I used to have a neighbor who worked at Bessemer Ventures, a very successful VC. And they keep their famous anti-portfolio page on the corporate site. For this my neighbor the biggest pass was Google. I live 3 or 4 blocks from the Google garage, it’s still there, in Menlo Park, California. He was already a venture capitalist and he knew the woman who owned the house where the Google garage was. And she proposed to introduce him to those nice guys she’s got in the garage that were working on a search engine, and he said, “No, no garage people.” So he was literally at the same house – and never met them! He was so disappointed later. But I don’t have any of those – yet. We shall see in the future.
If you think about companies, a company that grows organically and has a very slow gradual growth is a little bit challenging for a venture capitalist. One, that pops in my mind, is Bicycles. I love biking, I bike to work most days. It is a really endearing industry and I love bicycles just as mechanical objects. I sat beside a startup at one point. But so far in my venture capital career, I haven’t seen a bicycle company that presented a growth curve that fits with venture capital. So far in Japan, we don’t have the rental bikes, the bike-sharing programs. As much as I love the industry, it has to have the opportunity for very rapid growth.
The Healthcare industry has loomed a little larger for us. We don’t really invest in Biotech, that’s not going to be on that end, but if you think about the way COVID-19 changes people’s worldviews, the ways it is going to change office space, the way is going to change people’s sense of self-protection, there is a lot of opportunities are going to open up. We have definitely focused a bit more on healthcare on personal public health because it is so top of mind of people. I think, going through this dramatic global event – it’s not going to go back: people’s mindsets are going to be permanently shifted. And the appetite for personal safety devices or healthcare products and services is going to be permanently different. There lies an opportunity. Some of our companies have already benefited from the situation. We have AI company that does AI for hospitals, that allows you to do things contactless in ways that before involved paper, that recommend things to doctors, and is labor-saving in a hospital environment. Healthcare can be very conservative when you’re trying to change processes, when you’re trying to get the doctors to let go of something and let technology do it. Suddenly, because of the incredible stress on the global healthcare system, if you give something reliably labor-saving in hospital, people become very-very interested. Our company Ubie enjoys increased interest. Surprisingly, one of our companies called airCloset, which is a leading Japanese fashion subscription startup, also became more popular. How it works: they send you a box of things you can wear then, after a period of time, you decide to keep them or send them back. And despite women aren’t going to work as much, they love the idea that they are shopping in their homes, so the sales are increased. Hopefully, before too long, certain aspects of the pandemic will fade away, but there will be some permanent changes entrepreneurs must use.
I got to bring up Apple, and Apple is not the only provider of this, but the biggest change in product in my entire lifetime is smartphones. Maybe, it is an American perspective, but when I think of smartphones, I think of iPhones. That really changed life more than any other consumer electronic product – ever. Maybe, I’m showing my Silicon Valley bias, but Google comes to mind second. It is hard to explain now how much effort you have to put in if you wanted to find, for example, an address of a company in the UK: I went to the library and it took a long time, we opened many books, sometimes even used professional help. So, the idea of having the world’s information at your fingertips is mesmerizing. Then I would want to put in a classic from somewhere, so I name telephony in general – that was big. My wife had grown up in Japan – they didn’t have phones. The telephone was pretty big in an era that was a while ago.
I have a friend who plays Go professionally, so I understand intellectually that’s a very complex game. But as I have not really played Go, it’s hard for me to select it. The obvious choice for me is going to be chess – I did play chess in an earlier part of my life. The reason is the chess metaphor is the applicable one is that in the venture capital part of my life much-much more so, than in the other parts of my career, you really have to take the long view. We are sinking in 5 to 7 years horizon all the time. That is very chess-like in a sense of thinking many moves in advance. You have to think about people in front of you in terms of are they capable, do they have the right blend of technical feasibility, commercial viability, or desirability from consumers or customers. And also you have to be thinking about when this product comes on the market, how is the competition going to react, and sometimes that can be described as can Google or Amazon enter your market and steal it away from you. So, we’re thinking a few steps in advance. It is more chess-like than some roles I’ve had in the past.
If you are a founder, you should be looking every day at what’s the status quo in the world and how can I disrupt the status quo. We call it “Thinking like a traveller.” When you travel to a distant city, especially to a foreign country, you have a certain part of your brain on high alert. You’re just looking at every detail, examining everything, If you’re an entrepreneur, you should be always having that part of your brain turn on high, even when you’re at home. For the most part, toothbrushes haven’t changed much in the last 100-year, we just shifted materials and then made an electric toothbrush. From the future toothbrush, I want it to look at my dental health over time, for example. And the founders should be asking, “What isn’t my toothbrush currently doing that I would like it to do, and that I would benefit?” People are monitoring everything overtime, like echocardiogram, quantity and quality of sleep, and many more. But I’ve never seen a toothbrush that does anything else than cleaning my teeth. There’s a huge appetite in the world for quantified self, and if I would be a founder, I will search for that quantified self toothbrush.
I won’t tell much about personal finance, just say this. Venture capital itself, in its return to the general partners and limited partners, offers the potential – not the guarantee! – of a higher return then, let’s say, education. As an author, there’s no top end on authoring. My friend Tom Peters sold so many millions of books, he has 7 global bestsellers, and the high end on authoring is quite high. Sadly, historically education has under-compensated it’s leaders, it’s a global issue we should all wrestle with.
This is a business for optimists. You have to believe in the possibility of exponential growth, and each time you invest, you are being hopeful for the future. If you’re truly a pessimist, if you spend all day thinking about black swans, you couldn’t possibly be a VC. Also, it requires a lot of curiosity – you have to be seeking knowledge in every moment because you can’t know as much about each of these topics as your founders do, but you have to find a way to make an informed judgment. You need to read a lot, listen to podcasts, find and consume as much new information and knowledge as you can. Paired with that is humility, being able to admit that you need help from the professionals. If you are too proud to acknowledge this gap in your knowledge, it will greatly limit your ability to make a properly informed decision. Then it does require a certain amount of stamina, partly because of that volume of opportunity you’re looking at and the volume of information you’re trying to take in. For me personally, that stamina involves time zones, as I live and work in Silicon Valley and I have meetings that sometime start at 6 or 7 a.m. Day in Tokyo starts at 4 p.m. my time, and pretty much every day my workday intensifies at that time and can go to till midnight.
The great thing is that experience will help them to overcome that fear of being judged. I just listened to a podcast last night by a young woman who successfully founded a company called The Muse, and she said, “I was rejected 148 times when I was pitching my company.” And she said, “Not that I was counting,” of course, she was! As an entrepreneur, you have to be very used to those rejections. Look that way: we reject 99% of people who come to us, which means that the entrepreneurs are experiencing 99% rejection rate. I think that’s one of the things that come slightly easier with experience. Let’s not pretend that it’s easy – it’s not, it still sucks to be rejected in any context. But if you think of it as a numbers game, that’s one failure closer to success. That takes a little bit of the sting away. My brother David teaches at Stanford, and one of his students was gonna be a co-founder of AirBnB. And he said, “Everybody hated our idea. Strangers are going to stay in my house? No!” And then from the other side, “I’m going to stay in a house of someone I don’t know, pretending I’m not nervous?!” And then they stopped to think that this is a terrible idea and started saying “Wow I wish I had a chance to invest in AirBnB.” A founder of Xerox, Chester Carlson, who invented xerography, said that people thought he was crazy because those machines would catch fire sometimes (which meant they will use scorching). Many people also thought that they’ve got carbon paper and why, on Earth, they will need more copies than those 2 or 3? They couldn’t see the idea that they may need a copy of something they didn’t create. When Xerox eventually took off, they’ve built a business model around skepticism. They made the machine pretty cheap and helped people sign a lease, making customers pay for copies, as a single person doesn’t need a copy-machine at home, usually, and doesn’t mind paying for the copies. Suddenly, if you put a copy-machine into office, there were all kinds of things to be copied. And if you, as an entrepreneur, look at the history of every successful company and see, how many times it was initially rejected, that helps a little bit. It will help with your mental toughness. If these greatest persons in history were able to get through, you can do it as well.
I have to say, I have no idea. This is one of those things: you can’t do everything, and when it comes to a domain name, I have a friend trading domain names, he might know. It doesn’t seem like a lot of competition for it: when you search for V4D, nothing else comes up.
Easy. It would be Kyoto. In many countries, including the US, there is a city for culture, a city for government, a city for entrepreneurship, and things like that. But the good news (and the bad news) that Tokyo is the beating heart of Japan, which makes it an amazingly fun, interesting city – and my favorite city in the world. There is a downside to that which is it is hard to do distribute entrepreneurship or economic growth, even, across Japan, and when you meet with the governors of the Japanese prefects they all like to share a little more. As we started to work remotely, there will be more of that. Yes, I love Tokyo. But Kyoto has so much history, and natural beauty, and those amazing wooden structures that are hundreds of years old. It is a remarkable place.