1: “Ben, think about how you might run the business if capital were free.”
That was the advice Andy Rachleff of Benchmark Capital gave Ben Horowitz, who was the CEO of Loudcloud, a startup focused on network security, scaling, and disaster recovery.
The year was 1999.
Ben and Loudcloud co-founder Marc Andreessen were coming off the spectacular sale of Netscape to AOL for $4.2 billion.
Benchmark invested $15 million in Loudcloud at a pre-money valuation of $45 million (the value of the company before cash is added to its treasury). In addition, Marc invested $6 million, bringing the total value, including its cash, to $66 million.
They then raised an additional $45 million in debt from Morgan Stanley, with no covenants and no payments for three years.
“So Andy’s question was more reality-based than we might think,” Ben writes in his terrific book The Hard Thing About Hard Things: Building a Business When There Are No Easy Answers.
That said,” ‘What would you do if capital were free?’ is a dangerous question to ask an entrepreneur,” he notes.
But in 1999, that was the approach entrepreneurs and venture capitalists were taking.
“Naturally, I took the advice and ran with it,” Ben recalls. “This meant hiring the best people and fielding the broadest cloud service, and that meant spending money—lots of it.”
The company was adding thirty new team members every month and attracting many of Silicon Valley’s best and brightest.
“Six months in, we had nearly two hundred employees,” he writes. We spent $5 million to move into a new three-story stucco building with jade-colored tiles we called ‘the Taj’ (as in the Taj Mahal).
“It was also too small to keep pace with our hiring frenzy, and people were sitting in the hallways,” Ben recalls. “We rented a third parking lot down the street and ran shuttle vans to the office. (The neighbors hated us.)
“The kitchen was stocked like Costco, and when we fired the snack contractor for making our fridge look like the one in Philip Roth’s Goodbye, Columbus, he asked for equity.
“This was the time,” he reflects.
They booked $10 million in new contracts in one quarter and $27 million in the next.
“We were less than nine months old,” Ben surmises. “It seemed like we were building the greatest business of all time.”
2: Screech. . .
“Then came the great dot-com crash,” he writes.
The NASDAQ Index rose to 5,048.62 on March 10, 2000. More than double its value from the prior year.
“A Barron’s cover story titled ‘Burning Up‘ predicted what was to come. By April, after the government declared Microsoft a monopoly, the index plummeted,” he remembers.
“Startups lost massive value, investors lost massive wealth, and dot-coms, once heralded as the harbinger of a new economy, went out of business almost overnight and became known as dot-bombs.”
The NASDAQ Index fell. And fell. Eventually below 1,200. An 80 percent decrease from its peak.
“We thought our business might have been the fastest growing of all time at that point. That was the good news,” Ben writes.
“The bad news was that we needed to raise even more money in this disastrous climate; nearly all of the $66 million in equity and debt we had raised had already been deployed in our quest to build the number-one cloud service and to support our now fast-growing set of customers.”
Investors were frightened. The market had gone from red-hot to ice-cold.
“This became quite clear when we pitched the deal to the Japanese firm Softbank Capital,” he shares. “My friend and Loudcloud board member Bill Campbell knew the Softbank people well and offered to get some ‘back-channel’ information following the pitch.
“When my assistant told me that Bill was on the line, I quickly answered the phone,” Ben remembers. “I was eager to hear where we stood.
Ben: “Bill, what did they say?”
Bill: “Ben, well, honestly, they thought you were smoking crack.”
“With nearly three hundred employees and very little cash left, I felt like I was going to die,” Ben writes. “It was the first time I’d felt that way as CEO of Loudcloud, but not nearly the last.”
3: Ben was about to learn the most important lesson of raising money: Look for a market of one.
“We only need one investor to say yes,” he notes, “so it’s best to ignore the other thirty who say ‘no.'”
Loudcloud raised $120 million in its third round of funding at an incredible pre-money valuation of $700 million.
“The sales forecast for the quarter came in at $100 million, and things seemed like they might be okay,” Ben writes.
“I felt confident,” he explains, “that our sales forecasts would hold up given that previous forecasts had underestimated actual performance.
“And perhaps, I speculated, we could seamlessly migrate our customer base away from dot-com bombs to more stable, traditional customers such as Nike, our largest customer at the time.”
Or not.
“We finished the third quarter of 2000 with $37 million in bookings—not the $100 million that we had forecast,” Ben writes.
“The dot-com implosion turned out to far more catastrophic than we had predicted.”
More tomorrow!
_____________________________
Reflection: When everything around me feels like growth is all that matters, how intentional am I about the risks I am taking and the assumptions I am building my decisions on?
Action: Review one major initiative or goal I am pursuing right now and honestly stress-test the underlying assumptions. Then make one concrete adjustment this week to better prepare for a potential downturn or surprise.