Just over ten years ago we had the opportunity to meet with the team of an early-stage fintech business called SoFi. The same SoFi that acquired Utah-based Galileo, recently went public via SPAC, and is now trading on NYSE with a market cap of over $12.5B at the time of this writing.
The team at SoFi pitched to us that there was a dislocation in the student loan markets, all student loans were priced the same regardless of where the student went to school, prospects of getting a job, and the likelihood of paying off the loans. They were raising capital from family offices and refinancing government-issued student loans from students at top-tier universities into private loans. The result was a high yield return on a debt instrument relative to other options but with relatively low risk.
We were intrigued by the model but as we evaluated the investment opportunity, we asked ourselves what we had to believe for this to grow into a venture scale opportunity. We had to believe, among other things, that 1) there would be a market to privatize student loans, and 2) for this to scale, there would need to be a market for securitizing private student loans, a market that did not exist at the time.
Unfortunately for us, we passed on the opportunity to invest in SoFi. As I watched SoFi grow over the years, I realized I had made a critical mistake in only looking at what we had to believe. I didn’t allow myself to ask the question at the time, what if this works? In other words, what if the company can privatize student loans and demonstrate the value such that they can create a market for securitizing those loans.
Over the years, as we’ve had other opportunities to look at investments, I have learned to not just ask the question, what do we have to believe for this to work? I also ask, and encourage my team to ask, what if this works? The interplay between these two questions is what has become so important, as we have learned to take more risk on “what we have to believe” if we see a compelling opportunity when we ask ourselves “what if this works."
What do we have to believe?
In every investment we make we try to identify two to three core things that need to happen for the business to succeed. As primarily seed-stage investors, we focus first on what the company will need to accomplish to be well-positioned for a Series A. We also look at the longer-term, big-picture items that will have to happen for the company to have an outsized impact in the space they are operating.
Let’s look at another example to bring this to life. In 2016 we met with Peter Colis and Lingke Wang, co-founders of a direct-to-consumer life insurance company, Ethos. Colis and Wang were about to graduate from Stanford GSB and believed that the life insurance space was ripe for disruption. So many products and services were now purchased online with minimal friction, why was life insurance, a product that was so important to people in time of need, still so difficult to purchase? We were intrigued by the concept of making life insurance as easy to buy as a pair of Allbirds shoes.
While we were very impressed with Colis and Wang and their vision and insights, there were two key problems we had to believe they could solve to build a business that could have an outsized impact on the life insurance industry.
- First, we had to believe that the team could develop an underwriting model to assess the risk of the applicants in real-time.
- Second, since Ethos wasn’t planning to be a life insurance carrier, we had to believe they could find a carrier partner that would issue policies based on their online underwriting.
If they were unable to develop that underwriting model and find a life insurance partner, this idea, no matter how compelling in concept, would be dead on arrival.
Screenshot from our initial deal diligence in 2016
What if this works?
The second question we have learned to ask ourselves is “what if this works?” Several things must go right for an early-stage company to be successful. The “what if this works?” question helps us to balance whether the upside opportunity outweighs the risks we’ve identified.
Going back to the Ethos example, of the Fortune 100, nine are life insurance companies and these nine companies have a combined market value of $411 billion. If Ethos could build an underwriting model, find a life insurance company to partner with, and remove much of the friction from purchasing life insurance, we believed that even if they could obtain a small sliver of this market, it would be a very valuable company. Despite the potential existential risks for the business, the “what if this works” answer was so compelling that we decided to back the Ethos founders to turn our “what we had to believe” questions into reality.
Today, Ethos is valued at over $2.7 billion and backed by world-class investors like Sequoia, Accel, GV, General Catalyst, and Softbank. Not only was Ethos able to obtain the needed partnerships with insurance carriers, but they have also developed a first-of-its-kind, vertically-integrated model that handles the policy origination, underwriting, and administration, and boasts an NPS score of 86 in an industry where the average NPS is 4.
Do we always get this right? No, of course not (maybe a subject for another article). We miss on key risks or even if “what we have to believe” becomes a reality we may come to realize we have overestimated the market opportunity. But, when the combination of great execution, industry tailwinds, and big market opportunities come together it is a wonderful thing to behold.
How can these questions help you?
We know we are taking a myriad of risks when we make an early-stage investment, we hope to be as clear-eyed as we can on “what we have to believe” for a business to be successful. Once we get conviction around an opportunity, our job is to be ‘all in’ with the founders in helping turn the “what if this works” into a reality.
As an entrepreneur, if you can also identify “what you have to believe” for your business and what you as a founding team are going to do to work through those risks you will not only make better decisions yourself, but you can also help investors understand how you plan to address those risks. More importantly, consider the upside opportunity, the “if this works." Help investors see the vision of what this business could become despite the obstacles that might be in your path. In doing so, you’ll help investors get conviction around your business idea and increase your chances of not only raising capital but finding a partner committed to helping you realize the potential of “what if this works."