Part 5: The Dream Team

Raw entrepreneurial talent and a diverse founding team correlate strongly with improved startup success rates. In this blog, I’ll provide evidence for this claim and propose a way to measure the quality of a startup founding team by looking at prior startup successes and also the number of roles within the founding team.dream team

Data show that raw entrepreneurial talent has a big effect on startup success. For repeat entrepreneurs, one good way to identify talent is to look at prior entrepreneurial success – those who have already succeeded are likely to be among the most talented. For first time entrepreneurs, identifying raw talent is harder. For example, academic degrees don’t seem to correlate strongly with success or raw talent. Unfortunately, I don’t see a good indicator of raw talent for first time entrepreneurs and this question needs more research.

Data show that having multiple founders significantly increases the chance of success. One reason is that a larger team also makes it more likely that the team is diverse, and data shows that a diverse team (i.e. one with multiple roles such as technical, sales and finance) is also more likely to be one with greater success. There are probably many other underlying reasons for this such as greater moral support or a larger network with larger teams, also I’m not familiar with data showing the strength of these.

MEASURING THE QUALITY OF A STARTUP TEAM

With the above in mind, here’s one suggested approach to evaluating a startup team:

1. Raw talent

If at least founder has previously founded a startup that was acquired or went public, assign 1 point.

Failing the above test, if at least one founder has founded a startup with current annual revenue of between $10 million and $100 million, assign 1/2 a point.

Otherwise, assign 0 points.

2. Founding team size

Assign 1/3 of a point for each of the following roles on the starting team – up to a maximum of 1 point in total: a CEO type role; a lead technical role; a sales and marketing type role; some other distinct role.

3. Combining these factors

Take the (unweighted) average of the scores for raw talent and founding team size to come up with a final team score (maximum final score of 1/1).

IMPLICATIONS OF THIS MODEL

Many startup teams won’t get any points for raw talent because the entrepreneurs haven’t had a prior startup success as I’ve defined it – e.g. most MIT spin-outs will have score 0.5/1 at most, earning those points from “founding team size” alone. This is partly because 1) having founders with prior success (acquisition or IPO) greatly increases the odds of success for their future startups and the model needs to capture this strong benefit, and, 2) I don’t have a good way at present to measure raw talent for first time founders – this is the biggest shortcoming of the model. When it comes to team size, this model incentivises having multiple founders and also having those founders cover different roles. These aspects of founding teams are correlated with improved startup success.

In summary, raw talent (measured via prior startup success) and larger founding teams correlate with startup success. In building a startup team or evaluating an investment, I suggest looking for these key attributes.

***

 

THE EVIDENCE IN MORE DETAIL

The importance of raw talent in startups

Data in a 2012 paper by Eesley and Roberts’ indicates a strong correlation between the raw talent of the founding team and startup success (0.59 correlation between talent and the logarithm of revenues). The way they identify talent is by looking at the difference in revenues achieved by founders who have founded the same number of startups in the past. Unfortunately, this method of identifying talent isn’t something you can use for first time founders. I had thought that perhaps academic degrees would be correlated with success (and thus be an indicator of talent) but data from Eesley’s 2013 paper shows that the relationship isn’t very strong (correlation of less than 0.05 for master’s and doctoral degrees with a successful exit for the startup). Right now I don’t see a proven way to identify talent up front and I think this is an important question.

The benefits of having founders with prior startup success

A HBS study from 2008 (discussed in Part 4 of this series) shows that founders who have had previous startup success have almost double the chance of success on subsequent ventures compared to success rates for average first time founders. In short, it seems that prior success is one way to pick out the talented entrepreneurs from the crowd.

The benefits of multiple founders

Anecdotally, Y Combinator (the California based startup incubator) recommend more than a single founder as they feel a startup is too much work for one person. This seems to be supported by data. Data from a 2013 study from MIT shows that there is a a positive correlation (0.27) between founding team size and the startup having a favourable exit (IPO or acquisition). The same data shows that there is also a negative correlation (-0.19) between a startup having only one founder and reaching a favourable exit. [This latter result is not so surprising given, by definition, single founder teams are team of small founding team size.] A study from 1990, led by a Stanford author, also supports the finding of larger founding teams being correlated with success. It focuses on semi-conductor startups from 1978 to 1988 and reports a significant correlation (0.31) between fourth year sales and the size of the founding team.

Evidence for the benefits of having a diverse founding team

Data from the MIT study mentioned above indicates that having a diverse team is related to higher chances of a favourable exit (0.16 correlation). They measure diversity on a scale of 1 to 4, by counting which of the following roles are included in the founding team: technical (chief technology officer or scientist); sales and marketing; finance; and, other. [As I understand, it doesn’t matter whether, for example, the founding team has a member who has finance experience, it just matters whether one founder had a title that related to finance in order to be counted.] Data from the 1990 study at Stanford further suggests benefits of a diverse team and shows a positive correlation (0.24) between having a team with differing levels of semi conductor industry experience and the year 4 sales of the startup. On top of this, data from the study reveal a positive correlation (0.29) between having founders who worked together in the past and year 4 sales.

 

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