Don’t Take The Money (Even When You Can)
Don’t Take The Money (Even When You Can)
Over the past decade, venture investments in DTC brands have generally yielded disappointing results. Here’s 5 reasons why DTC founders should abstain from raising external capital.
In a recent post by Hubble co-founder Ben Cogan, he noted a concerning trend in the world of venture capital-backed direct-to-consumer (DTC) e-commerce brands. Ben identified correctly that a significant majority of these brands, upon going public, are valued at less than the amount of equity capital they have raised. The simple conclusion is that DTC has proven to be a highly unfavorable investment for VCs. No kidding!
Examples of this include some well respected consumer businesses like Smile Direct Club, Allbirds, Blue Apron, Honest Co, Grove Collaborative, and Boxed. Only a few rare brands, such as Warby Parker, Figs, HelloFresh, Wayfair, and Hims, have managed to surpass their raised capital and sometimes by not much.
As Ben noted these success stories have been far and few in between and greatly insufficient to offset the overall poor performance of DTC investments as a whole. He further emphasizes that these brands actually represent the cream of the crop since they managed to IPO vs the 99.99% of brands that never got that far.
In contrast, Ben points out that other VCs investments have yielded substantial returns due to the power law. Companies like Shopify and Square have in fact seen their market capitalizations surge to levels exponentially higher than the amount they initially raised. This underscores the underwhelming outcomes of DTC investments compared to other tech sectors. While a few businesses have achieved moderate success, there is a lack of standout winners in the DTC space, making it an unattractive strategy for investors when compared to tech companies with higher return potential.
I concur with Ben's perspective based on my own experience - building a VC-backed DTC brand in the 2010s. However, I'd like to present an alternative viewpoint. Even if VC funding is accessible, DTC founders should abstain from it.
Here’s why you should not take the money (even when you can):
Let’s be real. The outcomes of DTC returns are more modest in nature. By either avoiding or minimizing external capital raising, founders can retain a higher percentage of ownership in their companies and have the flexibility to exit earlier if desired. MVMT watches and Native deodorants serve as examples of this principle.
VC-backed companies tend to aim higher - increasing the chances of failure. Founders have to be realistic about their own market opportunity. VCs have the advantage of mitigating poor returns on a certain company by diversifying their portfolio across various bets and sectors. On the other hand, founders are solely reliant on the success of their single business.
Consumer businesses are inherently unpredictable. Marketing efforts do not scale linearly, and consumer adoption is highly uncertain. If a company raises funds at a lofty valuation, it is likely it will struggle to meet those expectations, leading to excessive spending on paid advertising and potentially facing a down round. I speak from experience, having been in that situation. By eschewing external pressures, entrepreneurs gain the freedom to make sound decisions and grow at their own pace, whatever that may be.
It is a misconception to believe that profitability will come more easily at a later stage. In fact, quite the opposite is true. Many brands aggressively invest in marketing, hoping to improve profitability as they scale. However, this scenario rarely materializes. If a company cannot attain profitability early on, the challenges only intensify as the business becomes more complex. Regrettably, this is the narrative that many of the aforementioned public companies have encountered.
Another challenge lies in the limited understanding of omni-channel strategies among VCs. Regardless of whether you operate a new athleisure brand or a health food CPG company, achieving significant scale often necessitates embracing an omni-channel approach. However, most VCs lack the industry expertise to effectively support entrepreneurs in this realm and frequently misjudge where the value creation occurs.
This post is not intended as criticism towards VCs, as they can be valuable partners. Nor is it a judgement on DTC founders. I actively invest in both software and consumer companies and highly respect the entrepreneurs behind the companies mentioned above. Rather, it serves as an acknowledgement that in most cases, seeking VC funding simply doesn’t align with the best interests of DTC founders. So, what’s the alternative?
One option is to refrain from raising funds altogether or delay the initial raise as much as possible, following the footsteps of successful companies like Lululemon and Canada Goose. Chip and Dani's journeys eventually led them to billion-dollar outcomes. Instead of fixating on funding, prioritize the creation of an authentic community and building a product they will truly love. The returns from these efforts will far exceed what you could achieve by constantly pursuing funding. Just ask Ben Francis at Gymshark.
Ethan