The Exchanges

Q And let's not bury the lead before we jump into your backstory to learn about all your creds, how you grinded yourself, how you got to the idea of earnest. Talk to us about where you are today. So I guess maybe the headline would be what was the fund one size of earnest and how many companies did you invest in, in your first cohort?

A Yeah, we launched earnest. Well, we literally like first pen to paper, uh, or, or, you know, words on a pitch deck in August of 2018, six months later. So February of last year, we launched, uh, earnest fund one, um, you know, candidly is really like a proof of concept fund. So it was about 3.1 million dollars that we invested over 18 months. So it was essentially One company a month for 18 months, and we are just hitting the end of that. So we'll write our probably last two checks out of that. We've done 16 companies to date. Um, we'll write our last two checks, you know, over the next probably six weeks or so. Um, and then we'll move on to do our second fund, which is, you know, basically in motion.

AI assessment note: “it was about 3.1 million dollars... We've done 16 companies to date.”

Q build this vision is to be able to raise more money to support more entrepreneurs. So you have to get a good return on this first fund, a good story there, right? Do you think most of your returns will come from sort of cash flow payouts over a longer period of time or from these companies being bought two and three years in? So it's, so it's exit events.

A Yeah, I would say that um, if we're talking about So one of the things is what lens are you using in terms of, because sometimes when people evaluate funds, they often use a blend of both like cash on cash, right? So how many dollars are coming? And then there's the actual like IRR, right? The ROI, the, the percentage number. Um, and the time, the timing of the cash flows matters a ton there. So what I will say is if you're talking about DPI, you're talking about actual cash dollars coming back to us. I think the majority of those cash dollars come from the Uh, exit events, uh, or at exit event, either the company sells, right? Or we at some point decide that we need to sell our interests, right? Because we've backed the next base camp. They're 16 years in. They have no intention of creating liquidity. Um, but we need to get liquidity for our shareholders. There are people who will buy that interest from us, right? So combining those two together as quote unquote exit events, um, The majority of the dollars have to come from that, and, and they don't have to. I, I predict they will, and the main reason is the asymmetry, which is you can, you know, when you build a very profitable SaaS business, you start to get monthly, you know, inquiries for people who want to offer you a life-changing amount of money, and so to pay us a substantial amount of, of shared earnings, the kind of …

AI assessment note: “I think the majority of those cash dollars come from the Uh, exit events”

Q If you haven't heard of those guys before and you're listening, but this, this idea of selling was clearly bubbling in your brain much earlier than that, because I believe in, I think it was 2013. You post in the New York city Ruby meetup group, uh, a title, a blog post that said unsexy profitable SAS business for sale or partner. What was the thing you mind that post?

A Uh, I mean, this was when I was still running, um, solar list. So, so yeah. And so I was sort of thinking it was still kind of hit or miss, you know, I mean, this is one of the problems of being in the middle of a sort of venture fundraising process is it's very binary. It's like, you're not really making steady progress. You stay in the game and then you get there or you just never get there. And so this, I was in that, you know, that phase of uncertainty where I said, okay, this is, This is a thing. I think it may have had, like, 1500 a month in MRR. Like, this is a thing someone would buy, and, you know, I would, I would put, you know, 25 grand in my pocket if somebody was willing to just, like, write the check and, and take this over. Um, so I, I put that post in, yeah, just, yeah, the New York Ruby meetup as, like, a random thing. I don't know, maybe these people will buy it from me. Um, I got a huge amount of interest and, and, um, you know, probably had, like, 60 something people, you know, email me, um, off of that because it meet up. I mean, it was to a meetup group, but it's actually public and indexed by Google. So it's also searchable. So I had, you know, random people who weren't a part of that group, um, find it and email me. Um, and, uh, you know, I, I guess I ran a process in the sense that I, I took some calls and mostly found that it was, you know, not, not wo…

AI assessment note: “I was in that, you know, that phase of uncertainty where I said, okay”

Q And you just follow, you followed on there? Uh, were you led?

A We followed. No, we followed. Yeah. Uh, so, so Yak is a bit anomalous for us. Essentially, um, I think I can share this. Uh, so basically, you know, I wrote a post about, um, remote tools for remote teams and why we were super interested in those kinds of products because, you know, earnest is completely distributed. Our mentor group is distributed. Our mentor group is like 40 software CEOs. Most of their companies are distributed. So I was like, hey, we know this space. We are a great place to beta test, to get the word out. Like, if you are building something in this space, you should come talk to me. And I got introduced to the folks at YACC. And, uh, they were pre-revenue at the time. You know, they, they run so friendly. It's an agency. This was kind of a, you know, skunkworks project for them. Had huge adoption as like a free open source kind of experiment, but was not a business yet. And I said, I love this. I completely want to invest as soon as you launch your, your paid product. Uh, and I can see some actual revenue traction, which is our model to invest, you know, post revenue. Uh, and then, you know, they, they got term sheets, right? And so I said, okay, well, you know, we, we still love this. We want to invest, but, Nine times out of 10, we, we do not invest pre-revenue. We invest in a share earnings agreement, and we don't look for, um, you know, follow-on ventur…

AI assessment note: “We followed. No, we followed. Yeah.”

Q And what was your, what were your all in living expenses in New York?

A Well, I mean, my rent was probably 1215 hundred a month. Um, so, I mean, I was probably burning like three grand a month living very, very, you know, leanly. Um, but you know, it's, it's one of those things where often in like a catch-twenty-two where, you know, some VCs say they want to meet you out in San Francisco. Okay, do I go spend the money to fly out there in the hotel and the rental car and all that sort of stuff, you know. Um, to take that chance or not, which I did, you know, I was like burning through frequent flyer miles to like fly my co-founder and I out to Palo Alto to go and, you know, we had like a Y Combinator, but, you know, interview and then we had other VCs who wanted to meet us. We were staying in this, like, we stayed in this thing called a hacker hostel, which was this like awful, awful hostel in Soma for like 50 bucks a night. Um, just like a, you know, Just dingy, disgusting place. Um, so yeah, I mean, we were just, we were trying to be scrappy, um, but at the same time, we're just burning through cash, you know, for, for over two years. Um, and so eventually it was like, I was basically running on fumes, running on credit cards, that sort of thing. And I started, I had learned enough code to sort of be dangerous. And so I was moonlighting. So I was like working maybe 20 hours a week, um, On Upwork, just finding random gigs, um, as a software develop…

AI assessment note: “I was probably burning like three grand a month living very, very, you know, leanly.”

Q Yeah. Yeah. Okay. So yeah, you, you what?

A We were just never optimizing for that. I didn't know about bootstrapping. I didn't know, you know, we just, we had sort of picked up this playbook that was like lean startup plus what we were reading from, you know, VCs, blogs and stuff like that. And we were like, we're optimizing for Information and for our deck and for, you know, how we're going to raise and, and then we were taking feedback from, from all the VCs, which I now know, you know, is a terrible thing to do. Don't ever listen to the feedback that VCs give you. It's mostly optimized for you to just leave them alone and, and refer other people to them. It's not real advice. Like mostly don't take it. And, but we were like, oh, cool. Like they want to see these metrics and this traction and blah, blah, blah. So we would run all these experiments and stuff like that. And, and so we were just shooting for that instead of like, Building a sustainable business, um, which was in the end a sort of fatal flaw for it.

AI assessment note: “We were just never optimizing for that. I didn't know about bootstrapping.”

Q Yeah, yeah, yeah. Ok, so did you end up raising?

A Uh, we raised like a, uh, a fairly small, like, not really friends and family, but like friends and professional friends round. Um, so we raised, I think like three or 400 K that, you know, we kind of stupidly just put right back into product. We just, we were just sort of optimizing for the idea that we would raise like one to two million bucks, um, to, to execute this business plan. You know, we had this really new to the market. My, my co-founder also, you know, deeply understood the market. Uh, we were like, look, it's, it's, Probably the second longest sales cycle that exists outside of home buying, right? You know, it's a very lengthy transaction. It takes like three to six months to close. So of course we need capital to build a sales team to be able to, you know, compensate them in the interim. Um, and we just sort of, you know, failed to launch essentially as a, as a business. Um, although we built a bunch of cool product, but like what was the max revenue you did in any given month? We never did anything material. I think we did like two or three grand in a month, but it was all like consulting projects and stuff. Yeah. Yeah.

AI assessment note: “we raised, I think like three or 400 K”

Q And so help me understand how you thought about onboarding, because again, you shared in this, in this talk of you on stage, 50% conversion rate from free trial to paid. So two questions there. What was the free trial and how did you decide where to put the paywall, uh, for, for people to sign up where you knew 50% would convert?

A Yeah, I mean, well, so the, it was a, I think it was a 14 day free trial with a credit card up front. So, you know, that those are the, obviously, you know, for calibrating your metrics, some of those things, um, matter quite a bit. Uh, so, so obviously putting the credit card up front, um, yeah, and it, uh, well, it may or may not be the right decision, right? But it certainly is going to make your free trial to paid conversion a higher number, right? Um, whether or not it You know, uh, on net is, is beneficial as something to be tested, but, um, that, that's definitely part of it, right? I don't know that we would have anywhere near that if we had a open free trial or we had a freemium plan or something like that. Um, but you know, I think, um, I, I, I do think there's a huge amount of low hanging fruit in, in the onboarding process for, for most products. Um, I think that a lot of times folks just The founders just kind of fail to just take a moment and empathize with your customer and think about, okay, what is the actual job to be done here at each of those stages of the process? You know, not like, what do you want them to do? Not what is your sort of, you know, product set up in such a way, but how do you really remove friction from every phase of that process? And so I was just relentless about, um, automation and, and, uh, clarity at each phase of the Of the onboarding…

AI assessment note: “it was a 14 day free trial with a credit card up front”

Q not to use a broker, right? I mean, at the international, we'll say we charge 15%. We'll run a process for you and 15% is expensive, but you should pay us 15% because we're gonna get you a 15% higher price. That's the justification. Whether it's real or not, Who the heck knows? You didn't use a broker though, so you must have felt like you got a good multiple.

A Yeah, I, um, I, I, I kind of ran my process, and then one of the things I did very late in, in the stage of things, because, you know, you can run the process pretty far before you're actually signing any kind of legal documents that are binding in any sort of way, so I basically had LOIs, and, and then I went to, uh, brokers, and basically just said, hey, you know, Like, can you beat it? Like, does it make, does it make sense for me to engage you in a way that's going to be on net, you know, better for me? And, and they were like, you know, no, you should take, you should take one of those. Um, I, yeah, I can't, I don't know. I mean, my sense is, I think if you ask a bunch of people, they would say a number that's in the range of five times that is, is market, uh, when a bunch of deals are being done publicly. Uh, I feel like that number is going up and up over time. So I don't know where it sits right now because I'm super focused on like the early stage. I'm not really, like, doing deals or, or hanging out with folks who do it, but I think it's, it's, it's going quite a bit up from there, um, but I, I don't, I don't really have my finger on the pulse right now, you know.

AI assessment note: “I went to, uh, brokers, and basically just said... can you beat it?”

Q But that's not your model though, right? Isn't that C where you're, this is where I have so many questions about this. Your model is not to back the next GitHub. Your model is the founder optionality.

A Yes, it's true. Yeah, absolutely. But, um, from a, so optionality goes both ways is essentially the way it works, right? So, so if we are giving a ton of optionality to the founders to figure out a way to say, Hey, you know, if you You know, you want to invest or you want to sell this much of your company, but we're actually going to give you a mechanism to repurchase a significant portion of that. Um, then we also don't want to get like fully repurchased so that, you know, if the company turns out to be a wild success and GitHub is an exaggeration, right? It could even be, um, a company that's worth, you know, a hundred million.

AI assessment note: “Yes, it's true. Yeah, absolutely. But, um, from a, so optionality goes both ways”

Q and you're pretty confident you're not going to start getting dividend checks until way after a year anyway. In fact, Bryce's term sheets, he specifically says the repayment period doesn't start until after 12 years. To me, this strikes me more as catering to something that the LPs would like from a tax perspective than something that is necessarily a hundred percent aligned with founders. What are your thoughts there?

A Hmm. Uh, I have a couple sort of disparate thoughts. Um, so, you know, first of all, yeah, I agree with the, you know, our perspective on this is this is an equity-like instrument. I think that equity and debt is, is turning into more and more of a spectrum. You know, there's been, the problem has been that there's been such a clear, bright line between equity and debt. It's this white space that a lot of folks are attacking, and so it's turning into more of a spectrum. Um, one of the, the, you know, big, Consequences of are you dead or are you equity or is the tax treatment, which is, you know, very, very different. Um, I definitely believe, and we structure our terms, you know, around the idea that this is equity risk, and so it should be treated, you know, in the same way. We, for example, we don't ever, like, strive to have any kind of covenants or any kind of, you know, way that we could, um, there's no deadline that you can miss for repayments, right? There's no way to default On us other than, you know, literally not paying, making a payment that was sort of owed, but you know what I mean? Like you can't miss a payment, right? Because if the company's not profitable, you don't have the money to pay for it, then you, you can't miss a payment. So you can't default. So we can never foreclose on you and that sort of stuff. So, so it's very much equity risk. And so we do beli…

AI assessment note: “we structure our terms, you know, around the idea that this is equity risk”

Q not uploaded the CSV and founders going to this flight or flight mode. They go, oh my gosh, I don't want to email them because then they might get scared and cancel, but like they're not getting any value. It's like a small credit card charge. They don't know about right now. What do you do? Do you re-engage or do you just let it go and hope it fixes?

A I, I don't know, but I think that is, um, I think that's a question of, like, you know, treating a symptom, not an underlying cause sort of thing. You know, we, I mean, my product never had that situation, in part because it was so proactive at reaching out to you if you didn't hit the right milestones that it didn't allow you to just forget about it, right? You know, it was just still from the get-go, you know, like, what I think that is a symptom of is bad onboarding, right? Because it means that somehow, you People fail to hit relative milestones, and you didn't reach out to them in some sort of way. So I think it's, I don't really have a suggestion for what to do in that moment. I think the ethical thing to do is, is to, you know, email those customers, try to get them either, you know, to actually use the product or go ahead and cancel for them. Um, but, you know, I, I think it's something you, you can avoid, um, up front by actually having, you know, good automated onboarding.

AI assessment note: “the ethical thing to do is, is to, you know, email those customers”

Q Yeah. And then name of that company, what was solar list? How did you get your first customer?

A Uh, our first customers, you know, to be honest, we, we struggled with monetization. Um, we got a couple like proof of concept customers, but, um, the big problem with our whole plan was we, we, we executed really well on product. This was kind of like the, the era of like the lean startup had just been published, you know, like a lot of the stuff you heard in just 20 12, 20 11 timeframe. Yeah, 20, yeah, 2011, 20 12. And so, you know, it was, Pretty normal to be going to tech stars, 500 startups, YC with like a proof of concept and all that sort of stuff. So we built product. We built one of the, you know, now this is pretty common, but we built either the first or one of the first because, you know, I literally like hired some PhD in, in Bulgaria to like write the, the code that translated some of the spatial geometry to Google Maps. But, but what we ended up building was this Thing where you put in your address, pulls it up on Google Maps, you can kind of draw your own roof, and then we do a bunch of things to figure out how many panels could fit, what direction is it facing, what's the, you know, solar insulation in that area, and we basically give you an instant quote. Um, prior to that, it was like, people would have to come to your house before you would have any idea what switching to solar would cost. So we built that product, we started taking it around, we got some pr…

AI assessment note: “we built that product, we started taking it around, we got some proof of concept”

Q Yep. And walk us through the term sheet. So if someone's thinking today, okay, I'm learning about Tyler. I like this guy. I like how it, like his story. I want to go apply and try and get capital from him. Uh, what do the deals look like and who's the right kind of entrepreneur?

A Yeah. Um, well, so I'll take a little bit of a step back. So, so, you know, I was, I had told the company, I was kind of thinking about, you know, all along the way from blogging and things like that, I'd met a bunch of folks who were, um, you know, at various parts of that journey, a lot of them very aspirational, some of them early stage, a lot of the folks later stage sharing, you know, their kind of wisdom with me. Um, and really noticed that, you know, these businesses, once they get to a certain point, you really can Properly bootstrap them, right? You get to maybe 10, 15, 25, you know, it depends on your cost of living and all that sort of stuff, but somewhere in there, it becomes a business that you can keep, you know, growing through free cash flow, but there is still this classic early part of the process where, you know, 50, a hundred, 152 hundred grand will really, really get you over the hump, especially if you don't, you know, have a spouse who can cover your costs while you're, Um, kind of building, or you don't happen to inherit a bunch of money or something like that. You know, this can be a material obstacle to starting a business. And so, but once you get to the other side, you know, you have these businesses that actually, you know, I mean, it's not just micro PE, like everybody everywhere is thinking about, wow, these are great businesses. I would love to b…

AI assessment note: “well, so I'll take a little bit of a step back.”