How things just might work out

What hurts more for a startup investor? A startup that you pass on which eventually goes on to be very successful, or a startup that you invest in which fails?

The way to think about this question is to analyze the respective losses in each case. When you pass on a startup that eventually goes on to be very successful, you lose the upside of potentially 10X or 100X returns. When you invest in a startup that eventually fails, your downside is capped at 1X. You can’t lose more than you invest.

As a result, it makes sense for an investor to invest in a startup as long as they believe that the startup has a chance of being very successful.

This doesn’t mean that you should put all rational thought on hold and invest in everything that comes along, guiding yourself by the theory that every startup has a non-zero chance of being very successful. In practice, very successful startups are very rare and extremely hard to build. It takes much more for a startup to have a chance of being very successful than what most people assume when they first start a company or begin investing in startups.

What it does mean, though, is that seeing how things just might work out, rather than why they won’t work out, is an important ingredient to being a successful investor. The cost of not investing in a startup that goes on to be very successful is greater than the cost of investing in a startup that fails. As a result, when you’re on the fence about what you believe might be a great opportunity, it’s useful to err slightly on the side of optimism.


Also published on Medium.