AGDC: Koster, James, Ybarra Reveal Startup Lessons

This rather fascinating Austin GDC panel put together several heads of important startups to discuss the trials and tribulations of forging out on one’s own. Three Rings CEO Daniel James was the moderator, fresh in from the Burning Man festival, along with panelists Joe Ybarra, employee number 5 at EA and new founder of Cheyenne Mountain Entertainment, which owns the Stargate license; Anthony Castoro, founder and president of Heatwave Interactive; serial startup-ist Nabeel Hyatt, founder and CEO of Conduit Labs, and Raph Koster of Areae. Daniel James began by asking what these companies all look for in terms of chemistry and company culture, a subject the panel would hit on multiple times in the coming hour. Raph Koster: “Find your opposite! It’s kind of funny, because for the last couple of years I’ve been giving business levels at conferences, and it’s funny because I’m really not a biz guy. So, the key for me was finding a partner who was really great in that aspect. It’s kind of an interesting thing to go out with a startup; part of you has to think that you’re going to go out and do something brilliant -- and the rest of the people in the world are idiots. So that egotism needs to be there, but you have to be really, really honest about what you’re good at as well.” Nabeel Hyatt: “You look for the big holes - where do I lack when I go into this market? The other thing I would say is, you have to look for somebody that has that risk profile. Lots of people think they want to get into startups because they think they want more control over their life - but when you’re at the head of a startup, everybody is your boss. So are they going to be okay with risk, are they going to be okay with challenges? It’s good to have arguments early!” Anthony Castoro: “Finding people with the same vision is really important. After months of discussion, knowing that my partner and I were in alignment was really important. And everyone gets titles, like CEO and Commander of the Universe, and none of it means sh*t. Everyone is just as important as everyone else in a startup, so you have to find a broad set of skills in your team.” Joe Ybarra: “One of the biggest things you’ll need is leadership. The company will grow if you’re successful, and the people that start will be your leaders. The leadership is what you’ll need as you build up out of the startup phase. You need to have passion for what you’re doing, and scary firefights as you go through! The first person I always hire is a guy who handles money. I think of myself more as a game guy, and I’m not great with the money, so the first guy I hire is a CFO.” Daniel James: “This, of course, assumes you have some money! For us it wasn’t very complicated, because we didn’t have any money, so we just spent what was there. So is it a good time to start a company?” Raph Koster: “Yes!” Nabeel Hyatt: I’ll be contrary and say no. If you look at the tech sector, it’s not a good idea to join during an upturn. And it’s never a good time to start a company unless you have a really good idea. Daniel James: “Yeah I had people come up to me and say they wanted to make a game a bit like Club Penguin. Maybe that’s a good idea, but it’s not really a great reason to start a company.” Anthony Castoro: “With all the amazing tools out there, I think it’s a really good time to be a game developer – you can create experiences in a shorter amount of time with less money. I know social gaming and web 2.0 is 'the thing' now, but people will socialize around anything they want to do.” Daniel James: “Shall we talk about the financing history of our companies?” Joe Ybarra: “I’ll give two examples that are pretty disparate. When we started EA in 1982, the whole thing was started by Trip Hawkins approaching venture capital - and getting $2.1 million to start a company. The 2600 was the dominant platform at the time - and little did we know, a few months later, that platform would die. So we had to nursemaid that $2.1 million as long as we could until we could get to the space where we could be successful. As time wore on, we took on two more rounds of funding, and that’s the traditional path, and probably many of us here will follow that. Completely different from that is my current company, which is funded entirely by angel investors. The biggest one is, I think, $1 million, and we have over 100 investors. What makes this possible today is that we’re in a business now that is very sexy, and [one] people think is close to entertainment, so it’s easier to get money.” Daniel James: “Are they buying equity?” Joe Ybarra: “We have an LLC structure, in which we sell a percentage of a company, but it’s not a traditional equity-based structure. To date, we’ve raised about $31 million dollars, and are raising more for studios 2 and 3. We have a parent organization for which the primary equity is owned by the founders that put in original capital, but we have three studios that are different LLCs, and investors get the first money in and money out.” Anthony Castoro: “Our company is funded originally by a corporate relationship for a project. We haven’t given any equity away... I guess it’s what you’d call a typical bootstrap. Our goal is to stay lean as long as we can, use contract and some work for hire to create the buffer that we need. It’s been successful so far, but I wouldn’t recommend it. It’s really painful, and you can’t do it for too long, but we’re in a situation where the partners and the team members own the company. We’re certainly having discussions with all the silly money that’s laying around, but we’re aggressively holding the company’s value and equity close to the chest.” Nabeel Hyatt: “I’ve done every different type of model. Conduit was founded at its inception by me and three other guys who in about 6 weeks raised about a $5.5 million round. I’ve also done angel investors to try to get cash flow. So far, the current plan seems to be working out the easiest. I think there isn’t a 'right' answer – it’s nice to say we have money in the bank and don’t have investors always coming in the door. It really depends – we need that capital, otherwise I wouldn’t raise it. If there were a way I felt like I could bootstrap and keep more of the company, I would’ve done it.” Raph Koster: “I think it’s interesting to see how different all these results will be. Obviously I had some advantages when I did this, because I was rather high profile in the industry, and I went to these conferences and the investors talked to me, and asked me to consult, so the day it was announced I left SOE, I had a verbal offer that day. I wouldn’t recommend basing your structure on that. That said, we were very conservative. After it was just me, it took months to get a partner on board. I had multiple offers in hand, and by that time I had a prototype I’d made in my bedroom. My total royalties from Ultima Online are zero, and my total royalties from Star Wars Galaxies were like $5,000. I basically just had some savings, and I agreed with my wife that I could try to get money for the next 6 months. I turned down a lot of offers because I wanted to be lean and mean and hungry – I didn’t want to feel comfortable, and I wanted to find the right partners. There came a time where I had to decide, where I’d spent our savings for a little while, that I decided I could just launch this by myself. I felt confident then because I knew I’d be doing this anyway, so I took the money then. I got two investors instead of one, to keep the board balanced. I can’t overemphasize how incredibly huge the payoff has been. We’ll be doing another round later, but we’ll have something to show, and it’ll pay off a lot later.” Daniel James: “There’s lots of good lessons in there, like thinking of how much money you need and then trying to halve it. There are big effects on your future money and your business, where that money comes from. What’s interesting about Joe’s model is that by having a large pool of investors, they can’t really change anything. And it’s very important when you have smaller investors, you have to really trust them. You can’t really get rid of them easily, if ever. One other things I wanted to talk about – I think there’s an interesting division here in terms of thoughts of licensing and ownership of IP. Can we talk a bit about licenses and IP? Let’s start with Joe, since he’s got the Stargate license.” Joe Ybarra: “The company was formed the other direction – the original founders had spent 3 years trying to find money, because they had the Stargate license already. But the most important thing is, you want to own the IP. It’s very risky to do that, and harder to get the funding, but for our company, the bottom line is we wouldn’t even exist now if it weren’t for Stargate and the support we’ve gotten from MGM. It’s very unusual, but that’s our experience now.” Anthony Castoro: “We’re all about owning our own property, and we don’t want a publisher involved early because of that, and it gives us more leverage. There are fantastic things about license properties, in terms of getting money and being able to let people identify with a project, but I left my job so that I could own my own IP.” Nabeel Hyatt: “In terms of a business perspective, I try to skew it as much as possible. Unless your company starts with a specific IP, I want as much control over my ideas as possible. It’s about including people in your circle who you’re essentially marrying, and I just have an inherent distrust of people.” Raph Koster: “In the game industry we tend to think IP means a particular shape of elf or something, but that’s just one kind of IP – technology is another type of IP, designs and methods are other kinds of IP. And if it your company isn’t creating IP it owns, then your company has no value. What is it that it does special? So we take it very seriously, even though we’re building a platform. We have a law firm we work with just for IP. There’s patents to worry about, there’s technology. (booing from crowd) Patents are evil, and totally necessary!” Daniel James – “My eyes rolleth over. Anyway, let’s talk about hiring and HR, is everyone in the same place? Do you have remote employees?” Raph Koster: “We’re 12 people, we’ve just employed our first remote employee. We’ve not hired a number of people because they couldn’t come sit in our little pit. Scrum and agile development, everybody in one closed room. We added one person per month, and everybody there had a veto on hire. It’s very important to have a good company culture. It makes a far bigger difference in your overall productivity if everyone is pulling in the same direction, versus what tools you’re using.” Nabeel Hyatt: “The startup that you start up with is never the startup you end up with. You start with something and some idea, and then the market tells you something, and you’d better listen! So the only thing you have left is culture. It’s also scrum and agile. We believe very much in needs-based hiring. I have a rough sense of who I might need over the next 8 months, that’s how you build a financial plan, but it’s all needs based. We just jumped up six people to have ten total, which is faster than I wanted to hire, but that’s how it had to be.” Anthony Castoro: “In terms of advice, chemistry is obviously extremely important. I don’t know if I’m right about this, but I certainly adhere to it. Hiring is equally as important as firing. People don’t change, so if you have somebody that’s not working out, let them go! And there’s a lot of pride wrapped up in ‘well, I hired this person,’ but firing the right people strengthens a team. I don’t know any company where every person was right, but the company, especially when you’re small and a startup, you can’t afford it. We’re currently 7 or 8. We’re not all together, there’s a lot of virtual office stuff going on, my partner’s in Philadelphia, most of the office is in the office area and some others here and there, but we’re an online-savvy company. We try to keep good chemistry and communication. We’re not an open-pit team, but it depends on what you want to do. We’re talking about virtual offices, too.” Joe Ybarra: “I’ve seen a whole lot of different ways of architecting. First off, I’ll say the environment we work in really sucks. We have cubes, it’s too small, and that’s just studio one. Studio 2 is seven miles away, and to meet with them we have to drive across the city. So that said, I can’t overemphasize what Anthony just said: You won’t get everything correct, and you have to do what it takes to keep the team whole. Our shareholders are looking to us to give a good return on investment, and part of that is the hiring and firing. Hiring the right people is the most important thing. A bad hire really is terrible, because it affects not only the people you’re letting go, but also the people that are still there. And we have slightly over 100 people now.” The floor then opened up to audience Q&A, and the first question asked the panelists so speak a bit more about how they found their business development staff. Raph Koster: “We interviewed a lot of people from several different industries -- game, web -- talked to people who were more junior, and incredibly senior people. This took literally months. We went back and forth right a lot. In the end, we hired one of the guys from one of our VC firms, who had been working with the company for the last 18 months! He knew the company, he thought it was a good opportunity, or I think he did, anyway. The interesting thing is, that the reason it was hard for us is that none of us were biz development people, so none of us knew how to gauge them. It’s like hiring a translator into a language you don’t know. How do you know they’re not just making sh*t up? So you have to have people you can trust.” Nabeel Hyatt: “I think it’s the easiest hire, because if they’re not selling themselves to you right away, they’re not a good sales person!” Next question: How do you valuate a company in terms of goodwill and brands? Daniel James: “The thing that I would say about valuation is, the thing that’s unwritten is it’s got nothing to do with real numbers – it really has to do with the investor and their expectation of how much of the company they’ll walk away with, and how much money comes out of it at the end. And most investors have a target of 25% or more of the company. One of the good things about Joe’s approach, and our early approach, is that we had angel investors who didn’t have that same kind of criteria.” Next question: “In the beginning you said try and fail – I’m curious about what you learned from your failures.” Joe Ybarra: “It’s like baseball. In baseball if you have a lifetime batting average of 333, that means you failed 7 times out of 10, and you still get to be in the baseball hall of fame. That’s true here too, with projects or things like that you’ll fail a lot. My second company hit the ground pretty fast and pretty hard. You learn things -- like that’s how I learned I needed to get a CFO. Sometimes you get into things you think are great, and they fail. But the point is: Get used to the fact you won’t succeed every time.” Anthony Ybarra: “Yeah, don’t go into it unless you’re willing to fail. My first failure was very informative. I was in college, and tried to fund it with my own money from overtime, and I realized I couldn’t do it, so spent 15 years in the game industry learning about it.” Nabeel Hyatt: “I’d say the first two startups the ideas I had were too small. They were nice ideas, little projects I wanted to build. I learned that incrementalism is big. You have to do something so big that you should be proud if you lose your family and house if you tried it.” Daniel James: “Just to say, I also like the idea of doing something small enough that if you fail, it’s nobody’s fault but yours.”