No. 6: Bootstrapping a DTC brand
Curated news, insights and stories about bootstrapped entrepreneurs.
Good morning people,
There has been a lot of interesting writing about direct-to-consumer companies lately. Hence today’s newsletter will focus on DTC brands and why DTC entrepreneurs should consider alternative funding models to VC when in need of capital.
What’s a direct-to-consumer brand?
Warby Parker, Casper, Dollar Shave Club, … those brands sound familiar? Well they all succeeded by using a similar playbook: selling directly to consumers online. Tom Foster from Inc. describes the DTC movement as follows:
By selling directly to consumers online, you can avoid exorbitant retail markups and therefore afford to offer some combination of better design, quality, service, and lower prices because you've cut out the middleman. By connecting directly with consumers online, you can also better control your messages to them and, in turn, gather data about their purchase behavior, thereby enabling you to build a smarter product engine. If you do this while developing an "authentic" brand--one that stands for something more than selling stuff--you can effectively steal the future out from under giant legacy corporations.
Dollar Shave Club founder Michael Dubin.
Why now?
Timing is always crucial in any ventures. Max Niederhofer from Heartcore Capital (f.k.a. Sunstone Technology Ventures) summarises it very well:
Zero/low barrier to entry to retail thanks to Shopify, Squarespace & co.
Low barrier to entry to supply chain (globalisation)
Variable marketing costs (Facebook, Instagram, Google, Pinterest)
Result = an explosion of direct-to-consumer brands.
Bootstrapping a DTC company
Although $1.2B went into US-based DTC companies last year, most of the brands which have been acquired have raised little to zero venture capital. Instead DTC entrepreneurs went back to basics:
A blueprint for a new path for ambitious direct-to-consumer entrepreneurs has emerged, one that has turned recent conventional wisdom in tech circles on its head even as it follows old-school business rules: Sell differentiated products for more than it costs to make and market them, and reinvest the profits in the business if you want to grow faster.
Successful bootstrapped companies such as watchmaker MVMT (acquired by Movado for $200m, including $100m in upfront cash) explored raising venture capital, but got afraid that by doing so, it would make their company too expensive for potential acquirers:
Along the way, its [MVMT] founders did learn what venture capital was — watching the press attention grow for heavily backed consumer startups like Warby Parker and Harry’s — but still kept their distance. Cautionary tales like that of Jessica Alba’s Honest Company — which raised too much capital at too high of a valuation, while convincing itself it was a tech company — spooked the founders.
“Once you do it one year, you have to do it next year; it becomes this bad cycle,” Kassan, its CEO, said. “I think having the discipline and flexibility was just the secret for us all along.”
MVMT founders Jake Kassan and Kramer LaPlante.
Multi-million vs multi-billion-dollar valuations
A very important difference between tech and DTC companies is how investors value them: consumer companies do not enjoy the same margins than technology companies with strong network effects do. It is rather the opposite: consumer is a zero-sum-game play, where buying from 1 company automatically means not buying from another one. As a result, valuation multiples are lower for consumer than for tech companies - and self-funded founders understand this very well:
“There would be way fewer strategic [acquirers] that could acquire us then,” said MVMT co-founder and chief operating officer Kramer LaPlante. The other bet, they then knew, would be on an IPO, which would be a very high-risk bet indeed.
LaPlante’s rationale here is, well, very rational. But it’s also rare to hear an entrepreneur talk this way publicly. Silicon Valley has convinced many that real entrepreneurs are supposed to talk only about the desire to remain independent or the belief that if the company performs, it will have all sorts of options in the future.
But the downside reality is what companies like Honest Company end up suffering through: If you don’t think long and hard enough about how much capital you are taking on and whether your valuation is reasonable, your best shot at an acquirer — in Honest’s case, it was Unilever — will choose to buy a disruptor like Seventh Generation at a price that makes more sense.
That being said, it is getting always harder to bootstrap a DTC company, mostly because of increasing customer acquisition costs (read advertising) necessary to reach significant scale. As per Digiday’s Anna Hensel:
That’s not to say skipping VC is in any way easy. Brands that have built large-scale businesses without venture capital are the exception, not the rule. The DTC market has become so saturated, it’s hard to find a product category where there’s not a competitor with VC backing. When asked if they thought they could start the same business today, Native’s Ali and Tuft & Needle’s Marino both replied the same: not in the mattress or deodorant categories.
Calling for a new funding model
The last newsletter edition about Clearbanc explained that cost of capital alone was a good reason to consider alternative venture funding options. In a similar way, DTC companies are good candidates for such alternative financing models: they have a strong need of cash to grow and (most) do not fit the VC’s $B+ return expectations. In addition, non-dilutive options mean that bootstrapped founders could get higher payouts in case of an exit (MVMT’s founders owned the vast majority of the company equity at exit).
In Mereo’s next edition: an example of financing firm building an alternative funding model for direct-to-consumer companies. Stay tuned.
Thank you for reading,
Michel
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