How Y Combinator Startups Manufacture FOMO

In the run-up to the all-important Demo Day, entrepreneurs do whatever it takes to create momentum while staying cool.

In late February, Tom Harari sat down to do something he hadn’t done for a few months: plot his company’s revenue on a simple line graph. Harari’s laundry-on-demand startup, Cleanly, had been in growth mode, rapidly expanding its laundry delivery service from two New York City neighborhoods in early January to cover much of Manhattan by the end of February. The number of orders had jumped by an average of 25% per week. He looked at the chart and saw an arrow skyrocketing to the top right quadrant. Even if everything fell apart before Cleanly completed Y Combinator’s winter 2015 batch, a program organized by the ultracompetitive Silicon Valley startup factory that I’ve been writing about for the past few months, even if growth slowed considerably, Harari and his cofounders, Itay Forer and Chen Atlas, would have six or seven times the number of weekly orders they’d started with. His growth plan was working. In fact, in the parlance of Y Combinator, Cleanly had entered the rarified territory known as hypergrowth. “Oh, shit,” Harari recalls thinking. “It’s really taking off.”

Up until this point, Harari had felt apprehensive. Cleanly is one of 114 startups working in the current class. While just getting into YC had been an accomplishment, at present, only one of every 100 YC startups reaches a valuation in excess of $1 billion (aka, unicorn status), making the odds of breakout success long indeed. Moreover, washing people’s whites for $1.50 a pound, as Harari’s startup does, seems sort of pedestrian when compared with the biotech and hardware startups that YC has lately embraced. Harari doesn’t make artificial limbs, and his company hasn’t raised $14 million in venture-capital funding. “There are these darlings of the batch,” Harari says. “Some of these people are doing really advanced stuff. We’re delivering laundry.”

Early next week, Harari will share a spruced-up version of his hypergrowth chart as the centerpiece of his Demo Day presentation. Harari, like every YC founder, will have 150 seconds to pitch 500 investors, entrepreneurs, and journalists at the two-day, invitation-only event. Harari’s self-deprecation notwithstanding, competition to buy a piece of a fast-growing company like Cleanly as part of a seed investment round is so hot that some top angel investors, seemingly unable to avoid getting sucked into the deal-making frenzy, have preferred to stay away. Meanwhile, the high valuations and on-the-spot check writing has caused some investors to warn of a looming crisis in startup finance, the so-called “Series A Crunch.”

YC founders begin thinking about Demo Day, which starts Monday, March 23 at the Computer History Museum, as soon as they’re accepted into the program. But practice began in earnest just this week, with startups pitching their peers first in small groups, and then running their spiel in front of the entire batch. On Sunday, founders will pitch a room full of YC graduates as part of Alumni Demo Day, a sort of dress rehearsal before the big show.

Officially speaking, nobody will be soliciting investment from the stage, and Harari tells me that he doesn’t need to raise money. “We’re a few months away from being profitable,” he says. “We don’t want to get distracted by fundraising.” This may be true, but it’s also undoubtedly a bit of gamesmanship that allows him and his peers to ensure that when they do raise money, they’ll be able to do so at the most favorable terms possible. “No one wants you if you seem desperate,” Paul Graham wrote in 2013, comparing fundraising to courtship.

Almost no YC startup will admit to raising money in the days before Demo Day, but almost everybody secretly is. “The common strategy is there’s a deal offered before Demo Day, and a different deal after,” says Paige Craig, a Los Angeles-based angel investor whose portfolio includes Lyft and the recent YC standout ZenPayroll. “It’s invest now and get a better deal, or invest later.” Typically, a hot company might offer a handful of well-respected investors a chance to invest at, say, an $8 million cap before Demo Day, with an eye to doubling that valuation for those who invest after the big event. The idea is to create a little buzz and help convince others who might be on the fence to hurry up and make a decision before it’s too late. “Almost every smart founder does that,” Craig explains.

The process resembles the invisible primary in presidential elections, when candidates feel out influential donors before officially announcing their candidacy. “If you show up on Demo Day with no investors, it can be harder to get that first handshake,” says Kyle Vogt, a two-time YC grad who cofounded the company that became Twitch, and who now runs the self-driving-car startup Cruise. During the last few weeks of Cruise’s stint at YC, Vogt says he and his fellow startup founders felt pressure to close at least one deal before taking the Demo Day stage. “You hear about other people in the batch doing deals,” he says. “It turns into this thing where it’s like, ‘How’s your product doing? How’s your growth? How much have you raised?’”

YC’s weekly dinners give big investors exposure to the superstars of the batch. (A few weeks back, Ron Conway told me he would use his speaking slot to suss out the best deals.) YC also organizes a series of informal meetings between startup founders and investors, generally at least three per startup. These one-on-one sessions are, technically speaking, practice, and investors are encouraged to give feedback rather than write checks. “Most startups freeze up the first time they meet investors,” YC President Sam Altman explains. “It’s terrible; they don’t know what to talk about.” These meetings sometimes result in early deals that help stoke further interest come Demo Day.

Altman insists that matters of investor buzz and stagecraft are secondary, a sentiment echoed by every YC founder I’ve spoken with over the course of my reporting over the past few months. “We’ve been focused as much as possible on the product,” says Mike Chen, CEO of Magic, the text-for-what-you-want startup that launched last month and which, over the past five weeks, has grown from an initial founding team of five to more than 20 employees to handle the demand. “None of us believes that raising money is the secret to making this work.”

Chen’s two-and-a-half minute pitch will likely be among the most anticipated come Demo Day. He and his team entered YC with Bettir, a blood-pressure-tracking app, but pivoted last month after they decided that the company was failing to live up to its potential. “We were hitting our metrics and everything on paper looked good,” Chen says. “But there was this itch in our brains that we were not nailing it the way we could.”

One afternoon, Chen joked to one of his cofounders that they should take Graham’s aphorism, “Make something people want,” literally. And what Chen really wanted was to send a text message and have food appear. So he built a little app, someone posted it to Product Hunt, a YC alum and the cool tech kids’ hangout to learn about new stuff. In a matter of days, tens of thousands of people signed up for Magic’s waiting list, and tech blogs went crazy for it.

Chen says that in addition to the hundreds of orders a day that his company is processing, a few people have texted that what they really desired from Magic was the chance to invest in the sudden hypergrowth startup. Did Chen give them what they wanted? “I don’t want to comment on that,” he says, coyly.

Next Week: Y Combinator’s New Launchpad. This is part 11 in a series.

Clarification: An earlier version of this story overstated the regulatory risks of startup fundraising.

About the author

Max Chafkin is a contributing writer with Fast Company, and the author of Design Crazy: Good Looks, Hot Tempers, and True Genius at Apple. His work has appeared in The Best American Magazine Writing 2014 and The Best Business Writing 2012.

More

Video