The Start-up Guru
Paul Graham's business school and investment fund, Y Combinator, has launched 145 companies -- for a lot less money than you would think
Williams + Hirakawa
Williams + Hirakawa
Graham's System generates scores of bold ideas, churns out dozens of new companies, and creates hundreds of jobs-for a lot less money than you might think.
Of all the things that Paul Graham hates about running a start-up -- and there's not a whole lot about it that he likes -- the customers bug him the most. Everyone has a problem with your product, and people are constantly calling to complain about things you cannot possibly fix. Then there is the fact that you are doing everything for the first time, which creates a crippling sense of uncertainty, as well as a persistent fear that a single bad decision could doom the whole enterprise. There are squabbles with co-founders and combative negotiations with investors and that gut-wrenching period when you realize that success isn't going to come quickly or easily -- Graham calls it the Trough of Sorrow. Graham's start-up days are more than a full decade behind him, but he can't help recalling them with a shudder. "It's like talking to someone who went to war," Graham says. "It sucks to run a start-up."
It's odd to hear Graham speak this way, because he now oversees what is perhaps the most ambitious campaign of start-up creation ever attempted. His company, Y Combinator, is a hybrid venture capital fund and business school that invests in, advises, and, literally, feeds 40 or so early-stage businesses a year. Investments are small -- less than $25,000 per company -- but Graham supplements the money with smart advice, introductions to later-stage investors, technical help, and a sense of community. The model has produced many promising companies, a few sizable acquisitions, and copycat funds in cities across the country and around the world.
Why is Graham, an avowed start-up hater, doing this? Because for all the pain, he believes that founding a company is the most efficient way to create wealth -- for investors, for founders, for society at large -- and because he thinks he can make starting a company a lot less painful. "There's this classic pattern that has happened over and over again throughout history in which something is made one at a time, very expensively and unreliably by hand, and then someone comes along and figures out how to make large numbers of them cheaply and reliably," Graham says. "We're pulling this kind of transformation with venture funding. We're mass-producing the start-up."
Graham is 44 years old and possesses the combination, often encountered in entrepreneurs, of extreme intelligence and a hint of arrogance. He holds a Ph.D. in computer science and has several years of formal training as a visual artist. Before starting Y Combinator, he founded Viaweb, a dot-com software company that helped retailers sell online; it was acquired by Yahoo in 1998 for $49 million. After leaving Yahoo, Graham won renown as an essayist, the creator of a new programming language, and the guy who invented spam filtering as we know it. Today, he funds more start-ups in a single year than a typical venture capitalist backs in a decade.
These exploits have made Graham something of a folk hero to a generation of ambitious techies, who debate his essays, read his books, and pitch him start-ups by the hundreds. But that's not to say that only tech entrepreneurs and the professionals who invest in them should pay attention to what Graham is doing. "Everything is becoming software," Graham argues. "Saying there are too many software companies in 2009 would be like saying that there were too many companies related to words after Gutenberg invented the printing press." In fact, Y Combinator is rewriting the rules of starting a business in almost any industry -- making the case for companies that are smaller, cheaper, and faster -- at a time when credit availability is plummeting and venture capital investment is lower than it has been in more than a decade.
For aspiring business owners, this is a very good thing. Falling bandwidth costs, improvements in open-source software, and the emergence of cloud computing have made it much cheaper to get a company off the ground. But it wasn't clear just how cheap it had become until Graham launched Y Combinator, in 2005. His plan was to gather together a group of smart kids, give them just enough money to keep them in instant noodles and Wi-Fi, and help them bring their ideas from napkins to fully formed companies. (A "y combinator" is a mathematical function that makes other functions, just as Y Combinator is a company that makes other companies.) The program was founded in Cambridge, Massachusetts, but has since moved to Silicon Valley, where Graham hosts two groups of about 20 start-ups a year, in January and in June, for three months at a time.
It's too early to say for sure how successful Y Combinator will become. Early-stage investors expect a return within five to 10 years; if Y Combinator has indeed financed the next Google, it could be a decade before anybody knows. Still, the results so far are impressive. Of the 145 companies Graham has funded, seven have been acquired and two have merged with other Y Combinator start-ups. Just 27 -- less than 20 percent of the total number -- have failed, and the rest continue to operate. A quick survey of start-up activity in Silicon Valley yields dozens of Graham's offspring -- red-hot Web 2.0 companies such as Scribd, Xobni, and Loopt. Meanwhile, funds modeled on Y Combinator have sprung up in a dozen cities, including Boulder, Colorado; New York City; London; and Greenville, South Carolina.
Y Combinator can already claim credit for creating about 500 jobs, a number that will probably grow rapidly as the start-ups, most of which are less than two years old, mature. This success has made a session at Y Combinator a hot ticket for anybody with dreams of launching something big. "I would have given up almost anything to work with Paul," says Sam Odio. In December, the 24-year-old entrepreneur packed up all his possessions and drove west to claim a $10,000 investment in his new venture, Divvyshot. Three months later, Divvyshot had a product -- a photo-sharing website for groups of people -- and Odio presented his company at Y Combinator's Demo Day, a two-day event held at the end of each class at which start-ups pitch angel investors and VCs.
