How Founders Can Validate, De-risk and Scale Industrial Technology Companies

Startups seeking to transform established physical industries are gaining more investor interest, however they are still struggling to translate that attention into investment. At issue, particularly at the pre-product stage, is the inability to quantify and communicate their growth trajectories to the investor community. 

This topic was the focus of a recent dynamic and wide-ranging webinar where panelists debated the metrics that matter in the evolution of industrial technology and dug into the key performance indicators (KPIs) and issues faced by industry-leading startups that are addressing the fusion of the physical and digital worlds. Co-hosted by Austin Badger, Managing Director of Frontier Tech at Silicon Valley Bank, and Seth Winterroth, Partner at Eclipse Ventures, the impetus for the conversation was the findings of the recent SVB report, The State of Hardware-as-a-Service.

Badger and Winterroth were joined by leaders of three industrial technology startups targeting different industries: George Netscher, Founder and CEO at SafelyYou, working in healthcare with a solution to help prevent falls among individuals with Alzheimer’s; Arshan Poursohi, Co-Founder and CEO at Third Wave Automation, automating forklifts within warehouses; and Travis Deyle, Co-Founder and CEO of Cobalt Robotics, providing robot-enabled services for safety, physical security, and facilities management.

The three startup CEO panelists talked about the importance of doing ‘napkin math’ to prove out the potential market opportunity their solutions are pursuing. Deyle at Cobalt estimated the annual budget line item for having a human security guard in position 24/7 at around $300,000 and the assumption of one million such personnel across the U.S. “So, that’s $300,000 every single year and a robot has a multi-year lifetime,” he said. “You can support some very capable hardware, but you also need to show that you can get to a minimum of 50% gross margin, ideally 70%.”

Over the long-term, the hardware involved ends up as an on-book or off-book operating expense, surprisingly similar to a SaaS model. “In our case, we were pulling into an OpEx budget, so it naturally melded to this as-a-service aspect,” Deyle said. “What you want to avoid getting into is trying to change the default way in which people buy things. Trying to shift people’s buying patterns from CapEx to OpEx can be really dicey.” The goal for any startup is to support the average contract value by making sure that the solution you’re delivering matches your business model and the customers you expect to support.

Pourshoi agreed and also talked about the importance of Third Wave conducting its own market research as an additional market and customer proof point. “We literally went door-to-door near the Port of Oakland, which has a lot of warehouses, and we almost pretended to sell the thing we hadn’t built yet to see how people reacted,” he said. “Everyone understood when we said we were going to automate forklifts, and they responded, ‘Great, how many can we get?’” Third Wave didn’t need to explain what its robots would do or what the ROI was because the budget and expectation already existed among its potential customer base.

This bottom-up work gets to the crux of a solution and the economic value on a per-installation basis, according to Winterroth. Two things Eclipse looks for in early-stage companies are: 1) Whether they have underwritten the problem from the bottom-up side of things and 2) If they have scoped out their engineering risk. “Then, when we work with you on your development plan, we can think about what is the right amount of capitalization to help you get to the other side of the chasm on some of those key milestones from an execution perspective,” he said.

Winterroth sees many later stage investors out in the market, eager to underwrite great businesses, yet less willing to take on complexities around engineering risk and early-stage execution. “At Eclipse, we are trying to get companies in this ecosystem to a place where they have predictable, qualified and forecasted revenue running through their pipelines with solutions deployed efficiently onsite with customers,” he said.

Industrial technology startups offer the investor community a host of benefits that pure software companies don’t, including the stickiness of their solutions and increasing contract size, according to Winterroth. “For example, take a solution in the supply chain space targeting top-tier 3PLs (third-party logistics providers). They have tens, if not hundreds of sites, and hundreds, if not thousands of units, which is a big total contract value,” he said.

The priority as a startup CEO is identifying and addressing whatever issue currently poses the greatest obstacle to the business moving forward, according to Netscher at SafelyYou. “If your biggest risk is that nobody’s going to pay for your solution or that it’s not technically feasible, you need to be doing things to de-risk those issues,” he said. “The first biggest risk is the core value proposition: Do people actually care?” What a startup needs to see from potential customers is a “jaw-dropping” or “pupil-dilating” reaction, Netscher added, along the lines of “Holy sh*t, if that was here today, sign me up!” versus a “Oh yeah, that’d be nice.” As startups de-risk each of the core potential business blockers, they can move faster and faster.

The panelists also talked about the difference between taking (and often rushing) a new software application to market versus investing the time to ready, although not fully perfect, a combined hardware and software solution. The minimal viable product (MVP) approach beloved of software developers only works in the hardware world if it’s out in a limited way with customers in the field.

“I’m sure a lot of us have MVP scar tissue based on Raspberry Pis or other hardware,” Netscher said. “I remember when we had our first eleven sites, we were basically running a beta test and we wanted to validate our core value propositions and technical feasibility in order to move towards getting our first contract signed.” At that point, a startup is focused on proving that its solution is worth building versus building a truly scalable product. It’s very much a step-by-step approach.

Poursohi at Third Wave concurred. “If you get to an MVP without having already tested it at a customer site somewhere, you’re probably fooling yourself about the MVP,” he said. “The part you get wrong will end up costing you a lot of time if you scale before you have the product out there at customer sites.”

For all three of the startup CEO panelists, having real-world experience inform their solution road map at a very early stage was extremely valuable as were all the learnings from being onsite with customers fixing issues and the insights gained into their day-to-day challenges.

One topic that resonates with Winterroth is how founders assess the importance of industry experience in their team’s DNA. “Unlike pure software, there are system design decisions that have been made early on,” he said. “Any one of them that you get wrong can totally tank your experience with your customer onsite.” 

Pourshoi noted the importance of being able to get into the weeds of the customer environment as well as the importance of speaking the same language as the customer. “For instance, no one calls them ‘forklifts,’ they’re called ‘trucks,’” he said. “And if you say the wrong thing, you’re immediately on the wrong foot with the customer.”

This is where industry insiders with similar backgrounds and shared experiences to your customer can be very helpful since they will likely have a much easier time quickly building social connections within that vertical. That said, Netscher noted that simply picking someone with industry expertise is no guarantee that they will thrive at a tech company—some people may flounder given the expectations are so different. He also advises founders to be mindful of their own weaknesses and to identify the expertise gaps they need to fill and when they can hand off responsibilities they initially took on so that the business can scale.

At Eclipse Ventures, we seek to partner with founders working on disruptive technologies that can modernize the world’s physical industries and open up new markets. Seth, in particular, would love to hear about your big idea related to solutions to transform the manufacturing, supply chain or transportation industries, drop him a note at seth@eclipse.vc.

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