Why the Subscription Model Is So Effective With Evan Padgett of Stealth Venture Labs

Guillaume: Hello everyone, Guillaume Le Tual here, host of the E-commerce Wizards Podcast where I feature leaders in business and e-commerce. Today’s guest is Evan Padgett, who’s the COO of Stealth Venture Labs. We’ll be talking about the subscription business, especially for e-commerce. But in general, we’ll also talk about raising money, angel investors, VC Venture Capitalists, and building a whole subscription brand.

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All right, Evan, thank you for being here today.

Evan: Thank you for having me. Happy to be here.

Guillaume: Yeah, can you give us some of your background here because you have an impressive background in subscription brands.

Evan: Yeah. So I’ve been in subscription commerce for about 20 years now. Really cut my teeth at a company that was called Intermix Media, selling all sorts of weird subscriptions online and I would say weird, it was the early 2000s, 2002. All sorts of weird subscriptions, beauty products, skincare, toys, and anything you name it. This is a company that ended up getting bought by Fox Interactive Media for MySpace, we were a sister company within the same company as MySpace back in the time. That same group of people that were building the product marketing division, consumer packaged goods, we jumped, ended up at another company that ended up being called Intelligent Beauty, focusing again on skincare and health and wellness products. I was a junior marketer there, this would have been like 2006 focusing on Google SEM and basically, conversion rate optimization even before it had that name, before it was called Conversion Rate Optimization.

That company then evolved into some of the biggest fashion brands out there known as JustFab and Fabletics, Savage X by Rihanna, and I sort of grew in that company for about 10 years, started as a marketer ended up jumping into building out our data and analytics and business intelligence department, which serviced all the brands that we were incubating. Ended up growing into customer service operations and grew our customer service operation from at the time about 130 people to about 600 people, while managing analytics and sort of creating systems for all of that. Took over acquisition marketing efforts as an executive lead overseeing how we were spending our money. At the time, we were spending about $120 million a year globally in advertising.

Then from there, jumped right into basically running one of the companies JustFab as the brand President General Manager and then we acquired ShoeDazzle. So I ran both of those companies for a period of time, managing a pretty significant p&l and a big team. Awesome job, awesome company. I owe a lot to them from what I’ve learned because I spent more than a third of my life working there. After that, I left and went to a company called Thrive Market, an awesome online grocery company focused on delivering healthy foods and some of the best foods for you, gluten-free, organic, etc. dietary needed foods all across the country. It was a really awesome experience showing up as their Chief Marketing Officer during a major part of their hypergrowth. And then, after that, I met my business partner here. I was introduced to my business partner here at Stealth, Brent Freeman. And from there, we’ve been building this thing up ever since. So I sort of jumped from the client world to a client services world. And at Stealth, we’re just trying to make an awesome team delivering awesome output to all of our clients, servicing clients, primarily in subscription. But we have traditional e-commerce clients as well. But doing all their paid acquisition, creative, and just growth marketing for them and working to grow them and having fun doing it.

Guillaume: Sounds good. So it’s quite a run. Now if I understand correctly, you currently actually take on clients to do a paid acquisition for them. And then you’ll help them build their brands, especially if it’s a subscription business, and you also start your own venture of a subscription business. Can you tell us a bit about that?

Evan: Yeah. We sort of “eat our own dog food” a little bit here. We work and build businesses up ourselves internally. Frequently a few times a year, we actually test and try to find viable businesses, looking at the market looking at what could be really viable in paid acquisition. And we’ll build up our own brands, inspired by what the market’s looking for. So not necessarily taking from the clients we work from, but actually just looking and saying, like, Oh, here’s an opportunity, this is a brand we should build into. And we run sort of a proprietary system to test the feasibility of a product to market. A few times a year, we’ll spend about 6 to 12 weeks developing a facade brand, testing it, reviewing how it’s doing with real marketing dollars, and seeing if the economics makes sense. Can we get the CAC where it needs to be? Is there a need for this product in the marketplace? If that’s the case, we go out and do it.

One of our biggest successes, there’s actually an in-house brand of ours called knownalive.com. In short, it’s especially awesome during the pandemic, but we know personally, it’s an amazing family in Italy. When the pandemic hit a couple of years ago, they’re in the hospitality business, they run a bed and breakfast, they do these cooking classes with real Italian grandmothers, [inaudible 06:19] and that all went away overnight. Travel stopped everything. So we said let’s partner with them. They were doing this with Airbnb a little bit too but let’s do virtual cooking classes, and build that out. It’s been an awesome business ever since then. Even now, people are still taking several virtual cooking classes all the time. And we launched an olive oil brand directly from Italy, directly from this family’s vineyard. An olive garden to be able to bring this to market. So we sell our own olive oil directly from Italy. And that just kind of came up because we saw an opportunity in the marketplace, we knew this family was going to need help and support because hospitality and travel just disappeared overnight in March 2020. So boom! We found a really cool business to build just sort of out of necessity and everybody won with that one.

Guillaume: That’s a surprising choice. Of course, with COVID, then you can feel the need that there’s a void to fill right away, no more travel, no more family meetings, and so on. But still there’s a choice to say, Okay, I’m gonna go with finding a grandma who can cook and teach people who say that might be a scalability problem to some degree. But that’s very interesting. Because if you’re able to actually unlock that, then you can have a platform like Preply where you have people who just set their own hourly rate and start teaching other languages. Such an interesting venture there.

Evan: Yeah, exactly. We try to do that a few times a year, just with other ideas, sort of spinning out what the market can bear. It’s a good opportunity. We have a handful of criteria, we run this against. We call it our five criteria for finding product market fit basically, which is always important. It’s pretty easy, it seems pretty straightforward. But we score this, we actually created an internal scoring system for this. And the higher the score, what we see is the higher likelihood of this product being successful. For people that are listening in, this is how I think everyone should evaluate their business opportunity, it is on these five criteria. These aren’t necessarily all-inclusive, but they cover a lot. And it starts with having a passionate audience. A passionate audience in this case means you have a group of people. And the next point is also the size of the audience. You have a group of people that are very excited about what you are offering, meaning, if you are a mountain biking company, and you sell mountain bike accessories and mountain bike products or mountain bikes themselves, you have a very interested fan base, right? You have a group of people that love that; same with skiing, same with beach, same with travel. You have a passionate interest that drives people together.

So having a passionate audience, then coupled with having a large audience. I’ll use the best example that comes to mind and we work with a lot of the best meal at home companies out there but still meal at home. Everyone’s got to eat, right? So your audience is pretty much every buddy ages 25 to 45 or even older, that would order your products online. So having a large audience and a passionate audience, when you have both of those, huge tailwinds in your favor.

A unique value prop. This is the one that most brands struggle with the most and the reason why is if they’re not first to market, they’re looking at their competitors at all times, and I’m not saying that’s a bad thing. It’s a good thing to understand what your competitors are doing but everybody has a tendency to try to be like, I’m just going to do what they do but do it a little bit better or do it a little bit cheaper.

Guillaume: That’s a mousetrap 10% better it’s not…

Evan: Exactly, your competitor has months or years of runway in front of you.

 Plus, maybe they may have competitive advantages you don’t understand. So unless you can own the supply chain for whatever you’re trying to compete against, you’re going to have a hard time with that. Having a unique value proposition says, especially if you’re chasing the market, what can you do differently? What service can you provide that your competitors can’t that makes you unique? Having uniqueness is obviously important. Can there be me-toos, can there be number twos, number threes? Of course, without a doubt. But if you can have a unique value proposition brought to you by, say, owning part of the supply chain. If you’re a coffee distributor, being able to own your supply chain from start to finish can then allow you to sell your product at remarkable prices and yet still generate more profit. That could be part of a unique value proposition. But you got to have something that says, we’re different from people you’re comparing us to.

Guillaume: Yeah, especially when you start a me-too product line, you’re going to have all kinds of other issues that you might not even think about upfront. How will you motivate your employee when you start growing your team and you have dozens of people working for you? It’s like, oh, our objective is to be number two, or number three in the market, we don’t have a vision, and we’re not different. How will you motivate your group with that?

Evan: Exactly, if you’re going to create a competitive me-too type product, you get to the same baseline but at some point, you got to divert off, you got to say we’re going to go this way and my competitor’s going to go that way, or my competitor is going that way so we’re going to go this way, and we’re going to place our bet someplace else. If you don’t do that, you just try to keep chasing your main competitors, and all you’re going to get is dirty because they’re going to leave you in the dust.

Guillaume: You don’t need an Elon Musk vision of we’re going to go to Mars, but you still need a little something that’s different.

Evan: Exactly, precisely. A good example, I’ll use meal at home again. When you look at almost every meal at home company, they try to attack a vertical within meal at home. You might have Hey, this is one that’s great for paleo diets or high protein, low carb diets, this one’s made to be an awesome meal at home cooking experience. So you get the ingredients, and you cook it and you end up with a final plated product, you have ones that are vegetarian only, ones that are explicitly meat. So you have a bunch of meal at home companies but then they all kind of get their own little corner of the space because very few meal at home companies really just service all. They don’t have vegetarian and gluten-free and high carb or high protein, low carb, and also just regular townhome and Southern cooking or Indian cuisine or Chinese. They don’t get super out and try to be all for everybody. They try to just kind of carve out a space, which is what you have to do if you’re thinking about being a number two or not trying to be a market leader or market innovator, but trying to chase.

Guillaume: That’s true. Even from an operational point of view, how will you upkeep the supply chain of all those varieties of food, and then when you talk with your potential client, who’s let’s say a vegetarian, you only have like two vegetarian meals.

Evan:  Exactly.

Guillaume: You are not a very interesting choice, you know.

Evan: Precisely. So you got to have some uniqueness to go along with it. The next one is really good unit economics. When I say really good unit economics, I’m always thinking about being able to have the ability to advertise. I’m not talking about building an organic brand that over time gets PR and gets influencers or only has a celebrity backing it so their PR ends up being them plugging the company so you don’t have to spend money on advertising it. If you want a brand that you can spend money to acquire customers on and be able to attribute that fairly well, you need to have good unit economics. When we say good unit economics in consumer packaged goods, I’m looking at 50% gross profit margins delivered to the customer. Meaning cost of goods, shipping, freight, blended, everything. If you’re selling something for $100, it doesn’t cost you more than $50 to get it to that customer’s doorstep, not including media, not necessarily including your team and SGNA when I think about subscriptions. Now, when you are talking traditional e-commerce and not subscription, you have to have ideally a much better profit margin there or such a high AOV to cover your customer acquisition costs and make sure you get a raw as of three or four or greater if you’re in traditional e-commerce for that to make sense. But the reason why you need that is if you’re just looking at your customer acquisition cost to LTV ratio, you want that to be at a comfortable level for you to be able to spend money in media, because that comes out of your revenue as well.

So if you have 50% of your costs on that first order, going to just the product cost and shipping on a $100 order that leaves you $50 of sort of below gross profit. Well, now you’re talking about taking customer acquisition costs, maybe that’s 25 or 50 bucks, especially if it’s a subscription. Now, you’re not leaving much below the line there. If your customer acquisition cost is say $45, you’re left with $5. Now subscriptions, which I know we’re going to talk about a lot, that’s the beauty of subscription, guaranteed downstream revenue. So you’re not trying to necessarily crush it on that first order, which is why subscription products do incredibly well in advertising, you can monetize that customer over a 3, 6, 12 month period. And when you do that, that allows you to pay more to acquire the customer. And there’s kind of a basic rule of direct-to-consumer acquisition marketing. The one who can pay more for the customer, usually gets the customer, especially in a head-to-head race. Like if you can out buy them, it doesn’t mean you have to spend more. Don’t take that as like a cop out saying, Oh, we just throw money against the wall and see what sticks. But in reality, if you could pay more because your LTV is higher than your competitors, you can buy that customer more often than they can.

And the last piece on my five criteria is that it’s got to solve the pain. This one’s kind of simple, but it’s got to make people’s lives better. It’s got to solve a pain that people deal with and most relatable, I’ll keep it consistent on meal at home companies. What they do, not only do they deliver food to your doorstep, but they save you time from not having to go to the grocery store. They save you headspace by not having to think about what you have to cook or if you need to go buy stuff. They just solve that, they remove that anchor from you, which is a huge pain to many people. As somebody with three kids and a wife, sometimes it’s just easy knowing like, Hey, we’re gonna make this tonight, like we got this meal that we’re going to craft at home, it’s ready to go, we just have to throw it all together and cook it. That’s easy for us, then that makes our lives better and that solves a pain in our lives. So you have all five of those things; an audience that’s passionate, an audience that’s large, a unique value proposition, compelling unit economics, and a product that solves a market pain, you got a really good shot at having a great market fit product.

Guillaume: From your previous point about their lifetime value, LTV of the customer, I guess you just go for as many months of monetization of your cost of acquiring customer as your finances are able to bear the 3 months, 6, or 12. Have you seen some kind of a standard in the industry or it’s just what your finance can afford?

Evan: Yeah, it’s both. The more that your financing can afford in theory, that’s great. But industry-standard and also cash flow advice, you want to ensure you’re getting your media payback at least to the full bottom dollar by like month three. In that example before, say it’s $100 first time order 50% margins, then you get $100 on subsequent orders and say your CAC was $50, you want to pay that $50 CAC back by about three months. There are several reasons for that, the biggest one being your monthly advertising spend times your media payback period is essentially working capital tied up in media. So if you’re spending $100,000 a month on media, and you have a three-month media payback, you need to have $300,000 working at all times just to keep your media platform afloat. And if you want to grow that you got to invest into that, so you need margin to do that. So three months is excellent, six months if you can afford it great, but you’re going to start running into cash flow issues, especially if you want to grow.

Guillaume:  Because you need to multiply. Let’s say you want to increase by 50,000, your monthly spending in your 100k example then you need 150,000 extra because it’s 50k over three months.

Evan: Exactly. And then if that media payback period is six months instead of three months, now all of a sudden you need another $300,000 on working capital just to increase your media spend by 50 grand. The modeling and the financial planning and analysis are critical here. But an average subscription, you’re typically looking at media payback in three months. This is one thing that scares people and I get it, I totally get it. It’s very counter-business. But most subscriptions, and mind you, I’ve been a part of a few dozen and then worked on hundreds at this point, I have only seen probably five that actually are subscriptions that make their money back in consumer packaged goods on that first order. The only types of products that could do that are really just ones with exceptional margins. So health care, health and wellness products, skin creams, beauty creams, stuff like that. Those things, big surprise, probably to no one is, fashion brands and fashion products have like typically 75% to 80% margins. So if you’re doing that, and you’re getting a great customer acquisition cost, you can make money on that first order. Most subscriptions do not make money on that first order when you include customer acquisition cost. And that’s uncomfortable, you’re like I’m sending my product at a loss but that’s where the beauty of subscription over time really starts printing money. It’s like a curve that goes below the line for a period and then when you get enough subscribers, it just shoots right back up. And that is how that works out but everyone gets a little concerned on that dip.

Guillaume: Of course, and talking about that dip in the financing ability, have you experienced, with raising money, seed, capital, venture capital, or just purely financing yourself?

Evan: My experience has always been, I’ve been a part of significant fundraising events, especially pre Stealth, when I was at what’s now known as TechStyle fashion group, all those fashion brands, JustFab, ShoeDazzle, Fabletics. I was there when we raised probably over the 10-year period $400 million, not even an exaggeration. This is information you can kind of go look up and see. And then when I landed at Thrive, they were in the middle of hypergrowth while I was there and it had nothing to do with me being there. But about two months after I joined up, they closed a $111 million round of fundraising. Different time, this would have been 2016-2017.

But the fact of the matter is, those economics especially because of what you can show in your financial planning and analysis, is really exciting to investors frequently because… not to go too deep down the fundraising route. But when you’re presenting a subscription business, you have a lot of power in an exciting subscription business and talking with people that would invest because you can usually show a plan that says, Hey, I don’t need to take money, because I’m going to build up… now your posturing a little bit but you are like I’m going to build up subscribers, I’m going to reinvest my own capital, we’re going to be able to keep growing and we’re going to grow slower but we’ll be profitable and cashflow positive in eight months and on a return on all of our dollars in 12 to16. It’s just not as exciting and we leave ourselves open. But hey, if I get capital, if I can raise 10,15, 20 $50 million, whatever size you need, then it’s like, okay, we can now own our supply chain better, or we can create a new competitive advantage, or we could get into another vertical, and do that more quickly. Plus, I can ramp up advertising more quickly now. Because you guys see the data, you guys see how we’re doing. I know I could double media spend, I just don’t have the capital to do it right now.

You can paint a really exciting mathematical story to investors. And this is something I’ve spent a lot of my career doing is basically showing how the model works. And it’s absolutely rooted in reality. Anyone can put something on an Excel spreadsheet and make it say whatever, but the reality is there. So when you’re not distressed, you can raise money on good multiples, because you can kind of be like, well, I’d like your money because I could grow faster, I could grow quicker, I could secure myself as a number one or number two, even in this vertical. When you’re number one, you can’t stop people from giving you money but when you’re number two everyone’s like mh. But if you’re a market leader, and you can show this graph that says take it or leave it, it gives you a lot of clout.

This is a story that Nick Green, the CEO at Thrive Market tells from time to time, and I’ll never forget it. Before I even started working there, he told the story of when they were growing, they kept reaching out to venture firms to try to raise money. And they kept basically crushing their goals month over month over month. And he tells a story literally going back to the same investment groups every single month saying yeah, so we crushed that goal, and now our valuation’s higher, and they’re like we’re not sure about this and they’re like, Okay, see you in a month. They come back literally a month later to say, alright, you know that goal, we absolutely crushed that goal too. So instead of self-seeking 10 out of $50 million business, we’re now taking 20 at 75 and then now we’re seeking out 25 at 100. And it just kept growing and growing until after the fifth or sixth time, they’re like, Okay, fine, we can really invest now. That’s how they got their primary initial Series A, I believe, was based on the persistence and based on being able to not just show how the growth was working, crush each of those numbers at every interval. And then basically keep raising the stakes higher and higher, so like, we are going to keep coming back because we want money to grow. But every time we come back, you could have gotten in at a much better deal if you had just invested the first time. So that’s the fun part about subscription models, really good FP and A, I enjoy the numbers aspect of it and there’s a lot to play with there.

Guillaume: What kind of multiple have you seen in terms of valuation and fundraising?

Evan: Part of that also depends on what stage you’re in. A lot of subscription businesses seeking a Series A or Series B even are not bottom line focused right now, or historically have not been bottom line focused. Meaning they’re not necessarily running at huge EBIT on numbers. They could show how they could. You could say, hey, we could be conservative, but we know we can go out there and raise money. Depending on where you are at, t’s all about trying to gain what your evaluation could be and that is highly subjective. And certainly right now, I would say capital markets are a challenge. Without a doubt, when capital markets are loose, and you’re able to get funding, you’re talking about setting your evaluation in a loose market at somewhere between three to five times of forward-looking revenue, not even a problem. You can create a model, like, Hey, we’re at 20 million this year, I think we’re going to do 40 million next year, and then get like a 3x, multiple on 40 million when you’re doing like 20 this year, that was not impossible. Right now, probably a little tight, because here’s the rub. The rub with subscription products, and the rub with CPG, in general, is what’s the exit strategy.

A lot of money has been pumped into consumer packaged goods, you look at some of the ones that have transcended into public markets, the Chewys of the world, Stitch Fixes, some of these other ones, but they certainly have their ups and downs, they ride the wave of what the capital market’s doing. So it’s hard to keep besting yourself, but to raise money at a good evaluation and to hope that, if you have an exit strategy in mind, saying like, Hey, I’m building this fashion brand that I hope to sell one day to Target or something like that. Their strategic investor will have strategic interests, then maybe that can happen. But I would say right now, compared to six, seven years ago, your multiples are a little less, you’re probably talking about two extra forward-looking revenue, maybe.

Guillaume: And if you think your forward revenue will be twice this year, it’s like four acts of current revenue.

Evan: Yeah. Still, that’s a big maybe right now, because if you have somebody out there trying to fundraise right now, they’re probably getting a lot of come back in a few months. We’re just going to see how things are shaking out right now. It also just kind of depends on if you’re a distressed business or not. And that’s obviously when you’re distressed, meaning, in this case, having to raise under duress. That’s a very different ballgame. You’re probably seeking debt capital instead of a traditional series A because not a lot of those are closing right now.

Guillaume: Yeah, of course, there’s uncertainty. The war in Ukraine right now tightened the market a little bit. You see the Feds and Bank of Canada and so on increasing the base points for interest rates, of course, it’s a slight tightening of the money market, but it’s still very reasonable right now. Because it wasn’t all those waves pattern and so it was forecast they will still rise by a few more points in the upcoming months. So there will be a little bit more tightening to wait in the inflation. So it’s still better to do it now than to wait because if you need capital, it will be harder in six months, there will be even more tightening of money policy.

Evan: If you got a strong business and you could represent strength right now then my advice for a lot of our clients, we have many small clients too. Clients who are spending 30 to $50,000 a month on advertising. So relatively small compared to one spending millions per month. It’s just being focused on your bottom line a little bit right now, a little bit more so in the face of uncertainty. It’s likely to get worse categorically speaking before it gets better. And also there’s a lot less money being distributed right now because you have a situation where the private equity firms and the investors are waiting to see how brands shake out right now. And that’s kind of the unfortunate nature when things get challenging like this social-economically speaking. You end up running into well, let’s see if you can survive four, five months, they get back to me, let’s talk about that, then. Because if you have the cash, you’re like, I like that business but maybe I’m going to risk and say, I’m going to let them sweat for a few months, and get more equity at a better valuation. That’s your job as an investor. Better for me if I wish, better for the investor evaluation meeting. Take a few million dollars off the top and get a bigger percentage for the same dollars. But right now, with subscription companies, again, if you could present a vision of strength and opportunity, raising money is still really possible. They’re still deploying money into good businesses. If you have a good business, you can go out and get money.

Guillaume: Yeah, because there’s never been as much money as there is now. Because of COVID they’ve printed money like crazy which is part of why there’s an inflation problem. What you’re saying is true, that they will be more demanding, they will filter harder on who to invest in. But there is an unbelievable amount of money available for bouncing around. You have Warren Buffett complaining a few months ago, there’s a lack of good investments right now. They want to co-capital in businesses. But unless the war is over in a few months, that’s the only way I could see things really improving in the next few months of this year, because you will still have hikes and interest rates regardless to just rein in inflation, because it’s going over 10% in someplace in the world right now.

Evan: Absolutely. The supply chain is a major issue. If you’re in consumer packaged goods like SaaS companies right now, if they have businesses to support it’s an awesome place to be. But if you’re in consumer packaged goods, you have extra wait times of your product on the water and going back to marketing, same as subscription and in general, consumer packaged goods. Guess what? Now you have to order your product and pay for it more months in advance because it’s taking longer for it to land here, for example, in the United States. Well, that’s working capital they have to pay for a product that’s going to be sitting on a boat or sitting on a shelf longer than you’d like it to be. That capital has to come from somewhere and that is the tug of war that happens with subscription, whereas, as you mentioned earlier, if you’re increasing your media budget, getting more customers means buying more inventory later to support those customers.

For subscription, you have to project out like 5000 subscribers right now, but at this rate in 10 months from now I’m going to have 15,000 subscribers, hypothetically. Now I need to buy products in 10 months from now that support 15,000 people. So now my costs have gone up there too. As your media and working capital are going up you’re now having to pay more for inventory that’s going to take longer to get here. No vendors are offering small guys terms that say, pay part to ship and pay part when it’s landed. Everyone’s collecting in full before your product ends up on a boat or on a plane. So that’s kind of tough right now. I’m not saying that to dissuade people, but it’s a consideration for your working capital. If you’re getting into consumer packaged goods, and you have a supply chain that exists outside of the country that you’re in, you’re going to need more capital to support it. Because you’re going to have to order earlier, then you’re going to have to tie up that capital longer and you have to make sure that you can afford that. If you can’t buy your product, you can’t do your advertising.

It’s a recipe for sending your business down the drain, or putting it in a really distressed position where you’ve got vendors that won’t ship your product. So you start calling up every investor that you can saying, ‘’I need $2 million right now, otherwise, we’re not going to be able to buy this’’. I mean, there’s nothing that an investor loves more than hearing that you’re in trouble. ‘’Okay, how about this multiple? I’ll write you a check tomorrow’’

Guillaume: Not even 1x multiple, it could be zero point five multiple. There you go.

Evan: Exactly right. Yeah, but your company’s almost out of business! Okay. Again, it’s a necessary part of this but that is the strategy. So the more you’re ahead of the game, the more you’re saying, I need capital in eight months from now to keep up this growth. I don’t need it right now and I can run a more conservative plan, you could posture really great to investors. But if you are calling them saying, ‘’My products are not going to ship unless I wire these guys $10 million or $5 million in a few weeks’’. You will hear, ‘’Well, you’ll get that money but you’re going to give up a lot more of that company than you’d like to get it though’’.

Guillaume: Yeah, exactly. So basically, without the venture capitalists backing you and focusing more on profits. And only when you have the VC then you can play a crazy game of let’s run a deficit to grow faster. But then there’s always the problem of, you may run out of VC capital a little too fast, which is what we hear everywhere. And then you need to raise again, and you’re to be dependent on that thing going on.

Evan: Precisely.

Guillaume: So, it’s quite a game. But let’s say you were talking about your other example, raising 100 million. That was probably not around A, was that like a C or D round or?

Evan: That 111 at Thrive, I believe was a B.

Guillaume: A B, okay that’s a big gain.

Evan: Again, this was 2016. It was a pretty loose bargain back then. I think we had raised about 30 million beforehand. That business had been around since 2014. So it was three years old but was for a period of time, the hottest company in LA as far as popularity, super packaged goods, and subscription is concerned. So it had a lot of clout behind it. Grocery is a tight margin business. So doing subscription grocery required a lot of capital to build out, because we were at the time, starting to develop our own brand. They now have, I think, over 1000 couple of SKUs that are ‘Thrive Market Only’ SKUs. They have to build out their fulfilment centre, they have a supply chain of millions and millions of products and tens of 1000s of SKUs. So it’s cost intensive. Anybody who’s ever been in grocery knows that margins, when you’re a grocery retailer, it doesn’t necessarily make a lot of money on every product that you sell, it just sells a lot of products. It’s a very different model.

So that was like a pretty sure series B. Then at textile, the collective 400 million was probably through D, and that was over a 10 year period of raising money.

Guillaume: Okay, so we’ve talked about your five criterias to decide: is that a good venture to start? So let’s say somebody comes up with something matching all five criterias. Now, let’s walk them through the game plan. What’s the high level strategy here for a startup? So you say, I’m going to start this business, put a bit of my own money into it. I’m going to look for venture capitalist backing or seed money or angel investors. What’s the step by step play of building a new subscription business?

Evan: Step by step, as I see it, depending on what you have to start with. I think any business coming to market these days, you’re going to have to have a little bit of that angel money. So friends and family, angel funds, you need capital to get something off the ground. Now, if you have some skill in the sense of something tangible that you could do, like if you can build websites, or you’re an expert in supply chain logistics or something like that, obviously, that makes a huge difference in some of your costs, but you have an idea. Let’s just for the sake of this say you’re going with a subscription product, because I speak most familiar to that. Launching a subscription product, I always advise getting a read on what the market is going to think about your product. So we create facade brands, you can create not necessarily a facade brand if you want it to but you can do a pre-release of your product. Try to generate a little bit of buzz, see how it’s received, spend some advertising dollars against your pre-release. And this is not too different from how people have been doing it with Kickstarter and stuff like that.

There are marketing firms that help you market your product through Kickstarter, if you’re an innovative product, this is how a lot of brands really came to market. Others may have come to the market through crowdsourcing, not just Kickstarter. But all that’s doing is taking the place of angel money kind of, and creating a little bit of marketing buzz around your product to begin with. So you need some capital, call it several $100,000 to be safe, maybe half a million dollars would be a great cushion. If you’ve got friends and family that you can get that from, get your web presence going. Getting a good solid web presence on an e-commerce platform out there; Magento, Shopify, any of those. It is not actually super cost intensive to get an initial product out the door. You can work with freelance designers. A lot of these platforms have a great WYSIWYG, What You See Is What You Get style interface. You can drop assets into a template and build a competent website yourself. There’s no reason that an entrepreneur of any age couldn’t build a competent website. Not the best, but one that conveys the message, has a good UI, UX and converts.

Guillaume: You will need a SaaS system like a Shopify, for Magento you need coding knowledge, even some extension. Anyway, if you’re a startup, if you’ve got half a million backing and following, you could go Magento. Otherwise, you could go with SaaS or something like that. Just start on a simpler level. Basically, when you start a website as a startup, you want to keep the cost low on the platform itself, and not be too demanding on design tweaks and all that. Just keep it simple, template modifications, and so on, and just spend a lot on advertising and marketing and products and not that much on the website’s mechanical aspect for the startup phase. Then you’ll probably need to replatform it a bit more.

Evan: Exactly right. So yeah, the replatforming piece or depending on how unique your subscription is. The kinds of subscriptions I’ve been a part of when we were building a textile, this was pre any of those out of the box platforms anyway. We built a totally customed soup to nuts platform, the entire e-commerce platform is still entirely customed. When we were at Thrive, we were on Magento, and that was because we had our own warehouse management system that plugged in, it was a very customed unique subscription model. So depending on how you evaluate a subscription, that is, a monthly, quarterly, semi-annually or annually subscription at a fee, you get products in a box you can use a turnkey solution. If you have things that are complex and layered, like extreme flexibility in the subscription model, or subscription models that lead to access into specific product types or protocols. So let’s say you are a silver, gold or platinum level subscriber, you see different products or have a different level of service, basically a highly custom solution, then you would want to invest more in the technology at the beginning.

Guillaume: And just a little bit of clarification, I have full podcast episodes on Magento versus Shopify and stuff like that, if you want all the details. But in one sentence, the more simple the project the more Shopify it is, the more complex the project the more Magento it is. So it’s like multi-warehouse, multi-language, multi-country, multi- whatever, then you’re typically looking for more than Magento. If you’re in the startup phase with venture capital or just good finances, you would want to keep it as simple as possible, almost out of the box as it is. Just launch, spend your money on marketing, spend on acquiring clients, on the product market shifts stuff, and then you can say, at least I have a Magento that they can customize later when there’s more revenue and more investments.

Evan: Absolutely.

Guillaume: You can say, I’m going to keep the Magento simple for phase one. I have the possibility of customization later on, down the road that I would not have to do in a Shopify. Shopify would still be good for you to scale up to a few millions, I’ve seen migration both ways. From Shopify to Magento, Magento to Shopify. But for most startups, typically, something like a SaaS software would be like a Shopify with typically the best pick for a startup. A Magento is for the more established companies.

Evan: Yeah, you’re absolutely right there. I think that that’s the best way to think about it. Keeping it simple, out of the gate is definitely preferred. And if you have capital it needs to be more complex, if it needs to. Some of these businesses kind of need to be like, I will admit that again and I’ll come back to this example as it is just the easiest for me, meal at home companies tend not to be able to do that well with Shopify at the gate, because you have highly custom menus. You can send out 50,000 boxes that have 50,000 different configurations, and things like that, because of what people can order and what products they can or can’t eat, allergies, all this stuff. That sort of stuff starts getting too complex for an out of the box Shopify build, where you would want to build your own or work with a Magento type platform to be able to launch custom code. Because you can end up with, as you said, multiple fulfillment centers, multiple suppliers. If you’re having to order 500 green onions and 300 chicken breasts from this supplier, that sort of stuff, any system can do that automatically. That doesn’t happen out of the gate with Shopify.

Guillaume: I can relate, we’ve done exactly that. Food subscription business that was running on Shopify, we’ve migrated them to Magento butcherbox.ca.

Evan: Oh, Magento butcherbox.ca? I’m very familiar with them. They’re a client of ours. So back to what I was saying, starting a business you have an idea, you have a concept, keep it simple. You have capital, you go to market and start advertising. Now, where do you advertise right now? You advertise everywhere. Two years ago before iOS privacy really took hold, iOS 14.5 really grabbed and changed things. I would say, don’t even bother with answering Google, Facebook, and Instagram until you’re spending 100 $150,000 a month then you can start looking at more channels. Now, try to create an organic presence everywhere and market everywhere. If you’re going live to market, you want to make sure you have a good 25 to $50,000 in advertising to understand how the market is going to respond to you. Because no matter what, us included, your first go to market will not work.Out of the hundreds I’ve been a part of over time, only a few have ever turned their product on and been like, ‘Customer acquisition costs are looking great and this is scalable’, like it just does not happen.

So then you have to listen to what the market is telling you. You have to say, how am I stacking up with pricing? What do I need to do? What do I need to change this? Is your offering eliciting a few customers you do get? Actually try to get information from the people that sign up and maybe don’t end up converting. Or they have come to your site three or four times, you trigger them with a problem saying like, ‘’Hey, why aren’t you buying’’? People fill that stuff out, they really do. And they’ll say, ‘’I don’t like anything you’re selling or it is too expensive’’. That happens a lot. Or it’s just not what I’m looking for. But listen and modify, every entrepreneur needs to go in knowing that the first version of their business will not be the one that gets them where they need to be. Show me any business that has grown to even 10 or $20 million a year in revenue, it is different than when it launched. It is going to be different; the pricing model, the subscription model, the merchandising, whatever. They’ve had to expand in certain areas and contract in others, it’s different. So you’re not going to figure it out before you go to market.

Once you realize that, you put your best foot forward based on what you know and be ready to adjust and change. This is one of the hardest things that I’ve seen entrepreneurs struggle with, the adaptability. Because you don’t want to change, you want to make your product work because you believe it so much that it’s the right product. But if the market is selling you, you’re off, and it’s going to show you that by customer acquisition costs and it doesn’t get where it needs to be. Your LTV is lower than it should be, you’re going to go nuts trying to make that product work, when in reality small steps to the side, just in your pricing, maybe going from a monthly to a quarterly subscription. Maybe just reframing how you look at those five criteria and say, ‘Oh, I’m not explaining how we solve a pain for this customer, I’m not explaining that by getting our product you’re now saving 100 hours a year waiting in line at the grocery store’. It’s easy to miss that mark because you see what your product can do, and as an entrepreneur you know in your head what your product can do but when you have a tiny ad and a landing page if you’re lucky to explain that, you need to find a way to communicate that.

So have flexibility when you launch, be curious on testing and read the data. The data tells you everything that you need to know. If you’re not sure about some of the data, find ways to get more of it. Find ways to do screen recording, the technologies all over the place, hot jar is one of my favorite apps ever. I love it, I get to see what people are doing on the screen, I get to look at their journey, and I can only look at so many. You start noticing like, ‘Oh, no one’s even paying attention to the thing’, which is all that I see when I look at the page. You have a biased set of eyes when you’re in the business. So be ready to adapt and grow, iterate. The last thing I’ll mention, above all, and this is my bias as an analyst and as a data person in general, have data that backs everything that you do, including your financial plan that backs what you’re doing, by managing your cash flow, managing your incoming revenue in the future from subscription revenue, understanding and tracking your churn and the most important KPIs for your business.

When you are a subscription business, there are more KPIs to track. Like when you’re in e-commerce business, you’re pretty much just looking at rows, as in revenue in and you hit the mark, you missed the mark, your return rates, and things like that. But with subscriptions, you’re watching all over. You’re watching on e-commerce, plus you’re looking at churn, you’re monitoring an LTV number, you’re bouncing that LTV number against your customer acquisition costs at all times. You’re having to look at your cash flow because it’s a different cash flow model than when you’re on regular e-commerce. Because you tend to grow more consistently with subscription versus e-commerce where you have like some e-commerce companies make all their money in Q4. They make 70% of their money in Q4 for the holidays, or something like that, and then you have the other 25% throughout the other nine months. So they plan that.

Guillaume: Just close it and go play golf.

Evan: Exactly. Pretty much. So if you don’t have a Proformer financial model that is continuously updated monthly at least looking at your churn and main KPIs, you will get caught off guard some month. You’ll be like, why is my money like this? I hired some people, why is our revenue not growing? And you’re going to remember that month, we spent a lot on media, we got a lot of crummy customers, because we were leveraging affiliates too much. We got to bad cohorts, our LTV is actually 30% lower, which means our payback periods are now longer and it means we have more working capital tied up and you will be like, ‘Oh my goodness! This is a worse picture than I thought’. So if you do anything, well, you’ve got to be obsessed with your numbers and not just manage your business off a bank account, which I’ve seen businesses do. Businesses will be like, ‘Oh, my bank account is growing every month. So we’re doing something right’. I’ll be like, ‘Oh, my gosh, track this stuff. It’s all there’.

Guillaume: Yeah, if you’re going to track from the bank account, at least use the Profit First method from Mike Michalowicz, at least. Split it up into a few accounts, like split profits, taxes and operational expenses.

Evan: Exactly.

Guillaume: That could be good. So let’s say we have the big picture there. You have your five criteria question. Let’s say you have a great idea that matches all the five, you create your base website, the base Magento or Shopify site. Magento if you want to customize more, or Shopify if it’s more of a simpler business. Then you go and try to raise some money from friends, investors, angels around it, and get maybe the first half a million dollars, and a mix of your own pocket and others. Then you would try to go and see venture capitalists to inject, like, how big do they start typically? Is it one million, a few millions? And when do you plan to see them, in terms of business volume, do you wait to reach your first million dollar a year, or do you go before that? When do you go?

Evan: This is my take on this, part of this is a personal decision. It depends on how confident you think you could go further and how much of the company you are willing to give up. Because if you go for a friends and family round, convertible note, it is part of that being a debt that you’re paying back with interest depending on how they sit on your cap table, you have to be ready to give up more of your company. Now, my mindset is, if you’re basically seeing yourself running out of money within six months, you need to be out raising. If there’s a world where you can run out of money in six months from now, that feels like a long time. But with supply chain and media changing and everything like that, it’s not very long. If you have a plan that says we’re going to be way too low on cash in six months from now, you need to go raise. Now, how much do you raise? So you’re through your first half a million, even a quarter of a million somewhere in there, you’re on friends and family round, good friends and family, wealthy friends and family at a half a million. Not everybody can get that. But you know, if you have people that are waiting to invest in you, that’s interesting.

Guillaume: You probably need angel investors for most people to reach half a million unless you have, like I said, wealthy friends and family.

Evan: Yeah, you’re even part of companies where someone’s already done it before and they’re like, ‘Yeah, I’ll invest in you’. That can happen to leverage your network, you never know. You never know who knows whom. So usually after your sort of initial round, I would say on average I see people raising like a three to $5 million round. If you can take a half a million dollars and get it to about three to $5 million of your business, then you start looking at raising three to $5 million and giving away a big part of the company at that point. You can still say, ‘Hey, we’re a $5 million business and I think we’re going to be able to double or triple’. Because in those first couple of years, you get those doubles and triples, and even quadruples go from five to 15. It’s not crazy if you have capital.

So maybe you give away 15 to 20% of the company to get a couple of million dollars. That couple of million dollars is going to last you in my opinion, until you’re getting a pretty serious, you’ve named round series A at that point. You’re probably going from friends and family to Angel to Series A. That series A, I always like to say, try to treat that as the last bit of money you ever have to raise. It doesn’t mean it’s the last money you’ll ever raise. With series, A shoot for like 20 million $50 million depending on your size of business but now you have to be big. You can’t just do 20 million off of a $20 million a year business but that previous few million dollars, you get that kicking out of $30 million a year or something like that and say hey, ‘I need growth capital because I’m in a business that I want to buy my warehouse’, you never want to buy a warehouse, don’t ever say that. But maybe, ‘I want to replatform and develop my tech, I want to jump to three new product lines because these are complementary product lines and I’ve got a million subscribers here. I know I can get 100,000 subscribers if I offer this to you just from my million that I have’.

Come up with a business plan, raise a Series A, and at that point hope that you never have to raise again. Or if you’re raising, you’re looking at, in my opinion, strategic investors, meaning somebody that makes your business better and or somebody that will potentially acquire you after your series A. So you’re like, these guys have interests. If you’re a meal at home company, take some money from another meal at home company that may want to acquire you someday, or a private equity firm that has connections into the meal at home company. So then they’ll all kind of talk and they’ll figure that out. So after your series A, you are only ideally looking for strategic investors to then produce an exit for you someday. That’s how I would run it. Now, a lot of subjectivity brands could read through series, A, B, C, D E, et cetera, et cetera, and stay private and go longer.

Guillaume: Yeah, but when you raise a serie E, I mean, you probably have like nothing left of the company, it’s 2% or something. Unless you are Netscape, building a company with no money.

Evan: Exactly. I guess the last piece on this is actually just having a little bit of a destination in mind, meaning, if you’re trying to build a company that’s wanting to be a publicly traded company someday. It’s a very different path and somebody that’s trying to say, I want to build a company up and sell it for $50 million dollars or $100 million, someday. Awesome wins on both sides but a different mindset is absolutely required. If you’re like, I’m going to have a public company, I’m going to ring that bell in New York City. There is nothing wrong with that. But your fundraising path does usually go into the B’s and C’s, it does go with a round that’s $100 million or more. As a CEO you go from, ‘I’m building this business in my garage’ to your job is then managing your board and investors and keeping them all happy as a private company, then take it public someday. Those are very different paths.

So I’m speaking more from, you’re an entrepreneur and a home run to you is creating generational wealth for your family and your family’s family and stuff like that, stop at a Series A. If you’re going to create a public company, guess what, everything gets more expensive, you have to have so many controls in place. I’ve been a part of companies that have gone public, or gone down that route of going public and there you have things like SOX compliance, Sarbanes-Oxley. That is a heck of a process to go through just to become compliant with your financial controls, your communications and all that. It’s not a bad thing, it’s just a lot of work and takes a lot of time, it takes a lot of money to do that. So if you get to that point, those are good problems to have, congratulations. But also your fundraising doesn’t stop there, you got to be thinking big picture. At that point, if you’re not innovating, if you’re not the market leader trying to make a publicly traded company, you’re never going to get there.

Guillaume: Basically, the IPO is the billion dollar play. The other one you’re saying, ‘Hey, that’s $100 million play, and I’m done’.

Evan: 100 million dollar play looks good to most.

Guillaume: Yeah, exactly. We don’t all need to build the next Tesla or whatever.

Evan: I mean, if you got the trillion dollar play which you’re in for 20 years if you’re doing that. But congrats to those.

Guillaume: Yeah, well, maybe you should not aim for that.

Evan: Don’t start there, try not to start there unless you’re like Elon Musk.

Guillaume: You probably have higher odds of winning the lottery if you run the math.

Evan: Absolutely. It’s like winning the lottery like three times probably.

Guillaume: Probably something like that. Because you have like $6 trillion companies right now.

Evan: Yeah, exactly. Out of all the hundreds of millions that have existed and failed. Yeah.

Guillaume: From the stats I’ve seen, less than 7% of businesses are just over $1 million a year. Then like 0.4%, were over $10 million a year, and in that 0.4%, everybody is from 10 million to the trillion dollar caps.

Evan: Yeah. I want to close out with one big mind shift thing here. There’s absolutely no shame and it’s also a great business to have. I’ve worked with several businesses that basically created a cozy little cash flow business for themselves. Businesses kicking out $10 million dollars a year in revenue, operating off of 10 to 15% EBIT margin, so they’re putting a couple of million dollars down and back into the company, and they have a light cap table. So being an owner, you’re able to take distributions and tap into that money and leverage that asset, that’s an awesome living too. Some people just want to build a business and see where it goes. There’re so many different motivations. I’ve worked with a lot of those people that are just like, for lack of better words, almost a family business, they have a staff of 20 or 30 people, they’re growing comfortably but not overextending. They’re profitable pretty much after their first year, they take in some growth capital here and there but they don’t give away much of the company.

An outcome for them is they get cozy enough to where they are either kicking off a bunch of cash for themselves or they get swallowed up for rounding errors by bigger private equity companies that are bigger conglomerates. That would be like, hey, we want to own every company in this niche fashion subscription box space, and they just go around and sweep them all up. But that does happen, like the sweeps of small to midsize subscription box of $10 million a year type boxes. They get rolled up every so often, every few years I should say that happens and probably tuned to happen again. Then you get groups that will be like, ‘Oh yeah, we’re just going to own every niche little fashion box or niche little outdoor subscription box or something like that. Then they just buy all those up. So then that could be an exit for you too. If you have stable economics they’ll hit you up and be like, ‘Hey, what’s this look like’? You’re like, ‘Yeah, I own like 92% of the company. Here’s what our economics are. We have run a profitable company for the past five years’.

You can go on a lower multiple and just make a deal happen and get a huge win because your cap table isn’t infused with people who think that a 3x return is a miss. So that’s another way to go about it and that is out there, that is a great way to run business. And like you said, those are businesses that sit in, even if they’re a million dollar business, if you’re kicking off 25% EBIT on margins on a million dollar business, plus you’re paying yourself along the way, cool. Like 250 grand a year that you could tap into, you keep building that for a little while. Run this for five years, you got a million dollars in cash just sitting there, sell it maybe $5 million or just shut the business down probably earn a million bucks so or just run the business proficiently.

Guillaume: You’ll most probably sell it because then you are just wasting the assets.

Evan: Yeah. But I’m just saying that you’re in a winning position regardless in that case, so interesting stuff. That’s a great talk.

Guillaume: Yeah, enjoyable. A shotgun question, any last thoughts or suggestions, let’s say to someone starting out a new subscription business on that path?

Evan: I would say embrace a certain amount of patience and embrace a certain amount of flexibility in what you’re trying to do, and patience, flexibility and curiosity. What that manifests itself is, be curious about how your business is running and how your metrics and KPIs look, so do not lose sight of that. So curiosity and KPIs, having patience about how the market receives your product. And in general, being able to persevere through turbulence in marketing conditions and just try to make quick decisions instead of overthinking it. The market will tell you again how your product is. They will if you’re trying to advertise it, it’s not about what you think. You could try to convince them, but if you’re trying too hard to convince them you’re missing something. So just take a good look inside and you’ll be better off for it.

Guillaume: Of course, and if somebody wants to get in touch with you Evan, what’s the best way?

Evan: Find me on LinkedIn, just Evan Padgett, you’ll see my profile pop up. There’s not too many Evan Pagets out there, [email protected]. Reach out over email or just post on our website, stealthventurelabs.com. That’s another way to reach me as well, if the previous two don’t work, I always love talking about the industry. Just reach out anytime, I’m always happy to give opinions or thoughts about anything. I candidly really enjoy contributing to this industry and if you want to talk about it, let me know.

Guillaume: All right. Well, thank you for being here today, Evan.

Evan: Thank you for having me. I appreciate it.