Risk as Currency in Deep Tech

[00:00:00] In this episode, host Richard Conway talks to Phil Morle, Partner at [00:00:05] Main Sequence Ventures and Chair of Eden Brew, Nourish Ingredients, Samsara Eco and V2foods, about how boards should think about risk in deep tech and other capital intensive startup environments.

[00:00:19] Richard Conway: Hello and welcome to Minutes by boardcycle.

[00:00:21] Richard Conway: I'm your host, Richard Conway, and today I am joined by Phil Morle.

[00:00:25] Richard Conway: Phil, welcome to the podcast.

[00:00:27] Phil Morle: Thanks for having me.

[00:00:28] Richard Conway: So Phil's a partner at Main Sequence Ventures, a deep tech VC firm. He's also the chair or director at a number of cutting-edge deep tech companies, including V2food Foods, Samsara Eco, Eden Brew, and Nourish Ingredients.

[00:00:43] Richard Conway: So Phil, it's really clear to me that you are an innovator at heart but in your capacity as the member of a board of these companies, you are also involved in their risk and governance. So I wanted to talk to you today about the tension between those two different things. You've also pioneered this venture science approach, which involves building companies based on scientific breakthroughs.

[00:01:08] Richard Conway: It seems to me an issue that you are constantly dealing with is that there's just a fundamental, "will this even work" type risk. And so, how do you think about risk as the chair of a company when you're not even sure that the idea itself will work?

[00:01:23] Phil Morle: Great question. This is the fundamental currency of building new ventures is sort of managing that risk-to-value equation over time. I think an important thing to differentiate here is when we're working with risk in the world of venture, it's about identification and management of risk, not avoidance of risk.

[00:01:47] Phil Morle: In venture, to be successful, we must lead into risk. We must commit to creating businesses, and funding businesses and building businesses which are risky. The valuable companies are going to be the riskiest companies. That's the heart of this job, in venture capital.

[00:02:10] Phil Morle: So what we need to do is just have a way of dealing with it, and a way of talking about it, and a way of measuring our way through. Obviously we need to figure out what the risks are upfront and have a clear plan for retiring them. You mentioned in your opening question that, "will this thing even work?" Before we start companies, we make sure that the basic science works. Just to give you an idea about where we start the companies. The science has to be at a point where it's proven in the lab and there's good reason to believe it's going to work commercially. And then the work of the business starts where we start putting that scientific idea in a commercial environment to see what happens.

[00:02:53] Phil Morle: Probably not selling the product yet, because we may have some years of work to do. But actually pre-selling that to customers, actually doing early pilots with customers, actually experimenting with things to see how it's going to work and what the business model should be and what supply chains it should go through and that kind of stuff.

[00:03:13] Phil Morle: We have to very quickly answer all those sort of high-level questions: you know, will the technology work. Do customers want it? Which customers are they? Who do we have to partner with? and you said that delightful phrase that we do use a lot in this world. The "default alive". That is what we're trying to get to. We're trying to retire risks sufficiently to get to the point where the company is alive regardless of needing extra venture capital money or anything else. It's operating as a business covering its own costs at least.

[00:03:46] Phil Morle: The way we think about it in the venture capital world is, the first frame is not so much "what if it doesn't work"? It's "what if they're right?" So what if they're right And this does work? How big could it be? And then how are we going to get to that point? And then within there, what are the risks that we think are present?

[00:04:07] Phil Morle: So, we might not be able to make the product cheaply enough, for example. Then we say, well, okay, what do we need to do about that? Just make it a job. It might not be cheap enough. Okay, so what's the work that determines whether we can get it to be cheap enough when we produce it? And then how are we gonna measure our way through that?

[00:04:26] Phil Morle: And then we just give it like a Bayesian marker: so is it probable, possible, etc.? So here's something that's super risky, and it's possible we can't get through it. Just prioritising the risks of making our way through those things is a critical part of the work.

[00:04:41] Phil Morle: One of the things which a colleague of mine on one of the boards innovated recently and helped the company was she created a risk matrix. Not one of these sort of huge multi-page spreadsheet ones, but it was a director-to-director way of analysing what each of us felt were the biggest risks for the company right now, and what was our tolerance within that risk area. Where would we risk safety? Where would we risk a commercial deal with a customer? Where would we risk the critical path on the business plan right now to go down another direction? It was sort of really interesting questions like that.

[00:05:25] Phil Morle: That was the first time I dubbed that, and I found it really helpful as the chair of, uh, of the board then to know how to steer the conversation, and know where everyone's tolerance was. Also allowed us to have a conversation around, "Ah, well why are you really worried about the business model at the moment? Why are you the only director that's worried about that as opposed to this?" And we could have that conversation and align and calibrate and sometimes that exposes. An area of risk which half the board were not thinking about and should be thinking about. And sometimes it exposed things which were a worry in the back of someone's mind which didn't need to be there because it's already been retired.

[00:06:08] Phil Morle: So yeah, risk is a currency in these businesses, and we just need to work with it.

[00:06:12] Richard Conway: Yeah. And Phil, picking up on that "risk as a currency" kind of idea, I wanted to ask you: you've obviously got risks in the core area of innovation that the company is doing, where you have to have a high tolerance for risk in that area. But these companies also have traditional risk, like traditional business risks. You mentioned safety. If they're manufacturing companies, they all have all similar kinds of risks in that space to any manufacturing company. And do you take a different approach to what I would call traditional business risk or is there actually a risk that because you have high appetite in one area, you're going to introduce high appetite into other areas where you shouldn't necessarily have that appetite or tolerance?

[00:06:59] Phil Morle: Yeah, so think one of the things we wheels like to do is, even for the very first day of a business, have all the habits of a bigger business. So, a typical risk register we would always have for a company, and even if it's a spreadsheet with five rows on it on day one. And then over time, it expands, as we understand the business that we're building.

[00:07:24] Phil Morle: Then that's fine. It's fine for it to be that short, but it gets us, as an early board finding our feet, thinking about safety, thinking about risk, and properly reporting on that. And I think you touched on an interesting point there. I think it is important. The point you made about, maybe making a call to take more risk on one thing versus another thing, it's something we have to do. And it's that question between risk avoidance versus risk management.

[00:07:52] Phil Morle: For example, a commercial risk with a customer. We may be in a situation as a board where we're operating a business which is doing okay. We're selling some stuff, some sort of reasonable margin early days. Some customers are really dependent on it.

[00:08:10] Phil Morle: And one of the questions is, how much risk do we want to take to lose those customers? And we might say, well, look, we really hope not to lose those customers. But this company we're building at the moment is not a very good company. It's not performing that well. So actually, we will take the risks that those customers leave. They may have to leave, they may just be not happy with this direction we're gonna go. So just taking that risk and that's okay. But we know, as a board, that was sort of happy to do that.

[00:08:41] Phil Morle: I think that's a really important thing to do with startups to be prepared to lose things. And that as well as actually just knowing all the things which are just we just can't for a food company. The food can't have any, you know, safety issues in the food. If we're doing a factory, people can't be harmed. As the company grows, we need to learn about what all those things are and make sure they're being properly managed.

[00:09:03] Phil Morle: Just another thing I would say on risk is, I like to think about agile governance as a principle, especially around managing risk and opportunity. I find boards could get into a conversation circle where something's taking an awfully long time. People are intellectually trying to imagine something that's hard to imagine and want to have all the answers to that imagined world that we're sort of talking about before the company decides.

[00:09:35] Phil Morle: Now, in a business that might be burning hundreds of thousands of dollars a day, it would be very expensive to defer that conversation for a month or a quarter, or depending on what the cadence is of the board. So it's kinda how do we move forward? Like how do we always move forward as a board? And how do we break down the decision into smaller pieces so that we could get the evidence we need in order to move forward with bigger commitments and taking more risk?

[00:10:07] Phil Morle: So, I'd like to sort of work with management so that management actually come to the board with a kind of package that says, "Here's what we'd like to do, here's why we'd like to do it, and here's the first step that's really easy for us to commit to." When we've done this, we'll be able to talk about whether it's worth going deeper at the next four meetings so we can keep things moving forward.

[00:10:31] Phil Morle: And I think that's very important and ultimately, trying to avoid a really big, one way door, potentially risky decisions. And if we do get to those points, which we do, I mean, they, they come up, right? If you are heading to a point where you know you're going to be agreeing to commit $300 billion to a factory in a certain part of the world. That's a big decision.

[00:11:01] Phil Morle: So I've got one board where that's a conversation at the moment, and we know to the slam dunk financing idea that we were talking about earlier, we know what date we have to commit and it's one year from now. So we've got time, but there's no way we want a board paper coming to the board a month before that time that says, "Here's all the reasons why we should deploy $300 billion.

[00:11:25] Phil Morle: We want it to be a board meeting by board meeting every time a conversation about all the aspects on that. How we're stepping towards it. What are the experiments that we're running? How are we retiring the risk along the way? So that by the time we get there, it's almost like you don't need that board paper. It's just ticking off everything that we've just done over the last year.

[00:11:44] Phil Morle: So avoiding those massive decisions where people keep things in their mind too much, I think is important.