Casa­blanca: Of hypes and warning signs #DHDL

Of course, the first episode of the latest season had it all: in addi­tion to exci­ting lion battles and extra­or­di­nary start-​up stories, the AI start-​up Casa­blanca not only appeared with an abso­lutely trendy topic, but also with an extra­or­di­nary deal and a very high valua­tion: the foun­ders Carsten and Markus wanted €500,000 from the lions, but only gave up 5% for it, which corre­sponds to a company valua­tion of a whop­ping €10 million. And appar­ently without much turnover.

But there are big plans for this: the company wants to become a unicorn, i.e. be worth over a billion euros at some point. By the year after next, the company wants to have a turnover of 15 million and gene­rate a pre-​tax profit of 10 million.

And although a profit margin of 2/3 is extra­or­di­nary even for a soft­ware start-​up – espe­cially at such an early stage – this hardly seems to bother the lions. You would actu­ally expect them to strongly attack the valu­a­tion, that they don’t like the small shares at all and that they would gener­ally take every­thing apart quite crit­i­cally.

However, at least in the mate­rial that made it into the cut, this was not really the case.

If we want to accept this as repre­sen­ta­tive, we auto­ma­ti­cally ask ourselves: What could be the reason why inves­tors are suddenly less critical than usual? If they suddenly seem to accept much higher valua­tions than they are normally used to?

One possi­bi­lity, which does not seem to be enti­rely out of the ques­tion, is that this could be an abso­lute trend topic in the start-​up world. An effect often referred to as „hype“, because some­times no investor wants to stay on the side­lines because ever­yone believes that the „next big thing“ will come from this area.

Which is of course a bold bet, because often the really „big things“ like Open AI have long since become big by this point. And if you look at Gorillas & Co, you get the impres­sion that hype has often overs­ha­dowed serious flaws in the busi­ness model.

Of course, the current AI hype cannot be compared with the long-​past hype surroun­ding online super­mar­kets in terms of its funda­mental struc­ture; after all, arti­fi­cial intel­li­gence is a funda­mental tech­no­logy with numerous appli­ca­tions in a wide range of sectors, not a single busi­ness model.

The start-​up Casablanca, for example, uses AI to calcu­late the three-​dimensional shape of a human head and face from a two-​dimensional image, enabling it to virtu­ally „turn“ the head. This gives a video call partner the impres­sion that the person they are talking to is looking directly at them, even though they are actu­ally looking at their own screen. This should not only make video calls more plea­sant and personal, but also more produc­tive.

But is this tech­no­logy worth 10 million euros at such an early stage?

In response to ques­tions from the lions, it emerges that the foun­ders do not want a suppo­sedly simpler route such as early tech­no­logy sales or licence deals with the top dogs of video call soft­ware. Instead, they want to turn their company into a unicorn. Unfor­tu­na­tely, it is not clear from the final TV version exactly how this is to be achieved, but Janna Ensthaler sees it as a hot game.

She also soon asks a very inte­resting ques­tion: why don’t the foun­ders go to tradi­tional VCs? The answer is a little surpri­sing, as founder Carsten reports that it is still too early for them and that they are not (yet) prepared to pay the desired valua­tion, at least at this stage. But that doesn’t seem to have stopped him from going in front of the lions.

All this finally makes Janna Ensthaler so scep­tical that she cancels: she is surprised that someone hasn’t already struck on this subject.

Is such a cancel­la­tion really „just“ a gut feeling, or is there more to it? It’s also impor­tant to remember that the lions have much less „mate­rial“ at their disposal for their deci­sion than is normally the case with investors. But even outside the cave, it can happen that an investor hears that many other investors have cancelled a case that he himself considers to be very inter­esting. Even then, many expe­ri­enced investors pause, look twice as closely and try to find out whether they have over­looked some­thing.

Parti­cu­larly in the case of hype topics, where inves­tors are said to be less scru­pu­lous, frequent cancel­la­tions are already an indi­ca­tion that something might not be quite as great as the foun­ders make it out to be.

Carsten Maschmeyer seems to see things differ­ently, as he enters the nego­ti­a­tions and accepts a valu­a­tion that may have surprised many viewers: €500,000 for 7.5% is the final deal, albeit with the option that the lion will receive a further 2.5% if he fulfils mile­stones that have yet to be defined. So, in addi­tion to the very high valu­a­tion, he still has to prove himself in order to realise his target valu­a­tion of €5 million.

Normally, it is the other way round in such early phases, espe­cially if the valu­a­tion is set high: the investors pay out the sum in tranches, and for each tranche after the initial payment, the startup must fulfil certain mile­stones for the payout. This ensures that ambi­tious plans such as a turnover of 15 million euros in the second year are not just castles in the air and the investor loses a lot of money to completely dreamy founders just because they sell well. Or are active in a hype area that drives up valu­a­tions. Inci­den­tally, one of the biggest disad­van­tages of high valu­a­tions for the start-​ups them­selves lies precisely in these tranche and mile­stone agree­ments. Because the higher the valu­a­tion, the more ambi­tious and strict the mile­stones usually are.

We cannot say whether the contract would have included this in the end, but the invest­ment did not mate­ri­alise in the first place because the due dili­gence process revealed that the valu­a­tion had actu­ally been set far too high.

Janna Ensthaler prob­ably had the right instinct and another investor seems to have discov­ered some­thing that is preventing him from investing in what is actu­ally such a hot topic. Unfor­tu­na­tely, we will probably never know what it is in this specific case, but it seems to become more likely with every investor who cancels.