Thought experiment: How would Amazon enter the venture capital business?
Use data from AWS to inform investment decisions
Amazon can leverage its proprietary data from AWS (Amazon Web Services). Amazon’s edge is that most of the best technology start-ups are built on its services. Amazon has a lot of information about how much these companies are spending, what services they use, what technologies they use, and more.
The AWS data could be extremely predictive and give Amazon early signs that companies are growing fast or reaching an inflection point. And it can use the data as a better diligence check of a company … for instance, the data could help determine which companies that claim they have “AI” are real and which are just marketing.
Amazon has a real investing advantage.
Using this data to invest in public companies would likely not be legal since it could be deemed as inside information. But using it for private companies is something Amazon could do.
Of course, Amazon’s worry is that some of their AWS customers would get mad and move to Azure (which is the biggest risk of going into the VC business) … but that could be managed. Amazon could just use information from the AWS bill (and not have to see any real trade secret information) to make the initial selection of companies they might want to focus investing in. Then, of a company gives its consent, the Amazon VC team can view server logs, etc.
Which leads us to the second thing: “your margins are my opportunity”
Amazon can win VC deals the way it wins in all its other businesses: price and convenience.
On price, Amazon can offer much better terms than traditional investors that need to take high management fees and carry. Amazon wouldn’t need to do that and it would not need to, want to, or be able to (because of conflicts) take board seats. So it would have a lot more leverage … especially in the late funding stages where data is increasingly important.
And while Amazon could potentially try to buy equity, it could also instead just focus on debt (which is a product it is already familiar with — see below).
Venture capital firms’ returns net of fees (management fees and carry) have historically been very low. But if Amazon really focused on its investments, it could earn an extremely high real return.
Extreme Convenience: The easiest way to get expansion capital
Imagine logging into AWS and being presented with a term sheet. Just click here, agree to these simple terms, and we will wire $10 million to you. It takes less than 5 minutes. Yes, that seems crazy. But it IS possible.
Amazon gives its merchants loans today (and it is an extremely good business). Square also gives its merchants loans. Both Amazon and Square use its proprietary data to make loans just to businesses they are confident will pay them back. Those loans perform extremely well. Square Capital is heralded as a fantastic business. They can do this because they have unique data … and they can give an attractive price (lower interest rate) and make it more convenient (like the ability to get it in one click). There is no reason Amazon can’t give loans to AWS customers.
Amazon could create a product that gives companies funding at super attractive terms with just one click. As an added bonus to cash flows, Amazon wouldn’t even need to wire these companies the money. It could instead give companies AWS credits. If a company is spending $500k/month on AWS and believes it will continue doing so in the future (as many technology companies are), getting $10 million in AWS credits is pretty much the same thing as getting $10 million in hard dollars.
Other examples of successful technology companies starting venture capital firms
Amazon would not be the first big technology firm to start a successful venture capital firm. Both Google and Salesforce have extremely large (and, I’ve heard, very successful) VC investments (in the billions of dollars for Salesforce and in the tens of billions for Google). Apple does not have a VC firm (even though it also has a huge data advantages). But while it seems against Apple’s ethos to run a VC firm, Amazon relishes in challenging new industries and using its proprietary data to its advantage.
Debt would likely be easier to initial product than equity
The first victims of AWS funding private companies would not likely be tradition VC firms. It would more likely be the venture debt companies. That could significantly hurt some of the traditional debt providers (like Western Technology Partners) and some of the new aggressive players (like TPG, large hedge funds, and other new lenders).
Prediction: Amazon will not start a VC firm
If Amazon was a little less ambitious, it would enter the venture capital business line. The only reason Amazon doesn’t start a VC division is precisely why it could: because the VC industry is small and the gains, while in billions, may not be worth Amazon’s effort.
Also: Amazon might be worried this could hurt their AWS business. Certainly many responses to my Twitter trial balloon believe this:
Summation: while Amazon will not likely challenge the incumbent venture capitalists and venture lenders, it is a really interesting thought experiment to see how it could.