Much of marketing is social proof. You use products because you see other people that you admire using products. This is especially true in B2B marketing.
Social proof, when it works well, is a feedback loop. Actions create evidence which create relevance and then create consequences.
This is true in products you buy personally and products you buy for your business. It is true for homes, schools, medical procedures, and even political candidates. Social proof is the number one thing that convinces you to choose any product that is out there.
If you are a marketer, you need to acknowledge the power of social proof and use it to your advantage.
Social proof is a very good short-cut for people who are doing due diligence of a product. They want to understand who else is using a product and what they think of it.
In marketing, social proof is king, queen, and emperor.
Rapid raise in stock prices result in some people in the company being overpaid. This can be very bad for the overpaid employee and also very bad for the company.
Many tech companies are going public right now and many tech companies have seen significant share price increases in recent years. We can expect that most of these are facing real internal motivational challenges that could be extremely hard to overcome. The weirdness of RSUs in public companies
Let’s say that a company gives you an offer of $100k salary and $500k in RSUs vested over 5 years. That essentially means that the company values you at $200k per year (as stock and salary are fairly fungible in public companies).
Let’s say the stock goes up by 20% after six months. The RSU grant (over 5 years) is $600k and your yearly comp goes from $200k to $220k (a 10% increase). No big deal for the company as you are probably worth more than 10% more than what they originally offered you because you now have been at the company for 6 months, understand the processes there, have grown your skills, etc.
But now let’s look what happens when they stock goes up by 300% after 3 years (which happens in the tech world). Now the original grant of $500k is now $2 million (over 5 years). So the stock alone is $400k per year. Add in the salary (with assuming some raises is now $150k/year) and you pulling in $550k per year.
This is when things get a bit hairy. Because likely the company only values you at $350k so you are making $200k more than you are worth. In fact, if you quit the company and went to work for its top competitor, you might have a hard time getting more $300k.
When you are evaluating a business (to invest in or join), one simple heuristic is to understand how easy is it for the business to get new customers.
In B2B businesses, the metric that companies track is CAC (Customer Acquisition Cost). But this metric in itself isn’t that interesting and companies typically track LTV/CAC ratio where LTV is the LifeTime Value of customers. The problem with this ratio is that many companies are constantly focusing on the numerator rather than on the denominator.
The cost of acquiring the next marginal customer should be less than the cost of acquiring the last customer. And you should see this cost decline over time.
The CAC itself should decline each month. If it does, it means you likely have a great business. If it doesn’t, the business is a good business at best.
Of course, CACs should be declining for a specific cohort of customer. If your business was only focused on small businesses and now you are selling to enterprises, your CAC will increase dramatically. In this case, the key thing is to track the CACs for SMBs and enterprise customers separately (with is why so many firms use the LTV/CAC ration to simplify this step).
The best way CACs will decrease over time is if you haver some sort of network effect. LiveRamp (my last company) is a middleware company … which means it is essentially a marketplace of buyers and integration partners. It is a classic network effect business that makes it easier and easier to acquire new customers over time. Once we hit about $10 million, the CACs started dropping fast.
One other way to think about this when selling to enterprise is to track the quota for a full ramped sales rep. Is the quota for an average sales rep going up over time? If so, you have a great business. If not, the business still has some work to get to great.
All platforms follow this logic. Companies like Plaid, Segment, Marqeta, LiveRamp, and Carta are classic platforms where acquiring new customers gets cheaper over time (disclaimer: I’m either an investor or friends with the CEOs of all these companies). These types of companies can take the savings (from not having to invest as much in sales and marketing) and put them into the product. So the product can get better and better over time (which is the double-edge flywheel that all great companies have).
Other companies that have declining CACs are ones with great brands. Essentially every time a company buys their service (and raves about it), other companies are more likely to use it. Twilio and Stripe have declining CACs because they have become the default go-to companies in their space. There is a LOT of power in being the default.
Summation: Once a business gets over $10M ARR and it has declining CACs, it has the makings of a great business.
When venture capitalists tell you “your TAM is not big enough” what they are really saying is “I don’t think your team is smart enough to move to an adjacent market once you dominate your initial niche.”
They are not really saying your TAM is too small. Great VCs invest in companies with small TAMs all the time. They might believe that the founders’ think too small or that the founders just are not very good.
Many great companies started in markets where the TAM (Total Addressable Market) is small. In some cases, the companies under-estimated the TAM (the TAM got way bigger over time). In other cases, the team was smart enough to move to other adjacent markets.
Of course, it is really hard for a venture capitalist to tell a founder “we do not think you are talented.”
Even when a VC truly believes that, they can never actually say it. But founders want to know why a VC is passing and the VC wants to preserve some optionality to invest in the founder in the future (in case the VC’s assessment about the founder was wrong) or in the founder’s friends. So VCs come up with another reason not to invest. A good one is that the TAM is small — that usually satisfies the entrepreneur (who thinks the VC is just not smart enough to see the bigger picture) and satisfies the VC (who wants to preserve the relationship).
Investing in companies that are initially focused on a smaller niche is actually easier to do than investing in companies that are going after a giant market.
If the company is going after a giant market, then there is usually massive competition in the market and you really have to spend a great deal of time understanding the market (and each competitor) before investing.
For instance, if we were thinking of investing in Ford Motor Company (which competes in the giant market of automobile sales), we need to understand a ton of things:
What are the future of of cars? Will demand increase in the short term? What about the long-term?
How does the rise of places like China and India change the demand curve for autos? Even if it greatly increases the demand for cars, will Ford be able to capitalize on it? What about auto tariffs?
Ford makes much of its income on selling trucks (like the F150 — one of the most amazing vehicles). How does the demand curve for trucks change in the future?
What will happen to emissions policies? Is Ford investing in enough green vehicles to take advantage of potential policies?
While Ford is a big company, its market share in the auto industry is really low (because there is SO MUCH competition). So now we need to know about ALL the other car companies (and even potential car companies like Apple) to understand the future competitive dynnamics.
And many, many more things (like the financial profile of Ford, its labor contracts, its capitalization structure, and more).
It is much simpler to invest in smaller businesses that are tackling a smaller niche. We can get our head around the niche faster. We can assess the competition faster.
The essential questions we need to answer when investing in a niche business are just four:
Will this company be able to dominate the niche? Sometimes the company is already dominating the niche. Sometimes there is a network effect reason to dominate the niche.
Is this niche more important than other people realize? Maybe most people think the niche caps out at $50M/year in revenues but you believe it is five times bigger. Sometimes the niche gives the business a jumping off point to other niches because of its centrality. In general, niches that are more central (have more adjacent niches) are more valuable than niches that are less connected.
Is the team capable enough to move to adjacent niches once it dominates its first niche? Some teams find themselves in a good position but cannot take advantage of their position. This is actually why most VCs pass on companies. Of course, they cannot tell the founders that they passed because they do not think the founders are smart enough. So they make up another reason (the “market is not big enough”) which is just code for “we do not think you have an excellent team.”
Is the price of the investment reasonable? This one is hard to understand but if the first three are yes and only a few investors think they are all yeses, then the price is probably reasonable.
LiveRamp’s niche dynamics: dominating onboarding
One interesting example is LiveRamp (NYSE:RAMP). (note: I was the founder and CEO of LiveRamp for its first 9 years … so I am incredibly biased). LiveRamp launched its initial product at the end of 2010 going after the “onbooarding” niche. At the time, the market was less than $3 million worldwide! (Now that is a really small niche).
LiveRamp’s first year revenues from on boarding was $1 million and we ended the year with about 25% market share. But there were a few things that made the niche interesting:
We believed the niche was a total of $50M year. (Turned out we underestimate the niche by 4-6 times). So there was room to grow.
We thought there were network effects in the business — it made sense (for a bunch of reasons we will not go into now) for one company to be the winner — essentially it was a winner-take-most market. Ultimately we were proven correct as LiveRamp quickly got to over 70% market share.
We understand the capabilities of all the competitors and figured that they would not invest appropriately to dominate the onboarding market. Each competitor was already in many other markets and it did not make sense for them to continue their investment.
We believed that onboarding, while a small niche, had significant centrality to other markets in the marketing ecosystem. We assumed we could use our position to move into those other niches. This ultimately turned out to be true in some cases and more difficult than we hoped in our cases.
We had a lot of confidence in our team. Even today, almost nine years later, LiveRamp is known for having an extraodinarily talented team. Of course, most start-ups think they have a great team (and many overvalue their talent). But in 2010 our team was extremely young and inexperienced — so one could forgive an outside investor for undervaluing it.
Carta’s niche dynamics: dominating cap table management for start-ups
Carta, formerly known as eShares, is a great company. (another disclaimer: I am an investor in Carta and also a customer across many businesses).
Carta helps companies manage their capitalization table. If you have invested in a bunch of start-ups, you almost surely have gotten some of your stock certificates via Carta. In fact, of the 130+ start-ups I have invested in, Carta is the ONLY forward-facing cap table management system that I have ever interacted with (except for mergers and acquisitions where I have seen many different systems).
Carta, even from its early days, dominated the cap-table management for start-ups. And yes, it was a small niche (one that many VCs underestimated). But even today, most start-ups run their cap table on Excel — so there is still a lot of growth in the niche.
If you were an investor when Carta was starting, the first thing to understand was do you think Carta could dominate its niche. Surprisingly, many investors that passed on investing actually thought Carta WOULD dominate its niche. Given Carta’s huge current success, the investors either made one of two errors:
They underestimated the power of owning the niche of cap table management in start-ups.
They underestimated the talent of Carta’s team and its CEO (Henry Ward).
My belief is that any VC that passed for Error #1 should stop being a professional investor. That is not a good mistake to make.
However, my guess is that the vast majority of VCs made Error #2. That error is much easier to make as it is extremely difficult to evaluate people (especially after just spending a few hours with someone). Henry Ward has turned out to be an excellent CEO. But everyone has vastly underestimated people before. And everyone has vastly overestimated people before.
What you should do when a venture capitalist tells you that your TAM isn’t big enough
Obviously you should spend time evaluating the TAM. But you should also take solace that many, many great businesses (from AirBNB to Zoom) were passed by talented VCs who underestimated the team.
Summation: When VCs tell you “your TAM is not big enough” what they are really saying is “I don’t think your team is smart enough to move to an adjacent market once you dominate your initial niche.”
Old lessons die hard.Everyone of a certain age has heard the VHS verses betamax tale.
VHS was an inferior technology to betamax but it won out due to marketing, etc. After hearing enough of these tales, one starts to wonder how important a better product actually is. Is it all about marketing? That was the moral of the VHS story.
Turns out a better product … even a slightly better product … is REALLY important.
One interesting case study is Zoom — the videoconferencing solution. Now let me put my cards out there: I use Zoom at least once a day. SafeGraph uses Zoom (and Zoom rooms). I like Zoom and would recommend Zoom. And we pay for Zoom (it isn’t free).
Why does one pay for Zoom?
Well, you might say that you need a videoconferencing solution, you evaluated the market, and choose Zoom. Maybe Zoom is more expensive than its competitors but it is the best so it is worth paying for.
The problem with that logic is that one of Zoom’s most feature-filled competitors is Google Hangouts. And Google Hangouts is “free” if you are already a Google Apps customer (which 99% of technology start-ups are).
So there is a choice to be made. Google Hangouts which is a very good product and is effectively free. or Zoom which is a better product (but not massively better) and is also pretty expensive.
Tons of companies need to make this choice. A lot of them have chosen to go with Zoom (as evidenced that Zoom is one of the fastest growing B2B companies). Why is this?
Of course, from a customer’s perspective, free is much preferred than paid. My company chose to use Google Drive rather than Box or Dropbox because we thought Google Drive was pretty good and did not think Dropbox or Box was enough of an improvement to justify their very high enterprise cost.
So for video conferencing, why don’t people choose Google Hangouts over Zoom?
First off, to state the obvious, Zoom is actually better than Google Hangouts on almost every dimension (the one dimension that Hangouts is superior is that it has a better integration with Google apps: no surprise there).
So if you are choosing to go with Google Hangouts verses Skype or verses GoToMeeting or verses Webex or verses one of the other dozen video conferencing systems, choosing Hangouts (because it is free and it is very good) is a no-brainer decision.
But Zoom is just better enough that people are happy to pay for it. Well, they might not bee “happy to pay” exactly. No one loves spending money. But companies are certainly willing to pay for Zoom. Zoom Rooms is an amazing product and they have really focused on a great user experience. The Zoom video quality is really strong. The mobile experience isn’t wonderful but seems to work better than most of the competition.
One of the things that Zoom proves is that you can be extremely successful even when you have a crowded category, lots of great competition, and when even your strongest competitor is giving away the service for free.
Twenty years ago no one would think that a company like Zoom would thrive.
One of the biggest trends that is driving Zoom’s success is that companies are forgoing the full stack and buying the best-of-breed. The number of vendors the average company is buying from has increased almost 10x in the last 12 years. Companies are happy to buy from many different places … they are even happy to buy from new start-ups.
In fact, it has never been easier to sell to large companies. Large companies are open for business. They want to be sold to. They are sick of having a third-rate solution. They want to use the best product. If you can show them your product is superior, they are excited to buy.
The best product is actually starting to win. Sales and marketing and partnerships are really important (as is brand), but it is so much easier to market a great product than one that is fifth-best. Even amazing companies like Google, Microsoft, Oracle, SAP, Salesforce, etc. are struggling to get their clients to use products or features if they are deemed sub-par by the customer (even when they bundle it in for “free”).
That wasn’t true 20 years ago. In the 1990s, it was really hard to sell software to a big company for less than $3 million. You had to hire Anderson Consulting (now Accenture) to integrate the software. So big companies spent most of their money buying from a very small number of big trusted vendors. And they mostly had a fourth-best solution across their stack.
Today it is much easier to buy. The SaaS revolution has changed everything. Big companies can dip their toe in the water and start for $10,000 per yer in many cases. So even if it doesn’t work out, no one gets fired. It is a low cost option to try out the later and greatest technology.
Even the most crowded markets and even those markets dominated by amazing companies are open to new ideas, new products, and new companies.
Having the right vendors is as crucial to one’s success as having the right employees … and in the case of large companies potentially even more crucial (because it might be impossible for a large boring company to hire the best people in the world but it is still possible to get the best vendors … because a software vendor will sell to everyone).
In fact, one of the best ways to evaluate a company is looking at what vendors it has. You should have a really good idea about the sophistication of the talent, the ability to move quickly, and how fast the company can respond just by knowing which vendors it uses.
Before I invest in a large public company I personally like to review what vendors it employs (you can get the data for free on a site like Siftery). The list of vendors is essentially like a DNA snapshot — no two companies are alike … and like DNA, there are some genes that are just better than others and some genes that work with each other better.
Summation: we need to take new learnings from the old lesson that superior products lose to superior marketing. While both are important, the quality of the product ultimately trumps the quality of the marketing.
Data companies fall in four quadrants: Truth verses Religion and Data verses Application
If you are thinking of starting a data company, you have to make a very important choice: what kind of company will you be? There are four basic types of data companies and all can be very successful … but the biggest mistake data companies make is that they try to do more than one at a time.
First let’s define the x and y axis…
Truth verses Religion
Truth companies are backward looking. They tell you what happened or when something happened or something about a person, product, or thing. The main objective of these companies is to have true data. Good examples of truth companies are a credit bureau (like Experian, Equifax, and Transunion), middleware (like LiveRamp, Segment, Improvado, and mParticle), and financial services data (like large parts of Bloomberg). These companies are usually very long on data engineers.
Religion companies predict the future. They tell you what will happen based on a set of data. The main objective of these companies is to accurately predict the future. Good examples of religion companies are credit scores (like FICO), fraud prevention (like ThreatMetrix), and measurement (like Nielsen, Market Track). These companies are usually long data scientists (and sometimes machine learning engineers).
Religion companies often purchase data from truth companies. For instance, FICO uses the data from the credit agencies as the core ingredient for its credit score.
Data verses Application
Once you have a valuable set of proprietary data, you have to choose if you will be a pure data company or if you will build an application on top of your data.
Data companies just sell data. The best way to know if you are a data company is if you have no UI or a very limited UI. Data companies sometimes sell direct to end buyers but often also sell to applications (which is why it is so important they do not become applications as you do not want to compete with your customers). Good examples of data companies are in financial services (like Yodlee, Vantiv), a pure data co-op (like Clearbit), location (like SafeGraph), wealth predictions (like Windfall Data), and others.
Applications make data sing. To really get benefit out of data, you need an application. These companies will have nice UI and more front-end engineers. Good examples are query-layers (like SecondMeasure), refined datas co-op (like Verisk and Abacus), integration layers (like Vantiv, Plaid), B2B product usage (like G2Crowd) and others.
Winners and lowers and winner-take-most markets
For a “truth” company to dominate its field, it has to be clearly better than everyone else. And “better” means its data needs to be the most true AND the market needs to believe it is the most true. In addition to truth, breadth and price are very important to dominate.
For “religion” companies, the most important factor is brand. When predicting the future, ideally you want to believe that the Nostradamus within the religion company is making accurate predictions. And while some people may dive into the Bayesian logic, most will trust the market perception. That’s why there are so many poor predictive analytics companies, because one can buy brand with money.
Series beats parallel
The biggest mistake data companies make is that they attack more than one quadrant at once. For the first $100 million in revenue, you should be focused on just one type of business.
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.
But there is no way to do this in your personal life.
Want to learn what the best mattress is? The most efficient way is to either go to a definitive review site (like WireCutter) or poll your friends on Twitter/Facebook. It would be a lot better if many of the people you know have already logged what mattress they use and what they think about it.
Of course, this is true for everything you use. What to find a plumber? What about a good tennis racket? How about where is a good kid-friendly resort near Tampa?
Note: This is a series of my free open-sourced business ideas. Feel free to copy, fork, use them, etc. All I ask is that if you become a bazillionaire, you must take me to dinner.
Getting a graph of your friends and colleagues today is cheap. It is easy. You can pull down graphs from Facebook, Twitter, and your mobile contacts.
But 15 years after the social networking revolution, it is still amazing that most of these services are 100% aligned to get you to spend massive time on the site (all about user engagement) rather than focused on giving you more value. Most social graph services are just about time wasting rather than making you much more productive or knowledgable (which is where their real power comes in).
There should be a service to help you understand what you want to spend money on and giving you tools to more quickly and efficiently make purchases. This is still a holy grail of the Internet that has not yet fulfilled its promise.
You can get a full list of someone’s purchases or actions by asking them to auth their email (or credit card or physical location). You can get a graph of their friends from email mining, Facebook, Twitter, auth’ing contacts, and more. Combine what you bought and who you know and you have real power to help people!
People spend a crazy number of hours researching things to buy. They research and research and research. And then research some more. Sometimes it is a local search (like house cleaner, plumber, doctor, dentist, or car repair). Sometimes it is more of a global search (like the best bluetooth earbuds). Many people spend more time planning their vacation than actually being on vacation.
Imagine a service where one can put in past purchases and it uses that data to recommend products (purely unbiased). The service should be acting in the REAL best interest of the consumer (not like most recommendation services which are specifically designed or gamed or hawk specific higher margin products) so one can implicitly trust the service.
Purchases can be anonymized for privacy reasons (so the service does not broadcast to others that “Auren Hoffman” bought the headphones … but instead it aggregated to give real value AND protect sensitive information.
Of course, the simple revenue stream is affiliate links. But once you get the trust of the buyer, you can also add an ad-words-like feature (which would be incredibly compelling to an advertiser to get in front of a person right at the time of purchase).
Summation: UltimateReviewer is another billion-dollar idea that I will never do … so offering the idea up for free to all of you to take on.
Venture capitalists rarely take their own advice when it comes to their own businesses.
There’s a common narrative that venture capital doesn’t scale. That narrative is so well accepted as truth that venture capitalists themselves don’t bother taking the advice that they generally dole out.
Here are some common truisms that are often passed down by VCs but aren’t applied in their own business:
Establish dominant market share and become the very best. VCs advise companies to find a niche and exploit it — and do not enter a super competitive space. But the venture capital industry is crazy competitive — often competing with 100 firms (that are usually staffed with super-smart people).
Have one CEO. VCs advise companies to have one core decision-maker. In the rare case, maybe there is a co-CEO. But many VC firms are run as a partnership with 3–8 equal partners (though some partners may be more equal than others). They’d never invest in a company run by committee.
Founders should demonstrate deep commitment to future value creation by taking low salaries. But VCs do not usually trade some of their short-term salaries for long-term upside. Most VCs pay themselves salaries out of their typical 2% management fees. If VCs took their own advice, they would be using most of that 2% fee to build systems and invest in the future. Or they would trade the bulk of the management fee for greater carry.
Companies should invest in growth and market dominance over profitability. But VCs themselves are extremely profitable. They do not hire aggressively, invest in technology, spend time on automation, or make any of the other investments in themselves that they would expect their portfolio companies to make.
Leverage existing advantages to expand into adjacent markets. VCs want companies to hire great people and continually level-up the management team. Yet the VCs grow their own businesses very slowly and do not take risks. VCs rarely move into adjacent markets, expand their brand, etc.
Keep expenses low — spend less on rent, fly economy, and generally be frugal. Yet most VCs do the opposite with their own expenses — often spending lavishly on rent, travel & entertainment, and more.
Companies should be long-term focused and should be doing things that outlast the founders. But many VCs set up their firms in a short-term oriented way. VCs often have much bigger key-man risks than the companies they invest in. And VCs, even successful VCs, rarely outlast their founders.
Governance structure in portfolio companies is a high priority. VCs think it is wise to have investors and independents on a company’s board. But VCs themselves often have much less oversight. Many thrive on potential conflicts of interest.
Companies should go public and being a public company is very good for the long-term. But venture capital firms themselves rarely go public.
Acquisitions can be accretive and strategic. The growth of a synergistic merger often can outweigh the dilution that comes from growing the firm. VCs rarely acquire other firms.
Venture Capitalists, as a class, are much less ambitious than one would expect.
Almost no venture capitalist would fund themselves. They are looking to fund people that are essentially the opposite of themselves. They are looking to fund outliers because their returns come in power laws. But for their own business, they are looking to play it safe and be conservative.
VCs generally do not want to rock the boat. They don’t want to do something different. They don’t want to change the industry. In fact, for many VCs, their biggest fear is that the industry will fundamentally change. They want to keep collecting their two and twenty.
That’s not to say there are not ambitious venture capitalists. There are. Many people are looking at changing the game. Naval Ravikant’s AngelList is a full frontal assault on venture capital. Tim Draper invented the venture capital franchise model. Masayoshi Son’s Softbank Vision Fund is changing everything in the late-stage venture capital (as did Yuri Milner’s DST before that). Sequoia’s amazing work ethic and competitiveness to be number one. Peter Thiel runs four large venture capital funds, a global marco hedge fund, and many other investing vehicles. Chamath Palihapitiya’s Social Capital is taking a long view on venture capital. Chris Farmer’s SignalFire, while yet unproven, is attempting to automate venture capital through data (like Renaissance Technologies and Two Sigma has done in the hedge fund world). Marc Andreessen and Ben Horowitz create a full-service firm which aims to have the best marketing, best recruiting, best conferences, etc. And the most ambitious people in Silicon Valley may well be Paul Graham, Jessica Livingston, and Sam Altman from Y Combinator.
Many readers may have an adverse reaction to some of the people above. They may think these people too bold or too reckless. And some of them may well be (time will tell). They will not all succeed with their grand ambitions. But their ambition is exciting. It is refreshing. And these individuals are acting more like the entrepreneurs they fund than the classic VCs that are the funders.
Most venture capital firms are surprisingly less ambitious than the entrepreneurs they fund. And they are also much less ambitious than their siblings who run private equity firms and their cousins who run hedge funds.
Private equity firms are run significantly differently from venture capital firms. As a recap:
PE firms have 1 or 2 CEOs. VCs have 3-8 CEOs
PE firms make large investments in back-office, consulting, and data science (Vista Equity has been so successful with this model). VCs usually don’t.
PE firms create new products and become international fast (Blackrock spun out of Blackstone … and Blackstone also built up an incredibly successful real estate practice). VCs rarely create new huge products.
PE firms focus on having succession plans. VCs have trouble making the transition.
Many PE firms are public. It is extremely rare for a VC to be public.
PE firms are generally much more ambitious than VCs. They are often 10-100 times larger in size (both in the number of people they employ and in the dollars under management). And they generally have much larger dreams.
The most successful PE titans are more wealthy than the most successful VCs. And while wealth does not equal ambition … it is correlated. There are an order of magnitude more PE billionaires than VC billionaires. And many of the most successful VCs made more money founding companies before they became VCs than they did as VCs.
Lack of ambition among VCs could be feature (not a bug).
Many entrepreneurs like the idea that venture capitalists are less ambitious. A founder might not want want someone on their board that is crazy ambitious … because that VC might not be able to make time for the new founder.
So there is definitely a possibility that perverse thing could happen: a less ambitious VC might actually be more successful because it might allow them to get into the best deals. (Yes, this is a weird theory and there is a 58% chance I will disavow it in the future … in fact, there is a 38% chance I will disavow this entire post in the future).
Of course, there is nothing wrong with only wanting to be worth $200 million and not $2 billion. That extra zero is not going to change their lifestyle much. So why rock the boat for that extra zero? Why get everyone to hate you to get that extra zero? Why take huge risks for an extra zero that is not going to change your life?
Venture capital can think bigger.
A few random thoughts that an ambitious venture firm might think more about:
Instead of ruling by consensus, VC firms could have a designated CEO (or co-CEO). While many firms do have this in practice, making this more explicit would add clarity.
Fund-by-fund equity really creates short-termism and creates lots of conflicting incentives. Imagine if Amazon gave out equity in each of product lines (AWS, Prime Video, e-commerce, Alexa, etc.). Ultimately an evergreen fund (like Berkshire Hathaway) will lead to greater ambition.
Passing the baton to a new generation should not completely wipe out the equity of the older VCs that founded the firm. But the older VCs can’t keep running the firm while spending most of their time at their winery either. Being a good VC should be intense and take over 60+ hours a week. The older VCs could maintain equity in the evergreen company while issuing new equity to new employees (and new LPs).
Run the firm with the aim to go public. That’s how you run a company. Think about how to get big.
Look to acquire other firms. And yes VC is a services firm — but services firms can be run well at scale. Think of Accenture which has $41 billion in revenues and market cap of almost $100 billion at the time of this writing.
Defer more cash payments to equity. While layering fees has been a great way to get rich in the last 15 years, it does seem like this model is very fragile.
Look to dominate a niche (rather than competing with the smartest people in the world). Look to build a moat and some sort of network effect. That might mean significantly changing the game (like AngelList or Y Combinator).
Summation: Venture Capital firms rarely take their own advice when running their own firm. Private Equity firms (like Blackstone, KKR, Vista Equity Partners, etc.) are actually much more like venture portfolio companies than VCs are.
This is modified from a Feb 2018 Quora post. Special thank you to Tod Sacerdoti, Jeff Lu, Tim Draper, Will Quist, Joe Lonsdale, Bill Trenchard, Ian Sigalow, Villi Iltchev, and Alex Rosen for their insights, thoughts, and debates on this topic.
There have been surprisingly few books written about the Internet’s history (most of the best ones are biographies that focused on just one character). This book does a good job chronicling the major Internet events over 13 years (1994-2007). While it is a book about the Internet, it is also a great history book (and no history book from this era would be complete without walking through the Internet phenomena which has truly changed society).
While McCullough spends some time diving into technology, the main contribution to this book is really distilling down the core events that matter and giving a good business overview. I highly recommend reading this (it is also a very fast read).
McCullough also does a great job reminding us about the 1990s mania, the IPOs, and how all the 90s investments lead to the boom in the 2000s.
When self-driving cars come (and I’m skeptical they will come in mass in the next 20 years … but that is for another post), everyone’s commute will be much faster. That is because cars will be able to coordinate with each other and rarely need to go below 80 miles/hour on highways (even during the busiest of times).
But once self-driving cars happen, the next thing is to allow cars to pay up to go EVEN faster. There is no reason a car can’t go 160 miles per hour and get you there in half the time.
Cars that don’t pay up for the privilege will be forced to yield to cars that do. Essentially expect to see surge pricing to get to places faster.
Would you pay an extra $100 to get from San Francisco to Los Angeles in 100 minutes by car? An extra $300?
Note: I’ve been thinking a LOT about transportation recently because of all the transportation-related companies that use SafeGraph Places.
Summation: while self-driving cars will be good for everyone, they will be GREAT for people with lots of money (especially in capitalist societies like the U.S. and China).