Tag Archives: Fred Wilson

A Bubble over “Bubbles”

28 Apr

 

Perhaps no subject in the venture/tech start-up ecosystem over the past year has received greater attention–and been the focus of more collective hand-wringing–than the issue of bubble/not a bubble. With little argument, there are varied opinions on this and fairly good analysis on both sides. For my part, let me come right out and say it: Yes, we are in a bubble–it is primarily a bubble of prognosticators and market participants of all persuasions tripping over themselves to be the first to call what is occurring in technology markets a “bubble.” Taking a position on this subject might be great for bloggers seeking to drive traffic and for talking heads and Wall Street analysts looking to increase their respective profiles by saying inflammatory things but it hardly gets anyone closer to a reasoned understanding on what is occurring on the ground and, more importantly, on what lies ahead.

Like all good arguments, there are core issues worth having a spirited debate over; and then, there are lots of sideshow marginalia that have little bearing on what is actually going on and what actually matters. [AngelGate, anyone?]

FDR was on to something when he announced that the only thing we had to fear was….(wait for it)….fear itself. FDR knew something about the power of language. The power of language is particularly relevant here because I believe one cannot have a meaningful discussion about current market conditions and the behavior of some market participants without first clearly defining our terms. There are healthy, albeit heated, markets and then there are bubbles, and one does not necessarily beget the other.

I think I speak for many tech market participants in declaring that “the B-word” will be inextricably linked to the 1998-2001 boom/bust cycle that came to define the technology/venture landscape for many participants that were there to experience it first-hand. As such, given the negative connotations and the fairly brief historical context we are dealing with, the word “bubble” is loaded and, hence, problematic. This is not to suggest that one cannot use the word; I simply believe that tossing the word around cavalierly whenever a market becomes heated and — egads! — frothy is overkill and, as it happens, not terribly descriptive.

Fortunately, there have been a lot of smart, experienced people developing thought leadership on this issue. Diverse voices such as Mike Arrington, Howard Lindzon and Forbes’ Eric Jackson have all made impassioned arguments worth reading. I could get into an itemization of points and counter-points on where I am coming out on the question of bubble/not a bubble, but it would be a lengthy exercise and, at the end of the day, something of a transient position given the fast-moving environment we are in.

However, I am fairly confident that while there are some broad similarities between the current environment and the 1998-2001 period, few of the underpinnings behind the ’98-’01 bubble appear to be in evidence in the current environment. In short, there are far more dissimilarities than similarities and those differences are profound: much better companies, real (and often, huge!) profits, better monetization and distribution, true scalability, lower development costs, and on and on.

Additionally, the market froth that exists today concerning valuations is still contained within a relatively small segment of the broad technology landscape and among a select group of (largely) professional investors. By their very nature as “consumer-focused” enterprises, consumer internet companies capture the public’s imagination and garner the greatest amount of attention from the media. [Last I checked, no one was planning a major Hollywood film about the founders of SAP.]

Additionally, much of the current froth in valuations has been primarily directed at a handful of high-profile companies (Facebook, Zynga, LinkedIn, Groupon, et al). While it is true that we are now seeing soaring valuations for some very immature companies across the consumer web space, there is little evidence to suggest that this is driven by anything more than healthy competition among investors and by excitement over the rapid pace of innovation. Given the boomlet in new seed stage firms, “super” angels, and in legacy venture firms that have recently augmented their efforts in consumer web investing, this is to be expected.

All this aside, this does not suggest that I am somehow Pollyanna on the current state of consumer internet investing. There are certain areas that I am watching closely and I do have some concerns. As Fred Wilson has suggested, some investor behavior has become alarming. To my mind, certain investors — but still a minority of them — are getting skimpy on diligence and on the need to be methodical in an effort to move quickly to win certain hotly contested deals. Other investors are caving too quickly on terms or agreeing to extremely generous provisions for founding teams in order to win coveted deals. Again, this is just my opinion and is largely anecdotal, but I am hearing enough similar things from other investors that suggests that I am not alone in that view.

I am also wary about the rapid evolution of the secondaries market and with some of the private stock trading platforms that allow early investors/employees to sell their shares. I think these services are, by and large, great tools for investors and for start-ups but some discipline needs to be employed here so things don’t get misaligned. No doubt, regulatory agencies will get more involved as these secondary “paths” get further institutionalized and begin to bump up against current outmoded regulations concerning investor limits and the like. On balance, however, I think these issues, while concerning at times, are self-correcting.

In summation, I think the consumer web is perhaps three or four innings into an extended period of growth with the lion’s share of attention and the highest valuations being accorded companies that are innovating well and rolling out products and services that consumers are passionate about. Jeff Bussgang posited recently in a post that he felt we were in a “bubble,” but that perhaps the question we should ask was where in the bubble cycle we were–perhaps 1996, versus 2000. That is a clever way to nuance the issue although, again, I think employing the term bubble implies that once this market surge cools there will be catastrophic consequences. While there is reason for pragmatism, discipline and caution, given what I am seeing today in the marketplace, I am not finding evidence to support that.

Candid Doerr, Wilson talk @ Web 2.0 Summit

17 Nov

Proving one man’s bubble is another man’s boom, venture capitalists John Doerr and Fred Wilson offered a refreshingly candid talk on the current venture market. Not surprisingly, given the focus of the event their perspectives were centered on the broad consumer/digital media space. That said, many of the insights — particularly around the health/attractiveness of public offerings for tech companies, the “nexus” of innovation (the NY vs. Silicon Valley debate), and other topics– apply easily across broad IT. The video runs about 37 mins, but is worth watching.

The Case for Why Thin is In

24 Mar

A pair of thought-provoking posts in recent days has taken opposite sides of the issue of whether start-ups should run “lean” — as a strategy, not simply a function of a tough fundraising environment — or continue to invest heavily in the business before key milestones and points of validation are achieved.

It helps that both posts (here and here) are well-researched and come from respected voices in the venture community, notably Union Square Ventures’ Fred Wilson and former entrepreneur and recent addition to the VC community, Ben Horowitz of Andreesen Horowitz. Not surprisingly, I found much to agree with in both pieces, but I’m more persuaded by Fred Wilson’s arguments that ‘Thin is in’ – both as a path to market leadership and as a strategy to retain sufficient equity in the company to fuel growth later on in the company’s evolution when capital is cheaper and more productive.

Ben Horowitz’ “Case For The Fat Startup” points out convincingly that some entrepreneurs may be overplaying their hand in VC meetings about how lean they can run, as if running lean is the panacea for all that ails the startup community. Many who have been around the start-up community long enough remember the “Get Big Fast” mantra of a decade ago and how rampant spending by companies whose business models were far from well-sorted led to a lot of carnage that took years to unwind. The scar tissue is still very much there. To this day, many limited partners remain leery of returning to the venture capital asset class because of the concern that few truly learned the lessons of the tech bust years. 

For this and for a variety of other reasons, it behooves a start-up team to demonstrate to investors its ability and its willingness to be very capital efficient — particularly during the early days when key market validation points have yet to be achieved. Venture investors, particularly in the current environment, have little appetite for investing capital just so a new team can throw things at the wall and see what sticks.  Angel investors may be a little more willing to accept that kind of super early stage risk, but even angels are now demonstrating less willingness to back companies at the concept stage.

That said, running “lean” needs to be seen more as a tactic, not as a long-term strategy. As the corporate world learned with the Reengineering fad of the early 1990s (yet another recessionary period), a company cannot cut its way to growth. At some point, companies need to fuel growth to solidify market position, acquire smaller companies with specific assets, add talent, and to do a host of other things critical to achieve market leadership and to remain a market leader. This typically takes capital. Lots of it.

My perspective comes from the software and services world, so much of what I say next would not reasonably apply to very capital-intensive businesses in the clean tech or hardware manufacturing realm where large capital infusions early on would be a requirement. With that caveat, I maintain that most early stage companies founded upon software/services-based business models should eschew raising and spending large amounts of capital until most early stage risk factors have been controlled for, or at least well-understood. For many first-time entrepreneurs, this is hardly a choice as few would reasonably be able to raise large amounts of capital without those factors being addressed, but it is still important to point this out. Messrs Horowitz and Andreesen were able to raise large amounts of capital due in no small part to their successful pedigree. This is clearly the exception and not the rule. That said, there are still examples of companies today viewed by venture investors as extremely attractive and those same investors will try aggressively to fund — even over-fund — those companies just in order to participate in the deal.

The pressure for certain “hot” companies to take more money and deploy that capital is very intense. While this might be seen by some entrepreneurs chastened by the current fundraising environment, quite cynically, as a “nice problem to have” it is still a problem, in my view. There are very few success stories involving companies that burned through tremendous sums of cash while they were still working out their business models, service offerings, and the like. Instead, the reverse is much more common — Pets.com, Webvan, Kozmo.com, to name but a few. Once a company is supporting hundreds of staff and millions in monthly burn, it becomes extremely difficult to remain nimble and to quickly adapt to fast-evolving markets. Even if a company, once it realizes it needs to downsize and adapt, is successful in reducing staff and the attendant burn of those resources, often the shock to the system that such a right-sizing has on the organization is too much to overcome. Morale can plummet and the “blood in the water” image of the company in the talent pool can jeopardize its ability to secure key partnerships or to hire again once better times return.

A final reason as to why most young companies should hold off on executing large financings and ramping up spend in the early days is due to valuation and equity dilution issues. Staying lean typically means less dilution because a company that has yet to sort through key early stage risk factors will simply not command the valuation it will likely command some months later when those issues are clearer for investors. As such, raising large sums when there still exists significant early stage risk will bring with it signficant dilution. From my experience, it is much better to secure large amounts of capital at a later “inflection” point when that capital is seen as fueling specific growth initiatives and not to extend runway while the company still deliberates on whether its business is viable.

In summary, there are clear reasons and opportunities for start-ups to fuel their growth with cash, but those exceptions are, to my mind, swamped by the more compelling reasons for young companies to sort out product/market fit and other points of validation before raising and deploying large amounts of capital. One of the ironies of the tech bust was that the overspending during the frothy years — particularly around communications – radically lowered the cost of launching a business, building a product, and getting that product into the marketplace. Companies that have pitched me in recent years often have a product, customers, revenue, and are sometimes at cash flow breakeven — all before raising a dime of institutional capital. A decade ago it might have cost $10mm to get a company to that point; today, often a company has done that with $300,000 from a few friends and family angels.

The ‘grim reapers’ Get Some Comeuppance

15 Oct
The 'Don't Panic' wing counter-punches

The 'Don't Panic' wing counter-punches

As sure as the sun will rise tomorrow morning (and, given the market’s recent collapse, word has it there is a line going in Vegas against the sun rising, but I’m not taking that action) those ‘sky is falling’ prognostications of last week by all manner of tech observers, investors and — yes — even some entrepreneurs has been met with a ferocious retort. This is a great thing; not so much because I conveniently find myself in the ‘buckle up, but don’t panic’ camp (see here, here and here) but because this is a very healthy–some might say cathartic–debate and it’s been a long time coming.

So, if you have not already done so, take a moment and review some of the superb contributions of others on this subject, not the least of which are Brad Feld’s OK Entrepreneurs, Time to Step Up, Fred Wilson’s Capital Efficiency Finds Its Moment, Alan Patricof’s Memo, John Borthwick’s Don’t Panic, Profit letter and, finally, Dave McClure’s brilliant and profane blogpost on the crippling nature of fear. Sure, you might still need that martini pictured at the end of Sequoia’s RIP presentation, but perhaps do without the Colt .45 chaser.

More later.

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