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This talk of swings and home runs leads me to a comparison. Could it be that we're looking at a Sabermetric/Moneyball shift in thinking? One of the most count

This talk of swings and home runs leads me to a comparison. Could it be that we're looking at a Sabermetric/Moneyball shift in thinking? One of the most counter-intuitive parts of the sabermetric approach is to focus on avoiding outs rather than getting hits. A player that gets on base 40% of the time and hits 10 home runs/year is more valuable than one who gets on base 30% of the time and hits 25 home runs/year. In a full season, the second batter will generate ~70 additional outs (enough to fill 2.5 entire games!) What if a V.C. decided to avoid "outs" at all costs? What if they managed their portfolios not to avoid losing money rather than to swing for the fences? If they could keep their write-offs around 50%, then 3x and 5x returns become money makers and the occasional 10x return becomes a home run.

rdl 16y ago
Costs (due diligence, fund raising, overpriced salaries, legal) would make a VC like this unprofitable. Banks are the solution for institutional small-scale low-risk finance, via debt. Retail/commercial bankers are excessively conservative in some ways now (due to regulations); the traditional "small town bank" which originated and held loans to small businesses, property finance, etc. within a specific community was a much better option. Banks have a low cost of capital (from deposits), and should have minimal marginal overhead making each loan. By having "community membership" as one of the metrics for giving a loan (i.e. you've lived in this town for 20 years, and have been a customer, are known to be able to run a certain kind of business, ....), due diligence costs for making a reasonable new loan are a lot lower than for a VC. Angels (who effectively use sweat equity to cover their own overhead) are the other. The thing you are missing is that each series A deal a traditional VC does has a 50-100% the invested capital cost in overhead, opportunity cost, etc. At that point, shooting for 3x returns becomes a lot less appealing, especially over 10 years.
- acgourley 16y ago
  1) The overheard issue is something they can fix, they simply don't have any incentives to. Limited partners will have to crack down before we see any change. 2) Are there really many banks ready to fund a technology startup's series A? Even if its a business model with a high chance of a 5x return?
  - rdl 16y ago
    Banks as they exist today are a non option for most business financing. This is sad, and a big change from the peak of us civilization (18xx to maybe 1969) Specialist banks like svb and square can use debt to let you stretch an angel round (equipment financing, maybe invoices on enterprise sales, maybe an a to b bridge loan) but are not a replacement for equity risk capital in seed or series a.
acgourley 16y ago
It's an interesting question. I agree with you that this will the number of (relative) successes. Someone will probably point out that this approach would preclude certain historical investments which turned out to be very important, but those kinds of high risk investors will always be around. This idea is well suited for the VCs currently struggling to not lose money.
btilly 16y ago
One issue is that VCs actively don't like being invested companies that just hang around and don't do much. When VCs invest they want to be on the board so they can give the company direction. But now they have to do that, month after month, year after year, and the company keeps on taking their time energy. Perhaps eventually it dies, or eventually it gets sold for 2-3x investment, but either way it doesn't wind up being worth the opportunity cost of the time spent on it. Therefore VCs aren't going to encourage having more of these deals unless the VCs can find ways to reduce their ongoing time commitment. (I note that YC invests in lots of companies with much less of an ongoing time commitment than VCs have. But YC has a very different value proposition and business model.)

rdl 16y ago

Costs (due diligence, fund raising, overpriced salaries, legal) would make a VC like this unprofitable. Banks are the solution for institutional small-scale low-risk finance, via debt. Retail/commercial bankers are excessively conservative in some ways now (due to regulations); the traditional "small town bank" which originated and held loans to small businesses, property finance, etc. within a specific community was a much better option. Banks have a low cost of capital (from deposits), and should have minimal marginal overhead making each loan. By having "community membership" as one of the metrics for giving a loan (i.e. you've lived in this town for 20 years, and have been a customer, are known to be able to run a certain kind of business, ....), due diligence costs for making a reasonable new loan are a lot lower than for a VC. Angels (who effectively use sweat equity to cover their own overhead) are the other. The thing you are missing is that each series A deal a traditional VC does has a 50-100% the invested capital cost in overhead, opportunity cost, etc. At that point, shooting for 3x returns becomes a lot less appealing, especially over 10 years.

acgourley 16y ago
1) The overheard issue is something they can fix, they simply don't have any incentives to. Limited partners will have to crack down before we see any change. 2) Are there really many banks ready to fund a technology startup's series A? Even if its a business model with a high chance of a 5x return?
- rdl 16y ago
  Banks as they exist today are a non option for most business financing. This is sad, and a big change from the peak of us civilization (18xx to maybe 1969) Specialist banks like svb and square can use debt to let you stretch an angel round (equipment financing, maybe invoices on enterprise sales, maybe an a to b bridge loan) but are not a replacement for equity risk capital in seed or series a.

acgourley 16y ago

It's an interesting question. I agree with you that this will the number of (relative) successes. Someone will probably point out that this approach would preclude certain historical investments which turned out to be very important, but those kinds of high risk investors will always be around. This idea is well suited for the VCs currently struggling to not lose money.

btilly 16y ago

One issue is that VCs actively don't like being invested companies that just hang around and don't do much. When VCs invest they want to be on the board so they can give the company direction. But now they have to do that, month after month, year after year, and the company keeps on taking their time energy. Perhaps eventually it dies, or eventually it gets sold for 2-3x investment, but either way it doesn't wind up being worth the opportunity cost of the time spent on it. Therefore VCs aren't going to encourage having more of these deals unless the VCs can find ways to reduce their ongoing time commitment. (I note that YC invests in lots of companies with much less of an ongoing time commitment than VCs have. But YC has a very different value proposition and business model.)