5 ms·

The Profit Motive

46 points by vinnyglennon 8y ago

mrnobody_67 8y ago
Problem is LPs need you to spend your money reasonable fast so they can have you raise they next round, so they can mark up their investment, and use those paper gain numbers to raise a new fund every 3-4 years to increase assets under management that they can collect 2-3%/year for 10 years on.
- gumby 8y ago
  I think you mean the GPs need this -- the LPs want actual valuation increases at distribution time. It's the GPs who raise the funds and get the 2&20.
image888 8y ago
Is a business that makes no profit is a good business?
PaulHoule 8y ago
This begs the question of "Are businesses based in certain urban areas really more productive or do they just have more access to funding?"
- image888 8y ago
  Businesses need to be where the customers can find them
- pjc50 8y ago
  Obivously the latter: there aren't any physical factors of production that make SF uniquely suited to developing better software, but that's where startups need to be to have the vital random personal contacts to raise huge amounts of money.
  - jahaja 8y ago
    Excuse my pet-peeve rant, but the "random personal contacts" line is characteristically vague. In some sort of reflexive pursuit to avoid admitting irrational factors, explanations become necessarily vague. For example, the irrational factors could be nepotism (which is certainly the case if being in certain location is vital), social status (it's not as cool to both start and fund/invest in a business in some unknown place), public relations ("It's the new hot tech from SV looking for an IPO in 3 years!") and so on. But then, like magic, everything is translated into vagueness: "It's because everything happens here!", and to add insult to injury there's some overall idea that the whole thing is meritocratic.
    - pavlov 8y ago
      Professional networks are not a meritocracy in any sense, and it's a dangerous SV cliché to pretend that they are. People most easily place their trust in people who are like them. The VC investor who went to Stanford may give money to a male entrepreneur who also went to Stanford simply because the investor sees himself in the young man. Breaking this pattern takes conscious effort.
fallingfrog 8y ago
I think too that when venture capital is willing to endlessly throw money at unprofitable ventures, it dilutes the advantage of those that are running a profit to near zero, which means that when investor sentiment eventually flips, we may find that there aren’t any sustainable businesses in the field. Competition based on profitability is really the one thing that capitalism is supposed to do well, after all.
RA_Fisher 8y ago
I don't like to call unprofitable ventures businesses. They might be a business one day. A business creates profit (wealth) by creating value in the eyes of the customer and then charges for it. Profit, if arrived at honestly, is a measure of good returned to society.
- paulsutter 8y ago
  You’re describing positive unit economics and any responsible startup has that even if it’s not yet profitable. > growth has to be responsible (positive unit economics on growth spend)
  - fjsolwmv 8y ago
    Uber doesn't.
  - RA_Fisher 8y ago
    No, I'm including fixed costs / overhead. Gotta pay the bills.
iamwil 8y ago
"But the vast majority are burning money like its water and there is plenty more where it came from." ...like kindling? I chuckled at this.
roenxi 8y ago
There is another aspect of this that is critically important. For a business to operate unprofitably, it needs a line of credit. There are scarily complicated second order effects of what that credit does, where it comes from and whether the net effect is good or bad open. When credit is involved and businesses are not profitable there is a spectrum of results. On one end the credit is being provided by sensible people and eventually some of the businesses return a large profit. On the other the credit is being provided by idiots (government, banks with bad policy, etc) and at some point there will be massive losses when it can't be paid back. If someone is observing 'gee, nobody is making a profit here', then I'm going to interpret what they are saying as 'we're moving to the wrong end of the spectrum here, there is going to be a clean-out where people lose their jobs or their investments'. But to have the conversation, really we need to know who, why, how much, when and what terms the credit is being provided under.
the_other_guy 8y ago
>Businesses are ultimately valued as a discounted set of future cash flows This. Even if this is 101 corporate finance, somehow tech entrepreneurs and founders are totally ignorant how companies are all about and think they can become rich by making their product as popular as possible
pjc50 8y ago
The VC game operates under one critical assumption: winner takes all. There's no room at current valuations for two taxi firms, internet shops, TV streaming firms,etc. in the long run. The valuations are only justified by the belief that in the future they will be so dominant that they will be able to set prices to higher levels. While there is competition in the market they can never return the profits to investors.
- kartickv 8y ago
  Interesting perspective. But that's often not the case: In India, Ola competes with Uber, Amazon with Flipkart, and so on. Some people say that network effects will lead to winner take all, but if I can get an Uber in 5 minutes and an Ola in 6, or an Uber for ₹80 and an Ola for ₹85, that's not a meaningful difference. VCs also want big markets, but big markets are likely to have competition.
  - PaulHoule 8y ago
    Uber in particular has no moat. So long as Uber is selling half-priced taxi rides that are subsidized by VCs there is not a lot of competition. At real prices, there is nothing to stop the yellow cabs or somebody else in a town from making their own ride hailing app so you not only have competition from big players like Lyft but also many smaller players. (E.g. I have no smartphone and no Uber app but when I have to leave my hotel/AirBNB at an ungodly hour to go to the airport I have no trouble reserving a ride from somebody the night before.) It's not credible that Uber will be dominant in self-driving cars since everybody from Google to General Motors will get a piece of that. (e.g. nobody is going to have a complete set of patents, there will be cross licensing...) This article on Bloomberg seriously misrepresents the situation with Uber: https://www.bloomberg.com/news/features/2018-09-27/masayoshi-son-softbank-and-the-100-billion-blitz-on-sand-hill-road https://www.bloomberg.com/news/features/2018-09-27/masayoshi... That is, he's not competing with Sand Hill Road, he's buying what they sell and making it possible for them to look like they are successful at what they do. If he can find "greater fools" to buy into an Uber IPO he may do OK, but if he can't he might have to commit Seppuku.

46 points by vinnyglennon 8y ago

Problem is LPs need you to spend your money reasonable fast so they can have you raise they next round, so they can mark up their investment, and use those paper gain numbers to raise a new fund every 3-4 years to increase assets under management that they can collect 2-3%/year for 10 years on.

gumby 8y ago
I think you mean the GPs need this -- the LPs want actual valuation increases at distribution time. It's the GPs who raise the funds and get the 2&20.

image888 8y ago

Is a business that makes no profit is a good business?

PaulHoule 8y ago

This begs the question of "Are businesses based in certain urban areas really more productive or do they just have more access to funding?"

image888 8y ago
Businesses need to be where the customers can find them
pjc50 8y ago
Obivously the latter: there aren't any physical factors of production that make SF uniquely suited to developing better software, but that's where startups need to be to have the vital random personal contacts to raise huge amounts of money.
- jahaja 8y ago
  Excuse my pet-peeve rant, but the "random personal contacts" line is characteristically vague. In some sort of reflexive pursuit to avoid admitting irrational factors, explanations become necessarily vague. For example, the irrational factors could be nepotism (which is certainly the case if being in certain location is vital), social status (it's not as cool to both start and fund/invest in a business in some unknown place), public relations ("It's the new hot tech from SV looking for an IPO in 3 years!") and so on. But then, like magic, everything is translated into vagueness: "It's because everything happens here!", and to add insult to injury there's some overall idea that the whole thing is meritocratic.
  - pavlov 8y ago
    Professional networks are not a meritocracy in any sense, and it's a dangerous SV cliché to pretend that they are. People most easily place their trust in people who are like them. The VC investor who went to Stanford may give money to a male entrepreneur who also went to Stanford simply because the investor sees himself in the young man. Breaking this pattern takes conscious effort.

fallingfrog 8y ago

I think too that when venture capital is willing to endlessly throw money at unprofitable ventures, it dilutes the advantage of those that are running a profit to near zero, which means that when investor sentiment eventually flips, we may find that there aren’t any sustainable businesses in the field. Competition based on profitability is really the one thing that capitalism is supposed to do well, after all.

RA_Fisher 8y ago

I don't like to call unprofitable ventures businesses. They might be a business one day. A business creates profit (wealth) by creating value in the eyes of the customer and then charges for it. Profit, if arrived at honestly, is a measure of good returned to society.

paulsutter 8y ago
You’re describing positive unit economics and any responsible startup has that even if it’s not yet profitable. > growth has to be responsible (positive unit economics on growth spend)
- fjsolwmv 8y ago
  Uber doesn't.
- RA_Fisher 8y ago
  No, I'm including fixed costs / overhead. Gotta pay the bills.

iamwil 8y ago

"But the vast majority are burning money like its water and there is plenty more where it came from." ...like kindling? I chuckled at this.

roenxi 8y ago

There is another aspect of this that is critically important. For a business to operate unprofitably, it needs a line of credit. There are scarily complicated second order effects of what that credit does, where it comes from and whether the net effect is good or bad open. When credit is involved and businesses are not profitable there is a spectrum of results. On one end the credit is being provided by sensible people and eventually some of the businesses return a large profit. On the other the credit is being provided by idiots (government, banks with bad policy, etc) and at some point there will be massive losses when it can't be paid back. If someone is observing 'gee, nobody is making a profit here', then I'm going to interpret what they are saying as 'we're moving to the wrong end of the spectrum here, there is going to be a clean-out where people lose their jobs or their investments'. But to have the conversation, really we need to know who, why, how much, when and what terms the credit is being provided under.

the_other_guy 8y ago

>Businesses are ultimately valued as a discounted set of future cash flows This. Even if this is 101 corporate finance, somehow tech entrepreneurs and founders are totally ignorant how companies are all about and think they can become rich by making their product as popular as possible

pjc50 8y ago

The VC game operates under one critical assumption: winner takes all. There's no room at current valuations for two taxi firms, internet shops, TV streaming firms,etc. in the long run. The valuations are only justified by the belief that in the future they will be so dominant that they will be able to set prices to higher levels. While there is competition in the market they can never return the profits to investors.

kartickv 8y ago
Interesting perspective. But that's often not the case: In India, Ola competes with Uber, Amazon with Flipkart, and so on. Some people say that network effects will lead to winner take all, but if I can get an Uber in 5 minutes and an Ola in 6, or an Uber for ₹80 and an Ola for ₹85, that's not a meaningful difference. VCs also want big markets, but big markets are likely to have competition.
- PaulHoule 8y ago
  Uber in particular has no moat. So long as Uber is selling half-priced taxi rides that are subsidized by VCs there is not a lot of competition. At real prices, there is nothing to stop the yellow cabs or somebody else in a town from making their own ride hailing app so you not only have competition from big players like Lyft but also many smaller players. (E.g. I have no smartphone and no Uber app but when I have to leave my hotel/AirBNB at an ungodly hour to go to the airport I have no trouble reserving a ride from somebody the night before.) It's not credible that Uber will be dominant in self-driving cars since everybody from Google to General Motors will get a piece of that. (e.g. nobody is going to have a complete set of patents, there will be cross licensing...) This article on Bloomberg seriously misrepresents the situation with Uber: https://www.bloomberg.com/news/features/2018-09-27/masayoshi-son-softbank-and-the-100-billion-blitz-on-sand-hill-road https://www.bloomberg.com/news/features/2018-09-27/masayoshi... That is, he's not competing with Sand Hill Road, he's buying what they sell and making it possible for them to look like they are successful at what they do. If he can find "greater fools" to buy into an Uber IPO he may do OK, but if he can't he might have to commit Seppuku.