The Twenty Minute VC (20VC): Venture Capital | Startup Funding | The Pitch
00:08:12 · Harry Stebbings, Venky Ganesan
[00:08:12] S1: These things change quickly. Do you play the game on the field as Bill Gurley says? Or do you call time out and say, you know what? I learned from 2021. You know what I wish I'd [00:08:23] S0: done in 2021? Less. This is a really hard conundrum for professional investors. You're referring to my tweets. Right? The Chuck Prince code is when the music is playing, you gotta dance. And as a professional investor, the danger of not dancing is that you do not know when this ends. Like, I'll give you a story. Like, there were a bunch of really smart venture firms during the .com boom that got in in 9394, made money, and decided to step out of the game in 9697. And when they stepped out of the game, they missed out on ninety seven, ninety eight, ninety nine, and the LPs were like, what happened? Like, we asked you. We invested in you because you're gonna be at the cutting edge. You stepped out. And they stepped back in 2000. So timing markets is really, really hard. I think you have to play the game. But I think you can play the game differently. You can choose to be more selective, and you can hopefully think about portfolio composition and position sizing as a way of mitigating what happens in the cycle turns. [00:09:21] S1: Portfolio composition and position sizing. What do we do with both of those in a market then like this? How do we change them?
00:09:21 · Harry Stebbings, Venky Ganesan
[00:09:21] S1: Portfolio composition and position sizing. What do we do with both of those in a market then like this? How do we change them? [00:09:28] S0: I think you have to think about the venture portfolio as a bunch of options. Each seed investment is an option bet. You're buying an option to see if it's an outlier. And so you want to have enough of those so you can make sure you have an outlier. And then when there are true quantitative evidence based on revenue on quantifiable metrics that there's going to be an outlier, then you position size up. So to me, like you have to think about, okay, what is my fund size? How do I have enough at bats, to use a baseball analogy? And make sure that you have enough at bats, and then you only position size up on the things that are already proven. [00:10:06] S1: Do you think seed still really exists today? [00:10:09] S0: If you wanna go into the core AI world with the Neolabs, I think seed is hard. [00:10:15] S1: But even like AI application like companies, they're raising 10 to 20. Like, the old three to five days, which was still quite large seeds, that's gone. Honestly, I [00:10:24] S0: think I think there are two things that impact seed investing today is, one, it's the size of the round. And then you have this other sort of externality, which is these large funds, maybe including us, somewhat being indifferent to seed valuations because they're using that as an option check. [00:10:38] S1: Because you you are, aren't you? I didn't mean that to put you on the spot, but...
00:10:38 · Harry Stebbings, Venky Ganesan
[00:10:38] S1: Because you you are, aren't you? I didn't mean that to put you on the spot, but... [00:10:42] S0: Yes. I mean, we are trying to buy ourselves a seat at the table, and the cost of buying that seat at the table, we are somewhat indifferent to at the seed stage because our real goal is to size up and invest in them if they become outliers. [00:10:54] S1: Thank you for making my life harder in that respect. I You should [00:10:58] S0: just invest in our funds. That would be funny. [00:11:03] S1: That's very funny. Nicely transitioned there. I give you credit for that one. You said like... So you place these bets, so to speak. And then when you see discernible traction, then you can double down. Completely agree with that logic. We're seeing strange numbers, you know, contracted annual revenue that's not actually annual revenue and it's kinda not live. You're seeing revenue run rate that's gonna be extrapolated out from the best day in history, and then we times that by three hundred and sixty five days. There's a murkiness to this revenue that we've never seen before that makes me feel quite icky in a lot of cases. Do you share that? And how would you advise me and what do internal discussions look like around that?
00:11:41 · Venky Ganesan
[00:11:41] S0: If any metric is measured by an investor and they put a lot of weight on it, it's going to be gained. And that's just the nature. Maybe they should coin a lawyer for it. And there are two elements that are going on. One, I'm blanking, I don't know if it's Keynes or another famous economist who coined the term bezel. When there's a boom, the bezel is high, which means like it's a notion that the embezzlement of things will be... So not just people are gonna pick metrics, people are also gonna have some interesting accounting techniques, which by the way will happen every cycle. And this probably happening at this cycle, so we're gonna find out in the next few years exactly the accounting creativity of some of our founders and the metrics being gamed by some other people, right? One good example of it in doing the SaaS way was a lot of investors put a lot of weight on net revenue retention. And so one of the ways to gain net revenue retention is that you could get a $100 PO, but better get a $10 PO and get a $50 PO a week later because your net revenue retention, if you just got a $1 PO was 100%. If you got $10 PO and $50 PO, it's now 500%. And the net revenue retention looks much better. Once a metric is measured, it can be gamed and that happens. To me, a lot of this comes down to are the founders really focused on building a business? Are they focused on terminal value or they are focused on markups? And I think you wanna find founders and investors who are focused on terminal value.
00:13:06 · Harry Stebbings, Venky Ganesan
[00:13:06] S1: Do you believe in king making? I know that sounds like a strange question. King making the theory that multiple successive and quick rounds led by strong investors can really help increase the chances of a company being successful. To me, [00:13:20] S0: that is a great example of Soros' reflexivity. What I mean by that is, you have a company that does well, and because it does well and the revenue is growing really fast, has a quick markup. And because of that quick markup, it gets more capital, it gets to come on Harry's show, and then it gets more notoriety that allows you to get more human capital along with the financial capital. It grows faster, and it's out of the markup. Now these are good things as long as the revenue is happening and the core business is building. But someone, a copycat can look at it and say, Oh, the secret is to have a markup. A copycat investor might look and say, If it's marked up, it's going be marked up again. And then reflexivity kicks in. And then everybody starts acting that way. And this explains how market cycles work until it stops. And one thing we know from Solos is that all reflectivity will eventually stop. We just don't know how and when. But until it stops, a lot of people can look very smart. [00:14:19] S1: We don't know how and when, but we can play the game of predicting how and when. If you were to predict how, what is the first signs of this cracking?
00:14:19 · Harry Stebbings, Venky Ganesan
[00:14:19] S1: We don't know how and when, but we can play the game of predicting how and when. If you were to predict how, what is the first signs of this cracking? [00:14:28] S0: I think usually the first sign comes with some major debt default. Generally, equity is never the reason why these things crack because equity, you write it down, you just take the loss. Debt, on the other hand, people have this expectation they're going to pay, get paid back. And so most of the cycles I know, it breaks because people lever themselves. And so if you see what happened with Leopold, a current investor, right. But when you're 4x leverage, it doesn't matter if you're right. You have to also get the timing correct. [00:15:01] S1: Missed his risk management class at high school, didn't he? Poor old Leopold when the music's going. So, yes, I completely get you there. How do you feel about, like, the multiple tranche rounds so quickly? I'm meeting founders very often where they're like, oh, we're doing around this week at a 100, but then we'll be opening up the second turn of it at later... Next week at two hundred because we've got so much demand. This just gives me shivers, and I feel like like, yeah, I am kinda... We buy any gold or we buy any car.