
The problem with profitless startups - joshreads
http://nymag.com/daily/intelligencer/2014/04/problem-with-profitless-start-ups.html
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cookerware
I remember a coworker telling me in a condescending tone 'this is how a
startup runs, you break even and try to expand market share, burning investors
cash and growing without profit' when I asked about how it is that our company
that has not made any profit in the past 4 years serving enterprise customers
is able to still be solvent. What if investors suddenly stop injecting cash?
Financials would be negative in the first quarter.

I never understood the working models of growing at the sole expense of
investors money. Because I don't know but last time I checked capitalism and
free market still is king, and they always have a history of major market
correction. When something's not efficient or something's offplace, market has
a tendency to correct itself, in a big, unexpected, ruthless sort of way and
we've seen this again and again, but history seems to teach people nothing.

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PublicEnemy111
As someone who recently accepted a job in silicon valley, I've started to
become concerned that there is a bubble. I feel there are many parallels
between 1999 and today. I would love to be convinced otherwise because I am
concerned with job security, but I can't escape the feeling that the "music"
will soon stop. At the very least I'd like to hear people's opinions on
whether there is a bubble or not

~~~
LandoCalrissian
So the biggest difference to me is that the 1999 bubble was completely built
on the backs of everyday investors. It was a rush to IPO and easy money, and
eventually the market got wise and the whole thing fell apart.

The new paradigm is far more interesting, since it's almost all the investment
comes from VC and Angel Investors. I think these entities can leverage risk
far better, since they may lose a few million here and there, but when they
hit a whale they really hit big.

I think there might be 'micro bubbles' within the industry that may implode
under their own weight (F2P mobile games companies come to mind), but I think
that's largely separating the wheat from the chaff.

I know some will disagree with me on this analysis, but I don't really
subscribe to the sky is falling theory. The tech industry is now big business,
that's not going to change.

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ajiang
Regardless of my opinion on whether or not we're in a bubble, the argument of
"it's different this time because..." is used in the build up of every bubble
we've ever experienced.

Stock bubble? Economic stability and the wonderful controls the Fed has on
monetary policy. No more economic cycles.

First tech bubble? The internet is a wonderful thing we haven't had before -
new opportunities, etc.

Everything is different until it isn't.

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beat
Wow, this article is kind of clueless.

First, the VC money isn't going to cost-cutting - it's going to growth. In
theory, virtualizing the business processes should lead to higher efficiency
and naturally lower costs. This model has been proven out in other fields -
it's the Big Box model of retail that created giants like Wal-Mart (although a
better comparison would be specialist big box retail like Guitar Center). So
the VC money is going to building out the business model infrastructure, not
selling a sandwich cheaper than the local shops.

Second, these businesses on the edge don't have enough market share to make a
massive dent in the local market - and it's ludicrous to think that they could
do so by losing money on transactions at scale. By the time they pose a real
threat to local business, they will be profitable. They _must_ be, because the
markets are too large to be subsidized by VC forever.

Third, a lot of the businesses that are threatened are not "mom and pop" at
all. Taxis? That's a local oligarchy protected by politics. Food delivery?
Ever heard of Domino's Pizza or Jimmy John's?

Fourth, these can create new opportunities for local business. I can now get
food delivered to my door by one of these startups, but the food comes from
excellent _local_ restaurants (the mom and pop ideal) that otherwise could not
possibly get a delivery service working profitably. They've outsourced the
business model, not the food prep.

And then there's the handwringing about how the long-term professional
institutional investors who run pension funds and the like might go broke on
venture capital, not realizing what a tiny sliver of that market VC is - it's
a diversification strategy, not a core. The biggest concern would be if a VC
collapse led to a broader stock market collapse, a la the dotcom era. Not
likely.

Yeah, dumb article.

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jbooth
You totally missed the point of the article.

The lunch that guy described is impossible to deliver for $8 in the US, and
especially in SF. That business makes no sense, ever. Losing money while
making a unit profit on that lunch, ok, let's see where that goes. Getting my
business by selling to me below cost? I'll do business with you all day but as
soon as you raise the price, I'll switch to the next startup offering me a
subsidized lunch. There's nothing 'long view' about that. No vision there.

This trend, if it's as big as the article makes it seem, is way more worrying
to me in a 'bubble' sense than the color.com thing.

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beat
Out of curiosity, I did some research on SpoonRocket. First, I caught the
article author deliberately misrepresenting the Series A:

"it’s just raised $10 million in venture capital expressly so it can keep its
prices low". The linked article said nothing of the sort. It said Series A,
yes, but not that it was to subsidize pricing. Second, that Series A just
happened on April 9 - this week. They haven't had time to even cash the checks
yet! (they had a $2.5M seed in 2013, per Crunchbase. If VC thought that money
was wasted on cost-cutting, they wouldn't be paying Series A)

Second, SpoonRocket differs in a couple of ways. First, they're a
food+delivery service. They don't drive for other restaurants, and they don't
have a restaurant space (and associated costs for service and location-driven
rent). They only do two meal choices a day, and those are driven by ingredient
availability. They're much more like a wholesale bakery than a restaurant.

Their technical edge isn't just communication, either. They have heating
systems built into the cars. So I'm assuming they simply fill the cars with
meals and send them out, using software to track closest car to the customers,
in a high-density urban area. When a car runs out of meals, just come back for
a refill.

This is an _extremely_ efficient model, for both food production and delivery,
outstripping the benefits of restaurants that have to offer a diverse choice-
driven menu, and delivery services that have to do one-off deliveries to
support that consumer customization of their food.

So I think it is absolutely reasonable that they could _profitably_ deliver $8
meals.

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jbooth
Once they've built the app, almost every one of their costs aside from
executive salaries (!) is a recurring per-unit cost -- paying the drivers,
buying the food, the gas, etc.

Still sounds more like 100k bank-loan material than 10M VC material to me. The
only way that 10M makes sense is if they're running a per-unit loss. Doesn't
cost 10M to build that app.

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beat
They were a Y Combinator company. They're drinking the kool-aid, for sure. But
seriously, this sounds much more like a VC play than a bank play to me. There
are real cost/performance advantages to their model. This could scale to a
billion dollar company. That's the sort of thing that attracts VC, which is
_much_ easier and more flexible than a bank loan - IF you're talking about
real scale potential.

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johnrob
The article actually missed one angle: increasing cost of living. It's not
just that prices are dropping for services like food/trasportation/etc, but
that it's happening while rent prices are going up. If anything, local service
prices ought to be rising along with rent. It's doubly striking that they are
dropping.

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sharemywin
Their workers aren't independent contractors because they don't offer their
services to multiple companies. The IRS will figure this out and get their
taxes. Next, eventually when the employee count is big enough they will sue
for things like minimum wage, breaks etc.

also, it takes nothing to start one of these businesses and compete therefore
profits can't get too big. The business doesn't really scale.

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dalek2point3
tl;dr the author argues that the ultra-cheap venture backed services are a
problem because while they're using money from VC firms and being patient,
they're driving out local businesses, and they'll ultimately fail, leaving a
hole in the local service ecosystem.

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arbuge
If that's the problem, it should eventually autocorrect when the investors
give up permanently and local businesses return.

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wffurr
That word "autocorrect" masks quite a lot of suffering on the part of local
business owners who close up and lose their livelihood and investors
(including pension funds, retirement accounts, etc.) which lose their money.

Sure, in the long run it all works out, but in the short term there's quite a
lot of turmoil.

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smacktoward
As John Maynard Keynes put it, "in the long run we are all dead."

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lauradhamilton
Interesting argument, but I sort of doubt that local small businesses and
bootstrapped startups really need to worry too much about VC-backed startups
that truly lose money on the the margin.

In general startups that lose money on the margin do not last very long.

Anyway, if the theory is that this food delivery service is selling under cost
in order to get rid of the competition, well, then they are going to be
displeased to discover that the barriers to entry for a food-delivery service
are not particularly high.

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rdudek
How do we know that some of these businesses are losing money? Looking at the
menu of SpoonRocket that the author listed, you could make the same meal for
less.

I have a feeling that the profit margins are very low, but I do not think
they're in the negative.

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aantix
Paying employees, executives, money for the car leases, gas, all while located
in SF?

An $8 meal, they make it at $4. With one avg engineer on salary at 125K, (~10K
a month), you'd have to sell 2500 lunches with a $4 profit to cover just his
salary.

I'd bet they're losing money.

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anoncow
Outsource the engineer. At 30-40k salary per annum, they can scrape by on 625
to 833 deliveries a month. 20-28 deliveries a day. You still have to look at
paying the delivery guys and managers.

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pbreit
There's possibly some decent arguments in there but they are shrouded by
inanity. They aren't "profitless-on-purpose". They understand the simple fact
that a dollar is better spent building the business than sitting in a bank
account. The author simultaneously degrades startups for not having other
business lines to fund them while also degrading the VCs that do. The
retirement funds care about returns not portfolio business model nuances.
Pretty much every credible "money losing" business I've seen needs to be able
to project out profitability at modest scale. Google Shopping Express and Ebay
Now are far more perplexing form a cost perspective. If physical businessed
can't compete on cost then rents need to come down or they need to figure out
how to benefit from their advantages (location, service, etc).

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bthomas
Does Uber Black Car really subsidize UberX?

I find it hard to believe that UberX isn't profitable alone - Uber just takes
20% of fare.

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johnrob
If they don't pay the drivers enough, there won't be any drivers. 20% is
probably not a hard rule.

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mathattack
Remember that Priceline had a history of loss leaders. Amazon was patient in
making money too. A couple million here or there is pennies if you're funding
the next big thing. This turns into a way for companies to subsidize early
adopters. Yes, the interface may not be perfect, and you never know what will
appear in the box, but if you'll give us a go, you'll get an $8 lunch that
might just be good... Sounds fair.

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smacktoward
Not all startups are created equal.

The biggest difference between (say) Amazon and the startups discussed in the
article is that the startups in the article are aggressively local. "We
deliver lunch in the Bay Area" doesn't scale to other communities as easily as
"We ship books to anywhere from a giant warehouse in the middle of nowhere"
does, since the former requires building up local infrastructure (meal prep,
delivery, legal/regulatory compliance, etc.) for each expansion.

~~~
mathattack
Fair enough. If a VC wants to toss money at them, why not?

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lazylizard
meanwhile, enjoy your consumer surplus.

