

Equity investing in superstar individuals (not their companies, them) - rafefurst
http://emergentfool.com/2009/10/30/investing-in-superstars/

======
frig
Lessin's comments are the only smart ones.

At an abstract level there's some appeal to this notion.

At a practical level not so much, though, and that's even before you get into
the nitty-gritty mechanics (like tax law here lol).

The adverse selection risk is huge, unless you go for very young people. What
this means is that for people who're already "established" and/or have a track
record:

\- if they have a worthwhile idea they won't have trouble getting better,
cheaper funding than this

\- ergo if they're asking you for this kind of funding:

\-- they either blew through their previous earnings and don't have a concrete
idea to pursue next (NOT GOOD!)

\-- or they aren't actually that "established" / lack a track record, and
therefore are actually exactly the kind of people you don't want to invest in
like this

...so pretty much investing in people proven-successful won't be happening.

We can roll back and consider younger people -- those too young to have any
great success to there name yet -- and now there's some possibility here:
catching brilliant people on the way up and giving them a further hand up.

Your problem here is that:

\- you're competing with student loans as a choice of funding; for a student
to pick your investment over a student loan it has to be a better offer. For
any student that anticipates serious success you'll have a hard time being a
better offer in terms of net payout; student loans are painful b/c their
payback is frontloaded into the postgraduation years, which are at the point
of the lowest lifetime earnings potential...but in net amount 3% of lifetime
earnings will be much greater than the total amount of student loan payments.

\- most of the really talented individuals won't even need your money, as
there's an unbelievable wealth of grants and scholarships and fellowships for
the truly exceptional in all walks of life (science, music, athletics, etc.)
that they pretty much don't need funding until after they graduate. After
graduation they _might_ take you up on the offer but as time passes they
become ever-more-likely to be able to raise cheaper funding for whatever they
desire

...so even going after the young'ins leaves you unlikely to be attracting the
people you'd want to invest in.

Which means good luck: even if you had the money together if you extend the
offer at a price that'll leave you likely to turn a profit it's unlikely to be
compelling to anyone you'd want to invest in.

And if that doesn't dissuade you think about the tax law implications: given
how easy it would be to do an end-run around inheritance + gift-tax law with
this type of "investment" -- and that that this end-run route isn't being
taken 24/7, etc. -- I can guarantee you the recipient of this "investment" is
going to be taxed on it as income (or at even worse rates, perhaps)...which
means the math for the recipient is even worse:

\- your investee now has to decide if, say, 125k or so (about what'll be left
out of a 250k investment after taxes) is worth 3% a year

...which further contributes to the adverse selection issue as you're only
really offering half as much as you think you are.

~~~
DavidSJ
_\- you're competing with student loans as a choice of funding; for a student
to pick your investment over a student loan it has to be a better offer. For
any student that anticipates serious success you'll have a hard time being a
better offer in terms of net payout; student loans are painful b/c their
payback is frontloaded into the postgraduation years, which are at the point
of the lowest lifetime earnings potential...but in net amount 3% of lifetime
earnings will be much greater than the total amount of student loan payments.

\- most of the really talented individuals won't even need your money, as
there's an unbelievable wealth of grants and scholarships and fellowships for
the truly exceptional in all walks of life (science, music, athletics, etc.)
that they pretty much don't need funding until after they graduate. After
graduation they might take you up on the offer but as time passes they become
ever-more-likely to be able to raise cheaper funding for whatever they desire_

You're making the assumption that the person would choose to use the money on
schooling. Student loans come with that terrible string attached. This
investment would not.

~~~
frig
This is a valid point, and a helpful one also.

Keep in mind that I'm already ruling out people with substantial established
track records of prior accomplishment, leaving you with:

\- people mid 30s or older without any kind of track record to speak of
(UNLIKELY TO BE A GOOD INVESTMENT!)

\- kids in the 18-25 y/o bracket, eg old enough to sign a contract but not-yet
with a track record

So if we have someone 18-25 with a tangible track record (eg: successful
software / website / invention / artistic performance record / etc.) they're
out of the picture; we're left with 18-25 y/o's with promise but nothing else.

In most fields it's not _impossible_ to pull off a huge success without the
training acquired in at least an undergraduate program but it's very
_unlikely_ in most scientific fields (and if you were the type who could do it
you'd probably also already have enough of a tangible track record that you'd
not really be part of the group we're considering atm anyways).

EG: you're almost certainly not going to do anything significant in biology or
medicine or chemistry or engineering or materials science or semiconductors or
optoelectronics (and even football and basketball) without the training
usually acquired as an undergrad (let alone in grad school).

So yeah: the money not being tied to college would have its appeal but putting
on the investor's hat for a second someone without a plan for acquiring that
level of training looks like a bad bet unless there are further mitigating
factors.

Which is why I think the assumption is still mostly warranted, even if it
shouldn't be taken for granted (as it was in my previous response).

But, what is helpful is this points in the direction of selecting candidates
who would benefit from this program: musicians and other artists.

In many musical + artistic genres a couple hundred upfront in exchange for a
cut of lifetime earnings is much better than the deal they typically get now.
There's not necessarily a ton of fledgling artists out there who'd actually be
good investments but it's a niche where the offer may make a fair amount of
sense from both sides.

Essentially you should be asking: what potentially-highly-remunerative "career
paths" are (a) open to people in their early-mid 20s and (b) such that star
talents exist and (c) such that star talents would find this type of investing
a better option than their existing funding options.

~~~
DavidSJ
_you're almost certainly not going to do anything significant in biology or
medicine or chemistry or engineering or materials science or semiconductors or
optoelectronics (and even football and basketball) without the training
usually acquired as an undergrad (let alone in grad school)._

Perhaps this is a direct consequence of the lack of alternative funding? Our
society is structured in such a way that you're expected to be doing one of
two things at all times: work or school. If you choose to spend time exploring
the world in your own way, you're seen as wasting your time and given no
support by anyone. As a consequence, this is rarely a feasible choice.

Opportunities such as these are extraordinarily rare, but we have essentially
no modern data on how people who have such opportunities fare.

That said, we do have historical data: virtually all academic progress
(scientific, philosophical, etc.) has historically been made by the
aristocracy -- by people who could spend their time "being idle", neither
working nor schooling, and think about big problems.

~~~
frig
Eh, I don't think the reason you don't see 18 y/o people doing significant
work in materials science isn't directly the lack of alternate funding; it's
that there's no alternate funding for 18 y/o to do materials science b/c
without proper background training they're unlikely to make any material
progress in the field.

This is the same reason there's no "alternate funding" for bright but
undistinguished 45-y/o people with no prior background in materials science to
go and do materials science (short of education loans for late-life career
changers); it's a field that requires lots of education (in the sense of
learning) and specialized skills and someone without those skills isn't likely
to accomplish anything on the investment.

Generally yes: advances come when you pair motivation to investigate topics of
interest with freedom from more-mundane considerations and access to the
necessary resources to make advances (idleness, if you will); as the frontiers
of most applied sciences have gotten out of the reach of what wealthy
dilettantes can easily afford you don't see them making many advances (but you
do see plenty of advances in industry and academia, still, both of which allow
their researchers enough of those things to make advances and both of which --
unlike most wealthy individuals -- can afford the tools many times over
again).

Please note that I was careful to say that the prospective 18 y/o outsider
materials scientist (or what have you) needed the training usually acquired in
a university context; I deliberately _did not_ say that they needed a
_university education_.

It seems that for most bright-and-motivated types they could easily accelerate
that training substantially if they had more freedom to choose courses a-la-
carte; the loans-for-college approach currently doesn't allow for that kind of
discretion, but a more financially-secure student would be better-placed to
negotiate that.

All that being said: there's almost no way that someone without the
_equivalent_ of that kind of training in an applied science will make material
contributions to that field; at present economic constraints make it very hard
to obtain even the _equivalent_ of that training short of actually going to
school and getting a degree (at which entails putting up with all the bs and
time-wasting stuff that that entails).

------
johnnybgoode
Interestingly, some of you find this disturbing. Out of curiosity, if we work
backwards from the percentage of annual income taken, what percentage of you
does the government own?

~~~
anonjon
Perhaps I can explain the disturbtion?

My taxes to the government are more of an exchange of services. My government
gives me roads to drive on, schools to send my kids to, police, fire
department, parks, regulation of various industries, labor laws, military
protection from hostile governments (among other things including the
potential betterment and presumed increased safety of society).

To wit, my taxes are my end of a tacit social contract that I have made with
my government. Because it is a social contract, the purpose of it is not
profit, but instead the betterment of mankind in general.

When you compare the benefit received by paying taxes to the benefit of a lump
sum payment (which could be had just as easily in the form of a loan), you
realize how little you are getting from this investment plan.

But I think that my specific revulsion comes from having read plenty of
literature (Shakespearian and pre) and knowing that usury is a sin.

~~~
ggruschow
False analogies.

Taxes are forced on us, not chosen. They do support some betterment of
mankind, but the inefficiency is bad for mankind. Taxes are an order of
magnitude higher, and the individual benefits are usually far less.

Loans are paid back plus interest on a fixed schedule. These aren't. Most
investees will profit from the transaction even without TVOM.

Don't like lump sums? Just convert it to guaranteed monthly income for life by
buying an annuity. Rates are low right now due to the economy, but you'll
still get ~$2k/mo for a $400k lump sum.. and you can get things like inflation
adjustment too.

"You'll never be poor" is usually worth more than "a few percent of your
income" plus the right to buy it back.

~~~
anonjon
Whether or not I'm wrong, where are the analogies?

Taxes are indeed forced upon us, but you benefit directly from the system that
taxes support. If you do not want to pay taxes, you always have the option to
leave the safety of the system (move to another country or declare war on the
country taxing you).

Although it is likely infeasible and anti-social to declare war (however, it
has been done many times), I don't doubt you could find a country with lower
taxes. The issue, however, would then be being able to make the same amount of
money as you would in a country with higher taxes. That is to say, you get
what you pay for.

Essentially you are discounting (wholesale!) the benefits that you, the
individual, derive from having a working system of government. Yes, the
immediate and obvious benefits are small, but the benefits that you
essentially take for granted, certainly are not small.

I think the quote that life would be "nasty, brutish, and short".

I did the math prior to posting and I do realize that (depending on the sum of
money), it could be a very good deal for the investee.

It just seems to have elements of a Faustian bargain.

~~~
ggruschow
_Whether or not I'm wrong, where are the analogies?_

Yeah, not a great choice of words on my part. Using descriptions of taxes,
loans, and usury in the explanation of what disturbed you about this
investment deal seems at least close to the definition of analogy though.

 _The issue, however, would then be being able to make the same amount of
money as you would in a country with higher taxes. That is to say, you get
what you pay for._

That seems unlikely. I'd get the exact same benefits in this country if I'd
paid <10% of the taxes I already have.

------
btilly
This would really make sense for students. A lot of kids go through
universities and wind up scared about their college debt. On average their
expected improvement in future returns is more than enough to make up for it.
But individually people are running a scary risk. If you can solve that and
spread risk across many people, it should average out in your favor.

If you have enough money to do this and seek to invest, I would highly
recommend going after academically successful but poor kids. They are the ones
who are most likely to drop out of university or go to a community college
instead because student debt is too scary for them. That is because their
belief about likely future income is based on people they know, which is far
out of whack with what educated people can make. But their life choices are
likely to leave them at what they expect.

At a practical level this means that you have room to structure the deal so
you get better average returns than a loan, they are better off after
accepting your deal than they would be if they don't go to university, and
they are better off than they would have been if they earn what they think
reasonable. Everyone wins.

------
dstorrs
A variant on this that I've seen proposed is: find a (medical student |
apprentice plumber | law student | etc) that you think is talented and honest.
Pay his/her way through school and provide enough money to get them
comfortably set up. They now owe you free service for the rest of their career
in that field.

~~~
btilly
The problem is that the amount of that student's future work you can
reasonably consume is far less than the cost of their education.

~~~
lg
Well, this could be a good strategy for patent trolls.

------
rms
This has been discussed here before. I can't believe someone actually did it.

~~~
icey
It makes a lot more sense when you realize that Rafe Furst and Phil Gordon are
poker players. Poker players are amongst the most creative "investors" I've
ever seen. They love playing around with interesting odds to see how it turns
out.

If Matt Maroon gets in to this thread, I'm sure he has some interesting war
stories about poker guys getting big stacks of money into bizarre schemes.

------
bhousel
It really doesn't seem all that different from sports contracts with elite
athletes.

The main difference between is the open-ended nature of this contract. 3% for
the rest of your life? Honestly, I don't think "Marge" is a very good
negotiator. But that's why athletes have agents.

------
carpdiem
I think indentured servitude is the wrong way to look at this. The key
difference is that the investors don't dictate that you need to achieve a
certain level of returns, or that you pursue a certain line of work. Instead
you're still free to do whatever you want.

Since these contracts don't impinge on personal freedom, they should be legal.
And I dare say that any number of highly motivated and intelligent people
would jump at an opportunity like this (myself included), especially with the
buy-out clause.

~~~
HistoryInAction
I disagree re: indentured servitude. This reminds me of Renaissance
sponsorship of artists and musicians, such as Leonardo DaVinci. Why not take
something that was proven to work and update it for the modern world?

I'd also look at something like Intellectual Ventures, except on a longer
term, where smart people are paid to attend the sessions to generate as many
new, useful ideas as possible.

------
kalvin
A good friend and I are in the process of agreeing to something vaguely
similar. We each get x% of the others' proceeds if we're a founder at a
company that has an exit. So it increases our chances of seeing a payout and
decreases that payout by x% (but x is small.) Ideally we'd have a couple more
good friends-who-are-equally-likely-to-be-founders join in, and we'd really
have a good pool...

------
jhancock
I'm guessing that a personal bankruptcy may get you out of this debt.

~~~
coderholic
Even if it did, the article says "The Personal Investment Contract (PIC) can
be calibrated for just about any situation where the investor believes the
person they are investing in is (a) a true superstar, and (b) completely
trustworthy."

If someone was willing to pay me $300K cash so that I could work on my
passions rather than having to work a day job I'd be more than happy to give
them a return on their investment, rather than looking for ways to get out of
my obligations to them.

------
pchristensen
Wow. Creepy, seems illegal, and quite possibly disruptively brilliant.
Nervously keeping tabs on this concept.

------
hooande
I think this is how most equity investing works anyway. You get the feeling
that one or more of the founders are "superstars" and decide to back them, not
the idea or product that they pitched you with.

The lifetime contract is an interesting spin. Kind of reminds me of a
classical artist having a patron. It's a great deal from the perspective of
the individual...3% is always a trivial amount of your income. I do worry
about it from the investment perspective...it seems way too easy to let
personal biases and an individual's charisma get in the way of making rational
investment decisions. While most investments are made on the basis of "I
really like this person", it probably isn't the best criteria.

------
enki
My reasons for accepting such an offer would be the nonlinear utility of money
(my chances at making more money would significantly increase with the initial
freedom to work on projects fulltime), and the equity equation
(<http://www.paulgraham.com/equity.html>).

After twittering about this, someone (possibly half-joking) offered to invest
$60 USD in me under similiar conditions. Transaction costs and overhead
however make these small investments really unattractive.

Is it completely crazy to propose a website that allowed me to combine lots of
small PICs, and handling the overhead, to get my life as a project financed?

~~~
shimon
It's not crazy, but in the US, it would require that you register the
securities (possibly each person?) with the SEC, or only take investment from
accredited investors (<http://www.sec.gov/answers/accred.htm>). This could
well increase the overhead enough to make the project infeasible.

------
simon_
It seems like there would be serious problems in the enforcement of a contract
like this. I don't see any reporting requirements imposed on the entrepreneur,
and it's pretty unclear what a court would do in the event of a default on the
entrepreneur's part.

------
abossy
If I am reading that correctly, "Marge" must make an average of $250k each
year for their investors to merely break even. That seems like a lot, but
obviously they must really believe she'll strike it rich somewhere along the
way. Seems like a good deal for her, and an incentive to take off for the
Bahamas for a while. I wonder how old she is, and whether that's an important
factor for investors to consider.

------
marketer
This is really weird. It sounds like indentured servitude.

<http://en.wikipedia.org/wiki/Indentured_servant>

~~~
tptacek
The beneficiary isn't required to work. They're simply required to pay N% of
their income and gains if they do.

------
ckjohnston
i've always thought this would be an interesting idea. it's neat to see
someone doing it. if u think about it, the YC program operates under a similar
concept (people are more impt than the idea).

------
enki
i'd totally go for this

------
anonjon
Creepy, but I think we can make it more creepy:

If you do this investment and the person takes out a life insurance policy on
themselves, and they die, do you get 3% of the life insurance policy?

Although, I dunno, isn't this what having children is for?

You pay upkeep on them until maturity and when you are old and senile they pay
to put you in a home and have you fed applesauce or whatever.

~~~
btilly
Reality has gotten there first. In a number of states (Texas being famous
among them) companies can take out life insurance policies on their workers. A
company with such "dead peasant" policies now has an incentive to provide bad
working conditions and poor health care support because that goes straight to
the bottom line!

[http://deadpeasantinsurance.com/which-employers-bought-
polic...](http://deadpeasantinsurance.com/which-employers-bought-policies-on-
the-lives-of-employees/) has a list of companies that did this.

~~~
eru
> because that goes straight to the bottom line!

Not if the insurance company has a say in this. They will raise premiums for
bad working conditions.

