> This relies on the theory that startups goal is to grow a 100 times or die — so small continuous extractions by the executives are ruled out.
I interpret it as following: if the regular company earns $1 million/year, then an executive stealing $500k/year by making deals with friends will make investor's return much smaller. But in a startup, it does not matter -- if the it fails, it would simply fail slightly earlier. And if it succeeds, then it would earn $100 million/year, and $500k/year that executive steals will be a small, insignificant change.
(I am not personally convinced this is true, but this is how I interpreted that article)
I wonder how that number would be different, for those very same companies, had they not taken investors?
It'd be really interesting to see the failure rate of bootstrapped tech startups vs. those that took VC money, I'm betting it'd be a lot lower.
VCs react to the extreme winner-take-all dynamics of the economy, they don't cause it. Those dynamics will still chew you up and spit you out even if you don't take VC, they'll just do so with a lot less drama and nobody to blame.
(I'm not affiliated with them, but I read Rob Walling's "Start Small, Stay Small" and it was the best book out of 70ish books I've read in two years)
Another great book that I'd recommend is Lost and Founder (TinySeed's terms are based on the Rand Fishkin's most recent startup terms).
Another thing to consider, is that focusing on the 'middle road' does not necessarily preclude a company from swinging for the fences, it merely sets the incentives such that getting to profitability sooner is advantageous. They do this by encouraging dividends as a form of compensation, but the company still has the option of going the VC route.
So if anything, I think this structure is the best of both worlds. If a company can take ~$100k in seed for ~10% in equity and turn that into a small business worth $10M, that is a 10x return. But if it looks like they are on to something bigger, they can raise another round and keep grinding.
If the thesis is correct, they are the main losers, with incentives to find the 'right' size for companies.
I am aware of the current business model of venture capitalists.
It just seems to me that the value maximising outcome would be to enlarge every company to the largest it could be but no bigger.
Why isn't this happening?
Is it that venture capitalists are psychopaths and bad investors to boot? Is it that identifying the 'right' size of company is hard? The question that then arises is why are founders so good at identifying the right size, when investors find it so hard? Is there survival bias here? Sour grapes? If founders are genuinely better, why hasn't that been picked up on and harnessed?
That works out for VCs because they're diversified. A founder lacks the diversification, so while their average expected return is the same, their specific outcome is likely to be poor. They'd be much better off with a strategy that has lower expectation but also less variance.
Most founders don't have the ability to diversify anywhere near the same degree because the resources they have personal control over (time, energy) are generally much more limited.
The corollary is that taking vast VC money is the best way to grow to be a $1B business (obviously there are some exceptions). Again, all these things can be true. If you're a founder and determined to have a billion dollar company, you should take VC money. But your chances of success are miniscule. If, on the other hand, you're a founder and just want to build a $20m business, don't take VC money and the odds improve dramatically.
A fund that gets 1% unicorns might be successful, one that gets 1% unicorns and 5% big companies still has an advantage.
Which fund would you invest in?
Given the same investments in each, the unicorn provides a bigger return. Because of economies of scale, it's more likely to gain traction and continue its success, especially in a place like tech where marginal cost is almost non-existent. Not to mention the overhead on managing a single investment vs. many. Not to mention the administrative costs of 5 companies vs one. Not to mention the benefit of choosing a company based on your interests and abilities, since most VCs have a more hands-on role than traditional investors.
It just aligns with the culture; the whole idea in most tech startups is to leverage economies of scale as much as possible. Often their profit per customer is tiny. They're relying on millions of people using the product.
No as an individual investing in VCs.
VC A invests in 100 companies, 1 turns into a unicorn, 99 go bust.
VC B invests in 100 companies, 1 turns into a unicorn, 5 turn into (slightly less) large successful companies, 94 go bust.
A Facebook trumps a portfolio of LinkedIn, Tumblr, Snapchat, Box, Nest anyday.
Unicorn _and_ 5 big companies.
A portfolio of Facebook _and_ LinkedIn, Tumblr, Snapchat, Box, Nest
would trump both.
They want a big bonfire asap, and don’t really care if they end up extinguishing the flames instead.