Published in the San Diego Union-Tribune, September 26, 2022
by Neil Senturia
A pal sends me a TikTok from Kevin O’Leary, one of the “Shark Tank” panelists, whose famous mantra when a contestant does not accept his offer or seems clueless is “You’re Dead to Me.”
O’Leary recently did a three-hour lecture in front of 600 college students, would-be-entrepreneurs. Herewith is his story.
At the very end of the class, at five minutes to nine, a student raises his hand and says he has a problem. Pray tell, sir, what is the problem? Well, Mr. O’Leary, I started a business in my dorm room, cloud-based, compliance software for hedge funds with less than $250 million in assets, and I am making $5 million in free cash flow this year.
O’Leary remarks that’s a damn fine business, what is the problem? The student says his problem is that his fiancee is leaving him, because all he does is work on his company or study in order to graduate, and so there is no time for her. What should I do? he asks.
Now here is a true teachable moment. O’Leary says to the student, “I’m no Dr. Phil, but I would ask you one simple question — which is easier to replace, the business or the girlfriend?” Further, O’Leary points out that there are approximately 300 women in this class right now who just heard that you are making $5 million a year. And of course, there is huge laughter.
Let’s pause. As an entrepreneur, how do you determine what is really important — both in your business and in your life? There is no algorithm for happiness. My personal perspective here is that a great partner, you can call it a wife or a mate or whatever, is the harder one to replace. We all know that finding the real value in life is more about relationships and family than it is about money.
But I might take a slightly different tack with the student and suggest that while $5 million is nice, with the right, supportive, loving partnership, he might be able to grow it to $50 million and also find time for her and some kids. Whether or not to get a prenup is a discussion for another time.
On a more serious note, how exactly do venture capitalists make their investment decisions, and are they actually any good at it? A research paper by Diag Davenport, a Presidential Postdoctoral Research Fellow at Princeton University, looked at over 16,000 startups, representing over $9 billion in investment capital, in an effort to evaluate the decisions of early stage investors.
And three drum rolls, he found the following: “When making good investments, they bet on the horse, but when making bad investments, they bet on the jockey.”
Whoa. What happened to charisma and pedigree, to the been there, done that, big vision? Unfortunately, the data shows that early stage investors significantly overweight the importance of those founder characteristics.
Nota bene: This model clearly does not favor women or diversity or founders of color. You say, maybe they are picking the wrong jockeys?
Unlike the public markets, which are open to everyone, in the startup world, you can only buy the stocks that you’re invited to buy. Davenport’s data suggests that “VC funds have to knowingly invest in the bad companies in order to get access to the good ones, and then the good ones make up for the other failures.” You must be kidding.
Davenport argues that “the true value added by venture capitalists is not picking the right companies, but rather getting access to the best deals.” This is no way to make a living.
If the VC rejects too many “Stanford-dropout founders” with goofy, stupid ideas, then the Stanford-dropout founder with the great idea won’t come to them later.
Perfectly logical, you need to invest in dogs with fleas in order to find better dogs?
Davenport concludes that “Making bad investments is a way to be part of the club and being part of the club gets you the deal flow that gives you the good investments.” Please refer to Groucho Marx’s opinion on clubs.
Andreessen Horowitz backed the failed Clubhouse app so it could give $350 million to the genius who ran WeWork into the ground. Tell me, how long do I have to wait for the good deal?
Rule No. 731:
Stop the madness.