Posts from VC & Technology

The last six months have been a challenging time for tech and tech startups. Macro events have weighed on the sector, valuations have come crashing down, revenue growth has slowed (or stopped), and layoffs are happening across the sector.

Many of the folks I work with are frustrated. The things that were working in their business stopped working and they can’t get it moving again. They are struggling to project the business and plan for the year and next year. They feel terrible about letting so many great people go and blame themselves for it.

It helps to work with many companies in times like this. We see this happening almost everywhere. And so we have some perspective. Yes, it is our collective fault for getting out over our skis during the good times and not seeing tougher times ahead. Yes, we could have and should have been more conservative with our growth plans and hiring. Yes, it is our fault for putting our companies in the position where they have to let go of so many people.

But it is also the case that the number one thing in times like this is staying in the game so you can play another round. You don’t want to go bust right now. So it is time to take your lumps, learn some valuable lessons from them, and move on.

It is also time to stay positive. When you are the leader of a company (or anything else), you have to lead with optimism, enthusiasm, and positive energy. There are people out there declaring tech is dead, web3 is over, and cheering on the fall from grace. It is best to ignore all of that, focus on what you are building, and find some wins for the team, and for yourself.

The great thing about working in tech is that there are always new problems to solve, new markets to create, new products to ship. The macro events don’t change that. So focus yourself and your team on building and shipping those things, get some wins, and move forward with optimism and positive energy. It will be infectious.

I have worked in three venture capital firms in the thirty-six years I have been doing venture capital investing. They have all been small partnerships, between three and seven investing partners, where there is little to no hierarchy among the partners.

There are many models out there for building and managing investment firms. They vary from a single partner to an organization structure that looks like a Fortune 500 company. There is no best way to structure an investment firm.

But for early-stage investing, I believe that the small flat partnership is the best structure if the goal is to produce high return on capital funds. Here are some reasons why this model is superior for early-stage investing:

• At the early stage, investors must bet on teams and ideas that have not been proven. The biggest winners almost always come from the investments that are the most controversial and “out there”. A small tight partnership where there is a lot of trust between the partners is a place where you can make a lot of these kinds of investments.
• Being a lead investor in a company you start working with when it is very young (sub 10 employees) and remain actively involved with until exit can take a decade or more of work. Staying aligned as a partnership on the company and supportive of it is hard to do but incredibly important if you want the best outcome. That is hard, if not impossible if the investing team is large, hierarchical, bureaucratic, and largely disengaged with the company.
• No single investor has the entire package. Not even the best investors out there. Trust me. I know this. Surrounding top investing talent with other top investors is a magical thing. Some have great deal instincts. Some have great networking skills. Some are great working with founders. Some have great financial minds. Some are great technical minds. Some see new markets before others. If you can put together a team that has all of this, they fill in each other’s gaps and everyone gets better. This describes the team we have at USV right now and it is a joy to work in a team like this.
• It is very hard to make an investment that will produce over a billion of proceeds. You need to get and keep double digit ownership and the company needs to be worth over $10bn at exit. I’ve made less than five of these in my career, over almost forty years. So if you want to produce a high return on capital fund, you have to raise a lot less than a billion. I think a quarter billion is probably where it starts getting really hard to produce a high return on capital fund. This means you need a small partnership and a small firm.

The key to all of this is partnership. Real partnership. A real partnership is where everyone is equal, not just in terms of economics (which is critical to sustaining this model), but also in terms of influence and stature. This is actually quite rare in the venture capital business. I see it in some other firms. But I don’t see it very frequently. The firms that have this are special places. They are special places to work at. And special partners to take capital from.

Back in February of last year, I wrote a blog post with the same title and said this about the asset price bubble we were living in and investing in over the last few years:

The big question is how does this end?

I believe it ends when the Covid 19 pandemic is over and the global economy recovers. Those two things won’t necessarily happen at the same time. There is a wide range of recovery scenarios and nobody really knows how long it will take the global economy to recover from the pandemic.

But at some point, economies will recover, central banks will tighten the money supply, and interest rates will rise. We may see price inflation of consumer goods and labor too, although that is less clear.

When economies recover and interest rates rise, the air will come out of the asset price bubbles that have built up and the go go markets will hit the brakes.

Well now the markets have hit the brakes and the new question is how that ends.

I have been using the early 80s as a bit of a mental model. The late 70s saw oil prices rise and stagflation emerge and while that is not exactly what has happened with COVID and the war in Ukraine, there are some similarities.

In the early 80s, the G7 economies tightened the money supply, raising interest rates dramatically, in an effort to bring inflation under control. You can see the effect in this image:

The early 80s had a double dip recession (one in 1980 and another one for 18 months in 1981 and 1982). The economy was weak for three years at the start of the decade. But the latter half of the decade was one of the best economies in modern times.

So I suspect we are either in a recession right now or headed to one, brought on by tightening money supply/higher rates that are being used to control inflation. That recession could easily last until the end of 2023. But we don’t really know how long it will take for this cycle to play out.

Markets have already corrected and I think that public tech stocks have already seen most of the damage they are going to see. I don’t know if we have hit bottom but I think we are closer to the bottom than the top now. But that does not mean they will turn around and go right back up.

This is a price chart of the NASDAQ during the early 80s recession and you can see that prices did not start to move up until the second half of 1983, when the recession was starting to end.

So how does this market meltdown that we are now in end?

First, we need to see the economy slow down and inflation slow down. We need to see stocks bottom out and hang out there for a while. And we need to be patient. None of this is going to happen fast.

I would be planning to ride this thing out for at least eighteen months or more.

Last week we held USV’s annual Portfolio Summit here in NYC. Every year we invite the leaders of our portfolio companies to come to NYC and spend a couple of days with us and each other. However, we were not able to do that in 2020 and 2021 so this was our first Portfolio Summit since 2019.

In the three years that have passed since our last summit, we roughly doubled the size of our portfolio, adding 65 new investments. That is 65 founders and leaders that had not been to a USV Summit, and in some cases, we had not met them in person.

This is a photo of folks arriving on the first day and settling in:

There is nothing particularly interesting about that photo. Most of us have been to these sorts of business affairs countless times. Except that we have not been able to do it for the last two years.

I have always felt like our two-day Portfolio Summit is my favorite work event of the year. And I had not realized how much I had missed it. It is so great to see everyone together in person, sharing experiences and ideas with each other and building relationships.

We learned some new tricks over the last two years. Those of us who work in VC and startups can work remotely and get most everything we need done. But we have to remember the power of being together and do more of it. It really makes a difference.

So I saw this tweet by Semil Shah yesterday:

A friend who works in an industry far from tech startups & VC asked what would be the single article I’d share to read on each topic. Here’s what I sent him:

1/ Startup = Growth by PG: https://t.co/LNkCsoyYxs

2/ Competing To Win Deals by Fred Wilson: https://t.co/oBpqy4Nhwg pic.twitter.com/q7GG2k7UAX

— Semil (@semil) March 27, 2022

So I clicked on the link to my Competing To Win Deals post, which I wrote in 2010, and read it. I often read things I wrote a decade or more ago and cringe at how out of date they have become. Not this one. It is as relevant today as when I wrote it almost twelve years ago. So I am reposting it below:

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The venture capital business is highly competitive. There is more money out there chasing good deals than most people imagine. It is also true that there are good deals and good entrepreneurs that can’t find anyone to invest in them. That is a failure of the system. But this post is not about that. It is about how a VC can compete and win a deal that many others want.

Here are my rules:

1) Do your very best to connect with the entrepreneur. If you don’t have a great personal connection, you won’t win the deal. Don’t even bother to try to win a deal where you don’t have good personal chemistry with the founder/CEO.

2) Bring your full partnership into the deal process early and consistently. Entrepreneurs are smart and they know they are doing a deal with a firm as well as an individual. Let them see the full picture early. Make it easy on the entrepreneur to meet the full partnership. Don’t make the entrepreneur do all the work.

3) Encourage the entrepreneur to get feedback on you and your firm. Instead of references, I like to give a list of every entrepreneur I’ve ever worked with and an email address. I tell them “throw a dart at that list and talk to four or five of them randomly. you’ll hear the same thing from everyone.”

4) Don’t pressure the entrepreneur to make a decision. Don’t issue exploding term sheets. Don’t put no shops into your term sheets. Those kinds of things are signs of insecurity. I prefer to tell people that we’ll have an exclusive relationship when the deal closes and not before then. If someone wants to leave me at the altar, better it happens then than after we are married.

5) Make your offer in person and don’t do it via a term sheet. Tell the entrepreneur you want to be their business partner. Tell them how much you will invest and how much ownership you want. Leave it at that. Tell them that if they are interested, you will send them a term sheet. Leading with a term sheet focuses the discussion on the wrong things. The process should be all about personal fit and very high level deal terms. Once the decision is made to try to work together, you can get into the specifics of the deal.

6) Add value during the process. Talk about the strategy issues facing the company. Talk about the hiring challenges the company faces. Try to help with these issues even before you are an investor. Show what you can do right away.

7) Use the product or service. Ideally you should be using it well before you start chasing the deal. But use the product/service actively and smartly. The entreprener will be watching. I assure you of that.

8) Don’t feel the need to pay the highest price. Offering a crazy price to win the deal scares off most smart entrepreneurs. They will be wondering why you are so aggressive. Offering a fair price that is in the range is what you need to do. And communicate that if the entrepreneur chooses to work with you, you will be flexible on your offer. That way you put yourself in the position to win and you can work the specifics to close the deal when the opportunity presents itself.

9) Don’t team up with another firm. We’ve made this mistake a few times recently. Entrepreneurs want to choose their syndicate partners. By pairing up with another firm, you signal to the entrepreneur that you want to choose the syndicate and that is a mistake in a highly competitive deal.

10) Be prepared to lose the deal and if you do, lose gracefully. There are plenty of good deals out there. You don’t have to win them all. Lose gracefully and maintain your good relationship with the entrepreneur at all costs. They might come back to you on the next round.

Many of these rules are counter intuitive. But they work well for my partners and me. You might say they will only work for you if you are a top tier investor. That may well be true, but you have to act like a top tier investor to become one. So you might as well play the game that way from the start.

Investing is humbling. At 60, with 35 years of venture investing experience, I still get most things wrong.

Which is why I like to keep things simple. And when I do I am rewarded.

My friend Gordon asked me last night how I got into Bitcoin. I told him the story of how I bumped into Rikki Tahta walking through the garment district in NYC in the spring of 2011 and Rikki told me he was working on a Bitcoin startup. I replied, “a what coin startup?”. And Rikki told me to read the Bitcoin White Paper. I did and I was hooked.

I didn’t even understand parts of the white paper. But what I did get was that it described a way of making permissionless money. And it was not just an idea. It was a working system that had been operating for several years. I understand how important permissionless servers and applications (web 1.0) turned out to be and so I understood how important permissionless money was going to be.

That was all it took for me. I bought Bitcoin and went about finding a Bitcoin investment to make. That was Coinbase.

The same was true with blogging and tweeting a decade earlier. I met Mena Trott at a Nick Denton party in NYC in 2003 and she explained blogging to me. I was struck by the idea that anyone could be a publisher. And I became one myself a few days later (when I wrote the first post here on AVC). That led me to Twitter a few years later when I saw that most people would prefer to write a text message to the world over a long-form blog post. For those that don’t know, Twitter was initially built to use SMS to post and so the initial 140 character limit was just under the max characters you could put into a text message.

The same is true with NFTs. When I saw Rare Pepes, I was struck with the idea of making unique, rare, and scarce digital goods. And when I saw what Dapper Labs made with Crypto Kitties, I didn’t think too much about making that investment. It helped that the team had contributed to the ERC 721 spec and coined the name NFT.

The point of these stories is that aha moments come around every so often and you just need to let them grab you and take you to a foundational investment. You don’t need to do much due diligence on these. I did none on Twitter, Coinbase, or Dapper. What I did do is use the products, get in the game, feel the power, and get conviction.

You can read the investment memos for those investments on USV.com.

• Twitter
• Coinbase
• Dapper

We publish our investment memos for the world to see. When you read them you will notice that they are basically an articulation of a big idea, what could happen, and in these cases, what did happen. That’s all. No technical diligence (had we done any on Twitter, we would have passed on it), no financial models, no talking to industry experts. Just an aha moment and an idea of what could happen.

That’s keeping it simple. It doesn’t always work. We get more wrong than we get right. But when we get it right, amazing things can happen.

There is a lot of criticism of venture capital in web3. Bitcoin did not have or need venture capital. Ethereum did not have or need venture capital. So why would any web3 project need venture capital? It is a good question. In the age of community-funded projects, why would a web3 project want to take funding from venture capitalists?

Well buried deep in a 66 page blog post on the Flow blockchain by Packy McCormick lies the answer.

In a section called Kitty Down, Packy describes the challenges that the Dapper Labs team went through between late 2017, when CryptoKitties launched, and the summer of 2020, when Top Shot launched.

What Packy lays out is a series of notes that the venture capitalists (including yours truly) provided to Dapper during the last crypto winter that kept the project alive. As Packy says:

In Dapper’s case, VCs kept the company alive during the bear market and the company sold tokens to the public at the same price it sold them to VCs, even though VCs invested first. 

That latter bit is quite important. After Top Shot launched and it was clear that Dapper and Flow were gonna make it, Dapper offered Flow tokens to the community at the same price that the venture capitalists got in the conversion of the notes.

There are many alternatives to venture capital these days, particularly in web3, but there are few, if any, alternatives that stick with you, when times are tough, when a global pandemic hits and you have weeks of cash left, when everything seems lost and you are at rock bottom.

But venture capitalists do, particularly good, experienced, and confident venture capitalists.

And that is what Dapper had by its side. And that is why Dapper was able to launch the Flow blockchain, NBA Top Shot, the Dapper Wallet, and a bunch more hit products too.

That’s why you might want to take venture capital for your web3 project.

I wrote a fair bit last year about the disconnect between how companies were being valued and the fundamentals of those businesses. It seemed to me that many companies, from the founders, to the leadership teams, and the rank and file employees got more focused on raising capital and valuations than the basics of a business (people, product, customers, revenues, profits, etc).

That is starting to shift. I can feel it. With the public markets bringing high flyers back to reality, you can now buy the best companies out there at multiples of earnings and profits that make some sense in a historical context. And we are seeing reports that many mutual funds and hedge funds are leaving the private markets because the values in the public markets are so compelling. All of this is healthy.

Vitalik Buterin, the founder of the Ethereum project, said this at ETH Denver this past week.

The winters are the time when a lot of those applications fall away and you can see which projects are actually long-term sustainable, like both in their models and in their teams and their people

Vitalik was talking about a “crypto winter” but the basic point is more broadly applicable.

Business models need to be sustainable. Teams need to stick together and ship things. The fundamentals need to be in place for a business to succeed. All the money in the world at eye-popping valuations won’t do that for you.

I have no idea if we are in for another crypto winter. I have no idea if the stock market will continue to go down. I have no idea if the slump in the public markets will seep into the private markets. All of those questions are above my pay grade.

What I do know is that the businesses that focus on the fundamentals will succeed in any market, up or down. And I do feel that there is more of that going on in 2022 than we saw in 2020 and 2021 and that’s a very good thing.

I wrote about pacing a few years ago. I am a fan of a steady pace, not too fast, not too slow. Sometimes the opportunity set forces you to go faster. As I wrote then:

I don’t think a VC firm should manage to a pacing number. It should manage to the opportunity set that it sees.

In the last two years, the VC business has been operating at a blistering pace, the fastest I’ve witnessed in my 35 years in the business (including the 99/00 era). Whether that is because of the opportunity set or the changing dynamics of fundraising (in-person to zoom, endless capital) we will only know in time.

But it is exhausting. Every day I heard some form of this from an entrepreneur, “we got a pre-emptive term sheet and will be making a decision in the next 24 hours.”

Making sound investment decisions in a week is doable. We have done it. We have done it long before the last two years. We have done it a lot more in the last two years. It helps to have a thesis, to know what you are looking for.

But even so, the VC business has turned into a sprint. And you can’t sprint forever.

My friend Howard tweeted out this blog post yesterday and suggested that every VC read it. So I did.

The author, Abraham Thomas, wrote this:

Across every aspect of venture, timelines keep compressing.

Abraham suggests in that post that this hyperactive market has become riskier even though the numbers don’t show it.

I learned a long time ago not to try to time markets. I don’t know if the VC business is near a top or near a bottom. It doesn’t matter to me. I believe you have to just keep investing, slowly and steadily, in the best opportunities that come your way and the rest will take care of itself.

But we all need to pace ourselves. This is not the public markets. Venture investments take many years to unfold. It is a buy and hold business. It is a invest and help business. It is seeding not harvesting. If you start a marathon with a sprint, you are gonna be puking by mile ten. And that’s my concern right now.