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Endeavor Investor Network Convenes Over 120 Entrepreneurs and Investors in NYC

On May 5th, the Endeavor Investor Network convened growth market leaders in New York City for a day of networking and learning. The invitation-only event gathered over 120 participants including Endeavor Entrepreneurs and leading investors […]

May 13th, 2015 — by admin

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Argentina’s Socialmetrix Expands Presence to the U.S. with Miami Office

Socialmetrix, founded by Argentine entrepreneurs Gustavo Arjones and Martin Enriquez, recently announced that the company will expand its operations to the U.S. with a team in Miami, FL. With this expansion, the growing social media analytics and monitoring […]

September 23rd, 2014 — by admin

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eMBA field report: leveraging private sector efficiency to improve education for disadvantaged groups in Mexico

Mutu Vengesayi is an MBA candidate at Northwestern University’s Kellogg School of Management, and is interning with Endeavor Entrepreneur company Enova in Mexico through Endeavor’s eMBA Program.

Approaching the midpoint of my internship, I am struck by how quickly and comfortably I have settled in at both Enova and in Mexico City. This is largely due to the collegial, relaxed and inclusive culture at Enova that has made working here both fun and fulfilling. That the company’s entrepreneurs have succeeded in creating such a pleasant work environment without detracting from the urgency of their mission is that much more impressive. As Enova undergoes an aggressive expansion over the next few years, it will certainly be faced with a myriad of challenges and undergo significant changes. However, judging from my short time at the company, it is clear to me the talent and temperament to make this transition as smooth as possible are in place.

Enova, in partnership with the government of the State of Mexico, runs 70 educational centers targeting disadvantaged communities across the state. These centers provide a surprisingly comprehensive range of educational services, ranging from supplemental after-school classes for public school students to adult education for women. The company plans to expand seven fold within the next four years to 500 centers across the entire country. My role has revolved around the strategic planning for this expansion. Though I’ve mainly focused on helping to develop the financial model for the expansion, I’ve also gotten exposure to planning for an effective expansion of the company’s operational functions. The scope of my work has allowed me to experience firsthand the dynamism of Enova’s leadership team. The company is run by three entrepreneurs, Mois Cherem, Raul Maldonado and Jorge Camil Starr. Because their talents complement each other extremely well, each has been able to focus on running a different aspect of Enova, which has allowed the company to grown rapidly over the past three years without major hiccups.

I’ve spent my first few weeks in Mexico getting to know Mexico City better and have been impressed by its vibrant and diverse culture. Living in Colona Roma, where Enova has its offices, has certainly helped as the neighborhood is both charming and bohemian, and boasts a great selection of restaurants, bars, plazas and art galleries, among other things. Despite having initially been a little concerned by the security situation in Mexico, I have not encountered any problems and have felt safe throughout my stay here. I hope to travel more in the second half of my stay and experience what other regions of the country have to offer.

All in all, I am extremely happy with how the eMBA program has shaped up for me. The work that Enova is doing is groundbreaking in many ways and represents an early instance in the emerging world in which the private sector has partnered with government to profitably and efficiently deliver higher quality education to disadvantaged groups. As someone from Southern Africa, I can see the Enova model translating effectively there. From a personal development point of view, the chance to work with Enova’s entrepreneurs has helped me better understand and frame what it takes to build and run a world class enterprise in an emerging market environment.

Endeavor Entrepreneur company PagosOnline wins inaugural Secure Development Award from Veracode

Endeavor Entrepreneurs Martin Schrimpff and José Fernando Veléz were recently honored by Veracode when their company PagosOnline won one of three Secure Development Awards. The following is a report on the story, while the official press release may be found here and more information about the award may be found here.

Last month, Veracode, a leading American company in cloud-based application security testing, recognized PagosOnline as one of the most secure software developers of 2012. PagosOnline, led by Endeavor Colombia Entrepreneurs Martin Schrimpff and José Fernando Veléz, is the leading payment service provider in Latin America, which specializes in integrating local forms of payments into their online payment platform.

This is the inaugural year of Veracode’s Secure Development Award, which recognizes Veracode’s small and mid-sized customers who have developed the most secure software applications. The rigorous selection process began with 18,000 applications, which were evaluated based on their flaw density, or the number of flaws present per megabyte of code. PagosOnline, along with On-Line Strategies from Dallas, Texas and SecureKey Technologies from Toronto, Canada stood out among other candidates as the most secure applications scanned by Veracode.

A Mexican business innovator: Endeavor Entrepreneur Martha Debayle

The following article is reprinted from Americas Quarterly. The original article may be found here.

When Mexican media personality Martha Debayle gave birth to her first child 16 years ago, like many new moms, she felt “clueless about what it meant to be a mother.” To make things worse, when she looked for information in the media about parenthood, all she found were clichés and patronizing language. Other parents might have given up and muddled through on their own; Debayle turned her frustration into a multimedia empire. BBMundo (“Baby World”), which she founded as a web startup in 2000, is now the destination of choice for 680,000 Mexican mothers and mothers-to-be eager to learn about reproductive and prenatal health and child-rearing.

Debayle, now 44, had worked in Mexican radio and television since the age of 18. She was especially irritated by media stereotypes that assumed mothers only wanted to talk about diapers and strollers. “I thought there must be other women like me,” she recalls. In 1997, Debayle persuaded executives at Televisa, Mexico’s biggest media group, to air “bbtips,” a 20-minute morning television segment. Her hunch paid off: ratings of the program soared, and in three years viewership grew to 1 million.

Debayle soon set her sights on the growing Internet phenomenon. She used her credit card to buy a web domain, and in September 2000 launched www.bbmundo.com with the slogan “Inspired by love, guided by knowledge.” Despite limited financing and limited traffic at first, Debayle turned down purchase offers from Televisa, Grupo Bursátil and Kimberly Clark-Mexico. “I knew that if I sold, I would lose control of the philosophy that I wanted the company to abide by,” she explains.

Debayle’s quest for independence led her to formulate a unique business model. Instead of selling ads, Debayle offered companies like Nestlé and Gerber space on bbmundo.com through “micro-sites”—essentially, individual pages on the site where they could post information about pregnancy and parenting.

To ensure editorial independence, BBMundo would check all content before it was posted, and would reserve the right not to publish material it judged unreliable, and to post competing views.

Advertisers bought into it. Today, BBMundo has over 60 clients, including pharmaceutical giants like Sanofi, kid-friendly brands like Disney, and consumer and food product companies like Froot Loops.

The brand has expanded to multiple media platforms: what originated as a TV segment and morphed into a website is now a print publication, radio talk show and iPad application. Revista BBMundo, a lavishly illustrated monthly magazine, has a monthly circulation of 40,000. “Martha Debayle en W,” a daily three-hour radio program, has 600,000 listeners. There’s also “bbcard,” through which users receive discounts on everything from diapers to doctor’s appointments.

And the BBMundo database itself—with precise information on users’ sex, age and number of children—is an asset; outside companies are increasingly contracting BBMundo to conduct market research and develop communication strategies.

Today, 94 percent of BBMundo.com’s users are women between the ages of 18 and 44. The vast majority (85 percent) live in Mexico (most in Mexico City), though the website also reaches users in the U.S., Spain and the rest of Latin America. Registration is free, and readers can access tools such as a fertility calendar and a height-and-weight calculator for babies at different stages of development, as well as in-depth articles with pregnancy and parenting tips, from the right way to breastfeed to navigating a son’s adolescence. Users can also participate in online forums with health professionals and with one another.

That’s a long way from diapers and strollers.

What the founder’s email address says about your startup

why not?Reprinted from NextView Ventures. Original article here.

By David Beisel, Cofounder and Partner at NextView Ventures, a dedicated seed-stage venture capital firm making investments in internet-enabled startups.

It always feels anachronistic these days to exchange business cards when you usually have someone’s contact information anyway in an electronic format before (via email introduction) or just after (via LinkedIn connection) you meet.  Many people, though, take the opportunity with a physical card to make an impression with a unique spin on their card (size, vertical orientation, etc.).  But the one thing I find which also makes a subtle impression on me when I meet a founder of a startup is the convention of the company’s email address.  I started mentally noting a few sort-of-funny-because-they’re-true cases, so I thought I’d brainstorm a quick list of what founders’ email addresses say about their startups:

john@startup.com <– The first-name convention projects that the company values the individual in a truly personal manner.  Or, it wants to ascribe internal prestige to the early employees (i.e. “I was the first John”) that will not whither as the company grows.

jsmith@startup.com <– This convention conveys the importance of scalability in the organization, even from the founding stage… most likely stemming from a technical founder.

johnsmith@startup.com <– Precision trumps brevity in this startup.

johns@startup.com <– The founder’s last name is too long or hard to spell, and so nobody else at the company will list theirs either.

johnny@startup.com <– It’s a casual, yet hip atmosphere… the office eschews chairs for beanbags, shared tables for offices & cubes, and there’s not a Windows PC to be found.

john.smith@startup.com <– The founding team is all from Microsoft and can’t shake it if they tried.

founders@startup.com <– The founding team is alumni from one of the Techstars programs.

chiefninja@startup.com or chiefcrazytitle@startup.com <– The founder over-communicates in a somewhat conventional manner that he wants to defy all conventions.

info@startup.com <– The team is running in stealth-mode to look inconspicuous, but really wants people to ask.

john-smith114@gmail.com <– The founders can’t even figure out how to buy their own domain name.

jsmith@startup-inc.com <– The founders are so convinced that they’re taking over the world that they want to leave the option of issuing @startup.com email addresses to their consumer users.

js@startup.com <– The founder is a Lean Startup disciple who wanted to put out a Minimum Viable email address.

Is this the emerging markets century?

Ska band backgroundReprinted from Emerging Markets Blog. Original article here.

By David Gates, a senior strategy consultant with 10 years of experience in defining strategy for leading companies in the telecom, media, payments, and insurance industries.

Book Review: Emerging Markets Century, by Antoine van Agtmael (2007).

The world’s largest corporations are no longer just American, western European, or Japanese. A new breed of multinationals from developing countries is rapidly achieving global presence and prestige. They are also attracting more media attention. For example, this week’s Economist looks at emerging-market corporations in one of itsleaders.

One of the best recent analyses of emerging market corporations is a book written by investment manager (and originator of the term “emerging markets”) Antoine van Agtmael. In Emerging Markets Century, van Agtmael seeks to explain the why and thehow behind the success of the world’s top emerging market corporations.

The author describes three distinct waves of commercial development in emerging markets since the end of World War II. First, Western corporations made foreign direct investments in plants in developing economies. After a while, local entrepreneurs began to set up their own plants, typically to provide outsourced production to the Western multinationals. Over time, these local businesses acquired more skills and capabilities, gradually moving up the value chain and into ever more competitive markets. Eventually, the best of these firms achieved recognition as top global corporations.

Agtmael profiles 25 emerging market companies in different industries, including:

• Fourteen high-tech or capital-intensive companies: Samsung (Korea), Hyundai Motor (Korea), Hyundai Heavy (Korea), POSCO (Korea), TSMC (Taiwan) Hon Hai (Taiwan), HTC (Taiwan), Lenovo (China), Infosys (India), Ranbaxy (India), Embraer (Brazil), Tenaris (Argentina), Sasol (South Africa), MISC (Malaysia)

• Five basic commodity producers: CEMEX (Mexico), CVRD (Brazil), Aracruz (Brazil), Petrobras (Brazil), Reliance (India)

• Six consumer companies: Yue Yen (Taiwan), Haier (China), Modelo (Mexico), Concha y Toro (Chile), Televisa (Mexico), Telmex/America Movil (Mexico)

The 25 profiles are interesting and informative. Collectively, they yield several valuable insights on the factors behind the success of emerging market corporations:

• Among the most important success factors were an early commitment to export markets and a relentless focus on superior execution and quality. These two go together: focusing on exports requires producing internationally competitive products, which in turn requires the highest quality. Hyundai Motor’s rise has tracked its determination to succeed in the US market. Hyundai seriously blundered when it first entered the market because its cars were perceived as low-quality. The company rebounded by targeting Toyota as the quality benchmark to beat (while also appealing to consumers by offering the best warranties in the US market).

• Some companies have become world-class by moving up the value chain. Taiwanese electronics manufacturer Hon Hai began life as a low-value added components manufacturer, but is now a “one-stop-shop” to US clients such as Dell and Apple.

• Other suppliers became world-class by innovating on supply chains. Mexico’s CEMEX and Argentina’s Tenaris used information technology to offer highly customized order fulfillment and rapid delivery to their customers. Brazilian regional jet manufacturer Embraer turned traditional outsourcing models upside-down by recruiting US, European, and Japanese “partners” to build its planes.

• Many emerging market players defied prevailing industry perceptions and created new business models. Steel manufacturers were supposed to be located near resource mines, but South Korea’s POSCO set up shop far away from any mines, believing that increased transportation costs would be more than offset by other efficiencies.

• The world’s leading emerging market companies increasingly recognize the value of branding. Samsung is already a premier global brand. Other companies, such as Lenovo and Haier focused on acquiring trusted Western brands (IBM and Maytag).

These are just some of the most compelling of many insights described in the book. The 25 case studies make Emerging Markets Century a treasure trove of information and a valuable read for international business executives, academics, and investors.

I have a few minor gripes with the book. Eight of the case studies are from South Korea and Taiwan, which are among the most industrialized and well-educated of the emerging markets. It is questionable how well their experiences apply to other countries.

Meanwhile, there are no Eastern European or Turkish case studies. Nor are there any banks or retailers. This is not for a lack of compelling sources. Brazilian bank Itau, Turkey’s Koc Group, Chilean department store Falabella, Russian foods company Wimm-Bill-Dann, and South African mobile phone group MTN are top-notch companies.

I would also like to have read more on the theme of frugal innovation (which was wonderfully profiled in the Economist in a survey of articles last year). The idea behind frugal innovation is that emerging markets companies will find ways to offer compelling products at the low price points their markets require. The best example is the Tata Nano, a $2,000 automobile that surely would have never been developed in the West.

These are small issues. This is a great book that is well worth your time. I believe many of the themes it identifies will influence the 21st century global corporate landscape.

Top 10 signs your business is not VC fundable

Reprinted from Startup CFO. Original post here.

By Mark MacLeod, a Partner at Real Ventures (Canada’s largest seed VC fund) and an advisor to some of Canada’s leading startups.

You don’t have to look too far to find entrepreneurs that have had a tough time raising VC$. Despite the endless stream of funding announcements these days, most companies that want to raise VC, don’t. This is due to a variety of reasons, but one of the biggest, is that venture capital is a very specific thing. It’s not what all technology businesses should think of when they need capital.

It only really works for businesses with:

– High potential for escape velocity

– A large potential market

– A team capable of building a large company

Sounds easy, but most opportunities don’t hit those criteria. This is why most VCs fund around 1% of the deals that they see. So, that means most people are not getting funded.

To help you judge whether VC is right for you, here are my completely subjective top 10 reasons why a business would not be VC fundable:

Services, not product: While some great startups were services companies before becoming product companies, you cannot (usually) raise $ for a services business. Why? Hard to scale without adding lots of bodies. VCs look for highly scalable products.

You are a sole founder: VCs much prefer investing in co-founders vs. solo founders. If you don’t have a co-founder it will be tougher to raise $. And more importantly, it will be tougher to build your company.

You don’t know any VCs: VCs get so many deals shown to them that they rely on a variety of filters to screen them out. One of the biggest is the source of the deal. If you are submitting your business plan to info@scaryvc.com, you’re wasting your time. You need to either know the VCs your’re pitching or have a very trusted referral into them.

You have no traction: This is a biggy. So many people come in and pitch VCs when they are just starting out. And while there are many funds that do seed, including ours, even seed VCs have a strong preference for investing in startups with some market validation and users already. Nothing gets VCs to move faster than traction.

You have outsourced development: This is a complete killer for me. As soon as I hear this, I try and end the meeting. Why would you outsource product development as a technology company? Would you invest in a law firm run by non-lawyers? Me neither. All tech companies need to have lots of geeks.

You serve a niche market: While I always encourage startups to focus on a specific niche to start, the product you are building must ultimately serve a broad market in order to be of interest to VCs. The more specific niche you address (even if’s a big one), the more you need to raise capital from people and funds that understand that niche.

You don’t know the market: If VCs know more about your target market than you do, you’re in trouble.

You are disorganized: Speed is so important to tech startups. If you are slow to respond to due diligence requests that makes investors nervous. If you can’t be completely on top of things when your company is small, how will you be better as your company grows?

You move slowly: This relates to the previous point a bit. While some VC deals come together very quickly (those deals usually have massive traction), most evolve over a few months. If your business is not making huge progress over those months, then you likely will not get funded.

You lack that founder magic: This is by far the #1 killer. While it’s true that some of the biggest startup success (especially in direct to consumer companies) were run by 1st time founders, I’m pretty sure those founders had something special that made investors excited (or had traction). Mark Zuckerberg was a crazy developer (and had traction). Steve Jobs had an uncanny ability to place people inside his ‘reality distortion field’.

Whatever your magic skill is, it has to translate into a superior ability to build product, team or customer base. And if investors can’t see that, they will pass – always!

Fred Wilson, on leveraging your partners to grow and develop your team (with audio)

Reprinted from Fred Wilson’s A VC. Original post here.

In talking about “your partners”, I will focus on your investors, because that is what I am. A VC. Most of this advice can be used to a degree with other partners, advisors, independent board members, consultants, etc.

There are a lot of investors who can write checks. But there are not a lot of investors who can help you build and manage a team. If you have a choice in your investors, which not everyone will have, you should select investors who can do the latter.

The best investors, the ones who have been at it for a while and have great reputations, will have a large network of people they have worked with over the years. Their network will also include people who they want to work with and who want to work with them. They can and do play matchmaker between their network and their portfolio companies. I suspect the partners at USV spend at least 25% of our time on things that would be considered “recruiter” functions. And we should probably spend more of our time on this. I don’t know of a better way to positively impact the performance of our investments.

But not every portfolio company gets equal benefit out of our recruiting function. Like all things in life, the squeeky wheel gets the oil. We love all of our investments equally but some demand our time and attention and others do not. The ones who demand get. The others get too, but not as much. So rule #1 is demand that your investors help you grow and develop your team. Ask for results, expect results, get results.

Rule #2 is to be very specific about what you want and request help in frequent small asks. One of our portfolio companies that I am actively involved with sends me an email each week with up to three specific asks. No more than three. I can do three each week. What I can’t do is a vague open ended request once in a while with a very large ask.

Rule #3 is to communicate actively with your investors. Make sure they know what you want and what you don’t want. I know a lot of investors who spam their portfolio companies with resumes. That is not helpful. Make sure your investors know the jobs you are actively recruiting for. And let them know about the roles you are “opportunistically” recruiting for. And most importantly, make sure they know what you are not looking for and why. When you get resume spam, instead of ignoring it and deleting it, reply back with a courteous but clear message about why that was not helpful.

Rule #4 is to selectively engage your investors in the recruiting process. Use them when they can help. Use them to close an important candidate. Use them to get a second or third opinion on a particularly important hire. Don’t give your investors control over your hiring decisions but engage them as trusted advisors. As the Gotham Gal likes to say “you get what you give.” Give someone a role and a feeling of being involved and you will get help.

Rule #5 is to expose your investors to your team. Give them a sense of the culture of the company and the composition of the team. Give your best and brightest “air time” with your investors. Your employees will like it and so will your investors. I really enjoy being invited to speak to an all hands meeting, or to have lunch with the team, or to go play paintball with a couple portfolio companies. It allows me to help with retention, it allows me to think more clearly about who might fit with the team, it allows me to help the company in more ways, and most of all, it makes me feel good about the work that I am doing.

There is a limit to all of this. You should not let your investors become too engaged in the company. You and your team must run the company and there needs to be a very clear line between what is advice, assistance, and help and what is a shadow management function. If your investor is running your management team meeting, you know you’ve crossed the line. That is a bad place to be.

But many entrepreneurs overcompensate for this by stiff arming their investors and that is a mistake too. You can’t do everything yourself. Your investors can help. They operate at 30,000 feet and as a result they see a lot more of the markets that matter to you than you do. That includes the market for talent. So leverage them in the war for talent. Use them wisely. And you will see that it will pay dividends.

Find egg-breakers: People with influence and authority who are unafraid to use them

Reprinted from Both Sides of the Table. Original article here.

By Mark Suster

VC’s keep different titles but the most common that I’ve come across that are investment professionals are (in ascending order of seniority): analyst, associate, principal and partner.

These are the permanent members of a VC. Then there is the EIR (entrepreneur in residence) who is usually at a VC for a temporary period of time and other individuals such as venture partners or operating partners.

The process for raising money from a VC is a sales process and as such much of what is taught in enterprise sales can be applied. While this post is written about raising venture capital (which I always remind entrepreneurs IS a sales process) the lessons can be applied to any sale or biz dev deal.

This lesson on NINAs applies to VC pitches as well as any sale.

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All CEOs should be an outside director for one company

Reprinted from FeldThoughts. Original article here.

By Brad Feld

This week I had two meetings with CEOs of companies we’ve recently invested in where the question of “what is an ideal board meeting” came up. I’m writing an entire book on it called Startup Boards: Reinventing the Board of Directors to Better Support the Entrepreneur so it’s easy for me to define my ideal board meeting at this point since my head is pretty deep into it intellectually.

One of the things I always suggest to CEOs is that they be an outside director for one company that is not their own. I don’t care how big or small the company is, whether or not I have an involvement in the company, or if the CEO knows the entrepreneurs involved. I’m much more interested in the CEO having the experience of being a board member for someone else’s company.

Being CEO of a fast growing startup is a tough job. There are awesome days, dismal days, and lots of in-between days. I’ve never been in a startup that was a straight line of progress over time and I’ve never worked with a CEO who didn’t regularly learn new things, have stuff not work, and go through stretches of huge uncertainty and struggle.

Given that I am no longer a CEO (although I was once – for seven years) I don’t feel the pressure of being CEO. As a result I’ve spent a lot of the past 17 years being able to provide perspective for the CEOs I work with. Even when I’m deeply invested in the company, I can be emotionally and functionally detached from the pressure and dynamics of what the CEO is going through on a daily basis while still understanding the issues since I’ve had the experience.

Now, imagine you are a CEO of a fast growing startup. Wouldn’t it be awesome to be able to spend a small amount of your time in that same emotional and functional detachment for someone else’s company? Not only would it stretch some new muscles for you, it’d give you a much broader perspective on how “the job of a CEO” works. You might have new empathy for a CEO, which could include self-empathy (since you are also a CEO) – which is a tough concept for some, but is fundamentally about understanding yourself better, especially when you are under emotional distress of some sort. You’d have empathy for other board members and would either appreciate your own board members more, or learn tools and approaches to develop a more effective relationship with them, or decide you need different ones.

There are lots of other subtle benefits. You’ll extend your network. You’ll view a company from a different vantage point. You’ll be on the other side of the financing discussions (a board member, rather than the CEO). You’ll understand “fiduciary responsibility” more deeply. You’ll have a peer relationship with another CEO that you have a vested interest in that crosses over to a board – CEO relationship. You’ll get exposed to new management styles. You’ll experience different conflicts that you won’t have the same type of pressure from. The list goes on and on.

I usually recommend only one outside board. Not two, not three – just one. Any more than one is too many – as an active CEO you just won’t have time to be serious and deliberate about it. While you might feel like you have capacity for more, your company needs your attention first. There are exceptions, especially with serial entrepreneurs who have a unique relationship with an investor where it’s a deeper, collaborative relationship across multiple companies (I have a few of these), but generally one is plenty.

I don’t count non-profit boards in this mix. Do as much non-profit stuff as you want. The dynamics, incentives, motivations, and things you’ll learn and experience are totally different. That’s not what this is about.

If you are a CEO of a startup company and you aren’t on one other board as an outside director, think hard about doing it. And, if you are in my world and aren’t on an outside board, holler if you want my help getting you connected up with some folks.

Revenue vs. margin

Reprinted from Chris Dixon. Original post here.

Three years ago, Fred Wilson wrote a great blog post called When Talking About Business Models, Remember that Profits Equal Revenues Minus Costs. The point he made was both simple and profound. The simple part is summed up in the post’s title[1]. The profound part is that high growth, early-stage tech companies often have a choice about how to become exceptionally valuable businesses: they can focus on growing revenues at the expense of margins, or margins at the expense of revenues.

Most recent successful tech companies seem to have chosen the former: growing revenues at the expense of margins. Again and again, we see S-1 filings with revenues growing rapidly but profit margins that are low to negative. The same is true for the rumored financials of private companies. I think I understand why they made this choice, but wonder if it was a mistake.

To understand why these companies made this choice, you need to look at their formative stages. Many of them raised money from VC’s at multi-hundred-million to multi-billion dollar valuations, often before the companies were profitable or had even settled on a business model. In most cases, the companies and investors were acting reasonably[2]. But the end results might have been to unwittingly commit themselves to revenue over margin growth.

Why? Money has its own inertia and somehow always seems to get spent. Some of this spending is reasonable and even necessary (infrastructure, defensive expansion to international markets). But then there are harder choices. For example, do you invest heavily in sales and marketing to grow your revenue faster? Do you stay open and try to become a platform and therefore force yourself to experiment with new business models? Or do you become closed to “own the user” and therefore benefit from existing business models like advertising? Fast revenue growth seems to be the best way to justify your valuation. But the next thing you know you have a high cost structure that requires you to raise even more money and grow revenue even faster.

The root cause here is a deeply held belief throughout the business world that exceptional revenue growth is more likely than exceptional margins. For example, if you talk to professional public market investors and analysts you’ll often hear statements like “that’s a low margin industry” – implying that every industry has “natural” profit margins which companies can only defy for short periods of time. This belief is also reflected in public market valuations for recent tech IPOs: companies like Groupon that put revenue over margins command very healthy valuations.

The problem is that this deeply held belief in “revenue exceptionalism” over “margin exceptionalism” is a hangover from the industrial era. Unlike industrial era companies, information businesses tend to be deflationary, shrinking the overall revenue of an industry. They also tend to have network effects (and complementary network effects), making them more defensible and therefore higher margin than non tech businesses. Given this, why do companies continue seeking revenue at the expense of margins? Fred made this same point in his original post, but people didn’t seem to listen.

 

[1] Companies (like all cash generating assets) are ultimately valued at a multiple of present and projected future profits. The historical average P/E ratio of the DJIA is about 15, meaning that (on average) if a company is generating $100M in profit, it is valued at $1.5B (Fred prefers to use a 10 multiple, perhaps to be conservative?). One way to understand this is to imagine that companies dividend out all their profits every year. If you bought something for $1.5B and it dividended out $100M every year, that would be a 6.6% annual return.

[2] Why are these high-priced financings reasonable? From the company’s perspective: your traffic is growing so fast you need to invest millions of dollars in infrastructure. Meanwhile copycats are popping up in other countries. You don’t know if the financial markets will suddenly dry up. Someone offers you, say, $50M for minimal dilution. Seems like a reasonable hedge. From the investor’s perspective: the history of venture capital shows that almost all the returns are generated from big hits like Amazon, eBay, Facebook and Google. (As Paul Graham once put it: “The difference between a bad VC fund and a great VC fund is one big hit”).

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