[HN Gopher] Revenue is easy, profit is harder ___________________________________________________________________ Revenue is easy, profit is harder Author : rwaliany Score : 224 points Date : 2023-02-19 15:24 UTC (7 hours ago) (HTM) web link (www.edge.ceo) (TXT) w3m dump (www.edge.ceo) | codegeek wrote: | I would nitpick the title a bit. Revenue is never easy. I think | they should rephrase as "Revenue is relatively easier than profit | especially if you have PMF". Once you hit PMF (which is where | most startups fail), you can just pour money into growth and | that's when revenue generation becomes relatively easier. | spencerchubb wrote: | If we're nitpicking, then it's redundant to say that revenue is | relatively easier than profit. Profit is a subset of revenue | qup wrote: | That's entirely more accurate, but a terrible title | whiplash451 wrote: | Can you elaborate on why most startups fail when they hit PMF? | whatever1 wrote: | As seen at Amazon.com | hef19898 wrote: | How so? Amazon didn't jave that many unprofitable quarters, | even less years, during its history. That Amazon was never | profitable because they prioritized growth is a meme made up | buy various start-ups to explain their lack of profits and/or | positive cash flow. | wpietri wrote: | Are we looking at the same numbers? I think Amazon was | basically breakeven for 20 years, from 1997 to 2017: | https://www.marketplacepulse.com/stats/amazon-net-income-112 | | And it looks like that recent profitability is more about AWS | than their traditional core business: | https://www.visualcapitalist.com/aws-powering-the- | internet-a... | gizmo wrote: | Yes, but how do you get to breakeven? By reinvesting all | your profits. High capex and no taxes because you don't | have any income. And you can still raise money by issuing | stock, which goes up in line with your FCF. You maximize | growth at 0 profit and this also maximizes shareholder | value. | kgwgk wrote: | > High capex and no taxes because you don't have any | income. And you can still raise money by issuing stock, | which goes up in line with your FCF. | | With high capex your free cash flow will be even lower | than your net income. | wpietri wrote: | So it sounds like you agree that they were "never | profitable because they prioritized growth"? I'm not | saying that's a bad thing; I think that ones of the | things Bezos did right, and very much in contradiction to | standard business dogma. I' | hef19898 wrote: | I see three negative Q3s before the chart basically | explodes in the last couple of years. All other quarters | saw profits around 100 million. It is only the chart that | looks break even... | | And a couple of negative Q3 results are absolutely normal | in commerce, especially eCommerece. All the stuff sold | during Q4 needs to come from somewhere. | | So no, Amazon was definitelway more than just break even | with three negative quarters between 2004 (!) and end of | 2021 (!). Then you have two tremendously negative quarters, | Q1 and 2 2022, after equally tremendous profits in 2021. | And those losses are driven by write offs on investments | and aquisitions, so by no means operations driven. | | That AWS is 10% or revenue and 90% of profits is not really | impoetant as long as AWS is not spun off from Amazon's | retail business. Which, by the way, generates most of | Amazon's free cash flow. | di456 wrote: | Amazon never cared about profit, only free cash flow. | They kept profits low because every penny of earnings got | reinvested back into the business. | wpietri wrote: | It's not just the graph. Their revenues were growing | rapidly at the same time they were basically breaking | even: https://www.marketplacepulse.com/stats/amazon-net- | sales-94 | | So their profitability as a percentage of revenue was | actually drastically declining. All during a period where | investors were grumbling that they should start giving | the money back to investors. But Amazon was intentionally | keeping their profits very low because they thought they | had better things to spend the money on. This was not a | myth, this was a strategy. A long-running one. See, among | many articles: | https://www.nytimes.com/2013/10/22/technology/sales-are- | colo... | hef19898 wrote: | Man, break even means zero profit but also no losses. If | EBITDA goes down or not is a different, and unrelated, | question. And a different financial metric all together. | | Amazon was, in its entire history as a public company, | profitable in _every single quarter_ , except 5 (!). So | no, they never spend all their money on growth (they did | spend a lot so but never in unsustainable ways, which is | the key here). Using Amazon as an example to spend | everything on growth, and profits will come, is | fundamentally wrong. | wpietri wrote: | I totally believe that a lot of startups are misusing the | Amazon example. I also believe many of those startups | will be royally screwed now that an era of easy money is | ending. And personally, I'll be popping plenty of popcorn | when they get their comeuppance. | | But that doesn't mean I'm going to uncritically accept | your claim that "Amazon was never profitable because they | prioritized growth is a meme". Because it was basically | true for a very long time. It was something many Amazon | investors complained about long and loud because they | wanted the cash, not future growth potential that they | were skeptical of. | hef19898 wrote: | Can we at least agree that any profits above zero are | actually profits? And the question of just _how_ | profitable is a different financial metric? | gizmo wrote: | No? Because if you need tons of capital to make a | minuscule profit your company is worth nothing. (A | company has to outperform at least the interest people | can get on bonds plus some equity premium.) | | Amazon _could_ make a significant profit, if Bezos | wanted. But that's a different question. | wpietri wrote: | I see you've edited and added more, so let me also reply | to this bit: | | > That AWS is 10% or revenue and 90% of profits is not | really impoetant | | It's important if we're examining your claim that "Amazon | was never profitable because they prioritized growth is a | meme", because we're looking at the extent to which they | reinvested gross profits from their core business. | hef19898 wrote: | Sometimes I am really puzzled by the lack of financial | literacy on a forum aimed at start-ups. I really am. | | Also the goal post moving. I said Amazon basically never | reported losses, which they didn't. You said they barely | broke even, which they didn't, as the numbers behind the | chart show. And that Amazon prioritizes growth is hardly | news. That they do so at the expense of profitablility is | just plain wrong so. And the chart you shared _yourself_ | tells as much. | wpietri wrote: | I tried to work in good faith here, but now that you're | just getting insulting, I'm done. You and your literal | illiteracy are no longer my problem. | grogenaut wrote: | Amazon typically isn't spending the lion share on user | acquisition, it's plowing it into expansion and infra. Most | recent issues/losses were due to a massive investment in | physical fulfillment centers due to pandemic demand. | wpietri wrote: | I agree with what you say, but your tone to me sounds | contradictory, so I'm puzzled. Amazon "plowing it into | expansion and infra" sounds exactly like "they | prioritized growth", doesn't it? | TrueSlacker0 wrote: | Or they are investing internally for the future. You can | plow lots of money into internal improvements for little | to no growth in revenue, but at their scale saving just | 1% more is a large amount of money. Not to mention a | possible strategic advantage. | Ekaros wrote: | The key point to takeaway might be that it is different | to invest in things than it is to essentially dump your | product to gain market share or customers. First is | building datacentres, ware houses and so on. Later would | be providing services like taxis below cost. | | With infra, you still have the stuff next quarter and | following quarters. With later it is already gone. | maCDzP wrote: | So I am a Silicon Valley outsider. I live in the northern EU and | work with project management in the construction industry | representing the owner. It's mostly infrastructure, roads, water. | Old industry, conservative, we basically hate new things. On my | spare time I tinker with my computer, learn assembly or whatever. | Hence HN. | | I have recently started a course in corporate finance at my local | uni because my new role requires me to understand accounting, | making business decision and so on. | | I haven't finished my course, and I have to admit that I skimmed | the article. So what I am about to say is probably wrong. It's a | feeling I have. | | I have the feeling that a lot of theses articles are pretty basic | corporate finance. What I mean is that if you study and try to | understand basic CF, you will gain the insights that many of | these articles talk about. | | When I then read in the comments that there are cases where tech | leads with no business experience get millions in funding and | basically are learning by doing. Silicon Valley seems to be on | another planet for me. It's sounds surreal to me. | | If I was an investor I would never give that person money since | projects are so extremely difficult. The wicked problem is a real | thing. Or maybe I am just poor and don't get how people with | large amounts of cash think. I get that it's a numbers game and | you have a portfolio of companies, but still. | | Guys that are closer to SV, I would love to hear your thoughts on | my thoughts. | fxtentacle wrote: | In some cases, your goal as an investor is not to hold on to | the investment until it becomes a viable company and IPOs. | Instead, you just try to sell your shares to the next person as | quick as possible. | | If you're in the latter situation, then hype is way more | important than actual fundamentals. | threeseed wrote: | This is a rare situation. Most VCs are not interested in a | quick exit/entry with a 10x return. | | They need the 100x/1000x outliers in order to return their | fund and that means holding on to investments until IPO. | danenania wrote: | You say it's difficult, but you yourself will learn the key | principles from a single course. | | Learning to create a successful product is much harder and | requires a much rarer set of skills. There's no course you can | take that will give you this ability. Knowing lots of details | about accounting and business administration won't help you | unless you can make something that sells. | boulos wrote: | At the beginning of a company, it's all hope anyway [1]. | | Investors are sophisticated enough to quickly reason about | basic margin opportunity, and decide if the company could | _ever_ be profitable, even if the founders have no real | business experience. The assumption is that by the second round | or so, you can refine the estimate of "Could ever be | profitable". | | More importantly for venture capital, is that there are many | profitable businesses in the world that have people with | finance expertise. If you just wanted to invest in profitable | companies, you wouldn't be doing venture capital. Instead, | you're seeking companies that will have massive returns and | become profitable _some day_. | | If the founders still don't know how to do finance, but they're | making a ton of money, _you_ send them a CFO to tighten that | up. Same way you send them names for VP of Sales, or whatever | else they need. | | Deciding to give up on a company that seems to be generating | lots of money, and "just" needs to improve margins is hard. If | you tighten too early, you've blunted growth. If you tighten | too late, you've thrown away the money. For the last few years, | the amount of money sloshing around meant you saw more of the | latter. The firms "had" to keep investing their funds, so they | were chasing more and more deals on hope. But $10M out of a $1B | fund is still no big deal. | | tl;dr: the rare thing is rocket ships, not financial | sophistication. | | [1] https://www.k9ventures.com/blog/2012/05/31/hope-and- | numbers/ | 13415 wrote: | Most innovation of internet and computer-related business come | from Silicon Valley, so it seems reasonably clear to me that | investors there are doing the right thing. To be honest, I find | it hard to name any highly successful EU companies whose main | business is internet-based or software-related, at least not in | the b2c sector. There are some, but the major players seem to | come from the US and more recently also from China. | | I've always considered the risk-averse investment culture and | bureaucracy in Europe to be a major factor. | ivalm wrote: | Skype, Spotify. But both grew with SV venture. EU venture is | not as good for early companies because they are much more | conservative. | polynox wrote: | So you would refuse to fund Google (Larry and Sergei being PhD | students at Stanford at the time) because they "[have] no | business experience"? | kristianc wrote: | Google's initial VC funding round pre-IPO was something like | $25m. Even allowing for inflation you see that kind of money | tossed around on pre-revenue NFT startups based on a pitch | deck today. | threeseed wrote: | Can you provide examples. | | Pre-revenue NFT startup raising $25m pre-seed in this | market ? | quickthrower2 wrote: | It is a funny concept because with NFT they are selling | the Brooklyn Bridge over and over again - there is no | excuse to be pre revenue! | lchengify wrote: | When investing in different industries (construction vs tech), | it's often useful to think about them in the context of asset | classes. | | Specifically, construction is more tied to either real estate, | hospitality or government contracts. These often raise money | via a bond (debt) offering or an equity with a very well-worn | finance model. These projects require a lot of upfront capital | (billions not unusual for roads) and have long time horizons, | with log() or linear returns, and have a very well understood | model for packaging as a risk asset. These risk assets attract | a certain kind of investor, or a certain risk profile in a | large fund's portfolio. | | Venture capital as an asset class is a bit different. The | expectation is that an idea can be proven out relatively | cheaply, and the business will scale since the major leverage | is intellectual property (vs physical assets). The expectation | is also that most business will fail, with maybe a handful of | successes capturing most of your return. VC's investing in | startups with risk-appetite LPs, is very different than a real | estate developer going to a large bank to build a housing | project. The VC model is closer to investing in a TV show than | a construction project. | | Put simply: Investing in a moderately sized government | construction project ($2b or so for a toll road in latin | America) is a totally different finance product than a startup | that leverages IP. The aggregation of risk is also different | (VC vs say, REITs) and the devices are different (equity vs | debt / leverage). Most investors either run a balanced fund at | a large size, or specialize, since they are so different. | | EDIT: Also important is relative size of each investment asset | class. VC is hilariously small (222 billion in 2022) in | comparison to something like energy (2.4 trillion in 2022). VC | gets a lot of press but for most professional investors "real | funds" start at about a billion table stakes. | dopeboy wrote: | This is a helpful reply. Any further literature (blogs or | books) that you'd recommend to learn about these concepts? | lchengify wrote: | Unfortunately, I picked most of this up from school (shout | out to Babin's Engineering Entrepreneurship class @ Penn) | and from my stepmother who is a capital markets attorney. | | However the two finance podcasts I follow really closely | are "Odd Lots" from Bloomberg [1] and "The Compound and | Friends" from Josh Brown and Michael Batnick. Both take a | more broader look at the economy than just venture capital, | and are super smart folks. Also honestly, they're fun to | listen to which makes it easier. | | [1] https://www.youtube.com/c/TheCompoundRWM | | [2] https://www.bloomberg.com/oddlots-podcast | maCDzP wrote: | Thank you for putting some perspective on construction | and VC. I'll check out your recommendations since I am | eager to learn more. | lchengify wrote: | No problem! Some other thoughts I had after thinking more | about your question. | | - Companies that have physical assets often have a focus | on operations work (e.g., where do I economically source | asphalt near Berlin?). Intellectual Property businesses | often have a focus on product work (e.g., what new | software feature does EMEA sales need to make their | quarter?). One is quite literally, building the value | mile by mile at a relatively high cost. The other is more | "unlocking" value that was so unbalanced something with | minimal physical footprint can access it. | | - Since outcomes in IP are so binary, it winds up that | having all the ingredients geographically focused | produces the best outcomes. This is definitely true for | talent, but also the money, risk appetite, specialized | services, government, etc, all contribute to the | ecosystem. This is why SV (tech) and LA (media and | entertainment) exist. By comparison, NYC is still large, | but is a deep secondary (1/10th the size) for both | industries. | | - Asset classes aren't just about returns, they also have | other dimensions like volatility ("beta") and liquidity. | Being able to sell something easily is valuable, and not | being subject to crazy swings is also valuable. | Unfortunately those two often are at odds. These features | make for different investment mixes, and also affect how | you can get leverage (loans) with them as collateral. | Specifically, real estate is super easy to get a loan on | since it's not very volatile. Pre-IPO startup shares are | very hard to get a loan on, because they are both | volatile _and_ illiquid. | | - For non-public investments, a lot of the value is from | either shaping the deal yourself or getting access to the | right people. It's easy for me to invest $1000 in GE. I | can't just walk up to Pixar and ask to invest $1000 in | their next film. Same is true for startups. You either | need to seed the deal (be the lead investor), or have the | access to contribute. Building these relationships is a | lifetime of work. This is why people specialize. | | - Adding to above, VCs themselves are even more | specialized. VC's typically stratify by company stage | (seed, A, B, C, mezzanine, etc), industry, geography, | thesis, etc. These are often driven by the philosophies | of the partners, fund size, or by the LPs with specific | expectations. To give a very direct example, GV with | exactly one LP and invests in A-stage or later, has very | different goals than YC, which has very different goals | than the venture arm of a big-12 pharma company like | Roche (Pharma is also intellectual property based). It's | specialization all the way down. | bdw5204 wrote: | One of the classics that explains the why behind VC backed | tech companies is Peter Thiel's book Zero to One. | | A big takeaway for me from reading that book was that the | companies that become extremely profitable are basically | monopolies with no or few competitors that focus on scaling | up rapidly. That was counterintuitive for me because I | would have thought you'd ideally want to be profitable at | all times. I'd also assumed that competing against | incumbents that have little or no competition was the best | way to get a profitable business running. That's actually a | bad idea unless you're at least 10x better than the | incumbent which you probably won't be. | lumb63 wrote: | This doesn't answer OPs question, IMO (or my interpretation | of what OP was saying is wrong). | | Sure, construction and high-growth tech startups are | different investment opportunities. They have different risk | profiles. As someone managing money, shouldn't you be looking | to mitigate risk to maximize returns? Why give money to the | startup which has an idea and no experience running a | business, managing capital, accounting, etc.? Wouldn't money | be much better spent on a startup that had all those things? | | I have heard in the past that the majority of startups fail, | and that successful startups are often founded by people who | have founded (often unsuccessful) startups before. When | looking for a company to invest in, shouldn't these be top | priority? I don't buy that VC and high growth companies need | to be as risky as they are. I suspect a lot of it is bad | decisions and lack of due diligence. | dragonwriter wrote: | > I have heard in the past that the majority of startups | fail, and that successful startups are often founded by | people who have founded (often unsuccessful) startups | before. When looking for a company to invest in, shouldn't | these be top priority? | | If they already are, either directly, or because "founding | a startup" (as if it doesn't get funded, its not really a | startup) is heavily dependent on connections from the | beginning, that would explain the effect itself. | lchengify wrote: | You beat me to the follow-up! I actually answered this | below. I'll address it directly but it may get flagged as | copy / paste so apologies in advance. | | > As someone managing money, shouldn't you be looking to | mitigate risk to maximize returns? | | - Asset classes aren't just about returns, they also have | other dimensions like volatility ("beta"), liquidity, | correlation, and time horizon. Being able to sell something | easily is valuable, and not being subject to crazy swings | is also valuable. Unfortunately those two often are at | odds. These features make for different investment mixes, | and also affect how you can get leverage (loans) with them | as collateral. Specifically, real estate is super easy to | get a loan on since it's not very volatile. Pre-IPO startup | shares are very hard to get a loan on, because they are | both volatile and illiquid. | | > Why give money to the startup which has an idea and no | experience running a business, managing capital, | accounting, etc.? | | - Companies that have physical assets often have a focus on | operations work (e.g., where do I economically source | asphalt near Berlin?). Intellectual Property businesses | often have a focus [exclusively] on product work (e.g., | what new software feature does EMEA sales need to make | their quarter?), where accounting, etc is less correlated | with outsized outcomes. One is quite literally, building | the value mile by mile at a relatively high cost. The other | is more "unlocking" value that was so unbalanced something | with minimal physical footprint can access it. | | > Wouldn't money be much better spent on a startup that had | all those things? When looking for a company to invest in, | shouldn't these be top priority? I don't buy that VC and | high growth companies need to be as risky as they are. I | suspect a lot of it is bad decisions and lack of due | diligence. | | - Ideally you have all those things, but sometimes you | can't get all the things in a deal and shaping it is the | value you provide. For non-public investments, a lot of the | value is from either shaping the deal yourself or getting | access to the right people. It's easy for me to invest | $1000 in GE. I can't just walk up to Pixar and ask to | invest $1000 in their next film. Same is true for startups. | You either need to seed the deal (be the lead investor), or | have the access to contribute. Building these relationships | is a lifetime of work. This is why people specialize. | | - Adding to above, VCs themselves are even more | specialized, and different stages require different | balances of due diligence vs speed. VC's typically stratify | by company stage (seed, A, B, C, mezzanine, etc), industry, | geography, thesis, etc. These are often driven by the | philosophies of the partners, fund size, or by the LPs with | specific expectations. To give a very direct example, GV | with exactly one LP and invests in A-stage or later, has | very different goals than YC, which has very different | goals than the venture arm of a big-12 pharma company like | Roche (Pharma is also intellectual property based). It's | specialization all the way down. | JumpCrisscross wrote: | > _a lot of theses articles are pretty basic corporate finance_ | | One take: yes, and venture-backed companies often forget or | ignore the basics of corporate finance. | | Another take: orthodox corporate finance isn't tailored for | start-ups. If you're developing a product, GAAP income is | meaningless. So we bootstrap interim financial metrics, _e.g._ | eyeballs and ARPUs and DAUs (oh my!). | | In truth, the latter dominates at the early stage. But firms | grow. Some founders and VCs (see: Andreessen) are late to | recognise when nontraditional metrics do more harm than good. | When that ignorance becomes a point of pride, the former gains | explanatory power. | elefanten wrote: | I'll add to this a quote that is (purportedly) native to gp's | northern EU: "Do you not know, my son, with how very little | wisdom the world is governed?" | teddyh wrote: | " _An nescis, mi fili, quantilla prudentia mundus regatur?_ | " | | -- Axel Oxenstierna, 1648 | notfromhere wrote: | Difference is that corporate finance is focused on managing a | company at its current size while startups are really focused | on building a much larger company. Hence why the economics of | it make no sense until it hits that mythical future size | JumpCrisscross wrote: | > _corporate finance is focused on managing a company at | its current size while startups are really focused on | building a much larger company_ | | Circa 1810, maybe. Since the railroads corporate finance, | particularly American finance, has been focussed on growth. | Hell, the term venture capital pays homage to the financing | of merchant vessels on high risk / high rewards voyages. | threeseed wrote: | Actually the problem with startups is that they focus on | corporate finance too much. | | When in reality they should be acting like a small business | e.g. florist. | | Often these startups are failing because of basic cash-flow | management. | ghaff wrote: | Somewhat. But even if you (perhaps rightfully) roll your | eyes at startup growth at all costs approaches, the | thinking around cash flow at a VC-backed startup should | often be different than that of a florist funded by | savings, a bank load, or friends and family. | gen220 wrote: | There's an angle to consider - why is it that people who are | technically skilled and financially experienced do not take on | venture funding and build billion dollar plus companies? [1] | | Perhaps, they know (from business experience) that the VC | treadmill is not in their best interests, when everything about | that life is considered! :) | | Perhaps investors actually benefit from the naivete (read: | _not_ incompetence, just naivete) of their portfolio companies? | | It's a symbiotic relationship, but there's a reason that the | road between founder and VC is generally a one-way street. | | [1]: There are notable exceptions to this observations. They're | worth understanding, too. | [deleted] | threeseed wrote: | You have an issue with VC not SV specifically. | | a) Yes in some cases engineers with no business experience get | funding. But in most cases there is significant due diligence | being done on the capabilities of the team. | | b) There is plenty of history that engineers with great product | sensibilities can learn to run a business and become | successfully by augmenting their weaknesses with members of the | SLT who are stronger at them. | | c) The whole point is for them to deploy their LPs money rather | than just letting sit around waiting for the perfect | idea/team/market etc combination to arrive on your lap. That | simply doesn't happen. | renewiltord wrote: | Think of it like this. If you're a big fund you want a | portfolio diversified in industry and risk. | | If the guys CalPERS allocated the 0.5% (a few billion) to (the | VCs) decided to also not do the risky thing then you haven't | got a diversified portfolio. | | The point is to put a small amount of your phenomenal wealth | into risky bets with outsize returns precisely because you want | to capture some of that other risk diversity. | [deleted] | ivan_gammel wrote: | Let's say you distribute X million EUR to X startups (each one | gets 1M) and you know that on average one of them will yield 2X | in 5 years and the rest will just burn the money and die. This | seems to be a good investment, right? You only need to pick | those startups carefully. It appears, the criteria of selection | may be quite different from what you would look at if you were | to provide those money as a loan. I'm not sure how VCs really | make their decisions, but this is just a case of having a good | risk model based on variables that matter the most. | kmonsen wrote: | No the unicorn needs to do a lot better than 2x. I think you | need an X and a Y there for it to make sense. | ivan_gammel wrote: | I don't know if every VC had an unicorn at least once in | their portfolio, but for early stage investments to be a | good idea they just need to beat consistently any other | investment opportunities. | crenwick wrote: | I think you're right on most accounts. | | Yes, articles like this seem rudimentary to folks with | MBA/accounting backgrounds. | | Yes, tech startups can get millions in seeds funding, even | where the company doesn't have a CFO (or anyone with an MBA). | | However, at those super early stages for sw startups, it | doesn't really matter. The money is to finance a product, prove | the product's value, and build a team. And its that journey | where that company may start looking for a CFO. | | By the time that company is raising a series A, they should | have these things worked out. | ChuckMcM wrote: | Okay, as someone who has lived in the "heart" of Silicon Valley | for a few decades I'll take a shot at this. | | To be fair, I didn't appreciate how unusual it looked until I | helped a friend start their business in Illinois and saw what | they dealt with at a bank. | | You are correct in your assessment that articles like the one | linked here are pretty standard business explainers. The | interesting thing for me is that it really is just math and | systems so it "should" be interesting but for a lot of folks | they don't seem interested and just want to sell product. | | So at least part of the venture community has convinced itself | that it knows how to "productize" anything, if they just had | something to work on. And along comes a person with an idea and | hope. The venture capitalist (VC) thinks, "I'll provide the | business sense, this person provides the creativity and the | elbow work, and we'll split the profits." That can work out | spectacularly well for the VC where they invest $X and get back | 10 - 100 time $X in wealth. It doesn't always work out, but if | it works out enough times, the VC can turn their money into | more money faster that way than with say investing in | government bonds. | | In Silicon Valley this works because of two things, one there | was a tradition of providing equity to employees which, when | companies grew, put a lot of the wealth generated in the hands | of individuals rather than companies. And secondly, California | had some pretty good laws on the books about disallowing "non- | compete" employment agreements so people who thought they could | do the same thing their company was doing, only better, could | go out and start a new company doing the same thing without too | much risk of getting sued. | | Having lived here I can tell you that 20 - 30 year old people | are _much_ more willing to invest in something risky than 50 - | 60 year old people. So getting that wealth into younger hands | adds to the risk tolerance. | | To this point: _Or maybe I am just poor and don't get how | people with large amounts of cash think._ I expect it is a | scale thing. | | Imagine you have saved enough to pay for all your kids college | education and you start your "retirement" fund. And you save | money in that until the returns on that fund are actually | enough to provide you with the same income, and in the US buy | you the same medical coverage, you are currently experiencing | working. Now you can "leave your job" and have a lot of free | time. (It _doesn 't_ mean you can buy a yacht or an airplane | and party all the time, just that you're new lifestyle looks | like your old lifestyle with the single exception that you | don't have to go into work every weekday). Now you end up with | a few million $ more for this "third" account. What to do with | that? Well a lot of people feel comfortable "gambling" some of | that on new ventures because if they lose it, it won't change | their life, and if they get a big winner, well it means more | things they can try. | | So to understand it, you have to imagine that you've got enough | savings for all of the life expenses you expect to have going | forward, and you have enough savings on top of that such that | those savings are providing the equivalent to having a good job | (pay and benefits), and now you have savings on top of that. | | In the current batch, there are estimates of >100,000 former | Google, Apple, Microsoft, and Facebook employees are in that | position today. Money did a story on how the density of | billionaires in San Francisco was the highest in the world [1] | (post Crypto-crash I'm guessing this number went down :-)). | | So why do young millionaires and billionaires invest in crazy | ideas? Maybe because it is more exciting than having a few | million dollars sitting in a bank account doing "nothing"? | | [1] https://money.com/san-francisco-billionaire-density- | income-i... | ghaff wrote: | I have a friend who retired somewhat early as CxO of a | company with a (lowish 8 figure?) payday. Although, from a | financial perspective he somewhat regretted spending about a | decade doing a bunch of angel investing rather than just | investing in big tech, I think it was also sort of a hobby | and he still invests in a few companies he's particularly | interested in. Along with also being involved in philanthropy | with a large local institution. | | So, yeah, there's a level where you know you don't have the | money to routinely fly private or buy a super-yacht or buy | properties around the world. But you have enough for any | expenses you reasonably want/need and may not even _want_ a | bunch of the stuff that more money could buy. So you throw | some money at interesting things. | erenyeager wrote: | My understanding as someone who worked in SV is that there's a | lot of buzz in the area around new technologies and people are | always doing something interesting/revolutionary/whatever. | There are investors who diversify their portfolio by investing | in multiple high risk high reward investments like these | startups. So even if you invest in 100 companies and 99 fail, | the one that succeeds might be that unicorn that pays off. | | Concurrently, there is a greater understanding that waterfall | engineering is not the best for software. Instead, software is | more agile, in that you build test prototypes and have a | tightly integrated feedback loop instead of huge project plans | that take months to even reach market. | | The philosophy is more around testing market hypotheses quickly | and iterating quickly. | | Another factor is there is a lot of hype around SV that forms a | positive feedback loop. Of course investors are not so easy to | part with their money but it is inclining towards gambling in | some fields flush with capital. | | This is not true for all fields in SV though, for example in | the biotech and medtech field, getting investment is much | harder from my experience, as there are more regulatory | factors, higher barrier to startup, longer time periods for | outcomes, etc. | samcheng wrote: | I live and work in Silicon Valley, and I agree that the | concepts in the article are pretty elementary and critical to | understand in any business, not just tech. | | However: if your software product has struck gold, it will have | "rocket ship" nearly-free growth and negligible incremental | costs. In that regime, only the top line really matters. This | is the kind of home run that many people are looking for in | Silicon Valley, both founders and investors, which explains the | relative "traditional" financial illiteracy in startups around | here. | dsugarman wrote: | A lot goes into making a product that people love, if you can | master the customer, market dynamics, pricing, pitch, product, | service, etc to be growing really fast, you can probably learn | basic corporate finance. That's what the VCs are betting on and | they will even give you a board member and resources to help | you out! if your product is only successful because your unit | economics are upside down which is giving an unfair market | advantage where you have none otherwise, well then that's | reckless | JohnFen wrote: | This reminds me of an exchange I had with someone who wanted to | enter into a business deal with me. He bragged about how his | company had X millions in revenue. Since revenue was a | meaningless figure to me in this context, I asked what their | profit margin was. After hemming and hawing about it, he admitted | the company was not profitable, and it became clear it was | unlikely to become profitable anytime soon. | hackernewds wrote: | You can just say you were talking to the founders of Lyft. | blobbers wrote: | GAAP accounting is for stable cash flows in well understood | businesses. | | Bootstrapping (funding growth with revenue) isn't the silicon | valley way; the silicon valley method is as follows: 1. get | funding | | 2. grow team/build product | | 3. raise more funding and find product market fit | | 4. seize control of market / make large top line moneys | | 5. repeat 3/4 a as necessary. | | 6. acquisition/IPO, shareholders payout. | photochemsyn wrote: | Remaining profitable is likely even harder, as other people will | rush in and start providing similar products or services at | competitive prices. In a heavily financialized system, the common | solution is monopolization (buying up startup competition using | pools of capital) - leading to situations like TicketMaster, | which gets away with providing low quality-of-service to artists | and their fans because they have no alternative to turn to. | | Unregulated markets in a finance-centric economy inevitably drift | toward the controlled monopolistic model for this reason. | Advocates for unregulated free-markets either don't understand | this or are simply being deceptive and are really trying to | maximize profits by promoting the growth of monopolies. | whitemary wrote: | Regulated markets in a capital-centric economy serve, in | aggregate, the interests of those who control capital, and | therefore _also_ drift toward monopoly. Liberals either don 't | understand this or are simply being deceptive by promoting the | continuation of capitalism. | photochemsyn wrote: | Even highly socialist countries like Cuba found that | introducing regulated markets was healthy for their | economies. Now if 'those who control capital' are themselves | a small minority of the overall population who act in concert | - well, that's a financial monopoly, and of course there are | ways to break up a financial monopoly of this nature, such as | re-introducing Glass-Steagall provisions that separated | commercial and investment banking, eliminating offshore and | similar capital tax shelters, etc. | | Note that if it is a state body that controls all the capital | and hence controls economic decisions like infrastructure | development, this isn't so different in practice from having | a small group of financiers controlling all the capital - in | both cases you have a centrally-planned economy controlled by | a small cabal that puts their own interests ahead of everyone | else's. | [deleted] | wpietri wrote: | Is this true? | | > I have observed that few people understand these nuances and | the significant role they play | | I've been out of the venture-backed world for a while, so it's an | honest question. Few people understanding business basics would | certainly explain a lot of recent behavior, but there are other | possibilities too. | gizmo wrote: | Literally every founder is capable of figuring out the basic | unit economics of their business. But when VC money is abundant | the unit economics don't matter because growth is the only | metric worth tracking. | wpietri wrote: | Oh, I believe they're capable of figuring these things out. | My question is whether they did. | | For example, I could imagine a founder who knew what a real | business was, but just said, "In crazy times we'll do crazy | things", took the VC money, and mainly shut up about the | problems, while quietly trying to mitigate the risks. | | Or I could imagine that the OP is literally correct here, | that many never bothered to figure this stuff out because it | did not matter for the short term, and in fact would | interfere with them projecting an SBF-grade aura of extreme | confidence. | | I've certainly met people in both camps. I'm just wondering | if the latter have truly become very common, or even possibly | the majority in some circles. | kazinator wrote: | Revenue is easy only if you ignore survivorship bias. | Organizations without revenue perish. Organizations with revenue | whose balance sheets don't show a profit don't necessarily | perish. | mrweasel wrote: | Sure, you need revenue to generate a profit, otherwise you'd be | generating profits from nothing. You can also have | organisations who are specifically "Not for profit", they | balance sheets will frequently end up with a 0 dollars in | profits each year, and that's as expected, but they too need | revenue to do anything. | | For certain types of companies, revenue is easy. I worked to a | company that did mostly consulting, but would also sell you | hardware or software licenses, so customers only need to | interact with us, and no one else. Technically we could just | have given away hardware, and we frequently did sell servers at | a lose. That shows up as revenue. As long as you have money or | credit to sell expensive stuff at a lose, then revenue is easy. | | That's not the main point though. The point is measuring | companies on revenue is pretty stupid, without also looking | that profitability. | [deleted] | gizmo wrote: | This isn't another 2000 crash. The internet is much, much larger | today. And the prize you get for being #1 in any market is | enormous. It's so large that it pays to gamble with questionable | growth strategies in the short term. | | Reasonable growth that balances LTV and CAC is nice and pragmatic | but it's not a winning strategy when your competitors are putting | the pedal to the metal. | kolbe wrote: | "the prize you get for being #1 in any market is enormous" | | I believe this for broad markets with network effects (though | see how quickly tiktok obviated facebook), but for companies | that send out text messages to your customers or host your | application in the cloud, which are examples of the creme de la | creme of 10s startup success, it matters a lot less. These | companies have no moat, no future, and are purely designed to | be vehicles that take money out of the pockets of pension funds | and give it to financiers. | ghiculescu wrote: | On the contrary, I think the internet being bigger means the | prize for being #2, 3, etc is great too. Very few markets are | actually winner takes all. | coffeebeqn wrote: | Also people thinking that Google and Meta won't be looked at | like Oracle and IBM in 10-20 years are probably way too | confident in the status quo | somsak2 wrote: | Microsoft was founded before oracle and is among the top 5 | largest tech co's. IBM and oracle may not be as big as they | used to but they're still huge. oracle in particular is at | a near all time high. | rrrrrrrrrrrryan wrote: | It's funny to see how people on this site so vastly | overvalue organic growth and undervalue inorganic growth. | (It makes sense given the target audience, obviously.) | | You can absolutely grow a company by all metrics | (revenue, income, market share, market cap) just by | having a bunch of MBAs that make well-negotiated | acquisitions. | | It's basically all IBM and Oracle do these days: buy up | smaller B2B software, integrate it into their portfolio | as a new product or a feature for an existing one, then | sell the hell out of it to their existing customer base. | leetrout wrote: | Yep! And the second / late mover advantage. | | For any that are unfamiliar: | | https://insight.kellogg.northwestern.edu/article/the_second_. | .. | hackernewds wrote: | Jack Dorsey often says. You don't need to be first to | market. You just need to be best to market. | | Demonstrated through Twitter, and now Cashapp | mostertoaster wrote: | "This forced other disciplined startups to loosen their ad spend | to be competitive in the venture-market industry and created an | era of capital-inefficient businesses. With time, this will re- | adjust back to historical norms and the process will be painful." | | I thought this was a pertinent quote. | | You're going to see many companies deciding to become cash flow | positive instead of growing. And if the business is stable, the | quickest way to get there is to drastically cut operating | costs... | wpietri wrote: | One of the interesting questions for me is how long this | adaptation will take. I think there are a bunch of things that | could make it pretty laggy. E.g., the fact that so many execs | have spent so many years in an unsustainable capital | environment. Or the amount of VC money still sloshing around | waiting to be applied. Or the number of VCs who basically built | their careers on these kinds of unsustainable businesses. How | many will be able to admit that their special genius no longer | applies, and was in fact the cause of a lot of problems in the | long term? | coffeebeqn wrote: | Also many companies are probably just praying that one set of | layoffs and improving inflation will get them to the next era | of easy funding sometime in 2024 | bboygravity wrote: | > You're going to see many companies deciding to become cash | flow positive instead of growing. And if the business is | stable, the quickest way to get there is to drastically cut | operating costs... | | Or or do a public stock offering at a relatively high stock | price after a short squeeze. | jossclimb wrote: | Pretty much. | | I have seen so many startups over the past few years, with A | rounds up to $25 even $50 million where the CEO has zero business | experience, they are literally learning by the seat of their | pants.. They have gone from some experience as a tech lead for a | small team, to the next day to running a large company. | Obviously, there will be the odd outlier Zuckerberg type, but | many of them are going to be totally out of their depth when the | burn rate and path to profit (or even revenue in some cases) | start to close in. | | 2024 will be a bloodbath in the startup world. | jasmer wrote: | Zuck had no idea what he was doing, and a lot of these guys | don't learn some basic things until much later on, or never do. | | When you have that kind of growth and that kind of money, | frankly it's different anyhow - riding an explosionn is | different than running a company, which is almost always | 'operating'. | | CEO's are captains of ships with moving parts, experts, | probably already a navigator, engineer, maps, standard port-to- | port model etc.. In a way CEO's of established companies are | 'overseers'. | | CEO's of compaanies blowing up is something different, it's not | an optimization process it's usually a top-line process, and | then maybe crude bottom line net-profit process while keeping | enough wood in the fire. | disgruntledphd2 wrote: | To be fair, Zuckerberg hired lots and lots of experienced | people early on, and listened to them. Honestly though, if he | hadn't hired Sheryl Sandberg then Facebook would probably have | failed as a business. | fatfox wrote: | We've created a generation of leadership people who never learned | how to make a profit. Until last year, if you were focusing on | unit economics, you were laughed out of the room. Fast growth and | market share at all cost... | [deleted] | lumb63 wrote: | I disagree wholly with the "revenue is easy, profit is harder" | idea. I suppose it is tautologically true since profitable | ventures are a subset of ones which generate revenue, so more | businesses generate revenue than generate profits, thus it is is | "easier". However, that is only at the present instant. That | statement does not factor in all the companies that generated | only revenue and no profit and are now extinct. When considering | these, it is vastly easier to be profitable than to have revenue. | | Without infusions of external capital it is literally impossible | to generate revenue without profit for any period longer than one | can sustain their losses. Isn't it way easier to focus on | businesses that do this, that meet a demand people have, and are | thus profitable? Instead, investments are made in areas where | demand has to be induced via advertising spend, expenses have to | be reduced by relying on the ability to "rapidly scale", and the | business has to sap round after round of investor capital at | increasingly higher and increasingly more ridiculous valuations | with the hopes that it can weather that storm. | | When considering the above, it seems to me that we are | systematically mis-allocating capital to bad investments. As the | saying goes, a bird in the hand is worth two in the bush. You can | see people behaving in accordance with this during high-risk | periods, e.g. COVID, when capital shifted toward durable goods | and physical assets (pre QE infinity). But for some reason, when | the risk is not literally right in front of investors, they do | not see it. That risk, the integral of which increases over | larger periods of time, eats away at the growth rates of | companies. I suspect risk would spoil the math that makes a lot | of the high-growth companies worth anything, if it were properly | accounted for. Not to mention, negative externalities are unknown | and thus largely ignored in startups, and thus cannot be | accounted for. | hinata08 wrote: | Almost unrelated, but I also learned what was capital efficiency | and payback period after playing Monopoly for the first time in | years. | | Long story short, when the properties were eventually sold out, I | burned my cash flow to buy more of them to other players, at a | high price, when they needed money (it would also allow them to | play longer) | | My logic was that by owning the most properties and by building | houses and hotels, I would have the most revenue on the long run. | And had the game been endless, I would have won. | | However, the chances of someone going on your property isn't even | high in this game ! You can sometimes wait for several rounds | before this happens. | | Unluckily, I stumbled on a rent I couldn't pay, mortgaged some | properties. It happened again, and other players would only buy | my properties at a price to cover the rent. | | And my empire (i had the most properties by far) was on the verge | of collapse when I had to run to go to the station. | | So yeah, consider the payback period, even in the simplest models | of the economy. Monopoly is economy taught to children, yet we | adults can overlook its lessons. | smeej wrote: | There's one monopoly that matters in Monopoly: the houses | themselves. | | The game only has 32 houses. If you get two 3-property | monopolies and build four houses on each one, forgoing hotels, | you have 24 houses and everyone else is fighting over the | remaining 8. If you get max out houses on two 3-property | monopolies and a 2-property one, the game is yours regardless | of what anyone else has. | whitemary wrote: | Monopoly was literally invented to illustrate the deceptions of | capitalism. Great game. | JohnFen wrote: | It's a great tool to teach about the evils of monopolies, but | a terrible game. | 8note wrote: | It's also there to convince people to switch to a land tax, | but it's really not successful at it. I think because there's | no land owners separate from building developers | robertlagrant wrote: | It's the regulations that stop you building more places that | are the issue : - ) | ipaddr wrote: | The game has those rules. Can't build a hotel until you | have 5 houses. In real life can't get a permit to build a | hotel until you marry your first daughter off or can | influence someone. | warren-williams wrote: | I might be off, but why are you adding CAC back into Contribution | Margin to determine LTV? This seems like more of a sunk cost that | would imply 1x LTV/CAC than the 2x that you show? | | Other than that, nice article! | hinkley wrote: | The number of times I've worked at a place where some sales | asshole was trying to land $1 of revenue that was going to cost | us $2.50 to achieve the deliverables... wtf are they teaching in | business school? | | One place I worked, their strategy was to chase the "whales" | first and get them as customers so we could use them to get other | customers. So many problems there that only because apparent to | these idiots afterward. First, big companies aren't idiots. If | you have next to nothing to offer, they'll give you next to | nothing in return. And once you have an exploitative contract, | good luck renegotiating it once your product has improved. | | In this particular industry it was even worse, as we found out. | The big companies felt like they were doing people a favor, the | medium sized companies were just cheap. Only the little companies | were hungry and humble enough to pay good money for good product, | but now you have a product that's been tilted toward the whims of | much larger companies, which adds a lot of friction. Plus you've | done all of your scalability work at the beginning when you are | the least experienced with it. | | They did end up selling the company at a profit, but they had | hoped for early retirement and all they got was comfortable | living. I'm not convinced the buyers got a good deal on the terms | either. | simonswords82 wrote: | Often this happens when a sales commission structure is | misaligned with company profitability. | | The salesperson then cares more about commission and less about | profit and generates revenue at any cost. | tiffanyh wrote: | I could generate huge revenues selling $100 gift cards for 80 | bucks. | | But I wouldn't be generating much profit. | robertlagrant wrote: | As they say, revenue is vanity. | ghiculescu wrote: | I love payback period, it's a great metric. But it's easy to take | it too literally. It's meant to be a tool to help you make | prioritization decisions ("what if we do this instead of that"), | but people often use it as a management report ("we did this; | here's the verdict"). | | Here's a SaaS example: if it costs you $1000 to acquire a | customer that pays you $100/month, the PBP is 10. That doesn't | sound amazing. But you have options! If you give the customer a | 20% discount to pay annually, they're now paying you ~$1000 | upfront, for a PBP of 0. Tweak the numbers slightly and you can | get a negative payback period. Suddenly your "capital | inefficient" business has a big flywheel without the need for | outside capital. | | It's easy to think decreasing acquisition costs is what you need | to do in the current market (and believe me, that's not a bad | idea!), but that's the denominator. There's also a numerator - | how much cash you bring in, and how quickly - that matters just | as much. It's cash flow that matters, not profit. | ecpottinger wrote: | My dad had great ideas for businesses. Yet each one he started | failed for him. Why, because he has such unrealistic view on | how long the payback period will be. He even founded with a | partner what is now a national company, but at the time it did | not make a big profit in the first year, so he sold his share | of the business. He had "Get rich Quick" fever, and never saw | that bussiness rarely become an overnight success. | toss1 wrote: | Yup, just about every time I've read of an 'overnight | success', it was indeed an a very rapid path to success . . . | after a decade or two of slogging it out in the trenches of | obscurity. | | There are a lot of moving parts, a lot to learn, and | timing/luck are also factors. Until they all hit at the same | time, it looks like a flop. It takes time to find, learn, or | assemble all the key bits. | | Sorry your dad's impatience was so persistent. Sense of | urgency is important, but impatience is deadly. Thanks for | sharing such a clear example. | rrrrrrrrrrrryan wrote: | One of my finance professors mentioned that ~70% of business | fail in their first two years, and ~90% of those failures are | purely due to a lack of working capital, not due to any | fundamental flaw in the business plan. If they kept doing the | same thing and just had more money and time, things would | have eventually worked out. | | People start businesses for emotional reasons, not logical | ones, and vastly, vastly underestimate the amount of money | they'll need to get the thing off the ground. Entrepreneurial | people are inherently optimistic, (and they _have_ to be), | but he said their estimates were typically off by ~5x. If you | think you need a million dollars of runway, you probably need | 5 million. If you think it 'll take a year to achieve | profitability, it'll probably take 5 years. | moonchrome wrote: | > One of my finance professors mentioned that ~70% of | business fail in their first two years, and ~90% of those | failures are purely due to a lack of working capital, not | due to any fundamental flaw in the business plan. | | Having seen my share of failed businesses - I'm very | skeptical of these numbers. | dtgriscom wrote: | ... skeptical in which direction? | yunohn wrote: | > due to a lack of working capital, not due to any | fundamental flaw in the business plan. If they kept doing | the same thing and just had more money and time, things | would have eventually worked out. | | Ironically, that's what VC funding aims to provide - | capital to extend runway and improve scale quickly. | | Whereas the reality is VCs support negative unit economics | and absurd customer acquisition costs. | birdyrooster wrote: | Interesting to think that the company which he divested from | may have made it because of his exit. | petemc_ wrote: | Unless you have some information you're not sharing, this | is a pretty horrible thing to say. | anonymous_sorry wrote: | Is it horrible to suppose that someone might not be well- | suited to the task of driving a business from nothing to | a national concern? Because I personally suspect that of | most people, including myself, and don't think of myself | as particularly mean-spirited. | | Also, the offspring of the man in question identifies an | aspect of his temperament that led to things turning out | the way they did. | tnel77 wrote: | I don't feel like it's horrible. If one of your founding | members is focused on getting rich quick while the rest | are trying to invest in the company long-term, then his | departure very well could have helped the company | ultimately succeed. | hgomersall wrote: | So far, my experience has been that business as a start-up is | basically about surviving long enough to make a profit. Of | course, some ideas are just bad, but I'm convinced loads of | start-ups that failed could have been made to work given | sufficient time. This doesn't work so well if you take a pile | of capital, but if you go for organic growth it is more | plausible to survive hand to mouth for a while. | exelib wrote: | Great example! I think your example exactly points out why PBP | of 0 is soo awesome in this case! You can invest $1000 | immediately and get another customer in 0 months instead of 10. | If they pay upfront again, so you can invest it again and so | on. | throwaway292939 wrote: | > If you give the customer a 20% discount to pay annually, | they're now paying you ~$1000 upfront, for a PBP of 0 | | This sounds like a huge assumption being made here - as in, | this is not as easy as it sounds. | ghiculescu wrote: | What's the assumption? | | We do this all the time so if I'm missing something I'm keen | to hear it :) | soVeryTired wrote: | Maybe I've misunderstood here but it sounds like you're | comparing the revenue brought in from a customer to the | cost of attracting them in the first place. Doesn't that | ignore costs like ongoing customer service and maintaining | the systems the customer is actually using? Or are all | those numbers rolled up into "cost of acquisition"? | ghiculescu wrote: | We typically calculate payback period using all go to | market costs (sales + marketing + CS), but not product | development or any COGS (which includes things like AWS | costs). | | Again, it's not a management report. You should use it | for prioritisation. For example, all our go-to-market is | very country-specific. So we can look at the payback | period for different countries and compare how well they | are performing, and that tell us which ones we should | invest more into. | | Every business should do it differently, based on which | expenses are fixed or variable for them. ___________________________________________________________________ (page generated 2023-02-19 23:01 UTC)