MattMaroon.com

Thanks everyone who told me how much you enjoyed the Whiner Jerkins PowerPoint. It was a lot of fun to make. I think everyone needed a laugh for a moment.

Some people seemed to think I was trying to deliberately insult Sequoia or VCs in general. Not so. I think Sequoia’s advice is pretty logical, in fact, it’s largely the stuff you hear at Y Combinator. It’s all stuff my startup is doing anyway, and would be even if I took VC funding.

I have always viewed the "get popular now and worry about making money later" ethic with trepidation. There’s this pervasive belief that any company that gets loads of traffic will be able to become profitable at some point, and I’m just not sure that’s true. Maybe if you make the Alexa Top 100 or something, but that’s so hard to do as to be nearly impossible. There are hundreds or maybe even thousands of startups launched each year, and when you count the big corporations that aren’t going anywhere (Google, Yahoo, MSN, Myspace, Facebook, YouTube, Amazon, eBay, etc.) and the porn sites (with which you cannot compete) you have a lot of dogs fighting for very few scraps. Take a look, you’ll note there are very few recent non-porn startups there. I looked briefly and counted 3

On the other hand, build something like Draftmix or TicketStumbler and you can make a fortune from only 100,000 unique visitors a month which, as far as I can estimate, won’t even put you in the Alexa top 50,000.

It did get me thinking a bit about the typical VC-backed ethic though. If a VC’s advice is normally to be more aggressive in terms of growth in good markets, why is that? Just because money is cheaper doesn’t necessarily mean you should go for a land grab. There are very, very few businesses where that seems necessary. So why would that be their normal M.O.?

The reason is that venture capitalists profit more by investing in higher variance startups (all other things being equal) due to the simple fact that they can only lose the amount they put into your company, but they can make a theoretically unlimited amount. To put that another way, their downside is limited, but their upside is not. It’s the same reason people always warn against shorting stocks or selling calls.

Let’s suppose a VC invests $10 million in your company. Let’s further suppose the VCs mean return to be 3x, so in your case, $30 million. Let’s assume a standard deviation of $25 million as well, to allow for a small but realistic chance of an investment returning 10x ($100m). Here’s the graph of possible VC outcomes.

Now let’s assume we double the standard deviation to $50 million. Here’s the same graph:

(Sorry about the goofy stretching, but the graphing xls file I found didn’t allow me to alter the axis properly. The curve looks proper though.)

Put those together and we get:

Which curve looks better to you? (Of course, I’m not sure results follow a normal distribution, but I can’t guess what else they would look like.)

Founders, on the other hand, have the competing interest of reducing variation. They’d generally be happy to make a $30m mean return with zero variance. In fact, they’d often be happy with a much lower return and a much lower variance. Just something to be aware of when you take money, and it might explain why the typical advice isn’t frugality.

Also, a lot of people pointed out that VCs like Sequoia are now telling you that you’re going to have to take lower valuations going forward. And who is paying those lower valuations? VCs like Sequoia.

That doesn’t make them evil hypocrites, as many have suggested. In fact, they share interests with some of the companies they’ve funded who will be getting funding from elsewhere in the future. It’s just supply and demand. The supply of capital from limited partners is going to drop, and VC firms are going to go through a drought just like founders are in the upcoming year or two, which puts the ones that survive in a better bargaining position. If anything, they’re fairly kind for exposing their hand. That sort of openness is a lot of why they remain at the top.

Angels will go through a drought of their own. Wealthy individuals don’t generally leave many millions sitting in checking accounts. Many of them are diversified, so while the Dow dropping didn’t bankrupt them, in a lot of cases it probably knocked out a sizeable chunk of their net worth.

Also, despite my angel funding slide being meant mainly for humor, very much of the angel investment cash floating around The Valley these days comes from Google. Founders who sold their company to them, employees who got in earlier and have considerable stock vesting over time. A lot of them have lost a lot of money as the stock price has cratered. Hopefully many of them hedged by buying puts back when the share price was north of $600, but for some reason I doubt it.

I feel like if anything, we’re seeing the VC mindset and the founder mindset merge into one due to the rough times forecasted for the near future. That’s probably a good thing. Valuations were a little absurd there for awhile anyway.

As for Seesmic specifically, which some people asked me about, despite what I think of their product, I can’t understand why they had 20ish employees. Not to trivialize what it is they’re building, but Justin TV has built a product in the video market that’s probably more complex and has a lot more traffic, and they’ve done it with a fraction of the employees and what I’m guessing was also probably a fraction of the funding. That’s why I used them as my example.

Loic Le Meur is clearly a one-man PR department, so they’ll probably get through it alright. But it’s clear that, rational or not, things are changing, and a lot of startups won’t, and that’s going to be both good and bad. You’ve got to pull the weeds if you want a beautiful garden.