Dot-Com Meets Brick and Mortar
When people would ask me where is Spark within Boston, I used to joke sarcastically that Spark Capital was perfectly located (physically, IRL) as a venture firm because it’s where all the entrepreneurs are: the heart of Boston’s fashion/shopping district on Newbury St.
The line usually gets a laugh or two. Everyone knows that in Boston all the entrepreneurs are either in Kendall or the Seaport area. But now my joke is reality (sorta). Starting this month, there is retail presences for 4 dot-com businesses within a one block radius of our offices: Warby Parker, Bonobos, MakerBot, and Gemvara.
Some dot-coms are just doing temporary holiday popup shops. Others are year-round operations. But in all cases, they are playing into the showroom-ification of Brick and Mortar retail, and it’s wild to watch the transition happen right on Spark’s front steps.
When it gets down to it — talking trade balances here — once we’ve brain-drained all our technology into other countries, once things have evened out, they’re making cars in Bolivia and microwave ovens in Tadzhikistan and selling them here — once our edge in natural resources has been made irrelevant by giant Hong Kong ships and dirigibles that can ship North Dakota all the way to New Zealand for a nickel — once the Invisible Hand has taken away all those historical inequities and smeared them out into a broad global layer of what a Pakistani brickmaker would consider to be prosperity — y’know what? There’s only four things we do better than anyone else:
high-speed pizza delivery
- Neal Stephenson (Snow Crash)
This quote is deliberately over-the-top (like everything Stephenson) and playfully blunt, and always sticks in my memory when I think about “world is flat”-style globalization.
IRL (not in the world of Snow Crash) We owe #3 on this list to Apple (really to Steve Jobs).
We (the US) were thought leaders in software for 3+ decades… but until the iPhone launched we were loosing our edge in mobile. Other countries were faster to adopt text messaging, faster to pick up on mobile as a computing platform, largely powered by Nokia and Blackberry — not US companies. There were large swaths of people in other countries that completely skipped the PC era of computing and when straight to mobile as their on-road to the internet. The US was behind.
…and then the iPhone came. It was invented and designed in America, and the thought leadership it generated help solidify a lead in software innovation we had started to take for granted.
NYC Local Regulation Protecting a Free and Open Internet
Can Bill de Blasio pass a law that forbids deep packet inspection and filtering based on network content if you want to sell online products and services to NYC residents?
Basically, can we create a free and open internet for just New Yorkers?
This is a wonderful question. My blog post for the day will be answering Ben here.
On the one hand, I love the idea of NYC regulating internet service providers because a free and open internet is essential. Discriminating traffic based on its content would destroy the internet. I am not being sensational. Comcast could create a “fast lane” internet that only Google, Yahoo, Microsoft, Facebook and Netflix could afford to pay. Speed is the most important feature online, and so startups could never viably compete with the giants that can afford “fast lane” access. The wonderfully democratizing property of the internet that allows 2 guys in their basement with a case of red bull and a flat of ramen to viably compete with Google would be dead. It would be the end of an era of wildly exciting emergent innovation.
On the other hand, the idea that local or national governments can make any decisions at all that affect how internet technology can and can’t be implemented is terrible. Every law, however well-intentioned it might be, is a restriction on (internet) freedom, by definition. Local internet regulation would also make it more complicated to serve NYC-based customers because business logic would now be necessary in the stack to make sure that internet service complies with all subscribers’ local laws.
Ideally, internet service providers would simply recognize that the internet is so interesting because of ubiquitous access of all traffic, regardless of origin, and they would not be dumb enough to try to squeeze a couple extra coins out of providing service, when the potential down side is so grave. Because I don’t trust service providers to be smart enough to take this long view, I feel that NYC regulation protecting a free and open internet is a great idea, and I support it.
Lastly, regarding whether or not NYC has the *RIGHT* to regulate the internet locally and forbid deep packet inspection… for me that answer is unequivocally “Yes.” That’s because internet service providers leverage public resources like wireless spectrum, cables in streets and sewers, and other public commons, and as such, governments at their best should help mitigate the tragedy of the commons.
Trading Private Company Stock Though Contracts
I wonder… could a person phantom trade private company stock? Here’s my thought experiment to answer this question.
To start, every trade needs a buyer and a seller. We’ll call our buyer Alice and our seller Bob. (because I secretly wish I was a badass cryto-expert).
In theory, Alice and Bob could execute a contract in place of physical shares of stock. The contract would behave like phantom stock that’s pegged to the value of a company.
What would the terms of a trade be between Alice and Bob?
- What company’s stock is to be traded: Let’s say it’s Yoyodyne, Inc.
- What is the agreed upon current valuation of the private company: let’s say… [insert dramatic pause] $1 Billion.
- How much of the company is to be bought or sold: 0.05%. (It has to be a % of the fully diluted company instead of an arbitrary share number. Because shares could change over time.)
- What’s the dollar value bought/sold: This is just a calculation: $1B * 0.05% = $500,000
- When will the trade be initiated: how about tomorrow.
- When will the transaction be finished: at the soonest of the following dates: A) let’s say a few days after the IPO so the price settles out a bit, B) the company is acquired at a known exit price*, or C) the company declares bankruptcy.
- Is this contract transferrable / resellable: Yes.
*if the exit price is unknown, then Bob and Alice could get an independent third-party expert to assess what they think is the most likely transaction price.
Ok, so those are the terms… but how does it all begin?
Alice pays Bob $500,000 and the contract is simultaneously executed.
Since Bob is our seller, and he very likely doesn’t own stock in Yoyodyne today, he’s essentially taking payment from Alice now in exchange for the promise to deliver shares of Yoyodyne to Alice a couple days after the IPO when he can freely buy the stock on the open market. The IPO could be in a week, a month, a year, ten years… it doesn’t matter.
Bob doesn’t HAVE to wait until the IPO to buy the stock if he can beg, borrow, or steal his way into getting a Yoyodyne investor or employee to sell him the stock in the interim period… but by waiting for the IPO, Bob will be able to get you the stock eventually, if it’s available to the public.
OK, the deal is on. Now how does it end?
If Yoyodyne does IPO, how many shares of Yoyodyne does Bob owe Alice? the answer would look as follows: Total number of fully diluted shares outstanding after IPO * 0.05% * ( 1 - The delta in shares from the start of Alice and Bob’s contract / total number of fully diluted shares oustanding when the contract started).
That line was a little messy cause of all the words… it’s a formula of the following form: # Shares to buy = T * P * (1 - D/T’).
That’s a little complicated, I know, but in plain English: it just means that Bob needs to give to Alice the same % of the company that Alice bought originally, minus any dilution that Alice’s phantom equity suffered from any issuance of stock over the years. Ok? Great. I could write a whole other post on just this formula.
You need to have a bunch of knowledge about the capitalization of Yoyodyne over time in order to fill in all those variables, but if the company has IPO’d then much of this information will be in the S-1 statement, so it’s probably doable.
Great, but companies rarely IPO, so what happens next?
Since very few companies ever IPO, 98 out of 100 times, Bob will pocket Alice’s money and then either A) pay Alice some multiple of the money paid to him in an exit for Yoyodyne or B) Yoyodyne will go out of business and Bob will simply keep Alice’s money.
If Yoyodyne exits without raising any additional money, the multiple in scenario (A) would be calculated simply by: multiple = exit price / initial valuation. So if Yoyodyne sold for… [insert even more dramatic pause] $3 Billion, then Bob would owe Alice:
$3B/$1B * $500,000 = $1,500,000.
If Yoyodyne does raise more money before it exits, then we need to revisit our fun dilution-weighted formula I introduced in the IPO section above. Lets say Yoyodyne sells for $3 billion dollars, but they raised a $200MM round of equity at a $2B valuation in between the start of Alice and Bob’s contract and the exit date. Then Bob would own Alice:
$500,000 * $3b/$1B * (1 - $200MM/$2B) = $1,350,000.
OK, But what about dividends?
Things get really messy if Yoyodyne issues a dividend unfortunately. Luckily dividends are pretty rare in private venture-backed startup companies. But if Yoyodyne does issue a dividend while privately-held, then A) Alice and Bob might not know it happened and B) Bob should be forced to pay Alice her pro-rata portion of the dividend issued (which is 0.05% * the total dividend payment). Enforcement of this step would be tough due to lack of knowledge, but dividends are rare enough that we can just gloss over this point. I’ve heard VCs with 20+ years of experience say they’ve never seen a dividend in any of their companies.
Wait, but holding on to private phantom stock all the way until IPO sounds way too long for me.
Well, Alice and Bob should only engage in this trade if they can handle the length of time required to get to an outcome. But as a remedy to this potentially very long length, I think these contract should be transferable or resellable.
One day after Alice and Bob sign the deal, Alice now holds a contract in which Bob owes her ~$500,000 of equity value in Yoyodyne. She could sell the contract to Chuck for $550,000 the next day and turn a quick 10% profit if Chuck is really bullish on Yoyodyne and can’t find a deal as good as the one that Alice made with Bob on his own.
It’s important to note that if Alice sells the contract to Chuck for $550,000, that does not change the dollar value of the contract. All those calculations about what Bob owes to his counter-party in various scenarios still uses the original $500,000 number. Chuck would only pay a premium to Alice for this contract if he was really bullish that the value of Yoyodyne was going to substantially increase beyond $1.1B (which is the implied valuation of Yoyodyne now that Chuck bought Alice’s contract for a 10% premium).
I’m still reading this post, please go on.
I’m impressed with your stamina to endure my bad humor and back-of-the-envelope math.
It’s worth pointing out the boundaries of this trade. Bob has capped upside (100% of the sale price: $500,000) and unlimited downside (theoretically, infinity dollars) in this trade; whereas, Alice has capped downside and unlimited upside. In short: naked shorting of stocks is scary.
Because Alice owns phantom stock and not actual stock, she is taking on two risks where VCs only take one risk. The risk that VCs and Alice share is the risk that Yoyodyne will be a failed investment. Alice is taking a second risk that Bob can remain solvent to pay his contract obligation in outsized scenarios. If Yoyodyne IPOs at a $100B valuation, does Bob have the $50MM to make good on his deal? Doubtful…
I’m sure the SEC would have something to say about all this… but in a contract between two consenting adults, I’m not sure why this wouldn’t be legal. I don’t think it would be be advisable (especially for Bob), but advisable and legal are different things. Hey readers (if you made it this far), is there some big gaping hole in my thought experiment?
(I don’t think I’ve ever used so many colon’s in a post. I’ve angered the grammar gods.)
Bitcoin Cap and Endless Divisibility
There will only ever be 21 Million Bitcoins created, the currency is systematically capped.
But, a Bitcoin is infinitely subdividable. Meaning the decimal places to describe the fraction of a Bitcoin are limitless. (Technically, the decimal places are limited by the size of the memory block chosen to store Bitcoins, but if we need more decimal places in the future to subdivide further, we can always choose a bigger memory block size.)
Bitcoin being both limited and limitless makes my mind spin.
Merchants and consumers intimidated by the cost of a single Bitcoin could collectively agree tomorrow that all Bitcoins are best measured in mBTC denomination. 1 mBTC = .001 BTC (it’s a millibitcoin). So now there would be 21 Billion mBTC in circulation. What’s the difference? Bitcoin is not asset backed and has no intrinsic value, so why not just shift the decimal place?
If people knew there will only ever be 21 Billion mBTC in circulation instead of 21 million, would the exuberance for stockpiling Bitcoin diminish? 21 Billion widgets sounds less scare than 21 Million widgets.
Not compelled by my argument? Well, what if we move a couple thousand decimal places…? A million? When there is 21 Googol xBTC, is that enough to convey limitlessness?
And if there are infinity Bitcoins available, how much would you pay for one? This is the question a non-early adopter would need to ask self-reflectively when first buying into Bitcoin.
I know, I know. I can already hear the naysayers reading this post. They’ll say: “Andrew, you’re making a 4th grade math mistake. If we just change the decimal place, then I now own my same portion of Bitcoins that I did before. My 2 Bitcoins becomes 2,000 or 2 million, etc… So infinite subdividability is meaningless and the number of Bitcoins are still fixed at 21 Million.”
In the context of early adopters, this feedback is correct and I agree. But if Bitcoin is only ever relevant to early adopters, it will fail. It’s disruptive power is perfectly correlated with Metcalfe’s Law. What good is a currency that is only accepted by a small fraction of the world.
In the context of mainstream participants in the global ecosystem (non-early adopters who do not benefit from the near term Bitcoin inflation because they do not own any coins), I think my argument that, practically (not theoretically), there are limitless Bitcoins is more persuasive. And the value of a single Bitcoin will only be measured in its purchasing power with merchants that accept Bitcoin, or the work you’re willing to do to be paid in Bitcoin. Without that counter-party context, Bitcoin is limitless and inherently worthless to the non-early adopter.
Oh, the Bitcoin mind games…
The Innovation/Different Balance
There is a natural balance in user interface design that must be struck between being “innovative” and being “different”.
By “innovative” I mean: Novel, unique. A substancial improvement over the status quo way of doing things. Something that feels genuinely better.
By “different” I mean: not the way people are used to doing thing, and thus, inherently inferior to the status quo. Playing on people’s muscle memory is powerful, and if you’re constantly changing the locations of buttons or redesigning workflow in your app, the “different” experience can frustrate existing users endlessly. An interface should feel natural… like you’re seeing straight-through the interface into your work uninhibited. The interface should just fade away from consciousness. Being “different” gets in the way of seeing straight-through and resurfaces the interface into consciousness.
As an investor in technology, I’m often willing to overlook the difficulties of something being “different” in order to embrace “innovative” products. But, mainstream audiences don’t have that same willingness.
This balance between “innovative” and “different” is one I have known in interface design since it was taught to me in school, so it something I have been aware of for 10+ years. But, I’ve only recently started to see how cleanly this metaphor extends to building a business.
Look at where Tesla is succeeding where so many other electric car prototypes have failed. Electric cars wildly innovative, but the innovation is so advanced that “different” creeps in too. Electric cars need to be charged for a relatively lengthy period of time instead of just pumped up with a new tank of gas in 45 seconds. They don’t *rev* or feel muscular. People’s crappy experience with the diminishing performance of rechargable batteries everywhere else in their life has taught them to be inherently distrustful of electric cars.
Telsa put so much thought and care and “innovation” into the design of their business that they’re finally managing to push the “innovation/different” balance into positive territory. It’s an uphill battle (I battle I believe Tesla can win) because they innovated so much that they’re by-definition “different.”