Harry DeMott is Structurally Agnostic

Why Most People Are Grinfuckers - The Flipside Of Brad Felds Post Today

Harry DeMott — Sat, 04 Feb 2012 19:33:42 +0000

Brad Feld has an awesome post today up on his site

Check it out here.

It feeds off another great post by Mark Suster, which you can find here.

So here's the retort to these: most people are grinfuckers and however noble the cause, you're probably not going to change that.

Let's take a hypothetical example

Parent: " Isn't my daughter the cutest thing in the world? So precocious isn't she?"

Now you have two options here

1.Smiling, you say: "She certainly is." And then you move as far away as possible as quickly as possible

2. Or staring straight into the other parents eyes you calmly say: "Actually your kid is a monster - some form of sub demon belched forth from hell. I've seen blocks smarter than her and her behavior makes you question how she's survived to this point" And then you run.

Truth is, most people don't take criticism well - particularly when they are emotionally vested in the area you are providing constructive criticism.

And if you are a VC - it can be doubly hard.

Because in that position, you are going to say no most of the time - and some of those times you are going to be dead wrong.

Truth is, in a competitive world, you are sometimes competing for the right to invest - very few investors can choose any deal they want. So how you deliver bad news is sometimes as important in building your reputation as how you act in the deals you are doing.

We recently turned down a company that we had done a reasonable amount of work on. When I communicated with the founder, I laid out 5 points that led us to pass - and hopefully those five points were taken as constructive criticism that will make that company stronger.

And guess what? We might be wrong about those five points. Or we might be right about them and the company changes and succeeds and we get another shot at investing. At that point, will the founder think, wow those guys were spot on and I'm glad they turned me down and criticised those five things? or will he simply think, those guys rejected me - the hell with them!

More often than not - it is the latter rather than the former

People generally want to shy away from negative reactions. That's just human behavior writ large.

I'm with Brad whole heartedly. I'd far rather hear honest constructive criticism from someone who has an interest in making me better at whatever I am doing - than a smile and a handshake and in the back of their mind their thinking - yeah that DeMott guy is an ass.

George R.R. Martin puts it very well in Game of Thrones when Tyrion the Imp says:

“Most men would rather deny a hard truth than face it.”

And that's why grinfucking isn't about to stop.

Facebook: The Bet You Are Making At $100B

Harry DeMott — Thu, 02 Feb 2012 13:11:19 +0000

So Facebook finally filed their long awaited S-1

You can get it here

At the highe end of the price range implied, Facebook will be valued at a cool $100B.

ONE HUNDRED BILLION DOLLARS!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!

Bill Gurley from Benchmark has an interesting post up as to why the price range makes sense. Given that Bill and I have similar backgrounds - both of us worked as equity research analysts at First Boston back in the 90's - we spent a ton of time on this stuff and his arguments are cogent. Read them here.

I have a slightly different take on the matter - which is to look at the company with an eye toward expectations.

Last year, the company produced $3.7B in revenue and $1.75B in operating income. Adding back depreciation and amortization of $323M you get EBITDA for the company of almost $2.1B. Capital Expenditures exceeded D&A by about $300M at $600M so you have a situation where new capital expenditures are exceeding D&A - so adjusted and normalized - EBITDA is probably a normalized $2B or about 55% of revenue - a fantastic number.

The question is just what are you paying for when you invest in Facebook at a $100B market cap.

Let's assume that your required rate of return or hurdle rate is 10% per year and your holding period is 3 years.

Thus, in 3 years, Facebook would need to be valued at something like $133B for it to be worth purchasing today.

And what combination of factors could lead to this?

Assuming the company improves it's EBITDA margin to 60% (not unrealistic as it scales revenue over cost) and a roughly 20X EBITDA valuation, you would need $6.6B of EBITDA or $11B in revenue - about triple from the 2011 number.And that would be a 2015 expected number - so they really have 4 years to get there.

Is this possible?

My guess is that it is.

This would represent a 33% annual growth rate in revenues, and currently the company is growing at over 50% - so clearly within the realm of reason.

The Facebook ad platform has not been nearly optimized like Google's has - and as people add more interests and more information to the social graph, Facebook should be able to do a better job of targeting advertising to individuals. Better targeting means higher CPM's, and higher CPM's lead to higher revenue.

Now all that said, it's not an easy task - and you are making a bunch of assumptions - but that's what valuation is all about.

At Raptor Ventures, we're not in on the Facebook bonanza directly, but we are partnered with Graph Science, a Menlo Park based company that specializes in Facebook ad optimization. If Facebook is to grow revenues by over 33% per year for the next 5 years - someone is going to have to help optimize all of that traffic here and abroad and Facebook will be under intense pressure to do so more quickly. We like derivitive investments on Facebook's growth - and are super happy with our partner Raymond Rouf and his team. If the expectations even come close to coming true at Facebook - we think we will have found a real winner in Graph Science, and I suspect there will be a ton of other winners in the ecosystem.

Is Spotify A Profitable Airline?

Harry DeMott — Wed, 01 Feb 2012 12:00:59 +0000

The title of this piece might strike some as strange, and yes I know that a profitable airline is an oxymoron, but hear me out.

Many years ago, the New York Times Magazine published a fascinating piece where they interviewed the head of the Airline Pilots Association. In the article the union head said something along the lines of:

It is my job to make sure that the airlines remain solvent, but just solvent, and any cash flow that the industry generates should go largely to my members.

Interesting comments - and downright chilling if you ran an airline at the time - particularly one that was cash flow positive.

I couldn't help but think back to this line when I read the interview with Edgar Bronfman from All Things D

With Spotify seemingly succeeding in gaining traction with paying customers, I keep wondering to myself when the music industry is going to look at any positive cash flow provided by the company and renegotiate the terms of their contract so all of the marginal cash flow ends up in the hands of the music providers.

A profitable digital music business is like a profitable airline - a rare thing - and one worth taxing within an inch of its life - if you run the music business.

Facebook Interests: Do They Ever Change?

Harry DeMott — Tue, 31 Jan 2012 13:00:40 +0000

Here's a screen grab of my current Facebook interests:

Not a ton of stuff on there, yet telling about me personally. Yes I do like architecture and interior design, and read a ton of blogs on the subject every day. Dig around further in my Facebook page and you will find that I have a 500 gallon salt water aquarium in my house.

Now all of these interests were set up when I set up my profile some years ago - and they haven't changes since. And yet - I have a lot of other interests - I have just never gone back and changed anything in here.

Given the ever more targeted advertising being done with the aid of companies like Raptor Ventures portfolio company Graph Science, I got to thinking: shouldn't there be an easier way to update your interests on the fly from anywhere on the web?

How do I see a site on Virgin Gorda (my favorite Caribbean island) and mark it as an interest so that it becomes easier for Caribbean travel companies to find me?

How do we make it easier to use the social media tools we have to serve us - rather than us serving them?

Cell Phones: Good Enough?

Harry DeMott — Mon, 30 Jan 2012 12:00:13 +0000

Clayton Christensen, in his seminal work, the Innovators Dilema, espouses a concept that certain technologies are just good enough. They might not be the best technologies, the sleekest, the fastest, or the best you can buy.

But they are priced right and good enough for people to use.

Interestingly, as a VC, I spend a heck of a lot of time on the phone talking to founders or other company employees, or Skyping with people who are not in the same town with me.

While these technologies are fairly ubiquitous - people under 30 are certainly more likely to have a cell phone and broadband access than a land line - I must say that the quality of these calls and videos is abysmal.

Compared to my office landline they might as well be tin cans connected with string - and yet that is how we roll these days.

Very clearly a case of technology being good enough.

We have traded quality for ubiquity - clarity for convenience - and for the very vast majority, that's more than good enough.