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The Lucrative VC Game!
Oct 29th, 2014 by LOONEYEXECUTIVE

Looney thoughts, perspectives, and insights on the world of business!

– By Blake Glenn

 

According to a recent post on the Harvard Business Review blog, large fund venture capitalists are acting, and being paid, like asset managers instead of the aggressive, risk-taking, swashbuckling cowboys (or is it pirates?) their image purports.

Apparently asset managers typically get the bulk of their fee based on the size of the funds they manage rather than the actual performance of the assets. And VCs are being paid in much the same manner according to the Harvard Business Review. Rather than the bulk of their compensation being tied to the performance of their funds, their typical 2% asset management fee compensates them PDM (pretty damned well).

For clarity, the usual VC model is to realize about 20% of the “cash out” of any startup in its portfolio. The remaining 80% goes to the limited partners that provided the investment money. But in the last several years, many VC funds have had few cash outs.

Of course the current model really works best if the fund is big … Big … BIG!

For instance, here are the compensation numbers at a 2% management fee structure for 3 VC fund sizes:

 

  • $10,000,000 @ 2% = $200,000
  • $100,000,000 @ 2% = $2,000,000
  • $1,000,000,000 @ 2% = $20,000,000

 

So the larger the fund, the sweeter the fee. And the institutions (pension funds, college endowments, foundations … etc.), aka limited partners, that provide the money for VCs to build their funds, can be locked in for 10 years.

To compound this problem according to the post, the VC return the last 15 years hasn’t exceeded the typical stock market averages by enough to justify the investment by limited partners into these very large funds.

And as if that’s not enough to raise the big ole red flag, most of these VCs apparently only put in about 1% of their own money into any of their funds. And, if this post is accurate, that 1% is usually the money they get from the fund management fee itself, not from their own personal funds. So as this structure stands, VCs have little to none of their own skin in the game.

When you combine the under-performance issue with the 10 year fund commitment and minimal VC “skin in the game”, the potential fallout could be a nuclear winter that sees institutions shifting their money out of VC funds for better opportunities elsewhere. Combine that with the rise of crowd funding and we could see a major long-term change in the VC industry.

One final ironic twist about the VC game. The Harvard Business Review post points out that, in terms of economic structure, the VC industry has been severely lacking in disruption. You know. Disruption. The go-to word investors, entrepreneurs, and anyone else with access to the business news loves to throw around at industry gatherings, cocktail parties, and weddings. Even invoking that word at funerals has been known to lighten the mood, set eyes a glow, and bring back the formerly deceased to pitch an idea right on the spot.

When’s the last time an investor asked you:

“How much skin do you have in the game?”

or,

“How are you disrupting your target industry?”

 

The next time you’re asked those questions you can simply say:

“Our goal is to minimize my own money at risk, let the suckers worry about disruption, and make lots of dough with other people’s money. Now how about we get you signed you for $25,000,000 this round? This once-in-a-lifetime opportunity will not last very long!”

 

Blake Glenn shares his looney perspectives, stories, and mis-adventures in The Looney Executive  blog. He has interviewed hundreds (or at least tens) of people via  The Looney Executive Podcasts and former TV show. He’s the founder of a tech group called IgniteTech, and claims to be a direct descendant of the original Looney Executive – Because there must be SOME explanation … right?).

 If you dare, he can be reached the old school way … blake@LooneyExecutive.com

 

 —————————————————————————————————————-

P.S. – If you’re really interested in growing the tech startup scene in SW Ohio, you’ll want to join the IgniteTech Meetup Group.  Join the group. Come out to our events. Bring your energy and ideas. Build your connections.

Join us on this adventure. And help us to create a great story!

 

 

Jimmy’s Descent Into Hell: A Cautionary Business Tale … Part III
Oct 13th, 2014 by LOONEYEXECUTIVE

A true story ripped from The (Mis-)Adventures of The Looney Executive

– By Blake Glenn

 

Just finding us?  Catch up on Part I and Part II of the story.

 

A Murder – Suicide in Van Nuys!

Say It Ain’t So Jimmy!

After Jimmy had been coming to our sessions for a few weeks, I noticed something striking about him. He looked so different. His look of suicidal desperation was gone (though he was certainly still a little desperate … just not so much suicidal). The blood no longer rushed to his face, turning him into a talking beet.

But perhaps most importantly, I no longer had to keep the SBDC staff on high-alert. I no longer was afraid that I would make the back page of the LA Times as the victim of a murder-suicide!

I could just imagine the 6:00 news anchor making the announcement:

“This is Tim Weathorford Tisdale bringing you the 6:00 o’clock news.”

“This just in … In Van Nuys just moments ago, a crazed and desperate small business owner brutally attacked a business consultant before taking his own life.”

“Apparently the emotionally distressed owner beat the unsuspecting consultant upside the head with a stack of financial statements, rendering the poor man completely senseless. The victim staggered into the hallway of his office where he collapsed, several months of financial statements were triple-stapled to his scalp. I can’t verify this, but sources close to the situation say the consultant also had at least a half dozen cash flow statements protruding from his rectum.”

Financial Graph

 

 

 

 

 

 

“My God! Ladies and gentlemen I’ve never seen anything like this. It’s senseless barbaric brutality …”

“Then the killer ripped a computer monitor from the wall and smashed it into his own head. Both men were rushed to the hospital. The owner and his business were pronounced Dead-On-Arrival.”

“In a heroic effort, the doctors enacted an emergency surgical procedure to remove the financial statements from the consultant’s skull. Although he had a heart attack on the operating table, at this moment the victim is still waging a desperate battle for his life as the cash flow statements are being delicately removed by North Hollywood’s top proctologist.”

“This is such a tragedy. I’m sure the consultant was only making a valiant and desperate attempt to help keep the anguished, distraught small biz owner from going under. Such a senseless attack is nothing short of … a tragedy. These days being a small business consultant is such a dangerous and thankless job.”

“Oh well.”

“In more breaking news … 12 year old Cinnamon Johnson narrowly won the West Hollywood spelling bee, just edging out 11-year old Wilbur Montgomery …”

Winner!

 

 

 

 

Closing This Case

Many firms in Jimmy’s highly fragmented industry were in similar circumstances. I saw this as an opportunity for him to possibly roll up 2 or 3 rivals via acquisitions. So I suggested this as a long-term option. Once he regained his health, he could pounce on weaker rivals with buyout offers. He could then root out overlap, cut costs and create a larger, more stable, and more profitable firm that had a better chance of surviving and thriving. I offered to help him in researching and exploring this further.

But Jimmy would have none of this. He was no opportunistic predator. Sure, he understood what I was saying. And it made lots of sense intuitively. He just didn’t really have the heart or ambition to go on a takeover spree and become a poor man’s Carl Icahn. You see he was the classic small business owner. He felt fine at $1,200,000 in revenue and $200,000 – $300,000 in take-home cash, plus perks. He lived a certain lifestyle. He had no real growth ambitions to speak of. He just wasn’t an entrepreneur. He felt comfortable just where he was … operating as a commodity business, always trying to best the price of a competitor.

The bottom line is this, once Jimmy saw what was happening with his cash flow, he felt a hell-of-a-lot better. He knew the expenses he had to manage closely and how much loss or profit to expect.

Cash Register

 

 

 

So What’s The Lesson In All Of This?

Well, there are a couple of key lessons you can take away from Jimmy’s experience.

1.  Stay Out Of A Commodity Business

Anytime there’s lots of competition and sales is based almost solely on the price of your product, you’re in a commodity business. You’ll have low margins. And your revenue will based on trying to achieve a high volume. That’s a rat-eat-rat world not worth the effort … if you can avoid it. Aside from a complete exit from the market, coping methods could include (a) Moving into related higher margin products; (b) Creating premium priced services to package with the commodities; (c) Buying up competitors to eliminate competition, reduce  expenses, and force up prices.

 

2.  Know Your Financials

The bottom line is that you need to keep a strict handle on your revenue, expenses, profit, and cash flow so that in good times or bad, you know the financial condition of your company. You’ll see the trends as they’re developing. And, as revenue and profit dip, you’ll know where you can cut back expenses if necessary

Let me offer a little more creative twist on this lesson:

 “If you’d just keep a better handle on all of your cash … You could end up saving your’s and someone else’s precious ass.”

“And frankly, the ass you save could be mine!”

 

You’ve just read a tale from “The (Mis-)Adventures Of the Looney Executive!” …  A series of biz stories from Blake Glenn.

 

The Looney Man

 

 

 

 

 

Blake Glenn shares his looney perspectives, stories, and mis-adventures in The Looney Executive  blog. He has interviewed hundreds (or at least tens) of people via  The Looney Executive Podcasts and former TV show. He’s the founder of a tech group called IgniteTech, and claims to be a direct descendant of the original Looney Executive – Because there must be SOME explanation … right?.

If you dare, he can be reached the old school way … blake@LooneyExecutive.com

 

—————————————————————————————————————

P.S. – If you’re really interested in growing the tech startup scene in SW Ohio, you’ll want to join the IgniteTech Meetup Group.  Join the group. Come out to our events. Bring your energy and ideas. Build your connections.

Join us on this adventure. And help us to create a great story!

 

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