Friday, December 19, 2008
If you haven't had a chance to read my thoughts on the music industry, here they are
Cure for RIAA Disease
Thoughts on Music Industry (Part 1)
Thoughts on Music Industry (Part 2)
Thoughts on Music Industry (Part 3)
Today, RIAA decided to abandon their latest strategy, so called massive lawsuits against internet users. As you can see from my vocal criticism against hesitance towards innovations and sticking to the good ol' days, this news really made my day ... sort of. While I wish internet users can be freed from ISPs as well, this is just huge. This really changes everything.
After all, the massive lawsuit strategy wasn't working. Music industry realizes that there should be other solutions to the problems. The major labels began to ramp up the digital business operations to feverishly figure out and capture the right opportunities. And, it's a greatest time to be a music-related startup these days.
One final thought about a strategy that music industry can learn from other mundane industry.... razor blades.
When Gillette introduced (I could be wrong here) Mach 3 Razor, the biggest competition it ran against was itself: another Gillette products dominating the market. Consumers had little incentive to make the switch. To make a long story short, Gillette made the consumers to make the switch by a)taking the old stuff out of the market, b) blanket the distribution channel with Mach 3, c) pumping lots of money (I mean A LOT) into marketing the greatest innovations of Mach 3.
So, what does this have to do with the music industry? I don't know if this would work or not, but just blanket the whole market with legitimate distribution channels. I was once a Napster user. I abandoned the habit of illegal downloads when the opportunity cost of searching and owning new music/movie became too high. It was just easier for me to spend the extra bucks. Yes, supply will increase and price will drop. Music companies will get hit, but this may just be a temporary phenomenon. The whole culture of purchasing behavior needs to be fundamentally changed, and that's why it's so painful to see the industry suffering. If it takes hours and hours to just find a song you like, wouldn't you rather shell out 99 cents? Write me a note if you can't absolutely find 99 cents to be a good citizen. I'll help you out.
Thursday, December 18, 2008
Situtations in both sides of the table.
- shift focus on existing portfolio companies by allocating more follow-on reserve; thus, less money for new companies
- reduce risks in early/seed stage capital allocation
- set a higher bar in funneling investment opportunities
- advertisement-based business model is no longer a viable option for most companies in internet/mobile
- holds more negoting leverage on valuation. buy cheap and sell high is more attractive
- many LPs deviate from allocating capital into VC/PE asset classes; thus, fundraising is more difficult
- not betting on big exit opportunities in 2009
- overvalued investments from the last two years need to be readjusted (or do something about it)
- new deal pipeline will decrease
- we know the grim economic conditions and are working on pennies
- ask for smaller capital to be conservative and prove that business is sustainable
- will go out and raise the big round when the market improves towards end of 2009
- friends and families seem to be better option than institutional investors
- advertisement is still a viable option
- cost of runnning a business is getting cheaper, and we'll survive
- PPT with ideas to change the world is for your blogs. You need product, user, customers. In a down economy, investors are more receptive to revenue generation than a grandiose vision
- Hit every milestone. Exceed your own expectation. A company that got funded in 2007 ain't the same animal you are dealing with now.
- Friends and families (and fools) are good options, and you should consider raising incremental investments from them. The real caveat... if you are dealing with the "wrong" type of friends and families, you end up having a full-time fundraising job.
- Start building rapport with (highly likely) VC investor now. Wow them with the progress you are making. They might have more time "networking" with entrepreneurs now that the new deal is slowing down.
- Innovate on business model.
- Remember debt is another option.
Thursday, December 11, 2008
I put some number around what I call "capital efficiency index" that measures the value created by a firm divided by the total capital going into the business. As used in VC methods used in some academic literature, the time horizon is chopped at the time of venture exit.
So what exactly is a capital efficient business? There are many dimensions to measuring it, including,
- low burn rate, better resource utilization
- high revenue with small Capex
- self-sustainable business model
- repeatable source of revenue with same platform
There are reasons to believe that capital efficiency is easier now and should be done. Cost of hardware keeps going down the curve, some technologies get commoditized, SaaS makes it cheaper and easier to consume traditionally expensive technology products, etc.
After putting some numbers around, capital efficient businesses don't seem to exist at all. At least, macroeconomic factors and craze created by the market may be the only way to make a capital efficient business.
Look at the following chart. Listed are some of the most successful ventures in the "old" and "new" age. To be fair to the value associated with the companies, let's stick with consumer services companies.
What the chart is essentially saying is that much more capital is required to create the same "value multiple" in the new age of startups in the internet space. A single digit value multiple is everywhere in the new age group. The old age group took much less capital and created much more value. Yes, they are at different phase of life, but the absolute size of investments went up significantly even when the companies are much younger.
It seems that the potential size of successful startup is proportional to the $$ going into the company. Let me know if anyone has a business plan to match eBay's value multiple, I'd rather put my money into triple digit value multiple company than Facebook's meager 31.
Wednesday, December 10, 2008
When an entrepreneur goes to conference and unknowingly runs into an angel investor (because angels don't really have a name badge), the conversation would go like this.
A: Hello. What do you do?
E: Well, I'm working on a neat concept in the online video space to help companies monetize on contents.
A: That's a hard problem to solve. How do you do that?
E: Well, my partners and I developed this software to (blah blah)
A: Wow, that's amazing. By the way, I gotta meet someone in 2 minutes, but if we can meet some other time to discuss more in detail, here's my card. Call me.
This is overly exaggerated conversation. I would assume that the next meeting will be about how the technology works, how many customers they have, etc.... but not much about team building, business model, exit strategy, capital plan, etc.
Why am I saying this? Pitching an angel is just that different. It's the art of pitching an idea vs. pitching a company. Enlighten with how brilliant and innovative the idea while knowing all the VC diligence stuff in back of your mind. The idea behind a small team of founders is what angels really want to understand and possibly add value by bringing some advice. An ideal angel investing should be like paying an expensive ticket to take a close look at the company and potentially work with the founders to materialize the company's mission. If entreprenerus follow the strategy of pitching a company.... say, "I have a company disrupting music industry, and our target market size is $500M, and we hope to dominate the market and return 5x of your investment in 5 years." Sounds like an attractive opportunity, but overly capitalistic and unrealistic.
Keep in mind that all that business stuff is required at some point, and all entrepreneurs should be able to talk about it later... just not at the angel investing phase.
(this is a very rough estimate)
- Later-stage VC: usually participates in Series B/C/D after having seen the market traction and significant customer ramp-up. They typically invest >$10M to support the growth.
- Early-stage VC: usually particiapates in Series A (and sometimes seed round on rare cases) to prove out the business model and test out the customer traction. Many entrepreneurs approach them with several slides thinking that they will take the risk of productizing a concept and end up hearing, "you are too early for early-stage investors like us".
- Angel groups: So who comes earlier than early-stage investors? Angel groups and seed investors. This group usually participates in $250k-$3M rounds. Because of the overlap between early-stage VCs, the criteria for investment would be similar to early-stage VCs. However, the investment size skews towards the lower end and the team is not complete at this point.
- Angel/Seed investors: It's important to realize that different between angel groups and angel investors. Angel group consists of a group of certified angel investors who altogether take a look at companies while the decision gets made at the individual level. An angel investor, on the other hand, typically works alone and probably don't attend monthly screening meetings organized by the angel group. S/he may or may not ask for participation in management. The investment size would be smaller (<$100k/investor). Many of them are successful entrepreneurs (or climbed up the corporate ladder successfully). While their business card may not say that they are part of an angel group, they are genuinely interested in seeing innovations. Given the right idea and personality "click" with entrepreneurs, they want to invest in startups.
Tuesday, December 9, 2008
Phase I (tipping point): The implosion of subprime crisis crept into Wall Street during the summer of 2007. We thought the economy was booming as consumer spending increases, and even the no-job-no-money-joe next door was buying a luxurious condo. Good times. VCs were seeing a very good deal flow and internet entrepreneurs were just going upbeat about entering the online advertising market where billions of more dollars will be spent. Times are good, and we don't know if Fannie and Freddie will go belly up... yet.
Phase II (not my problem): Subprime crisis had already happened, and we can't buy our dream condo. So what? We know that we never deserved all that luxury by leveraging the balance sheet through the roof? Time to get realistic here, but everything is going to be okay. Unlike the dot com collapse earlier in this decade, it's not my problem. VCs are still out raising the historically largest fund, and entrepreneurs still go out raising enough capital to get through the next milestone.
Phase III (OMG, the financial sector is in deep trouble. I'm still okay though): Late summer of 2008, Merrill and Lehman went belly up, and the federal government intervenes with a huge pot of taxpayers' money. It just needed to be done to save us from the worst situation, because times are REALLY getting touch. We in the startup economy finally realize that the problem is big but still don't see the huge incentives to be hungry. People are having problems, but not in our office. We are still hitting all that milestones. Maybe we'll lose WaMu as a customer, but still not my problem.
Phase IV (TIME OF UNCERTAINTY): This is the time we are in. Sequoia Capital "leaked" the good ol' graveyard deck. Sequoia, probably the most respected VC firm in the entire history of venture capital, starts to have the ripple effect. Now, it looks like we are in some real deep trouble. It doesn't matter if our sales are still on target or have had raised $100M in the past month. Sequoia told us to tighten our budget, hit profitability, and survive at the end of the tunnel, and I'll do exactly that. But I don't know how. Maybe Obama will solve all our problems when he takes the office with a big economic stimulus plan. Until then, I'll sit and wait. I have enough cash to take us through another two months.
I also noticed a lot of uncertainties while attending conferences recently. Many VCs are saying that they are closing deals now, and there will be more. There will be very attractive investment opportunities because they will get lower valuation and better returns. Don't we all know that the uncertain outcome of their investments makes them worried as well? Do they really feel better about those lower valuations? What about entrepreneurs? Startups these days know that the power shifted to people with money. But, are they reallly willing to get squeezed in valuation? How many times we've heard that running a startup is cheaper than ever while successful startups took hundres of millions of dollars? Maybe, bootstrap is a way to go. I don't know. What I know is that this time of uncertainty causes the startup economy to hide in the cave until we see some sun light.
Phase V (hiatus of innovation): Times are getting worse. By the way, this is the most important phase that I want to double emphasize in this post. Customers stop buying and ask for more for less. I'm runnning out money. Nobody's telling me that I'm in trouble anymore, because I feel the pain in person. I need to survive.
Let's take a step back.... to the good ol' days when we were in school. When was the best time to be doing the homework with all your attention and capabilities concentrated on one darn deliverable? Perhaps... at the last minute? Yes, you are "hungry" and feel the urgency. Whether it was voluntrary or not, you were really doing something amazing with all those natural born skills. Then, you turn in your homework and take a deep breath. You don't remember how you did it... but you did it.
This is exactly what will happen to most startups. Economy, as we all know it, is cyclical. Times may get tough. But keep in mind that we need to be mentally and physically ready to take on these challenges. We'll get more innovative and creative when it comes to survival. If we can do this beforehand (say... now), it's even better.
Why don't we all "fake" to be in Phase V and innovate like there's no tomorrow?
Monday, December 8, 2008
As I was listening to Eran Egozy at the MIT VC Conference last week, I was struck with a theme of music as a complementary services as opposed to the sole purpose of enjoyment.
I'm not trying to argue that listening to music by itself gives me a tremendous pleasure. This is exactly the reason that music has been around for centuries (perhaps since the beginning of human beings if you count "thumps" to be music). Music labes, artists, and songwriters are used to standing in the middle of spotlights. I've gotten to know several celebrities in my personal life, and all of them tell me that it just feels to good to be in the spotlight with all that attention.
With the proliferation of digital piracy and free music widely available, I'm going to try to argue why the traditional music industry should also consider stepping aside from the music industry. In summary, music is a mere means to improving other products and services in this innovation economy.
Let's look at the gaming industry in this context. Rock Band is undoubtedly one of the wildest success stories. People (not just gamers) just love holding that plastic thingy and rock 'n roll to the hundreds of titles available. Now, who's getting all the spotlight and who's making money? The creator of Rock Band (Harmonix Music Systems) is getting all the glory. People really don't really care whether a certain song is available or not as long as they can just bang their heads with the plastic guitar (and drum). But then.. who's making money? Some songwriters and labels that licensed those songs to Harmonix probably made some big bucks (though not huge money).
This is somewhat analogous the love and hate relationship between VC and entrepreneurs. Often, entrepreneurs are in the center stage getting all the spotlight while VCs take credits for putting their money into the right people's pocket. That's precisely the reason why VCs "back" companies, not "brings life" to them. At the end of day, both of them are successful.
Back to the music industry, the stakeholders need to understand that nobody has a panacea for all the problems. Instead, we need to understand how one product/service is complementary to other stuff like movies, devices, websites, etc. It's somewhat hard to digest the fact that you are all of a sudden bystander not central to the success of others while you are a "must have" complementary product/service.
As we know in today's world, a traditional business model of selling music doesn't work. However, music is a must-have service to numerous products. With this paradigm shift, a change of attitude needs to change.
Step aside from the spotlight.... and enjoy riding success with others.
I felt that this is also the right timing to start thinking about the current economy a little bit differently. With the traditional industrial economy clearly in declining mode, something needs to be done to reinvent ourselves. It's the startup economy that's going to take us through the tough times and also continue to innovate during the good times.
With everyone's wallet getting tighter these days, I also decided to give myself an extremely fulfilling holiday present, http://www.startupeconomy.com.
Again, new name, but same focus and rambling on the startup economy.
Thursday, December 4, 2008
Worldwide: Preliminary Smartphone Sales to End Users byVendor, 3Q08 (Thousands of Units)
3Q08 Market Share (%)
3Q07 Market Share (%)
3Q08- 3Q07 Growth (%)
Research In Motion
If anybody has any doubts about the auto industry is in deep trouble, what planet are you from?
Holistically, we all know that the auto makers have been in trouble for a long, long time. I went to the school named after Alfred P. Sloan, a long-time chairman and president of General Motors, and I should have learned something about what went wrong.
I'm just going to scratch the surface and let you all dig deeper into what thousands of things went wrong.
So, what went wrong with the whole industry? PRICE COMPETITION. To throw some b-school lingos here, firms compete by leveraging a variety of weapons like marketing, supply and demand, sales strategy, cost advantage, innovation, etc. If anyone has sat through Lecture 3-4 of your microeconomics class, you've probably learned that price competition is the evil of all competitive strategy. This is because price competition drives the profit down to zero until one company is left with a huge market share with no money left in the pocket.
Back to the auto industry turmoil....
There are empirical evidence that the auto industry used to be profitable until some brilliant strategists came up with innovative pricing strategy called "Everyone gets an employee discount". The death spiral goes like this. First, GM has this promotion nationwide to steal would-be other companies' customers. In this segment, the customers are pretty price-sensitive and would select the lowest price available. Then, another brilliant pricing strategists at Ford and Chrysler have no option other than matching GM's pricing. The prices across the models keep going down the curve until nobody makes money by selling cars. Yes. This is what happened.
Fastforward to today, CNN's headline talks about car dealers getting creative. Man, these people just don't learn anything from experience. The death spiral is soon to turn into death bobsled ride. I wonder if the Congress realizes this.
So what else could be done here? Everything, except price competition. Coke and Pepsi are profitable because they compete in promotion/marketing/brand. Dell made money because of the low cost structure. Google made money (among many other reasons) because of its willingness to take risks to innovate. Apple made money because..umm.... well... Steve Jobs. Kleiner Perkins and Sequoia Capital have the market power because of the network externalities to be able to take a first look at quality deals. I mean anything but price competition is okay.
(By the way, I'm listening to the auto hearing right now and just heard that the auto makers want to make more efficient and longer-lasting cars. Wrong. Make efficient, yet short-lasting cars. There ain't no recurring revenue until the customer comes back to drop big bucks for another cool car.)
Wednesday, December 3, 2008
- Physics has changed: physical media --> (no, I mean binary things like , streaming, etc.)
- Contol/Power has shifted: recorded studios --> artists and fans
- Price came down the curve quickly.
The fat profits to recording companies are at best marginalized by the adoption of digital formats and piracy. When all things seem gloom and doomed, there are still positive things about the whole paradigm shifts.
- 53M sold in 2007
- 36% y/y growth in
- 25% y/y growth in
- 40% y/y increase in worldwide sales
- 8% y/y increase in concert sales
I don't know what the answer is for this industry. Just like in any other industries, innovations must be experimented and questioned. What I can tell from my small world is that something dramatic needs to happen (for better or worse) and the whole innovations will cost numerous deaths and a few trophies for those who have the "golden" key. And most importantly, the industry as a whole needs to change the mindset of looking at the opportunities, because the good ol' days are indeed over.
Do you see stunning similarities with the recorded music industry, as I do? That's right. Both of them sit on a pile of innovations (and greatest creative thinkers) and decide to monetize by exploiting the power of obscure legal languages.
Music is still by far the most popular entertainment avenue. People just love listening to music and are amazed by the creativity coming out of the artists' minds. Yet, the music industry needs to deal with piracy, and the creatives are entitled to getting (monetary) credits.
Hear me out: When a monetization strategy is by suing loyal consumer of your product, something's gone terribly wrong.
RIAA sues MIT student and students dropping out of school to pay legal fees. Though somewhat outdated story, it still gives me depression. The music industry needs to get along with consumers and focus on solving the very difficult monetization problem. It needs to accept the whole paradigm shifts towards the new frontier.
Next part is about the whole paradigm shifts in the music industry.