The Business of Venture Capital. Mahendra Ramsinghani
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sat down to have a fireside chat with Sid. For the founders who attended, the value of the investor and the firm was evident — access to a potential customer and seasoned security investors who had invested across multiple cycles and their views on market trends and challenges. Within six months of joining the firm, Sid was able to close on his first investment — a security team had spun out from a multibillion-dollar networking company to develop the next-generation AI-driven security platform. “In our business, feedback cycles are long, as it takes 10 years to realize returns. In the meantime, I have developed the muscle of seeking constant feedback from my partners, founders, and peers in the business. Gotta get better every day to stay ahead in this game.”
Moon Shots in Emerging Technology — Bets in Quantum Computing
The arc of Andrew Schoen's VC career begins with Sid, where he founded the Cornell University's Venture Club to gain exposure to the world of venture capital. Young MBA students could work alongside seasoned investors and learn the craft, hone their skills. As Andrew and Sid built the club, they engaged with leading firms such as Sequoia, Bessemer, and others who came in to work on projects with the students. With the ringside view of the venture world, both of them were able to find an entry point.
Soon after graduation Andrew, who has spent five years at the multibillion-dollar venture firm New Enterprise Associates (NEA), moved to Beijing, China, for three years. There, he was able to build out the portfolio and subsequently moved to New York, where he set up the firm's East Coast offices. “The job of a venture capitalist is to identify and invest in opportunities with immense potential — ours is distinctly a mission of value creation (as opposed to value capture). We foster innovation that occurs in leaps and bounds, with progress that looks more like a step-function graph than a straight line,” he writes.2 One of the companies Andrew led an investment in is a category defining opportunity in quantum computing. With the end of Moore's law in sight, we need a punctuation mark in the path of semiconductor development. For Andrew, this is a moon shot, but as a first mover, he was able to study the entire landscape of opportunities in quantum computing and make a bet on an opportunity that has significant potential.
For him, it's not the risk that matters but the scale of the outcome. As he muses:
For investors who are able to lean in with their eyes wide open and fully understand the bet, an investment in quantum computing could be a moon shot worth taking. A moon shot can go awry. But venture capitalists make moon shot investments when they are convinced that the potential rewards outweigh the risks. The question is not whether investments will be made in quantum computing. Multiple governments around the world, and multiple government agencies domestically, are already directing funds and technical efforts toward this challenge. Several private investments have already been made in the field. The question is whether the rewards will be worth the financial risk, and the wait.
What Makes a Good Investor?
Comfort Ambiguity, Uncertainty, and Change
Good instinct, well-honed by experience, makes a good venture capitalist. The most difficult part is dealing with uncertainty.3
—C. Richard Kramlich, chairman and co-founder, New Enterprise Associates
See, venture capital is very reducible to a few words. You have to be interested in managing change, and you have to recognize that change is necessary.4
—Donald T. Valentine, founder, Sequoia Capital
BEWARE: BIAS AND PSYCHOLOGY
The Misconception. You calculate what is risky or rewarding and always choose to maximize gains while minimizing losses.
The Truth. You depend on emotions to tell you is something is good or bad, greatly overestimate the rewards, and tend to stick to your first impressions.
–David McRaney, Author of You Are Not So Smart
Every practitioner should aim to be a student of human psychology and behavior. We are primal beings and we function in ways that cannot be fully explained within the logical construct. This section addresses a few challenges that are likely to occur while making investment decisions, primarily due to randomness of human psychology and emotions.
Let's start with David McRaney's observation that we are not as smart as we think we are. His book points out as many as 48 ways we delude ourselves. But for the sake of brevity, let's focus on the few that are relevant in the context of venture capital investments.
Emotions versus logic. In any investment decisions, practitioners create elaborate logical labyrinths to minimize risk or justify actions — but as human beings, we have equal parts emotion. Or mostly emotions, if you start to scratch beneath the surface. We have a tendency to ignore odds in our favor and often rely on gut feelings. Snap judgments. Love at first sight. You had me at hello… . we could go on and on. At work, we do stuff because we like someone. We want to earn points or be liked. Or we want to reciprocate, to feel good about ourselves. Research shows that when it comes to identifying risk, our brains are hardwired to respond from the gut. Investor Chris Sacca one said, “Never forget that underneath all the math and the MBA bullshit talk, we are all still emotionally driven human beings. We want to attach ourselves to narratives. We don't act because of equations. We follow our beliefs. We get behind leaders who stir our feelings. If you find someone diving too deep into the numbers, that means they are struggling to find a reason to deeply care about you.”7What Makes a Good Investor?A Good TherapistThe part that is really overlooked is that a VC needs to be a good therapist. Any CEO will tell you that it's the loneliest job in the world. You have to lead, be upbeat and confident … every CEO has doubts of hitting the next milestone, the next customer or the next capital raise. A good VC is someone who can host an open, transparent discussion and even give them a pep talk. At times, the founders get at each other's throats. It's very easy for VCs to get prescriptive and that's not helpful — what is helpful is giving them the tools to manage the issues and become stronger.5—Rob Hayes, managing partner, First Round CapitalYou've got to be a good listener. I find if the venture capitalist does all the talking, he doesn't learn very much about the people he's thinking about investing in. Very important to listen … and judge who looks and feels like they have the makings to be a real company. Eventually it becomes instinct if you do it often enough.6—Paul “Pete” Bancroft, former CEO of Bessemer Securities, former chairman of National Venture Capital AssociationIn his book How We Decide, Author Jonah Lehrer points out that “our best decisions are a finely tuned blend of both feeling and reason — and the precise mix depends on the situation.” Now, there is nothing wrong in healthy emotions but as students of human behavior, we need to recognize that sometimes, it's not necessarily logic that's at work. Without emotion, it becomes incredibly difficult to settle on any one opinion. We would endlessly pore over variables and weigh the pros and cons in an endless cycle of computations, writes McRaney.8 Thus, in any situation where the decisions don't add up, know that emotions, not logic, may be at work.
Reciprocation, obligations and indebtedness. In a classic book on human psychology, Influence — Science and Practice, author Robert Cialdini writes that reciprocity is one of the most widespread and basic norms of human culture. Quite simply put, reciprocity is exchange — if someone wishes you well on your birthday, you do the same on theirs. Holiday cards, dinner