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Wednesday, June 25, 2008

Of Executive Search 2.0, and Community Building in general

Hackers know this and you may too: the web is a great resource for Social Engineering.

One of the places where you can gather a lot of information on people, beyond the obvious social networks, are blogs.

And one of the great uses of this content is for Executive Search: digging through blogs, you can get a very good feel for what a person does, thinks. And since the blog typically include a link to a profile, you can also easily access the blogger to engage a conversation and see if they could be interested in switching to a new job.

The beauty with this model is that it gives you access to all these people who have the right skills for the position you are trying to fulfill but have not posted their resumes anywhere because they are not actively looking for a job. From my experience they also are the best candidates, the one who do great where they are but would consider a change.

The experts are blogging, it is time for the recruiters to read these blogs.

And if you are into building a community in any vertical the same applies: I am amazed to see the amount of content available on any given topic, and the number of people interested in this topic you can get to through their blog. The web is the social network, LinkedIn and Facebook (and the many others) are lenses through which you can visualize communities of professionals or friends or experts, and then you can create your own custom lens with a blog reader.

Tuesday, June 24, 2008

More info on VC funds - and it gets worse...

I have shared my own observations of the VC investment world and the Angel investment world in previous posts on this blog, leading to the Entrepreneur Commons project.
And I have now also found (thanks to my Melcion partners) a very interesting study that shows that in addition to not being a good answer for entrepreneurs, VC investment is also not a good solution for investors (the Limited Partners - LPs - in VC funds). A must-read for anybody interested in VC investment:

The Performance of Private Equity Funds, by Ludovic Phalippou and Oliver Gottschalg - April 2007.

The first striking information from this study of 1328 VCs worldwide is on the returns that can be expected from VC investment:
  • S&P500 +3% before fees
  • S&P500 -3% after the management fees (typically 1% or 2% plus carried interest)
So investors investing in VC funds will make less than market, their investment underperforming the market by 3% on average.

But it gests worse:
The original assumption in the study is that performance of VC funds is related to Size of the fund, Experience of the management team and Past Performance. However a closer study shows that when past performance is included in the equation all the other characteristics lose their significance: Past Performance appears to be the unique explanatory variable for fund performance.
More specifically, it seems that the fund performance after the first 3 to 4 years is the main indicator of the performance that can be expected from this fund at maturity (typically 9 years). Not experience, and not size. If you compare recently raised funds to what more mature funds were doing at the similar early stage, then the conclusion of the study is that new funds have similar expected performance as the mature funds in the study. Again, there is no concept of size and/or experience being a parameter.

What it means is that it does not matter whether the management team has experience from a previous fund, the only parameter that prevails is what they do in the first 3 to 4 years of a given fund, which will be the real indicator of what can be expected in the end.
So while the concept of track record is comforting psychologically, the science does not sustain the idea that it will make a difference.
In the end Limited Partners are playing the lottery when they invest in a new fund, whether it is with a newly formed team or an experienced team.

In summary:
  • Each new fund is a new fund, with only what will happen in the first few years to determine what kind of results can be expected
  • And in the end what can be expected is less than market by 3% on average
One question remains: why are LPs paying all these fees (the 6% that take their average returns from SP500+3% down to SP500-3%)?
If this is to play the lottery and get a chance to finance the next Google, be my guest. But if this is to finance innovation, maybe there are other options.

If anything, this is one more justification for trying other cheaper ways of financing entrepreneurs: back to the Entrepreneur Commons, it seems that while it originally came out of issues identified with Angel Investment as a way for Angel Investors to try something that may give them a better return on their investment, it is also a good answer for Limited Partners currently investing in VC funds, who could be also interested in the potential of better return on their investment while still staying involved in the financing of innovation.

If you are a LP, I would love to talk to you...

Monday, June 09, 2008

MFIs: where to go next

If you do not have time to read Muhammad Yunus book "Creating a world without poverty", I recommend this article from the Stanford Social Innovation Review:

This is what I got from the article:
- I like to think about these things in terms of ecosystems, where there needs to be a balance between all players. And therefore there should be a cap on the overall returns that an investor can get from micro-finance, and the goal should be to keep these rates at a max that would be close to typical average market returns (S&P for example). This guarantees sustainability from the investor prospective, they are not "losing" money when investing in MFIs, but at the same time higher returns should be not acceptable because then other parts of the ecosystem are getting squeezed. What the investor gets for his money is that he will not loose, and then he is contributing to helping the poor by choosing to invest in the right places instead of going for the usual suspects (oil and guns on the stock market to be extreme).
This is where there is good co-existence between the 2 worlds within the larger global ecosystem, because the markets provide a good benchmark for what is reasonable. Then the decision from the investor prospective becomes a choice between getting high returns from companies whose impact on the world is not considered, or reasonable returns from companies who also do good somehow. An analogy here is what Peer-to-peer lending ( for example) is doing today, where people decide what level of return they want from one person/project or another. The good news from what I have read is that borrowers tend to get better rates there than from regular loans, because investors value good credit more than a bank would, and they are happy to keep their return "reasonable" if it can help these "good" borrowers.

- Once this is established, I see MFIs being a platform as 2 things (what the article promotes):
-- a blueprint, with processes and governance that can be applied to other under-served areas. This is what I think the examples in the article talking about Grameen Healthcare and Grameen Renewable Energy are about. This is horizontal growth, getting into other "markets" where similar recipes can be applied.
-- and then each individual MFIs is its own platform in the sense that it is a social network of people who work together and share a chart of ethics (the glue between these people) that guarantees the success of their effort. This social network as a platform can be expanded from the original mission to fulfill other needs of the people within the group. Call it vertical growth, expanding from providing loans to providing insurance for example. This is where the reinvestment of profits above the reasonable rate of return come into play.

Clearly a good way to grow from where we are with Microfinance to a better world overall. And very much in sync with the Entrepreneur Commons project I have launched recently :-)

Saturday, June 07, 2008

"Strategy and the Internet" revisited

In these times when economic trouble seems to be looming (did you hear about budget cuts and rising cost of gas?), and when the hype over the web20 revolution seem to have been another mini-bubble, it is interesting to go back to the basics. And a good place to look is this article "Strategy and the Internet" that Michael Porter wrote in the Harvard Business Review in March 2001. The lesson from the article is that we should not lose the focus on strategic development and competitive advantage. It was true then and it is true now. But in the light of what has happened since then, a few things should be added to the previous analysis.

Here are some exerts from the article:
The great paradox of the Internet is that its very benefits –making information widely available; reducing the difficulty of purchasing, marketing, and distribution; allowing buyers and sellers to find and transact business with one another more easily–also make it more difficult for companies to capture those benefits as profits. (...) The openness of the Internet,with its common standards and protocols and its ease of navigation, makes it difficult for a single company to capture the benefits of a network effect. (...) In general, however, new Internet technologies will continue to erode profitability by shifting power to customers.
(...) As all companies come to embrace Internet technology, moreover, the Internet itself will be neutralized as a source of advantage. (...) Established companies will be most successful when they deploy Internet technology to reconfigure traditional activities or when they find new combinations of Internet and traditional approaches. (...) Only by integrating the Internet into overall strategy will this powerful new technology become an equally powerful force for competitive advantage.

This remains true if you consider the Internet as a technology, which seem to be the "lens" Michael Porter used when writing his article. But I believe that we need to consider also that the Internet has become more than just a technology, it is now also about people, the famous social networks that appear everywhere and are today the next hot thing, the "ConsumActors" as Xavier Comtesse calls them.
When Michael Porter states that "new Internet technologies will continue to erode profitability by shifting power to customers", he was not taking into account (who could at the time?) the value that customers can add, the famous "user generated content" that can actually help boost profitability instead.

The good news is that in the end, we can all agree that the answer is that "only by integrating the Internet into overall strategy will this powerful new technology become an equally powerful force for competitive advantage".
And for this, Xavier Comtesse (see my previous posts about his work here and here) is offering us 2 very powerful tools:
  • A matrix to understand a market or how to deploy a product strategy that includes customers in the value chain
  • And now a Value Chain 2.0, to add on top of the "Prominent Applications of the Internet in the Value Chain" that Michael Porter show in his article

This latest document (Value Chain 2.0) is a great way to clarify how we should consider the management of the ecosystem, by including both internal and external resources into the equation, and by considering how the data+knowledge should shared as the main strategy driver: the company as the underlying platform supporting one large ecosystem rather than a fortress of employees interacting with customers and suppliers. If you had any doubt that there is no other choice than to do it, now is the time to take a look again. Thank you Xavier for clarifying all this for us...

Wednesday, June 04, 2008

The Entrepreneur Commons™

After looking at VCs, and after managing the European American Angel Club for 2 years now, I have come to the conclusion that entrepreneurs are not really being served properly when it comes to seed funding. And I would like therefore to propose the concept of an Entrepreneur Commons to help with the issue.

Here is the story:

I have seen are roughly 3 types of angels:

  • The super-angel, who has enough money to be a one-man show VC playing with his own money (and maybe money from a few friends). Either he is known by the VC community, and he is treated well by them because he can source good deals for the later-stage rounds, or he has enough money within his ecosystem that he can help entrepreneurs all the way through.
  • The social type, who has money and like toying with the idea that he could invest and may do so one day. He likes attending meetings and talking about it, but the reality is that he never really invests in anything.
  • And then you have everybody else in between these 2 types.

These last group of angels is facing a lot of issues with the model as it is today:

  • Angels their put money down and they have no clue when it will come back (if ever). Typical time before a cash event is 7 to 9 years if you believe angels who have done it for a while
  • When investing in early stage, they have no real data to figure out a valuation, so any equity deal is based on arbitrary valuations where somebody is getting a bad deal on one side (angel) or the other (entrepreneur)
  • If the business requires additional funding, Angels are being squeezed of the deals by VCs, who impose liquidation-preference clause
  • And finally because you are just an Angel after all and not a fund, you are limited in your resources and cannot really spread yourself into a number of deals that is statistically relevant.
So in the end, they are playing the lottery, and they know it. And because they are playing the lottery, they want the reward to be as big as possible if they win, so they tend to shoot for companies with a potential for return of at least 10x the investment.

From the entrepreneur side, this leaves out of the system a whole lot of very good startups with very promising businesses but not "hot" enough. This is even more critical these days when you see an emergence of "social entrepreneurs" who are interested in making money, but whose focus (and measure of success) is also to help the community one way or another. They are not really non-profit, so most of the time they do not qualify for grants, but they are not the 10x type either. Meanwhile they clearly deserve help.

The way I see out of this situation is the Entrepreneur Commons:
A not-for-profit social network of entrepreneurs providing financing for early stage company through debt guaranteed by a mutual guarantee fund. The financial risk is mitigated by the mutual guarantee fund. The risk on the "management" side is mitigated by the social network: loans are by invitation only, so you will have to be approved by your peers to get in. And the typical scalability issue faced by general partners in a VC fund (which causes the famous "funding gap") is also resolved by the social network: the size of loans and the number of entrepreneurs involved is no longer a problem, and if anything it helps stabilize the results of the group as a whole.

The project is starting to get some traction, and we have been getting a lot of positive feedback - the recent post from my friend Jessica is a good example of the reactions I get.
The goal is now to confirm the blueprint for this model, so that it can be replicated anywhere. We have started looking for funds so that we can make loans soon. Stay tuned...