Unit Economics
blog.samaltman.com
blog.samaltman.com
Disinflation & deflation, capital flows and political friction preventing effective (any?) fiscal policy have produced an environment where private capital set on a given rate of return on investment is chasing increasingly risky organizations [1][2].
Large firms have been sitting on enormous sums of cash; e.g., why is it that the most capitalized company on earth isn't investing aggressively. In lieu of investment, many of these firms have been focused on engineering stock buybacks.
So, the thesis: why are so many firms pouring money into startups with increasingly questionable fundamentals? Because hands previously gripping bundles of capital have (nominally) more capital than they did with decreasing options for productive investment and downward pressure on returns.
1. http://www.economist.com/blogs/freeexchange/2015/04/puzzles
2. http://krugman.blogs.nytimes.com/?s=low+inflation+return+inv...
P.S. I recognize that I'm probably a bit left field for this group as I'm not a libertarian, I support strong regulation and I question the marginal value of lots of Valley products.
Instead, big companies sit on their profits (like you say), while startups compete for the attention of a small group of investors who behave for all the world like the central planners of old, deciding how to allocate money based on their own tastes, interests, and gut feelings, rather than anything resembling a market test.
Goes off to have red flag dry-cleaned
I think this is a pretty clear failure of corporatism...
Except, these days, nobody needs to continue buying capital or purchasing labor with their revenue. You can sit back on your unlimited money makers, receive hundreds of billions of dollars in profit, then just hoard it. In a knowledge/skills economy, you can't grow by throwing money at people (since only a chosen few hundred or few thousand are driving things forward anyway). In fact, once you're at virtual peak productivity, investing more would only make things worse due to increased internal coordination costs (meetings! knowledge sharing!) and internal politicking (no—I want to run the new project and I'll turn everybody else against you until it happens!).
If you don't have a use for $100 billion dollars today, why would you turn around and invest it to get $500 billion dollars you also have no use for?
The way the original tax code was written was to give either individuals or the small businesses they work for a break -- up to a certain point [source: https://books.google.com/books?id=ogUNAAAAYAAJ&printsec=fron...]. But to necessarily kick in at some critical point where 1 + 1 = 1. This is a theoretical stage where potential for exploitation deserves a slight downward pressure (partnerships operating as a single business unit, corporations of 1+ people subjected to a single tax bill). Tax higher incomes at higher rates ... makes sense: Try and keep disproportionate wealth all to yourself, pay more in taxes (forced payments to social welfare). Generously reward your workers, and hey -- it's theoretically possible to pay everybody decently, reward external shareholders, and to minimize tax paid to the social welfare system.
But the problem is REITs, especially private ones. And especially when VCs are the landlords; they're making money even when "they're not" making money.
Which is the core of the issue that rgarrett88 got: lobbying - yes. The NAR, especially. But that's another tangent entirely.
The capital might be invested in fairly generic, low-return assets but it's still invested and doing work somehwere. It doesn't mean it's a failure of capitalism. Capital allocation doesn't need to agree with your (or anyone in particular's) preferences at every point in time, for capitalism to work.
What you can say is that capitalism has failed to mollify those that seek non-capitalistic goals. This is true of some so-called capitalists who experience guilt in pursuing their self-interest as well. If your view is that capitalists are "greedy, top-hat-wearing" types that fail to meet your social welfare goals, then my bet is your characterization masks a larger purpose. Primarily at bringing them down, probably in favor of the central planners of old (or some degree thereof).
Perhaps the real question should be: why would companies and individuals with captial choose to sit on it, or choose to spend it on relatively worthless start-ups? Why would a capitalist choose to sit on cash or buy-back shares if there are other, more profitable avenues to invest those funds? I think if you take a critical look at it you might find that there's still a fair amount of central planning behind what we'd like to think is a capitalist economy.
Of course, Adam Smith's opinion of corporations was "The directors of such [joint-stock] companies, however, being the managers rather of other people’s money than of their own, it cannot well be expected, that they should watch over it with the same anxious vigilance with which the partners in a private copartnery frequently watch over their own," and he thought they'd all die out unless they were propped up like the East India Company, so it's not like the Wealth of Nations is much of a guide to what we call capitalism nowadays. But still.
If you consider first and foremost your own happiness and life as a moral value worthy of pursuit, you loose the hang-ups that Adam Smith had with capitalism. There's a whole separate discussion that goes down that path about what constitutes self-interest in the large (and no, defrauding innocents is not your best interests); but that's a bit out of scope to what the original poster stated.
Greed's been good since the eighties, didn't you get the memo? =(
Not intrinsically, no, but it is justified by it in the face of alternatives. When you present people with an economic system that does have a social-utilitarian purpose, those people will select capitalism over it on the basis that capitalism is better at fulfilling that purpose.
And most of the time, the argument is "capitalism self-optimizes for that purpose." Except that it self-optimizes in ways that result in central planning, monopolies, and deception. Capitalism is not convergent on social goals, it is divergent, and we have to keep pushing and prodding, regulating and deregulating in order to get anywhere near our goals.
Capitalism fails every day. And we just roll up our sleeves and get to work fixing it because there is no other option.
One wouldn't ague that a hole in the boat is a good thing because it keeps the crew fit trying to bail the water out. Especially when there's a whole world of other skills we'd rather have a crew be proficient at.
No one has ever offered people that choice, as far as I know, certainly not in a way that wouldn't in many cases be confounded by rational or irrational attachment to the present mode of social organization. (And in fact plenty of people seem to like social democracies just fine. And, for that matter, plenty of people seem to want socialist or communist modes of social organization.)
Plenty of people seem to want more socialism for the country they live in, but given the choice many move to countries that have less socialism. (Ie richer countries.)
Capitalism does not converge on monopoly, central planning, or deception any more than any other system, and in fact it does so a lot less. Again the assertion that capitalism is broken is just false; that it doesn't meet your non-capitalist goals is correct. My cable company has monopoly-like powers not because it's run by evil capitalists, but because there's a government agency that gives them a monopoly in my area. That's not capitalism. Microsoft, "a monopoly", wasn't defeated by the government regulators, ultimately, but by better alternatives appearing on the market and their own self-inflicted irrelevance. Same arguably with IBM. That was capitalism dealing with outmoded incumbents. I see a lot of crying in these threads about how VCs or corporations seem like central planners, yet the answer being proposed seems to be engage real central planners with the legal use of force in their tool box. Indeed, the only part that I seem people really dislike about capitalism is that it's voluntary engagement... when they'd really rather force someone to act against their best interests.
You could just as well try to argue that every word out of your mouth doesn't require justification simply because you accept it all as true without it. Well good for you.
>Again the assertion that capitalism is broken is just false; that it doesn't meet your non-capitalist goals is correct
...? Just what the hell do you think I mean by 'broken' if not failing to achieve our collective goals?
Just because it does what it is described to do doesn't mean it's doing what it's supposed to.
That's pejorative and uncalled for. There's nothing in that post that indicates those choices are either poor or short sighted, just that they are motivated by the exercise of free will. What alternative criteria would you impose on the poster's decisions?
>You could just as well try to argue that every word out of your mouth doesn't require justification simply because you accept it all as true without it. Well good for you.
I'm deeply concerned about your blatant disregard for the freedom of expression of others. Who should the poster be _required_ to justify their words to? You?
Capitalism is only one characteristic of our modern global economy out of many. Typically developed western countries have capitalist corporate structures, regulated markets, centrally planned social welfare systems and the occasional monopoly. Capitalism is justifiable on two premises.
The first is the exercise of freedoms. The freedom to own your own property and invest your own earnings and property as you see fit is a basic right that is widely recognized in the western world. It's hard to see how restricting or curtailing that right can be morally justified. The second premise is that capitalism is overall an efficient way to allocate resources because it engages the creativity and energy of the maximum possible number of people rather than restricting it to a politically selected few. And yes, Capitalism does engage a vast swathe of the population. The local shop owner down the road I buy my milk from is just as much a capitalist as any banker. That doesn't mean capitalism allocates resources perfectly, just that it's more efficient than the other methods that have been tried. As Winston Churchill said of Democracy - it's the worst system, except for all the others.
Of course there are differences between a milkman and a banker, but fundamentally capitalism is about freedom and individual rights and striking an equitable balance between those and the common good.
My father in law is Chinese. He remembers when his family were cast out on to the street and lost everything, because they owned a few plots of land that they rented out to neighbors in their rural village and were therefore capitalists. So when you start talking about capitalism, let's be clear. We're talking about the basic right to own personal property, and those arguing against capitalism are arguing for taking that away. They've done it before and given the chance will do it again. It's not theory, it's my family history, but is something that is directly relevant to every single one of us.
I also have to disagree with you on the premise that capitalism is about balance and protecting small property owners. In fact unchecked capitalism leads to just the opposite (think of how many small bookstores can withstand the competition with Amazon). The system becomes workable only in the presence of some essentially anti-capitalistic countermeasures.
Have a look at the first paragraph of the Wikipedia definition of capitalism (or all of it, it's very good). That definition applies to the owner of a bookstore that buys books and sells them to the public as much it does any shareholder or director of a public company such as Amazon. That's what capitalism is. If you are using it to mean something else - some other different more narrow or specific kind of business activity that your disapprove of - please state it or come up with your own new word for it and what you offer as an alternative.
If you have no problem with the private bookstore owners owning their own businesses, for example, but want to restrict some other types of activity involving earning money from the employment of capital, then what you are advocating is extending the (existing) regulation of capitalism. Not getting rid of capitalism or substituting something else which you have yet to mention. In which case, please feel free to be more specific.
Yes, I think that's the point. Generally, when you evaluate a means of organizing production for a society, you evaluate it on how society will benefit.
> Hutt goes for the heart of Keynes’s prescription for recovery, which was to get idle resources moving, whether that is money, capital, or labor. If something isn’t being employed right now, it is being wasted.
> Hutt responded at length that there is nothing uneconomic or necessarily inefficient about an idle resource. It is the decision of the owner to hold back when faced with a long-term plan, a judgment call concerning risk, a high reservation wage, or a demand for larger cash balances.
Ie they have essentially been paying dividends. Working as intended.
If you read what I wrote carefully, you should notice something that I didn't say:
AAPL has a bunch of cash and is using it to fund its stock buyback program. Thus, capitalism has failed.
My response to this question was to observe macro-level phenomena and speculate that the _emergence_ of this dynamic was due to a broad-based failure in matching capital with desired investment risk and return. I mentioned Apple to demonstrate what a capital hoarder has done (which is to reinvest in its own equity) in relief against private equity firms. In a global environment where demand for safe assets exceeds supply, less risk-averse firms are chasing further risk to maintain their desired level of return.
None of these points, I thought, required a race to defend attacks against capitalism; however, in the interest of demonstrating my sincerity, I'll share a couple of my own positions I believe are loosely-relevant to the broader discussion:
* Capitalism maximizes human capital: no
* Efficient markets hypothesis: wrong-headed, at best
* Moralizing capital: one of the most socially and politically toxic behaviors
In any case, I now regret side-tracking myself and I don't find it particularly relevant to be debating the merits of capitalism in this context.
> Capitalism maximizes human capital: no
Actually, it economises on that kind of capital, too.
The cash is collecting dust abroad, and large tech companies are waiting for a tax holiday, for which there is precedent [0].
There are a number of fascinating reasons why companies may hold cash (e.g., it's been suggested that companies with CEOs that grew up during the Great Depression hold (held) more cash than those that didn't). [1]
That said, it does appear that taxes seem to be one of the more significant (if not the most significant) reason in our current economic climate.
[0] https://en.wikipedia.org/wiki/Repatriation_tax_holiday [1] http://www.rhsmith.umd.edu/files/Documents/Departments/Finan...
I'll claim no authority to speak on corporate tax policy (at least from the perspective of firms); on the face of it, I can imagine that it might be reasonable to suggest that tax policy is the major contributor to the dynamics of firm investment behavior.
I wasn't, however, really sincerely questioning why, e.g., AAPL is accumulating cash or necessarily correlating that fact with domestic investments. It was sloppy writing on my part, but my intent was only to give an obvious example of capital accumulation.
Surely, cash is not the only means of firms funding investments. Firm investment behavior will be guided by a variety of factors; my thought was to point to macroeconomic factors like insufficient aggregate demand, capital flight from EM and persistent deflationary pressure to provide simpler explanation to the conclusions of the OP.
"But why does the cash keep piling up? Why doesn't Apple spend it?
One issue is that Apple is holding most of that cash overseas to avoid paying the steep 35% U.S. corporate tax. As of Q3, almost 90% ($181 billion) remains offshore."
There is great video and article about it on Bloomberg[2]. A lot of companies are on the same boat not just Apple.
[1]http://moneymorning.com/2015/07/27/how-much-cash-does-apple-...
[2]http://www.bloomberg.com/news/articles/2015-07-22/tim-cook-s...
Given this post, I think it makes sense that YC is pivoting to include more hardware startups in its portfolio. Software is so saturated that people are starting to regard the majority of it as free. The people who do pay for services like Twitter & Facebook are the advertisers and business owners who have probably observed questionable ROI on average for the past few years.
I don't expect a bottle of coke to be free, and I don't expect a condom [1] to be free. So the "unit economics" make more sense in hardware (tangible/consumable product) land. Network effects are still important, but shipping a product and collecting revenue from each sale even if you still have negative margins lengthens your ability to stay in business, giving you valuable time during which you might hit critical user mass or achieve economies of scale.
[1] http://techcrunch.com/2015/08/09/y-combinators-l-condoms-pro...
Is selling something at a unit loss better than shipping something for free? Maybe, but in the case of software the marginal cost per unit is near zero, so scale can be achieved without huge amounts of capital. Hardware doesn't quite enjoy quite the same leverage.
I agree that it's easier to scale software, but I'd be interested to hear whether or not you think software is a saturated space that has engendered a sense of entitlement in many would-be customers. If you can't convert/monetize your userbase, nothing else really matters.
And while I would personally avoid the model, it has spawned/supported many of the greatest tech companies over the last decade.
This doesn't match my experience at all. To me it seemed that throughout the 00s both consumers and small businesses were unwilling to pay anything for the cloud software, but tide has definitely turned. Now, all smart small companies I know don't blink an eye to spend hundreds of dollars per month for various cloud subscriptions and consumers are starting to pay for software both on mobile devices and cloud SaaS.
You are totally right that they are currently much more reticent to pay for software than businesses but based on my anecdotal observations, I think that the trend line is growing and accelerating. I also think that for consumer businesses, you have to be a bit more creative with your monetization models. Cost/benefit calculation of subscription model is an easy task for small businesses, but consumer spending has always been much more erratic in the physical world also, thus subscription models are not necessarily the best fit for consumer space.
We tend to dismiss these because they aren't bigshot modern startups.
Consumers don't buy alot of services, since frankly most have good free alternatives, but they buy software that sits on their hardware and they buy content.
Demonstrating ROI on Twitter/Facebook advertising is one of the hardest things to do for clients that don't sell their products online (e.g. breakfast cereals). It leads to backwards behaviour: because you can't prove that advertising lifted sales, you start thinking, "What promotions result in trackable performance metrics?" and do them because they're trackable, not because they're good ideas.
My company, Thumbtack, got a lot of this right early on. Years ago we doubled down on getting the unit economics right. So right that we were (IIRC) profitable for a month or two before taking a big VC round. Not sure how many other companies can say that. But at the end of the day, if the bubble is a bubble and it pops, knowing that we would survive and be able to make a profit is hugely satisfying.
My advice to any young startup is figure out how to make money early on. It's the rare Google/Facebook that can blow up and use the platform to sell ads. Most startups will not do this, but many can still make good money doing important things that people will pay for.
[1] http://qz.com/356620/mark-cuban-is-absolutely-convinced-we-a...
I know, for example, that Sidecar pays drivers up to $20 for a single delivery and just can't see how this is viable outside of rare exceptions. At least Instacart prices the item being delivered (and I suspect never gives you the yellow ticket price which pretty much every Safeway item gets nowadays).
Once drones or autonomous cars become widespread, this business becomes a commodity and anyone without a legacy business they have to migrate will be at an advantage. So I have no idea why these companies are getting funded other than it's a problem that's simple enough for a really smart university student to tackle.
This is the direct byproduct of strong network effects on both the supply/demand side, paired with operational excellence on their part.
Self driving cars would bring the marginal cost down even further, but they have built a stunningly good business with or without a quantum leap in automation.
The same probably isn't true for many other Uber-for-X companies, particularly those with underwater unit economics.
Uber is profitable in many of its mature markets. This is
while charging less than half what you would pay a legacy
taxi service, while paying drivers more than they would
make at the same.
Uber briefly entered the market using licensed limousine drivers. They were pushed out because we have a crazy rule that limousine rides can't cost less than $80-90 - the only reason for that rule is so that limousines don't compete with taxis.
It's insane.
These companies rent the medallion for 12 hour blocks to drivers and would charge them between $175-250 per block. Before Uber there were many more drivers than medallions and drivers would bid the price of renting the medallion for 12 hours up!
Drivers who worked full time and took a few weeks off would spend around $40,000.00/year on renting the medallion. A cab that was rented for 24 hours/day all year would easily generate $90,000.00/year for the owner of the medallion.
With Uber the companies that own the medallions (and more so those that took massive loans to acquire them) are the ones hurting. The drivers are just fine, if not better. And even taxi drivers I've spoken with like Uber because medallion owners are desperate for drivers now and are charging $100-$150/12 hours. They just want to get the cars out of the garage.
Uber drivers expenses that are different from cab drivers include a car mainly. Something that costs far less than the money they gave medallion owners and something they can write off big parts of on their taxes. And they can use it on their free time.
Wouldn't renting a medallion be 100% deductible?
License cost is 154 GBP (200 bucks) annually in London. Not a million. I maybe misunderstanding a lot of the cost issues in taxi services but it seems the medallion cost is a huge racket - but that's hardly a global issue?
Becoming a Black Cab driver is much harder than renting a medallion, though. You have to pass "The Knowledge" which is considered at least as hard as passing a university degree. You have to have an encyclopaedic knowledge of London roads, and generally spend at least a couple of years (often longer) driving around those roads on a scooter so you can demonstrate that knowledge in a series of tests.
I'm not sure if the problem is similar in other major cities, but I expect there is some form of cartel in force in most of the major cities.
However, even if there isn't, there is still a real advantage to profitability from something like uber: if there are enough customers using a passenger exchange, then the likelihood of having passengers near to you is significantly higher. So less of your time is spent in unbillable transit to your next customer. In London there are hundreds of taxi firms; each of them gets some share of the passengers calling them up, so they have to take what they can get. With a central exchange, they get the passengers most suitably located for them from all possible passengers.
The taxi-industry is overregulated and corrupt, so Uber created a "car service" that works exactly like a taxicab.
But routine same-day delivery even in relatively dense urban areas is still pretty clearly a premium service (and pretty much unavailable if you go 15 miles out of the urban core). Grocery delivery for $10 isn't that interesting to most people if they're in a position to hop in a car or walk 5 blocks. And single items like something from the hardware store don't work at all.
I'm sure the basic answer is very low labor costs. There are lots of personal services available in countries with low labor costs that aren't nearly as affordable in the US.
1. Do I need it right this minute ( example pizza)
2. Is it purchased in advance or planned? Like weekly groceries
3. Are you just doing delivery, and that is your only revenue?
4. Will your earn a commission, transaction fee or add a markup? (i.e Instacart)
4. Are you going to follow an uber type model or integrated by hiring staff?
5. Can you group customers orders together and do delivery runs using optimization algorithms (tsp, vrp). Lowering your cost?
Here is an example (Using ZAR values / 10 for approx USD values):
Say you start a diaper delivery business. On average a parents will need it once a month. To make it simple we will assume 1 customer initially, and then scale up to 10. We will compare 2 scenerios.
Here is the example in Google Docs:
https://docs.google.com/spreadsheets/d/1fpdh9BPWJMqWXV-wWRl2...
Cost of diaper pack: $30
Avg cost of delivery per KM: $ 0.40
Distance to Deliver: 20 KM
Time to deliver & return to Hub: 1 Hour
Cost Per Hour for Driver (South Africa): $5
Delivery Fee: $3
Retail of Diaper with Margin: $35
Total Cost: 30 + (20 * 0.4) + ( 1 * 5) = 43
Total Revenue: 30 + 3 = 33
Loss: $10
For simplicity: Driver will drive to furthest point, and each point is 1KM away in direction of the hub.
No change in distance driven. 1 Additional hour as more stops.
Total Cost: (30 * 10) + (0.4 * 20) + (5 * 2) = 318
Total Revenue: (30 * 10) + (0.4 * 20) + (10 *3) = 330
GP: $ 12
GP %: 3.64
Total Cost: 30 + (20 * 0.4) + ( 1 * 5) = 43
Total Revenue: 35 + 3 = 38
Loss: $5
For simplicity: Driver will drive to furthest point, and each point is 1KM away in direction of the hub.
No change in distance driven. 1 Additional hour as more stops.
Total Cost: (30 * 10) + (0.4 * 20) + (5 * 2) = 318
Total Revenue: (35 * 10) + (0.4 * 20) + (10 *3) = 380
GP: $ 62
GP %: 16.32 %
Other services I found so good that I recommend to all of my friends but do not pay for because my data needs are very small are dropbox and evernote. I bet some of my friends wonder why I wouldn't spend such a small amount of cash for their usefulness.
Getting people to pay for digital services is hard.
I see two reasons for this:
1) Free is huge. Most people are willing to put up with a lot of bullshit for free.
2) Netflix. We pay $7.99/mo for essentially infinite TV on multiple devices, but $9.99 only gets me audio on one device at a time. It seems like a worse deal, so why would I pay?
Re: Netflix/Spotify price differences. The relative size of the libraries (vs all content in the domain) is something to keep in mind. Netflix gives users access to some videos, but Spotify gives users access to almost all songs [1].
[1] Can't find precise estimates for sizes of libraries, so apologies for the argument from anecdotal evidence.
Netflix video streaming is close to worthless for movies. But combined with DVDs it's pretty good.
So, to me, Spotify is really more like a convenient desktop client to the local radio station. And, just like I don't mind the ads from the local station, I don't mind the ads from Spotify. I'm certainly not paying them more than I pay Netflix per month.
This combined with a lack of historical perspective is dangerous. Nearly _every_ smartphone app you see had a voice/phone counterpart a few years ago (remember 777-FILM or #TAXI?), most of them are long dead, and were killed off by the same market forces that will release their latest mimics from their mortal coil.
Startups can get $100k in seed money by yelling on the street in soma.
Startups can get $100 million by tickling andreessen in the right spot and chanting forbidden words from the before time.
Nobody can seem to get $5 million to bridge the gap between living-in-coder-poverty and being able to hire a real team for more than two months.
1) A business with good fundamentals doesn't need a VC.
If I've got cash flow, I can probably get a loan with a bank on much better terms than any VC will give me.
If I don't have cash flow, well, okay, I need a VC. But then, tautologically, my business doesn't have good fundamentals.
2) VC's only care about unicorns.
Since VC's make up their whole portfolio based around the 100X+ returns on a single company wiping out the losses from the rest, fundamentals are irrelevant. Being in the hot buzz which enables you to flip to somebody else for 100X is far more valuable.
A business with good fundamentals sells for about 10X which is nowhere close enough to offset the rest of the losers.
At least that's what I see. Not that we shouldn't chase the expensive ones, but I don't know that VC is the right framework for that.
Anyway it's not a bad idea; just not one I feel is especially well suited to the VC investment model.
That's behind the common SV wisdom of "catch a wave", "ride a trend that's larger than yourself", "find markets, don't try to create them", etc.
The pitfall is that it requires some degree of future-prediction, and predicting the future is left as an exercise to the entrepreneur. The guy who built the first programming language for the Altair is the richest man in the world; the guy who built the first programming language for the Alto [1] has largely been forgotten by history.
On the other hand: the suckers at this table are pension funds and other LPs that are terrible at picking managers. A few good years of returns and money will flood from underfunded pension plans into VC .... just in time for a nice healthy correction. If I was relying on a pension to retire in the next decade or two, then I'd be worried.
In many cases it's also destroy existing models, so when they collapse, there will be no new business, and no old business, either.
I've heard that a lot, but I wonder if it's as harmless as people say? If/when this bubble pops, won't that have a pretty tough spiral effect? Granted it might not be as deep as the late-90's bubble, but I'd have to think that this will be pretty grim when it happens too.
Along with sky-high valuations come sky-high salaries, which breed high rent & purchase prices for homes. Along with that comes high tax revenue and such.
If suddenly a young engineer's expected income drops from $150-$200k/year to $60k, that could be pretty rough. Granted it probably will affect the coasts a lot harder than the central US, but I'd think it'd have national effects regardless. Salaries drop, suddenly people can't afford their houses, so they either have to sell at a loss or try to hold on to it. What if a sizable chunk of the population is no longer able to afford college loans?
You also mentioned the pension problem; if tax revenue starts to dry up because housing prices goes down, that could exacerbate a problem that's already popping up around the US.
The question in my mind is...how much of the housing crisis, rents, and raw population are coming from people employed by startups that are most at risk of this?
Google, FB, Apple, Adobe, etc. have strong revenue (perhaps other issues, but there is no argument that there is money to be made and that they are making it). They also employ massive numbers of people. If a so-called funding bubble bursts, is it really going to make a dent in the other areas like you suggest? Or is the bulk of the "tech industry" comprised of the larger tech companies?
If it is the larger tech companies, and a bubble bursts, it might provide less flexibility for leaving to start your own thing, and there may be overall less competition, but they still compete against each other for top talent, and need way more resources than a startup does.
Rapid Startup Knowledge only involves things like LTV, CPM, MAU, DAU, DAU/MAU, and (monthly employee cost / corporate bank balance).
After all, the entire YC thesis is: take technical, non-business people and convince VCs they can run companies. It's okay if the actual business knowledge is just smoke and mirrors for a few years until you hire someone to understand it for you or you study enough on your own to be less of a "business outsider/imposter."
I think we can all agree on that.
Now that we're using VC to finance resource-intensive SaaS companies (e.g. analytics) and even cleaning/home care/service companies, there's a need for collectively higher financial sophistication.
Revenue growth is a good proxy when you're selling zero-marginal cost products; not so when you're selling 95 cents of cost for $1.
Similarly, I have no understanding of all the money that flows into the space (from the outside). The margins are low (to non-existent) and the space is brutally punishing. Screw up a persons laundry, food order, or plain just take too long and you have to give away a year's worth of margins to keep the customer. Delivery as a service is a commodity - who cares who delivers your food or does your laundry? At the same time, the cost of switching between providers is as close to zero as it gets (they are doing home delivery after all!). In the parallel universe that is SF, VCs subsidized (thanks!) the industry to the tune of making it comparable (or actually cheaper) in price for me to pay someone to pick up my laundry, wash and fold it, and return it, to doing it myself at a coin operated laundromat. Whenever the service I used raised prices to stop hemorrhaging money, I simply switched to their latest VC funded competitor.
If you're making tiny margins on every $1 of revenue then you'll still be a billion dollar profit business quite quickly if you grow that revenue by 100% every week. $100 sales and $1 profit this week? No problem, wait awhile and soon it's $1 billion profit off of $100 billion revenue.
Whether this model is realistic is obviously very much up for debate. Just because you grow 100% for the last 50 weeks says nothing about what will happen on week 51 when the easy source of growth is gone but your burn rate has to increase further to keep afloat... Of course, with scale you might be now making $2 off every $100 and your profit is now growing enough anyway?
Either way, using any single number as a proxy (or even complex finance without understanding the operating market) is never going to give you a perfect picture of anything.
Or the more sinister metric, do you have growth? PG wrote that startup=growth, and that growth is the all-encompasing metric. Might this incentivize some prestige-seeking 'entrepreneurs' to do things that don't scale like pumping money into convincing users to join their website, or making fake accounts?
Not that growth and a founder's unsustainable touch early on aren't excellent things for which to strive. But in any system in which there is prestige to be gained, there will be those who will match patterns and fool the heuristics of the gatekeepers.
> where you make more than you spend on each user, and it gets better not worse as you get bigger, you may not look like some of hottest companies of today, but you’ll look a lot like Google and Facebook.
Wouldn't Facebook be an example of a company with bad unit economics?
Like any hydro-generation plant, you want to capture a monopoly from this recurring source of income so you can dictate premium prices from your customers.
Indeed, the reason why Google & Facebook are profitable is because they're a very effective way of cutting CAC for other businesses. Their revenue is another businesses's marketing spending, and yet they're still better than the alternatives for driving customer conversions.
Revenue is certainly increasing rapidly in recent years: http://www.iab.net/about_the_iab/recent_press_releases/press.... Maybe there is no ceiling in sight.
The first 3 are essentially the same thing and the 4th is related.
The problem I see with seeing these companies as an example is that most people think around the ideas that they feel good about. It is disappointing that so many people are just driving towards building another photo sharing app or a low margin business.
As more and more people realise that "free" means "costs are hidden" more and more people will start paying small fees for what once was free. It will never be a high percentage, but high enough
I'm curious as to why you consider Baremetrics a success and by what measures? No offense to the guys at Baremetrics (they're product is well executed and I reference their SaaS metrics constantly), but their financial performance is not great [0] given their funding raise and valuation [1]. They're losing more customers than they gain, they're presumably cashflow negative (for a team of 6 engineers at competitive salaries, you're looking at $750k/year cost) and their ARPU/LTV numbers are really low (in relation to their low number of customers). Right now they're getting 10x on revenues, which is crazy high.
[0] - https://demo.baremetrics.com/?start_date=2013-11-13&end_date...
Mobile gaming, for example, has bad Unit Economics. Games like Candy Crush Saga and Game of War spend absurd amounts of money in acquisition.
...which is Facebook and Twitter's primary revenue stream.
There is a possibility of a domino effect.
I think this is wrong. These games have strong invite-friend mechanisms and have high retention. That's why they are popular in the first place. No source at hand though.
Whales only play one game at a time.
"A service launching this week will tell you that Machine Zone is currently spending somewhere around $12 per user with AdColony, InMobi, and Unity Ads, up to $20 per user with Vungle, and between $2 and $30 per user with Chartboost."
http://venturebeat.com/2015/08/12/this-service-tells-you-wha...
GoW has very low retention. Users who stick around in GoW are the kind of people who like to spend a lot of money to feel empowered. But, finding and keeping those people is very expensive because it involves churning through a whole lot of users who aren't like that.
Yes, because they know on average every person that starts using the app makes them $1.50. So they spend a lot of money acquiring users at $1 each. That's not a failure of unit economics.
But cost to obtain the average user is $3, nearly double from what it was last year. http://venturebeat.com/2015/04/30/it-costs-more-than-3-to-ac...
I strongly doubt the average user spends $3, given that the current freemium environment is hedging by offering freemium perks for free periodically to get user retention. Which makes them less likely to actually spend money.
That's from an arbitrary index. You can hardly conclude the cost of install for a specific app from those numbers.
[0] http://bgr.com/2014/02/18/how-much-money-does-candy-crush-ma...
[1] http://www.gamespot.com/articles/93-million-people-play-cand...
In that case, the numbers make more sense.
I don't think the original essay means "hey, your gross unit margin is only 10%, but your market size is 500,000 units at $5 per month." I think it means, "Hey, your gross unit margin is -20% and with a lot of luck you might increase it to -5%."
Previous companies made a loss, but in the end started to make a stonking profit (google, airbnb)
However they seem to be the exception not the rule. Currently in london there is an explosion of highly integrated iphone ebay apps. Quite why they (the investors) think its a great idea to fund so many clones is beyond me.
But then the economics of startups are odd. like broadcasting seeds, you expect infant mortality. However this acceptance of utter failure has creeped up from the seed funding stages into series a,b,c and even d (twitter still cant make money.)
Its fine if you manage to sell your shares onto the next sucker. But the problem is that each round bring a bigger price of failure.
Otherwise, your competition will out-market and out-sell you every month simply by spending more money.
Isn't that essentially playing the market? You might be waiting until the bubble bursts - which puts you in the same position as everyone else trying to short this bubble thats supposed to pop any day now.
And even if you are profitable now, the effects of a bubble doesn't mean you will be profitable afterwards.
If you're playing anyone, it's your competitors. Understanding your competitors is much easier than understanding the market. Actually running a business in the space makes you much more familiar with the unit economics of it. If the market fails, that is, if people decide they no longer wants the service you're both offering, then you're both hosed.
If you feel there's a bubble, that is, if you feel that demand for a product / service is going to eventually collapse, then the rational response is to get out of that market, assuming your position is liquid enough to do that, and invest in asset classes that will do well if and when the market collapses. You don't start taking short positions unless you have specific reason to believe a specific company isn't looking good. Otherwise volatility could cause you to lose a lot of money in a very short period of time. Also, you can't short a whole market, you can only bet against it.
Here are two scenarios:
1. I sell product A at a loss, intending to attract customers who will then buy product B at much higher margin, making me a large profit - legal.
2. I sell A at a loss to attract company X's customers and drive them out of business, then raise the price of A once they go bust - illegal and predatory pricing.
To me that sounds pretty much like predatory pricing (and anti-competitive behavior in general).
Just ignore the herd and look for overlooked industries which don't have bad economics. That's what you have to do to survive as a startup founder anyway.
It's pretty analogous to the family next door who goes and buys a yacht on credit cards even though their income can't support the payments. Yes, it's annoying to watch people have nice things they didn't earn, and yes, they do marginally prop up the price of yachts. However, were you really planning on buying a yacht anyway? They will get their come-uppance when the bills come due, and it's not worth worrying too much about what other people are doing in the meantime.
In this case, your product may not be valuable without a lot of users, customers or cars .. You need to spend to get to critical mass, but I'm sure it's important to articulate a plan on why your business becomes profitable from that point onwards.
Too often, there isn't a tipping point or that tipping point is very hard to reach and companies never become profitable
CM is extremely hard to calculate because "fixed" costs - in practice - do scale with the number of customers. But on the other hand, if you have a positive CM, it may make sense to invest heavily in capacity, leading to negative NM.
Actually, Zynga itself is another one (though it's a public company). I don't see any evidence Zynga will ever be a profitable company, and it has no valuable assets, so I think it's fair value is pretty close to $0.