Models that Puzzle Me

This is one of of some business models that just don’t make sense to me.

Models that Puzzle Me

If you came here expecting some scoop on Gisele Bundchen or Miranda Kerr, I suggest you hit the ‘Back’ button. This one’s more about the ‘less figure, more strategy’ business models. I’ll work on a post on real models sometime soon though, I promise.

A few years ago, on a random day at office, I received a call about an investment opportunity. At the time, I used to take an average 2.5 inquiry calls per day, speaking to a wide assortment of people. From second and third generation businessmen to entrepreneurs working on their second or third successful venture. And even some final year students who had budding dreams about what could as well be the next big thing. And every once in a way, I’d get a venture who’s business model was confusing. Here’s one of a few business models that puzzle me.

Anyway, so this call, Mr. Promoter of a company that was into the job portal business that was based on referrals. Simply put, the usual job portals work on the model that companies that hire from a particular site would have to pay them certain fees which would give them access to a filtered set of numerous candidates, and perhaps if some of them were hired, the portal would get another x amount of money per candidate hired.

Now that model, as we know, perhaps works just about fine, as demonstrated by the popularity of naukri.com, monster.com, timesjobs.com, and several thousand others.

This particular business model Mr. Promoter told me about, seemed to be based on a reward system. How it works, is as follows. You are  a good friend of mine. I know you’re looking for a job, so I get in touch with this company, and give them your cell number or perhaps your mail id. They get in touch with you, tell you that they’ll help you with getting a job. They ask you for your resume, and for the particulars of the kind of job you’re looking for, etc.

Now suppose they find a suitable opening for you. They put you across to the company, and in case you’re hired, obviously this firm would get their fee for helping them find a suitable candidate. Of that fee they receive, I would get a small percentage for the lead. Thus incentivizing me to refer more friends of mine for more requirements.

I tried discussing with Mr. Promoter, almost to the point of arguing. I just couldn’t see the future of such a business, and I wanted to make sure he saw my perspective. It appeared simple to me. I could of course, be totally wrong. I mean, that’s what the VC business, just like anything else, is about. It’s about perspective. I could have my views, Mr. Promoter would have his. The market and success or failure of the company would prove one of us wrong.

Anyway, so my points of argument were, that the higher the post, the higher the pay the firm, and in turn the person referring someone would receive. But, in the real world, you don’t really find a VP or CEO of a company referring someone to a firm. Right? I mean, who would have the time or the inclination for something like this. And at that level, one would have bigger things to worry about that trying to find people in order to make some quick bucks by way of referral.

So that leaves us with entry-level all the way to perhaps lower or mid-management candidates. Now most of them would anyway be registered on all the top job sites, where many if not most companies, would be tapping into, as one of their many sources for finding candidates. So that being the case, we can’t really expect a group of students from a college to refer each other to this firm in the hope of supplementing their pocket-money, eh?

So, anyway, I turned down Mr. Promoter’s investment proposal and even called him later to try to reason out that somehow, the business model didn’t seem to hold. He however, seemed convinced.

So much for one of the business models that puzzled me. The promoter and I have not been in touch since. And while I do hope he’s doing well, I am curious to know how his business worked out for him.

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Herd Capital

Everyone’s aware of the herd mentality. Be it iPods, bigger and bigger cars, or even a Twitter account.
I’ve noticed similar mentalities in the VC industry. Why do we seek the safety of the herd?
Here are a few examples of it, and also the effects of the same on industries.

Herd Capital

Everyone’s aware of the herd mentality. Be it iPods, bigger and bigger cars or houses. Or even a Twitter account (which doesn’t really make sense if you’re not actually gonna use it). Hell, even I got a Twitter account that I don’t use.

And many a times, it takes a while before a smart management guru finds the method behind some of the madness.

I’ve come across a few similar instances of herd mentality in the Venture Capital industry too in the past few years.

Before I mention them, I’d just like to state here, that the views below are only mine, and I don’t, in any way mean to undermine or insult the knowledge and strategies of my fellow members of the VC community. I’m merely expressing my concern about something I’ve observed.

Herd Mentality. Hmm.

Here’s one such example that comes to mind. The textile/ garment manufacturing and associated retail industry back from 2006 through most of 2008. Companies saw several Million $ of investment, and were doubling and tripling their manufacturing capacities – spinning, weaving, dyeing, printing, stitching; you name it… not to mention the number of retail outlets, adding customers (read big brands in apparel) with demands going into astronomical numbers of pieces of clothing.

And obviously all of this took the valuations of these companies pretty high. Just to give some perspective to the quantum of investing, this sector saw around 3% of the total $5.6 billion of VC investment in just the first six months of 2007. That’s roughly a whopping Rs.750 crore.!!

And then, with the collapse of the US economy, textile exporters suddenly lost one of their prime markets. What followed, quite instinctively, is that many of them came back home and focused their energies and capacities on the domestic market. A domestic market that was beyond saturated with all the domestic expansions that were funded.

That led to more n’ more discount malls springing up, running on wafer thin margins.

Then, there was the mad rush after clean n’ green businesses. Of course, there’s nothing bad about investing in technology that’ll help conserve the limited resources of the globe. But from a VC’s point of view, it’s about making money too, right? The focus on making those returns should be a fine filter through which great companies and amazing business models must pass.

However, here’s what happens with the herd mentality. Some companies with limited knowledge or capability, get invested into. And that’s only because some VC was probably not approached by the best companies in the sector yet. Or the VC did not want to miss out on the ‘gold rush’. And so they end up investing in the 20th company in the sunrise sector at a ridiculous valuation. The VC seeks the safety of the herd. Everyone’s doing it, so maybe I should too. This makes the top team at the company over-confident of their supposed capabilities. What’s worse, it makes it tougher to raise its next round of investment. Because of the already sky-high valuation it got its first round investment at.

So, we end up with:

  • Just a handful of the numerous funded companies actually adding reasonable value, globally
  • Several overconfident funded companies that just trudge along, finding it difficult to raise additional money
  • The sector very quickly becoming over-invested and going out of flavor with the VCs. This is due to high valuation expectations by other companies. This is resulting in less investment happening in creating more effective and widespread clean and green technologies and applications; something that was needed by the world on an urgent basis, to begin with

It would help if VCs invested after a well thought-out strategy rather than almost on impulse. Irrespective of whether it means missing the bus on a fad investment sector. This would result in the VC not making losses on a bad investment. At the same time, she or he could focus on understanding the sector quickly and perhaps support young companies with innovative products or solutions that they feel might significantly help preserve the planet. Instead of dumping money into just another solar-cell manufacturer. Or another wind turbine manufacturer, or something like that.

In the end, all this could be herd mentality, or perhaps even the wisdom of the crowds.

Only time and lots of investing will tell.

[Again, these are just my views on it, being strongly based on my belief that known and stable businesses or mass producing of products should be funded more by debt; and the risk investing in paradigm-shifting technologies and solutions should be left to VCs. I would like to get the views of promoters and fellow VCs on this. In the end, it’s all a part of our learning process.]

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Dare to Venture?

Dare to Venture?

“The best things in life are free,

But you can keep ’em for the birds and bees;

Now give me money, (that’s what I want) that’s what I want.”

– Barrett Strong

Lets see. First time entrepreneur? Maybe you’ve already taken the brave leap, but suddenly hit a roadblock for lack of funds to scale up? Or not enough to even qualify for an order? Perhaps banks wont help because your services or IT firm doesn’t fit into their way of doing things? Or even better, you have a crazy idea that could as well be the next big thing, only if someone would see the potential growth and the guts…

If you sniggered after reading any of the above, you’ve probably already had your share of knocking on doors in a bid to expand your business, or even just set sail…

I’ll give you a lil overview on venture capital, hopefully answering some of those questions you had about it…

  • VCs invest in ideas, businesses with a high amount of perceivable risk but also a potential upside
  • VCs invest towards buying a stake in your company (they buy shares of your company, without any collateral or pledge. That however, doesn’t mean that you don’t take their money or them seriously coz it appears to be tension-free capital unlike a bank loan.
  • Not wanting to alarm you, but generally the legal agreements with a VC are made in such a way that the VC has a significant powers where the company is concerned.
  • The powers and rights should be seen as a trade off for the risk the VC takes, and the collateral-free funds they bring into the company, and their time and effort.
  • And while certain clauses in these legal agreements might give some of you sleepless nights, many extreme measures are almost never exercised by the VC. They’re sometimes just there so that promoters don’t think of playing any tricks on the VC or the company.

Yeah I know this is a very basic and simple way of putting it. There is much more to it, but if I were to put more here, you’d be asleep before I’d expect you to scroll down…

Anyway, I’d just like to elaborate a bit on the last point in the image above. I think is crucial for you entrepreneurs to know when you plan to raise money from professional investors:

(ok, now I usually get extreme reactions to my comparisons/ examples, so even if you find the comparison absolutely insane, don’t miss the underlying message)

The relationship between a VC and the promoter/ management team…it should be looked at like a serious relationship, a marriage of sorts. Or even as though you were looking for your next best friend if you’d like. And as we all know, everything long term can’t be based on the trivial. Like ‘I love the way she looks n dresses’, or, ‘I think she’s my soul mate coz we look great together’. Or ‘she just has the most amazing expression when she’s trying to work the microwave while reading thru the manual’. Or some similar nonsense.

The long haul asks for bigger and more important factors to be considered.

Venture funding is never about the money as it is about the connect the promoter, the team and the VC share. You could probably raise capital from multiple sources. But nothing will compare to the magic the team of promoter and VC together can create.

And unlike relatives whom we don’t get to choose, promoters can and must take time to see if her or his visions, objectives and spirit matches are clearly understood and appreciated by the VC they’re in talks with. Coz otherwise, like good ol’ Axl Rose says, ‘nothing lasts forever…’ Things sure can get nasty between promoter and VC if they don’t share a similar vision. And they are bound to lock horns. In which case, they both suffer, along with the business, employees, customers, etc.

You wouldn’t really want a tug-of-war with the promoter trying to go global next year, and the VC ranting for a quicker exit.

Even if your business is strapped for cash, always choose your VC very carefully. And raise only the money you need. Gone are the days when VCs funded the Lamborghini’s of dotcom promoters.

I’m still just four years and learning in this industry. But if you do have any queries about venture capital, fire away. I’d be more than happy to try and help you out with it.

Happy fund-raising.!

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Look forward to your views. And if you liked this one, consider following/subscribing to my blog (top right of the page). You can also connect with me on LinkedIn and on Twitter.