GUEST POST from Greg Satell
Some years ago, I wrote an article in Harvard Business Review about stock buybacks, which were being pilloried at the time. Many people thought that companies were spending too much money to gin up their stock price when they could be investing those funds into innovation, making better products and creating new markets.
Yet I pointed out that things weren’t as they seemed. As Clayton Christensen had showed around the same time, there was a superabundance of capital (in response to the financial crisis, central banks had been flooding markets with money) and corporations had more money than they could profitably invest.
I also suspected, although the evidence was scant at the time, that the extra money was going to Silicon Valley startups, which seemed to me to be less potentially problematic, especially when the public sector was being woefully underfunded at the same time. Today, we can see the results and they aren’t pretty. Without constructive constraints, even good ideas go bad.
The Chimera of Mass Adoption
Shai Agassi had a good idea. His key insight was that electric cars couldn’t survive without an ecosystem of charging stations. Therefore, he reasoned, to spur mass adoption you needed to develop the cars and the charging stations in tandem. Once you relieved the problem of “range anxiety,” so the theory went, ordinary consumers would buy in.
An entrepreneur at heart, Agassi started a company, Better Place, to make his vision a reality and, with the support of a wide array of celebrities and politicians, raised nearly a billion dollars of venture capital. It seemed like a sure winner. After all, with that much money and star power, what could go wrong?
As it turns out, everything could go wrong. From the design of the cars, to the charging stations to the batteries themselves, every detail was fraught with problems. But with so much money, Agassi could continue to press forward, sell his vision and win over partners. Instead of resolving issues, they multiplied. In a few short years, the company was bankrupt.
The truth is that, outside of software, going after mass adoption from the start is usually a bad idea. Rather than trying to please everybody at once, you are much better off focusing on a hair-on-fire use case—a small segment of customers that has a problem they need solved so badly that they almost literally have their hair on fire—and building up from there.
Incidentally, that is exactly what Elon Musk did with Tesla. He didn’t try to build for the mass market, but for Silicon Valley millionaires who wanted a cool, eco-friendly car and wouldn’t need to rely on it for everyday use. That foothold allowed the company to learn from its inevitable mistakes, improve the product and its manufacturing process and, eventually, to prevail in the marketplace against much bigger, but more traditional, competitors.
Buying Into The Silicon Valley Myth
While Agassi’s idea had a certain logic to it, Adam Neumann’s is much harder to figure out. Essentially, he sold investors on the idea that renting coworking space to businesses, which was not at all a new or innovative idea, could somehow be married with some Silicon Valley pixie dust. The result was WeWork, a $47 billion debacle.
While WeWork is, in many ways, an exceptional case, in others it is surprisingly mundane. For more than a decade, investors—and the business community at large— have bought into the Silicon Valley myth that its model of venture-funded entrepreneurship is widely applicable outside of software and consumer gadgets. It is not.
The truth is that Silicon Valley’s way of doing business was a specific solution that applied to a limited set of industries where low or near-zero marginal costs and the potential for network effects made increasing returns to investment not only possible, but a legitimate business planning objective.
Unfortunately, when you try to apply those same business principles to an industry where those conditions do not exist, you essentially get a Ponzi scheme. As long as investors continue to pour money in, the business can continue to win market share by undercutting competitors on price. Eventually though, as in the case of WeWork, the bottom falls out.
The Cult of Talent
Better Place and WeWork, as well as other notable “unicorn debacles” such as Uber and Theranos, are cautionary tales. Venture capitalists, believing in their own brilliance as well as their ability to spot it in others, shoveled money into founders with questionable ideas and, as soon became apparent, even worse morals.
But what if you could have the best of both worlds? What if you could take all of that Silicon Valley venture money and, instead of throwing it all at some young hotshot, invest it in some grizzled veterans with real track records. Instead of betting on a long shot, you could essentially put your money on a proven performer.
That, essentially, was the idea behind Quibi, a short form video company founded by Jeffrey Katzenberg, who revived Disney’s animation studio and then went on to even greater success as Co-Founder of Dreamworks, and Meg Whitman, who led eBay from a small startup of 30 people to become a global powerhouse employing thousands and earning billions.
Yet these two old hands, with all of their experience and know-how, somehow managed to do even worse than the more obviously incompetent Agassi and Neumann. Despite raising more than $2 billion, within seven months of launching, Quibi acknowledged defeat, shutting down operations and vowing to return whatever money that was left over to investors.
A Recurring Pattern of Fundamental Fallacy
It’s not hard to see an underlying pattern in all three of these massive failures. Venture investors, whose model is based on the principle that one outsized success can easily make up for any number of failed ventures, have come to believe that betting big can increase the chance of hitting that unlikely triumph.
What they don’t seem to have considered is that too much money can make a good idea go bad. Clearly, electric cars can succeed in the marketplace. Coworking spaces have been a viable business model for decades. There’s no question that Katzenberg and Whitman are talented executives. Yet, with the massive support of investors, they all failed massively.
Yet researchers have known for decades that creativity needs constraints. When you have a limited budget, you simply don’t have the luxury of ignoring problems. You have to face up to them and solve them or you won’t survive. When you have virtually unlimited resources, however, you can leave the hard stuff till another day. Eventually, it all comes crashing down.
Unfortunately, as Charles Duhigg explains in a piece in The New Yorker, that Silicon Valley investors who are seen as insufficiently “founder friendly,” now find themselves shut out of the best deals. Further research has begun to show that these tendencies, souped up by an overabundance of capital, have begun to crowd out good investments.
Or, put another way, Silicon Valley is building a doomsday machine and we desperately need to get off.
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