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How VCs Make Money

vcstarterkit.substack.com

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Re: How VCs Make Money

#71

Post by H8crilA »

camjw wrote: post #64
H8crilA wrote: post #26

One thing that you have to keep in mind is that the 20% part is effectively a European call option on the fund's portfolio, with strike equal to the fund's initial value (so ATM - At The Money - when the fund starts) and notional amount of 20% of the fund's value. The manager gets that option for free, in fact he's paid 2% a year to hold that long option (and do his/hers job). Call options are more valuable if the un…

Call options are more valuable if the underlying security is more volatile (because there's higher chance of ending in the money) Whatever the volatility is you still (in Black-Scholes) have a 50/50 of the option ending ITM (stock returns are normally distributed, higher volatility just means higher std. deviation). One reason why ATM options are more valuable with higher volatility is because there's a greater chanc…

Oh yes, you're completely right. I oversimplified :)

And, to nitpick back: the logarithm of stock return is normally distributed under B-S.

Re: How VCs Make Money

#72

Post by H8crilA »

smabie wrote: post #68
H8crilA wrote: post #26

One thing that you have to keep in mind is that the 20% part is effectively a European call option on the fund's portfolio, with strike equal to the fund's initial value (so ATM - At The Money - when the fund starts) and notional amount of 20% of the fund's value. The manager gets that option for free, in fact he's paid 2% a year to hold that long option (and do his/hers job). Call options are more valuable if the un…

Good insight, but the incentives don’t exactly match up to how you describe. Their investments actually looks like an American option instead of a Euro option because they can flip their investments when in the black. Since it’s not possible to cash out Euro options in this way, their incentives and compensation look much more like American options than Euro ones.

Yeah, realistically it's something like a call option, not exactly European or American. The details depend on how precisely is the fund structured. Most importantly - when exactly the fund managers are allowed to cash-out their 20% of wins (at the end of life of the fund? perhaps the fund is in principle perpetual? perhaps whenever there's a successful "exit" of one of the investments? perhaps every year if it's in the green?).

Re: How VCs Make Money

#73

Post by notfromhere »

WooShoa wrote: post #33
notfromhere wrote: post #32

Earlier quoted context omitted.

There was a Kaiser(? maybe someone else) that over a 20-30 year period, most VCs don't return capital. Your average VC fund absolutely underperforms, and even the "good" funds sometimes just get lucky and run with that until the good will runs out. Andreessen's 2010-11 funds have underperformed the market.

I find it interesting when people make a fundamental miscalculation like you did. They perform EXCEPTIONALLY well … when you start understanding who they are performing for. Gold rush … something, something … shovels. But I know. I know. I speak heresy on this site. I repent and beg for forgiveness for saying the kind has no clothes on.

They're great for the VCs who want to harvest management fees, but not-great for the institutions who put their cash in.

The real question is: as a society should we give 2/20 to people who spend most of their time wasting time on twitter and quoting Sapiens to each other?

Re: How VCs Make Money

#74

Post by camjw »

H8crilA wrote: post #71
camjw wrote: post #64

Earlier quoted context omitted.

Call options are more valuable if the underlying security is more volatile (because there's higher chance of ending in the money) Whatever the volatility is you still (in Black-Scholes) have a 50/50 of the option ending ITM (stock returns are normally distributed, higher volatility just means higher std. deviation). One reason why ATM options are more valuable with higher volatility is because there's a greater chanc…

Oh yes, you're completely right. I oversimplified :) And, to nitpick back: the logarithm of stock return is normally distributed under B-S.

Sorry to be that guy again but B-S assumes stock prices are log-normally distributed but stock returns are normally distributed :) [0]

[0] https://www.investopedia.com/terms/b/blackscholes.asp

Re: How VCs Make Money

#75

Post by clintonb »

hef19898 wrote: post #70
csa wrote: post #69

Earlier quoted context omitted.

Assuming that this is a business that has some sort of online component (esp. payments), consider Stripe — they offer loans based on cash flow history with their service. I’m not sure what level of cash you need, but this might do the trick without giving up equity or control. Not affiliated with stripe — just a fan.

Thanks for the tip, certainly will take a look, could be very helpful in case I sell stuff myself. Which also needs a lot more capital. Does stripe also have a B2B / invoicing functionality?

Yes. Stripe Billing (https://stripe.com/billing) supports recurring invoicing (e.g. subscriptions) and non-recurring invoices.

Re: How VCs Make Money

#77

Post by H8crilA »

camjw wrote: post #74
H8crilA wrote: post #71

Earlier quoted context omitted.

Oh yes, you're completely right. I oversimplified :) And, to nitpick back: the logarithm of stock return is normally distributed under B-S.

Sorry to be that guy again but B-S assumes stock prices are log-normally distributed but stock returns are normally distributed :) [0] [0] https://www.investopedia.com/terms/b/blackscholes.asp

It's all fine :).

I thought that "stock return" is the [exit price]/[entry price], for an asset that does not pay dividends, no? exit/entry still requires a log() to be normally distributed, for example exit/entry is non-negative, wile gaussian is of course sometimes negative, no matter what the mean is.

Re: How VCs Make Money

#78

Post by hef19898 »

clintonb wrote: post #75
hef19898 wrote: post #70

Earlier quoted context omitted.

Thanks for the tip, certainly will take a look, could be very helpful in case I sell stuff myself. Which also needs a lot more capital. Does stripe also have a B2B / invoicing functionality?

Yes. Stripe Billing ( https://stripe.com/billing ) supports recurring invoicing (e.g. subscriptions) and non-recurring invoices.

Cool! Will definitely have a look at it!

Re: How VCs Make Money

#80

Post by camjw »

H8crilA wrote: post #77
camjw wrote: post #74

Earlier quoted context omitted.

Sorry to be that guy again but B-S assumes stock prices are log-normally distributed but stock returns are normally distributed :) [0] [0] https://www.investopedia.com/terms/b/blackscholes.asp

It's all fine :). I thought that "stock return" is the [exit price]/[entry price], for an asset that does not pay dividends, no? exit/entry still requires a log() to be normally distributed, for example exit/entry is non-negative, wile gaussian is of course sometimes negative, no matter what the mean is.

I think your formula is slightly off.

Stock return = (exit_price - entry_price + dividends) / entry_price.

It’s clear that then the mean return is the dividends paid and can be negative if the exit price is sufficiently low. I think by a bit of squinting (using the central limit theorem) you can say that this should be normally distributed as long as entry_price and exit_price have the same distribution

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