How to Raise Money

If you'd reword that as "the basic rules of expected value are difficult to apply to startups", there'd be some chance it was true :).

And yet, difficult as it may be to apply, expected value is the framework to rationally make a decision about low probability / high payoff investments. Of course, if YCombinator is already invested at an early stage (note: when the valuation is quite low), I can understand why pg wouldn't care too much about the later stage valuations. If you look at what's best for YC, it's first and foremost that companies get the money they need to succeed (an incentive aligned with the founders and any investors) but probably also that the valuations (after their own investment) be as high as possible so that more of the pie remains for later investments. This latter incentive is clearly not aligned with investors and as an investor I'd take the advice to disregard valuation with a big grain of salt.

I made two points, that likely the VCs could not evaluate my project and likely only a few VCs could direct an evaluation.

For the first of these two, a EE Ph.D. very likely would not understand the crucial, core applied math of my startup due to not taking the right prerequisite courses in graduate school. If they studied from Luenberger at Stanford, then maybe they would have some of the prerequisites!

For the second, directing a competent review of my work, a EE Ph.D. would likely be able to do that, especially once I gave them a list of reviewers, and I did indicate that a few VCs could so direct a review.

There is a huge problem with VC: Necessarily they are looking for exceptional cases. So, what the average deal looks like provides poor guidance on what a really desirable deal would look like. And since the VCs are also looking for things that are new, what the best deals of the past 10 years looked like also provides little guidance.

There are ways to know that something really is exceptional and powerful early on, and the US DoD has provided a long list of examples for the past 70 years or so. E.g., the first GPS was done by the US Navy for the SSBNs, and the crucial, core work started on the back of an envelop at the JHU/APL. The planning document was enough to remove risk, and the rest is history. Early in my career, I wrote software in the group that did the software for the continually updated orbit determination calculations for that Navy system and heard the stories about how the system was invented and pushed forward. It really is possible to evaluate projects on paper and confirm that they are powerful and exceptional; results on paper are how nearly all of research works, and the work really can be evaluated and seen to be powerful if it is; but nearly no VCs can evaluate projects on paper, and maybe their LPs wouldn't let them fund on that basis anyway.

So, the VCs are looking for exceptional projects, and there are ways to create, present, and evaluate such projects, but VCs don't do or pay attention to those things. This situation is so incredible that it took me a while to believe it. No wonder their ROI is low.

I actually think he's more likely to simply care a lot about making life better for founders, though. He may care about investors too, but I warrant it's less.

To give concrete numbers to pgs statement:

Pick 2 hypothetical startups: A and B. A will go on to be a 10 billion dollar company and B will be a 100 million dollar company. Now, valuations at round B series vary from say $40 million to $400 million (as pg said 10x). Note: they arent yet worth what they will be worth later. Now, say you take a 20% equity cut for the round and there is no dilution between this and when they go public (just a simplifying assumption). At the end, the 20% equity is worth either 200 million dollars for A or 20 million for B. The difference in profit is 180 million dollars; much more than any additional amount you would have paid to get in on a higher valuation. Therefore, if you believe the company to be of the A type, you will pay that 20% of a higher valuation.

> pay whatever the price happens to be.

This is what pg means: the difference in profit between A and B was 180 million dollars which far exceeds the difference in cost in investing in the two. This makes the investors rather price insensitive IF they think that you are in the A category. The reason that investors have the mental model of assigning to categories rather than guessing the percent chance of success is that they know often they guess wrong. There are simply too many variables to create any sort of accurate chance of success.