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Investor Herd Dynamics

paulgraham.com

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Re: Investor Herd Dynamics

#41

Post by pixelmonkey »

I wrote about this issue a couple years ago, observing similar behavior. I used a modified horse gambling game as a metaphor for the investor dynamic.

"It's easier to play the option than the bet." http://www.pixelmonkey.org/2010/12/13/its-easier-to-play-the...

    In this new race, small signals have a big impact. 
    Charge ahead suddenly and you might get your 3 spots
    filled. Convince a top-tier gambler to go to bat for 
    you, and you’re all set — your other two spots will
    fill up quickly. If you’ve been in the race before 
    and had your spots filled up quickly, you’ll likely 
    get them filled up quickly when you enter the race
    again.

Re: Investor Herd Dynamics

#44

Post by oz »

"[2] Founders are often surprised by this, but investors can get very emotional. Or rather indignant; that's the main emotion I've observed; but it is very common, to the point where it sometimes causes investors to act against their own interests. I know of one investor who invested in a startup at a $15 million valuation cap. Earlier he'd had an opportunity to invest at a $5 million cap, but he refused because a friend who invested earlier had been able to invest at a $3 million cap."

I'm not surprised, per se, but rather always amazed whenever I hear stories of rich people acting in ways inimical to their economic interests. One would think that an experienced (I guess) businessman, such as a VC, would be somewhat more rational than that. Then again, this is an article about 'Investor Herd Dynamics', so I suppose that should inform my opinions about human behaviour.

Re: Investor Herd Dynamics

#45

Post by [deleted] »

johnrob wrote: post #10
cperciva wrote: post #5

After you raise the first million dollars, the company is at least a million dollars more valuable, because it's the same company as before, plus it has a million dollars in the bank. This seems a bit specious. Sure, the lower bound on the pre-money valuation for investor #2 should be the post-money valuation for investor #1, not the pre-money valuation for investor #1; but the valuation per share won't necessarily b…

Startup valuations are not accurate. Your comment essentially proves the point: If an investor is going to fund a company at valuation X, they prefer that X is a combination of cash and stock and not purely stock. This implies that a dollar of valued startup is not worth a dollar, which should be an axiom. A 3 MM dollar company comprised of 2 MM stock and 1 MM cash is more desirable than one with just 3MM in stock.

[deleted]

Re: Investor Herd Dynamics

#46

Post by [deleted] »

tkiley wrote: post #7

It seems like the earliest investor in a multi-party round invariably gets shortchanged in the literal dollar value of the deal. If committed investors raise the valuation of a startup, would it make sense for a startup to offer a slightly-sweetened valuation for the first investor to commit? I understand that no one likes to have the price raised on them later, but perhaps the underlying truth of increasing valuatio…

[deleted]

Re: Investor Herd Dynamics

#47

Post by btilly »

pixelmonkey wrote: post #42
dfabulich wrote: post #6

"VCs will sometimes ask which other VCs you're talking to, but you should never tell them." Why not? (Unless I missed it, the article doesn't explicitly say.)

Because they collude.

My guess as to the dynamic is this. If a VC knows that SOME other VC is interested in you, they can't feel out other VCs to see who it is because it might get a third VC involved.

But if one VC knows who the other VC is, then collusion is simple and clearly in the VC's best interest.

Re: Investor Herd Dynamics

#48

Post by shykes »

tkiley wrote: post #7

It seems like the earliest investor in a multi-party round invariably gets shortchanged in the literal dollar value of the deal. If committed investors raise the valuation of a startup, would it make sense for a startup to offer a slightly-sweetened valuation for the first investor to commit? I understand that no one likes to have the price raised on them later, but perhaps the underlying truth of increasing valuatio…

> If committed investors raise the valuation of a startup, would it make sense for a startup to offer a slightly-sweetened valuation for the first investor to commit?

That is exactly what I did when raising seed money for dotCloud. It works great.

Our very first angel (Ash Patel from Morado Ventures) was not the first to express interest, but he was the first to actually sign a check. For that he got a better deal, as well as our lasting gratitude and permanent advertisement as "dotCloud's first angel". Everyone else in the round got identically unsweetened (but fair and attractive) terms. I was and continue to be very transparent about the arrangement, because it's very obviously fair, and doesn't make anyone feel like an idiot.

When we had the opportunity to further escalate the cost of the round, we didn't, because that didn't seem obviously fair and I didn't feel confident I could look an investor in the eye and tell him that it was. We may have left a little gravvy on the table, but in return we saved time, spared ourselves distracting drama, earned trust capital with our investors, and retained the ability to take the moral high ground in any future negotiations.

I don't claim that this is the best method. Certainly not every founder who successfully raised money did it this way. But it worked for me.

Re: Investor Herd Dynamics

#49

Post by LekkoscPiwa »

lsc wrote: post #40
LekkoscPiwa wrote: post #34

Company isn't necessarily worth $1m more because it has $1m in the bank. Think of the dot-com bubble in 90s. All these companies with millions in their bank accounts that never sold anything to anyone for even one cent. But were burning through cash like crazy. Would you invest in them just because they have millions on the bank account? The market is washed with cheap money courtesy of the FED. According to one stud…

the business cycle goes up; the business cycle goes down. We all know this to be the case, and the business cycle is obviously up, so quit whining and get to work. If you have no name, this is the time to make your name. If you have a name, this is the time to make money with that name. These are the times in which you have the most leverage. Yes, of course, the business cycle will go down again. when will it change…

>the business cycle goes up; the business cycle goes down. We all know this to be the case, and the business cycle is obviously up, so quit whining and get to work.

I do work. Business cycle is up temporarily on cheap credit. There is no substance to it. 70% of new hires since 2008 in the US are part time. The debt to GDP ratio is higher than ever. Food stamps are on record high. Inflation if used Ronald Reagan years formula and not today's hocus-pocus hedonistic whatever is at 10%. The whole thing seems to work just because of the interest rates at 0% since 2008. And you can't have them at zero forever.

> Sitting here and complaining about the business cycle doesn't help you, it doesn't help me, and who knows, maybe some people feel that it brings that day of "the business cycle goes down" closer to now. That was the primary reason why I'd guess you got down-voted.

Wow. If 50 million Americans on food stamps, 10% inflation rate, and average real wage adjusted for inflation lower than in 1960s is up in the business cycle, I'm afraid to ask what will be down. Greece?

> The other thing? Do you remember the '90s? I worked through the crash. It was not at all obvious ahead of time, which companies would come through, and which companies would not. I mean, it seems obvious now, sure, but it was not obvious then.

No, it wasn't. The same like right now it is not obvious to you that the "up" you perceive is just a bubble in the US Treasuries. Don't worry, will be obvious to you soon as well.

BTW, you haven't addressed anything that has to do with extremely poor VCs performance in the past decade from my post. And that $1m on the company's bank account usually doesn't translate into the company being worth $1m more. Which was my main point. Care to talk about this?

Re: Investor Herd Dynamics

#50

Post by [deleted] »

lsc wrote: post #40
LekkoscPiwa wrote: post #34

Company isn't necessarily worth $1m more because it has $1m in the bank. Think of the dot-com bubble in 90s. All these companies with millions in their bank accounts that never sold anything to anyone for even one cent. But were burning through cash like crazy. Would you invest in them just because they have millions on the bank account? The market is washed with cheap money courtesy of the FED. According to one stud…

the business cycle goes up; the business cycle goes down. We all know this to be the case, and the business cycle is obviously up, so quit whining and get to work. If you have no name, this is the time to make your name. If you have a name, this is the time to make money with that name. These are the times in which you have the most leverage. Yes, of course, the business cycle will go down again. when will it change…

[deleted]
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