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The Pulpit
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Weekly Column

The Curse of the Hundred Bagger: Why Venture Capitalists Are Paralyzed and Our Economy is Stagnant

Status: [CLOSED]
By Robert X. Cringely
bob@cringely.com

Almost 15 years ago, I got a call from an editor named Mike McCarthy asking me to write a book he wanted to call DOS for Dummies. I was mainly writing for Forbes back then and they were paying me more for a feature story than Mac was offering me to do a whole book, so I turned him down. History shows that Dan Gookin said "yes" where I said "no," and DOS for Dummies went on to be the most successful book in computer publishing history, selling something like eight million copies, allowing Dan to build a fortress in Idaho. The reason I mention this is two-fold. First, the "for Dummies" series of more than 500 titles is incredibly successful, and a lot of people (well, one person -- a guy named John Kilcullen) claim to have come up with the idea, but the original dummy was actually Mike McCarthy, and I want that on the record. The second reason I mention this is because Mac wrote to me after reading last week's column and had a very interesting story to share.

Last week's column, if you missed it, was about how you really can't emigrate to India even if you wanted to, and about how our current economic malaise can be traced back to irresponsible venture capitalists who are refusing to dump money into new ventures because they are afraid. They could change things in a heartbeat, but they don't. Well, Mac had a corollary story that looks at the same effect from a different angle.

"In times of uncertainty," wrote Mac, "don't be Mark Twain ("Put all your eggs in one basket, and watch that basket!" -- it didn't work for him anyway). Instead, bet on serendipity -- don't invest in ONE big idea -- invest in 10 ideas that are your best guesses as to the widest range of possibly big ideas. You don't know but what the heck, NOBODY knows."

"This gives you ten chances to win, instead of one."

"This is in fact where the awful statistics that traditionally are quoted for VCs originate: They invest in many possible companies too early to tell if they are brilliant or dumb. Six fail, some spectacularly. Two limp along. One does pretty well. And one is a huge hit -- and not the one you would have bet on had you been forced to bet on just one."

"A personal history note here: Back in the late 90s I was running International Data Group's (the world's largest publisher of computer magazines) Web Publishing Inc., a little Web-only publishing business; we launched SunWorld, JavaWorld, NetscapeWorld (failed), NCWorld (failed), and LinuxWorld. Every Web operation in IDG was complaining about lack of investment in Web, and Bob (Metcalfe), the Ethernet Inventor, convened a meeting of the Web lights of IDG in his Boston flat (oy! such a place!) to brainstorm: What should IDG's dot-com publishing strategy be?"

"Tom from PC World Online and Bill from NetworkWorld Online and others were all plumping for a big investment in an umbrella site, in order to compete with CNET and Ziff Davis and CMP and other publishers who were bragging about having sunk $50 million or more in their Web tryouts. Pat McGovern (IDG's owner), unconvinced, was holding back, and it infuriated the Webonauts."

"I was worried, myself: The idea that we were going to compete in a brand-new, world with a future that could take any shape at all, by investing a large amount into imitating exactly what every one of our competitors was doing--that struck me as idiocy. If the Web made an abrupt left turn, we'd all fall off the train. On the other hand, if we won, we'd be splitting the win among all the competitors because we'd all be following the exact same strategy. Worse, in an uncertain world, there is absolutely no security in banding together."

"So I wrote a memo to the group, and to IDG headquarters, suggesting what I called the 10 times 10 Plan, AKA Let Ten Flowers Bloom. Pat should pick 10 bright people in IDG worldwide -- both those who are proposing promising ideas and those he simply thinks are bright types who might come up with something -- and give each one $10 million and one instruction: Go figure out our Web strategy."

"No board meetings; no five-year plan; no justifying your investments; no 30-60-90 reforecasts--just do me a favor: Call me if you figure it out."

"This would give us TEN bets on the future of Internet publishing, not one."

"In times of uncertainty, spread your bets. Putting everything on one horse is a mug's game."

"My memo wasn't *completely* ignored: One member of the group commented: "You're betting on serendipity."

"'Yes!'" I said. 'You get it!' No, he thought he was dismissing it."

"I was then ignored. And IDG invested $30 million in a grand centralized umbrella Web publishing organization, into which my business was forcibly merged. I of course was not invited to assist in the management thereof; someone who believed in One Big Bet took over, and I was left a fifth wheel, with nothing to do except be an Expense."

"The Grand Centralized operation never really got off the ground and, after pissing away a large amount of IDG's patrimony, disintegrated. As did, interestingly, ZD's Web effort (along with Ziff Davis itself), CMP's, and CNET is making slow money and still repaying its enormous investment."

"So yes, Bob, I know very well the value of what you're suggesting. Your ‘5 percent Deal’ idea would NOT guarantee the salvation of the nation's economy -- there is no such guarantee, of course, except in the feverish spoutings of political campaigners. But it is the ONE really good way to give it our BEST possible shot."

"Which has absolutely no bearing on whether anybody will pay any attention to you."

The problem (this is me again, Bob) is an unwillingness on the part of the VC community or even industry in general to see that their actions have an impact. Oh they love to be told that they are the engine that keeps the economy running, but ask them to act like that engine and they won't.

There was a time when American industry believed in Mac's field of flowers. New business units were started to prove or disprove product and service ideas. Most of these ideas didn't work out, but most of them didn't cost very much money, either, so big companies like GE and 3M had no trouble carrying the bad ones for just long enough to see if they'd work. But then came the 1980s with its spreadsheet jockeys, and the game changed to letting little companies come up with the new ideas, then simply buying-up those little companies as they started to succeed.

This new system required capital to start and build the little companies and the VC community was able to provide that. The goals were modest -- a 20 percent compounded annual rate of return to venture fund investors. And it generally worked. But then came the Internet fever of the late-1990s when the goal changed from that 20 percent return to what the VCs liked to call the "hundred bagger." A hundred bagger is a startup that returns 100 times the original investment. There have been very few hundred baggers, but the fact that for awhile there were some has had a horrible effect on the venture capital business, because now any investment that doesn't have hundred bagger potential is viewed as not worth making at all.

That's just plain stupid, of course.

The goal is no longer to make a certain return, but to find a hundred bagger -- something that is just about impossible to do. You can stumble on a hundred bagger, you can luck into it, but actually setting out to invest only in businesses you feel are likely to return 100X, well that pretty much means you'll never invest again, which is the way the VC business feels right now.

The problem with finding that hundred bagger is that whatever you as a VC think you are investing in isn't what you think it is. That's because every startup -- EVERY STARTUP -- faces a crisis early-on and changes dramatically what it intends to do. So the smart VC invests more in the people than in the idea because the idea is going to change. And that means what you think is a hundred bagger will inevitably turn into something else.

Searching for the hundred bagger has dogged the entire system. The big companies that are used to buying-up startups to feed their product pipeline no longer have much to choose from. That old engine of the economy is no longer creating new jobs, and still we scratch our heads and wonder what's happening.

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