That's a great summary of the macroeconomics that led to the current situation. I'm a bit surprised Sequoia went into that much detail, but they've got some great advice for their CEO's at the end. (Get cash-flow positive!!)
I find it fascinating that just a couple of slides have data for this year. Should this financial mess be a "surprise" at all? Just the chart of home values should have been a clue:
While that graph is interesting (and I've seen it referenced a number of times in a number of places), I've always found the scale misleading. Almost the whole bottom of it (0-50) is chopped off...so what looks like a logarithmic leap, is really merely doubling. While doubling is dramatic, and certainly a sign of something amiss (either tremendous inflation, or something else that is distorting value), it's not the astronomical rise the chart feels like when you first see it.
Doom? Looks more like a countdown to something. While most major corrections since 1929 have occurred on 4/1, 7/1 or 10/1, this one dropped out on 10/09/08. Hmmm, let me guess, the Dow's bottom is at 7,654.
We are currently at T minus 8 and holding . . . our breath.
I find it difficult to believe that these guys didn't see this coming at least a year ago; their own data from a year ago certainly points in that direction. So, why are they presenting the doom deck now?
The VCs I have met were talking about a serious downturn over 16 months ago and I've known for at least 4 years that the real estate bubble was going to cause a lot of problems. I think lots of people saw this coming. So, why did we have to get to this point before getting such sober advice? Seems odd to me.
You don't need to read Taleb to know that. "Lies, damn lies, and statistics" :)
About Taleb, "when all you know is the hammer..." He is no renowned economist. MBA and Phd. in management. Oh, and he teaches risk. Try Roubini, it's even more dramatic.
There is an old quote that the market can stay irrational far longer than you can stay solvent. I keep hearing "Doom" but for the most part the stock market seems to be at a fairly rational level right now. Most stable companies P/E is back around 10, and companies in unstable market's or those that lack real profits are taking a beating.
As an example the P/E on DryShip's is has a P/E of 1 right now but it's a risky market and it's unlikely they will be anywhere near as profitable this year as last year. It's still I reasonable long term buy but who knows. On the other hand Pepsi and IBM are both extremely stable both on the business side and in their stock price.
The VC fundraising cycle has something to do with this, right? I mean, if I understand correctly, if you dropped a few million bucks into a VC fund back in 2005 to become a limited partner, that money is locked up until 2010 or so; if you notice storm clouds on the horizon in 2006, you can't just cash out. At that point the VCs just have to do the best that they can with the portfolio they have, and you have to trust that the VCs will do their job competently.
> why did we have to get to this point before getting such sober advice?
My guess is they feel it necessary to smack some sense into relentless optimists they've funded.
Remember, If you made similar points two years ago you were ridiculed to hell or laughed at ... by the relentless optimists. I remember posting some good analysis of the housing market a couple years ago and seeing it down-modded to oblivion. It was only after the bubble burst that the very same links were front page all over the place.
I wish ycsearch.com still worked so I could look them up. It's hilarious reading old dot com bust stock recommendations.
Pretty much all the people I knew in finance saw this coming. Our first hint was when people making less than 50k per year were buying 400k houses with no money down.
It was terrible. People were forced to eat raw fish for sustenance. They couldn't get full-sized electronics, so they were forced to make tiny ones. Unable to afford proper entertainment, folks would make do by taking turns to get up and sing songs.
Supposedly one of (Sequoia partner) Doug Lenone's slides was "If the product is ready, cut the number of engineers."
That’s going to make it tough for to get and keep engineers. When hiring, there will be increased resistance to four year vesting and one year cliffs, especially when a product is close to "ready". The engineers that they have will be more likely to leave a 3/4 to "ready"product for another company/product that is only 1/4 to "ready".
“Cut engineers when ready" makes sense only for companies only have one product and it’s "done" at some point. Companies that work that way shouldn’t employ engineers - they should contract out.
I think that is necessary to cut down engineers. Let's face the truth, not all engineers you hire is so talent that you can never find another one on the market. Cut down the salaries you pay to the not-so-talented engineers or let them go.
I'm not saying that they won't be able to hire engineers. I'm saying that it's going to be more expensive to do so.
Sequoia has increased the perceived risk of being an engineer for at their companies and arguably most tech startups. When the risk of an activity increases, either the reward goes up and/or the activity goes down.
There will likely be a decrease in the number of VC-backed startups and the amount of hiring that they are doing: if this occurs it will reduce demand. In a year where the S&P has dropped 44% YTD customers may value positive cash flow in a prospective vendor over additional engineering-driven features: perceived odds of survival may offer significant differentiation it didn't even six months ago. This represents a potentially very different competitive equilibrium, at least in B2B markets, than a few months ago. Also events like the Entellium fraud may make many firms much more nervous about doing business with startups and lead to the need for independent substantiation of the fact that they are cash flow positive. These efforts will have to come at the expense of other efforts (e.g. engineering, marketing, ...)
Product: What Features Are Absolutely Essential?
Marketing: Measuring & Cutting What's Not Working?
Sales & Bus Dev: Getting Return On Expense Increase?
Pipeline: Real Probabilities Of Closing Deals?
Finance Cashburn: Where Can Payments Be Deferred?
Finance G&A: What Departments Are Essential?
After the dotcom crash, the number of jobs in Silicon Valley dropped about 25% from their peak. This affected most people's ability to negotiate better compensation because demand dried up. Depending upon the severity of this contraction many different disciplines and professions may experience the same thing. Sequoia folks understand that engineering is a key driver for innovation, the fact that they are telling portfolio CEO's to consider cutting engineering indicates their concern as to the severity and longevity of a contraction.
These slides seem to suggest that the exits will be smaller for while. They are missing one critical slide - one that tells entrepreneurs to look at their cap table and terms and if they don't make sense at a small exit, get recapitalized or go home (take off the suit, put on some jeans and apply for the next YC session)
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We are currently at T minus 8 and holding . . . our breath.
The VCs I have met were talking about a serious downturn over 16 months ago and I've known for at least 4 years that the real estate bubble was going to cause a lot of problems. I think lots of people saw this coming. So, why did we have to get to this point before getting such sober advice? Seems odd to me.
About Taleb, "when all you know is the hammer..." He is no renowned economist. MBA and Phd. in management. Oh, and he teaches risk. Try Roubini, it's even more dramatic.
As an example the P/E on DryShip's is has a P/E of 1 right now but it's a risky market and it's unlikely they will be anywhere near as profitable this year as last year. It's still I reasonable long term buy but who knows. On the other hand Pepsi and IBM are both extremely stable both on the business side and in their stock price.
They simply did not know (no matter what they say now) and were too busy cashing out at the height of the boom.
Now, they want to buy up assets and it benefits them to push valuations lower.
My guess is they feel it necessary to smack some sense into relentless optimists they've funded.
Remember, If you made similar points two years ago you were ridiculed to hell or laughed at ... by the relentless optimists. I remember posting some good analysis of the housing market a couple years ago and seeing it down-modded to oblivion. It was only after the bubble burst that the very same links were front page all over the place.
Pretty much all the people I knew in finance saw this coming. Our first hint was when people making less than 50k per year were buying 400k houses with no money down.
"It's different this time"
Tulip Bulbs take 10.
That’s going to make it tough for to get and keep engineers. When hiring, there will be increased resistance to four year vesting and one year cliffs, especially when a product is close to "ready". The engineers that they have will be more likely to leave a 3/4 to "ready"product for another company/product that is only 1/4 to "ready".
“Cut engineers when ready" makes sense only for companies only have one product and it’s "done" at some point. Companies that work that way shouldn’t employ engineers - they should contract out.
Sequoia has increased the perceived risk of being an engineer for at their companies and arguably most tech startups. When the risk of an activity increases, either the reward goes up and/or the activity goes down.
They've decreased demand only if they've reduced the number of products and/or reduced the amount of engineering required for those products.
Since they gave folks an incentive to leave near the end of a product, they've probably increased the amount of engineering for their products.
The demand decrease during the current slowdown will probably have a greater effect now, hiding the effect of the increased risk.
However, when demand rebounds, the effects of increased risk will persist.
Note that "jumping" when a project is close to done to a project further from done may be an even better idea during decreased demand.