Do You Bet On Horses Or Jockeys?

Last evening, I lectured to a group of students at Notre Dame. Today, I am talking to some law students interested in entrepreneurship.  One of the questions I usually get is what makes a person invest in a company?  The answers are varied depending on who you ask.  For me, it’s about the idea, but it’s also about the person leading the company.

Exterminator (horse)
(Photo credit: Wikipedia)

A trite way of saying it is do you bet on the jockey or the horse?  A lot depends on the stage of the investment.  Venture Capitalists are often called Vulture Capitalists because one of the things they often do after making an investment is change the management team.  Or at least pieces of it.  VCs bet on ideas. If the idea is compelling enough, they figure they have the network to find a management team to bring the horse home.

At earlier stages of investment, it’s almost impossible to change the team.  In that case, the investor has to take a really hard look at the idea and be excited about it-but they have to vet the team and see if they think the team can actually bring that idea along.  Whenever a company launches, it never goes smoothly.  There are bugs, unplanned events, and a myriad of distractions that take managements focus off the core mission.  That rocky road burns working capital. Good managers can ride the storm out and build a stronger company on the other side of it.  They can pivot when things don’t work, and are keen on listening to the marketplace when it tells them they are doing things wrong.

When I have made mistakes in investing, it’s universally because I have fallen in love with the idea, and ignored the jockey.  That’s why it pays to try and spend a lot of time with the management team before you invest.  Understand how they operate, make decisions, and interact with each other.  Everyone says it, but culture is key.

Marc Pincus is struggling with culture at this very moment.  Zynga ($ZNGA) opened for trading as a nine billion dollar company.  Today it’s a two billion dollar company.  So is Mark Zuckerberg at Facebook ($FB), and Andrew Mason at Groupon($GRPN).  When a company goes public, the culture immediately changes and the management can’t do a thing about it.  They have to figure out how to use management jujitsu to use the powerful forces that permeate culture to their advantage.  I don’t own any of their stocks.  At this point, it’s really simple to point a finger at them and say they failed.  I disagree.

How many people started a company in the last five to seven years that went public at over a billion dollars?  It’s easy to be a cynic.  But they need a little breathing room.  If they can’t straighten things out in close to a year, they should be replaced or their role changed.

Every company goes through a lot of missteps.  Apple ($AAPL) certainly had them.   They may have them again depending on what the market does to their stock.  Microsoft ($MFST), the darling of the 1990’s is having a lot of issues now.  Companies culture and direction play out like a soap opera sometimes so it helps to take the long view.   Public companies have earned that right.

Many successful start up CEO’s that I have spoken with have said, “I loved running a company until it got to X employees.  Then it wasn’t fun.”.  That’s why VCs change management as well.  Different CEOs are good at different things.  Some only excel at running large companies.  They can’t function in the more randomized start up culture.  Conversely, many start up CEOs enjoy building great companies-but hate the bureaucratic details that must be executed for long term success when the company grows beyond a certain size.  Good CEOs recognize this and step aside when that day comes.

It is extremely rare when the initial CEO is the CEO for life.  Steve Jobs, and Bill Gates are not normal when it comes to running companies from scratch to going public.  It seems like today, we are looking for all purpose jockeys that are the alpha and omega of the company.   The fact is, there aren’t that many of them around.



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