E114: Markets update: whipsaw macro picture, big tech, startup mass extinction event, VC reckoning

00:00:00.000 | All right, everybody, welcome to the all in podcast. We're back. Thanks to freeberg and sacks

00:00:04.640 | for moderating the show into the lowest ratings in its history.

00:00:11.600 | Hold on, hold on, please give the keyboard warriors that are there bought armies some

00:00:17.920 | respite here. They tried their best. It just didn't work. They just it's okay.

00:00:22.080 | I think the ratings the last episode must be a result of Google down ranking us as a result of

00:00:27.280 | our honesty about not wanting to get more boosters. You're on the Brigadoon cause somebody at Google,

00:00:33.680 | some lower level functionary to push a button, push a button to shadowbait. I mean, visibility

00:00:38.800 | filter us. It's everything except the moderation skills. No way. It's the moderator turning it

00:00:43.600 | into Fox Sunday. Can't be. Let your winners ride. Rain man, David Sackett.

00:00:53.840 | And it's said we open sources to the fans and they've just gone crazy.

00:00:57.200 | The reaction I got from our COVID vaccine discussion was, Hey, pretty fair and balanced,

00:01:06.480 | like not in a in a joking way, but like, actually, like, yeah, the warning on YouTube

00:01:10.560 | was pretty benign, actually. Yeah, it's like, if you want COVID information, click here. Thank you.

00:01:14.080 | Okay, let's talk about the market data. The Fed raised 25 basis points. The market obviously has

00:01:19.520 | ripped since then the jobs data this morning was crazy. We added 517,000 jobs, more than two x

00:01:29.520 | December, and well above the estimates of 188,000 jobs. The Fed I think is starting to realize

00:01:36.560 | they can obviously impact inflation and slow down speculative assets, but they're having

00:01:43.360 | a very hard time with the labor market. Obviously, labor participation actually is growing. We've

00:01:48.640 | talked about that many times here. It's bumped up to 62.4%. We all know it peaked at like maybe 69%

00:01:54.400 | during the 2000 time period. Wage growth, though, continuing to slow. So that is some good news

00:02:02.080 | there. And obviously, risk on assets are ripping the last couple of days. Tramont, what's your

00:02:07.840 | take on where we are with the market and the Fed's action, which people are starting to believe will

00:02:13.360 | be another 25 basis point hike and then maybe staying high for the rest of the year. Did you

00:02:19.680 | hear their comments? You think dovish? What's your take on the market?

00:02:22.720 | I watched Powell's speech. And it was really amazing because

00:02:25.920 | in December, he was extremely hawkish. And he was basically like, listen, we're going to keep rates

00:02:34.880 | higher than you like and longer than you want. And that was pretty clear and the markets reacted.

00:02:41.360 | And then not but 3540 days later, he essentially said we have to 25 basis point hikes left to go.

00:02:49.360 | And he's going to try to stick the landing essentially. And even though the rest of the

00:02:55.920 | language in his entire speech, and the press conference, if you read it in the absence of

00:03:01.840 | his body language, so if you just read the transcript would seem very hawkish as well.

00:03:06.720 | But the reality was he basically capitulated and then the market essentially said, okay,

00:03:11.760 | we're at the end of this thing. And we've talked about this before, but markets tend to bottom

00:03:16.560 | six to nine months before it's clear that you could have done this. And so we're a little bit

00:03:22.480 | off to the races in the short term. It's compounded by a couple of other factors.

00:03:26.720 | One is that at the end of last year, so many people were tax loss harvesting, which means if

00:03:32.240 | you had some gain somewhere else, you sold some things that were losing money so that you could

00:03:36.000 | net the two together. You saw a lot of stocks Tesla was probably the poster child for this

00:03:40.800 | trade all the way down to like $108 a share, and it's effectively doubled in the last 30 days.

00:03:46.640 | Right. So everybody tax loss harvested, everybody degrossed, nobody was really owning anything.

00:03:51.200 | And then when Powell basically said we're mostly done, there's been so much systematic buying right

00:03:57.600 | now that nobody's really well positioned. To me, this is very similar and eerily reminiscent of

00:04:04.640 | the end of 2018 and beginning of 2019. And if you guys remember, at the end of 2018, October,

00:04:10.560 | November, December, the markets just fell. And part of it was Powell's going to raise rates,

00:04:16.080 | inflation is getting out of control, etc, etc. And then we got all this data that said China

00:04:21.840 | may be entering a real period of malaise. And Powell capitulated, again, trying to stick the

00:04:27.680 | landing. And long story short, he didn't. That was a head fake, and the markets just ripped higher.

00:04:35.200 | Then we went into the COVID pandemic and all that stuff happened. So I think we're about to replay

00:04:41.120 | a little bit of that at least in the next 30 to 90 days. The pain trade is to go up. So that's

00:04:46.960 | probably where we're going. Here's the Fed fund rates chart from 2000 and into the 2008 recession.

00:04:53.040 | And you see just, you know, to Jamat's point in 2019, that little step up to 2%.

00:04:58.800 | And then this dramatic step up that we've been on up to four and a half or so.

00:05:04.880 | Sachs, is this where the Fed pauses? Do you think they cut? And what overall effect is this going

00:05:11.840 | to have on venture capital in the startup market, which is super important to us?

00:05:17.200 | I think we're in the whipsaw economy here. Just a month ago, sentiment was incredibly negative.

00:05:23.200 | On the show, we were predicting for the year that we were looking at the Fed funds rate going from

00:05:28.320 | four and a half percent to say five and a half percent, 250 point increases. The belief was that

00:05:35.680 | we were going to have a recession later this year. I think that was pretty much consensus.

00:05:41.200 | And now three weeks later, you had a situation in which we got a couple of really good inflation

00:05:46.000 | reports. So all of a sudden the consensus changed to, we're not going to need to raise rates to five

00:05:52.720 | and a half percent. Maybe we only get one or two more quarter point rates. And the market just

00:05:58.480 | ripped on the belief that inflation was in the rear view mirror. The problem had been licked.

00:06:03.680 | And now we can just kind of move forward. And the Fed seemed to confirm that just yesterday

00:06:09.680 | with a quarter point rate increase. And now today we have this wild jobs report with over

00:06:16.080 | half a million new jobs. The expectation was only a hundred thousand. And so now all of a sudden,

00:06:21.360 | people are wondering, well, wait a second, does this mean that labor costs are going to go back

00:06:26.000 | up, that the economy is overheating, and now the Fed's going to have to raise more?

00:06:29.760 | So I would say literally from week to week, we're being whipsawed between expectations of whether

00:06:36.240 | inflation has been conquered or not, whether the economy is going to have a recession or not. And

00:06:42.960 | I think probably where we're sitting at this moment is you'd have to say that the risks of

00:06:48.480 | inflation returning are slightly higher, but the risks of a recession are slightly lower because

00:06:53.920 | with this kind of jobs report, better chance of having a soft landing here.

00:06:58.000 | It's very hard, in other words, Sax, to have a recession if people are employed,

00:07:03.360 | if people are employed.

00:07:04.240 | Well, especially when you're down to 3.4%. Yeah, exactly.

00:07:08.000 | 50-year low.

00:07:09.920 | Right. So I just think that we're in a highly volatile economy and it's very hard to predict

00:07:14.960 | the future. I'd say that relative to where we were a month ago, you'd have to say that the odds of us

00:07:22.960 | having a soft landing this year are quite a bit better than they were just a few weeks ago.

00:07:27.360 | All right, Freeberg, when we look at this employment picture,

00:07:31.200 | does seeing people are going back to work seems maybe indicative of people blew through their

00:07:35.360 | savings. We talked about this, you've been harping on and on previous episodes about people doing

00:07:40.160 | personal debt, buy now pay later. Is a possible thesis here that people YOLOed for so long,

00:07:46.960 | post pandemic, Coachella, vacations, etc, that maybe they whipped through their savings,

00:07:52.640 | it seems like we've burned off a trillion in savings or something like that, and the debt's

00:07:56.240 | going up. So now people maybe need to go back to work and they're finally capitulating and

00:08:00.000 | taking jobs. Do you think that's what's actually happening here?

00:08:03.200 | I don't know if I would classify that. I mean, there's obviously a lot of this stuff is on the

00:08:07.680 | margin. The one challenge, you know, Larry Summers has been harping on since last spring,

00:08:13.520 | all the way through the summer and the fall. And, you know, in multiple kind of interviews and

00:08:20.880 | publications he's done, he's the ex US Treasury Secretary, obviously, brilliant economist,

00:08:26.720 | that the US needs to have a five to 6% jobless rate for five years, in order for us to really

00:08:32.320 | get to the inflation rate target of two to 3% or below 2%. And so, you know, the economists

00:08:39.760 | and the macro guys that are tracking their jobs report today, are the I think the indication is,

00:08:46.560 | we're not there yet. And that the implication of a tight job market is wages go up and wages go up,

00:08:53.760 | inflation goes up and because companies need to charge more because they have to pay more to get

00:08:57.600 | talent. And this obviously continues to support the escalatory spiral that drives inflation.

00:09:04.960 | So that's the, the, you know, kind of downside to the jobs report today, that I think a lot of

00:09:10.640 | folks are watching. The Fed mentioned over and over again, deflation. So any impact there,

00:09:15.440 | Shamath, you think we're going to see prices start to crater? And what impact would that have

00:09:20.400 | on the market? I think Saks is right. I think the the marginal risk here is is for this whip sawing.

00:09:25.360 | So we have a period now which is disinflationary. But the problem is, if the stock market keeps

00:09:32.560 | going up, and all of a sudden, we have less restrictive monetary conditions, then we're

00:09:37.840 | going to be back at the same place we were before, which is money sloshing around into all kinds of

00:09:43.920 | risky assets, or more money, you know, there's still an enormous amount of money sitting on

00:09:48.880 | the sidelines that has to come into the market now if this thing keeps going higher. So we're

00:09:53.680 | in a delicate moment. And if we reignite inflation, because all of a sudden, more companies have more

00:10:00.160 | liquidity that they can tap, right, more money, they can raise more money as a result that they

00:10:06.080 | can spend. Because we don't have this first inflationary cycle under control, there could

00:10:12.160 | be a risk that that we reignite inflation. And so then, then they have to capitulate, the Fed has to

00:10:17.680 | capitulate again and start another hiking cycle. So I think it's a complicated moment. I think

00:10:24.160 | all of the smart money in Wall Street that I talked to up until this point, they forecasted

00:10:29.440 | like this period would be choppy. And the second half of the year would be really robust. And like

00:10:34.160 | you need it to be super long, and things were going to be incredible. And when I talked to them

00:10:37.920 | this week, they're like, Oh, God, we weren't positioned for this, we had no risk going into

00:10:42.640 | this, we're going to be forced buyers. There's a bunch of companies that are whispering that they

00:10:47.440 | want to go public now. Oh, really? Hmm, the big banks have been calling around trying to book

00:10:53.200 | build quietly for some IPOs. And so if they try to kind of crack this capital markets open,

00:11:00.400 | I think there's again, the marginal risk will be that we do whipsaw sex.

00:11:07.840 | When you say book build, you mean trying to see if you'll get some early takers to buy equity in

00:11:12.240 | an IPO, perhaps even in a company like stripe that's been sitting on the sideline.

00:11:16.880 | So not stripe, they're in a complicated moment. But when they call to book build,

00:11:20.240 | they basically say, Hey, listen, XYZ company, quiet filed, look at the s one, what do you think,

00:11:26.880 | where's the price, blah, blah, blah. And they're trying to get an indication of whether you'd want

00:11:30.720 | to be in the IPO book. So I think that there's a lot of those testing the waters that are now

00:11:35.920 | starting again, would there be an appetite in your mind for an IPO in the second quarter?

00:11:42.080 | Of like a stripe type company, putting, you know, I don't know what the other candidates are the

00:11:45.600 | lead candidates, but stripe is when people talk about most, the thing that we have to think about

00:11:49.760 | is like, most of the market are not people, right? Most of the market are computers and algorithms

00:11:54.160 | and ETFs. It's an extremely formulaic buying model. Do you have components of an index,

00:12:00.880 | those represent certain percentages, you have to own those percentages to be relevant as that index.

00:12:05.920 | And so it's this reinforced buying loop, as well as a reinforced selling loop, right?

00:12:11.280 | So when things start moving, those folks have to just systematically move money in,

00:12:16.800 | all the humans know that. So the humans tend to front run all the computers, and they basically

00:12:22.400 | are the ones that sell into these guys. And then that's what inflates these prices. Similarly,

00:12:27.280 | on the way down, humans try to front run it by being short into that stuff. So we could see

00:12:32.640 | the capital markets open, even if we don't, it's actually the worst scenario, because now you have

00:12:39.360 | all this money going into a fewer number of names. That sort of explains Facebook has doubled in,

00:12:44.560 | in 30 to 60 days. Yeah, it was about Tesla. Tesla has doubled in 30, you know, 30, 60 days,

00:12:50.560 | a lot of the tech stocks, like high beta stocks that we are all,

00:12:54.080 | you know, helping to build, those companies have just absolutely ripped 60 to 100%.

00:12:59.200 | These are not healthy and normal moves. And so the question is what happens if

00:13:07.760 | inflation somehow all of a sudden pokes itself back up right now, it doesn't look like it is.

00:13:11.920 | And Powell was clear. And it's true. We're in a deflation, deflation 11 times during his

00:13:16.240 | his use of language. Yeah, that's why the market rips. I mean, basically, that was all part of a

00:13:22.640 | narrative where inflation is on its way out. We've licked that problem. And that's what the market

00:13:29.200 | was pricing in. And I think now the question is, in light of today's jobs report, is that actually

00:13:34.320 | true or not? And I'm sorry, disinflation, not deflation, disinflation. Yeah. So I think, you

00:13:40.000 | know, one way to one way to look at this is, Jay, how you showed the chart of the Fed funds rate,

00:13:44.960 | another chart is the yield curve, which is pulled the yield curve for a second, this is the yield

00:13:49.920 | on US Treasuries on, you know, our T bills. And one way to look at this is as a prediction market

00:13:57.840 | of where the market thinks interest rates are going, because the Fed sets the rate for the

00:14:03.360 | Fed's funds rate, which is the overnight rate of lending to banks, but they do not set the rate of,

00:14:09.440 | you know, three months, six months, bonds, 10 year bonds, and so on. The market does because

00:14:13.600 | the market trades those bonds, and it imputes a yield that the market requires to want to hold

00:14:20.480 | those bonds. So what's interesting is that if you view the yield curve as a, again, as a prediction

00:14:26.560 | market, it tells you at any given time, what the collective wisdom is of the market. Now, this

00:14:32.320 | thing is fluctuating, moving all the time. So that collective wisdom is changing. But where things are

00:14:37.200 | today, it's pretty interesting. It looks like what the market is saying is that within the next six

00:14:43.280 | months, the rate peaks at 4.75%. So Nick, if you just want to hold the mouse on the six month dot,

00:14:50.160 | you'll see it's 4.76%. So basically, the market is predicting we get maybe one more

00:14:57.360 | quarter point, roughly, not much. And then if you go to the two year, it's at 4.09%,

00:15:05.360 | so a little over 4%. So what the market is actually predicting is that over the next two years,

00:15:10.960 | we're actually going to get a 50 basis point decrease from the Fed. And then if you go to,

00:15:17.040 | say, the five year or the 10 year, we're at 3.5%. So the market is basically saying that

00:15:22.960 | long term rates are going to stabilize at 3.5%. We're not going back to the abnormal

00:15:28.480 | zero interest rate policy or ZURP that they had for 10 years. 3.5% will be the long term stable

00:15:35.440 | cost of money. But you can see that the market, the prediction market, thinks that the Fed has

00:15:42.160 | done enough to combat inflation, because the Fed funds rate now basically is where the bond market

00:15:48.960 | thinks it should be. And in fact, the bond market thinks it's coming down over the next two years.

00:15:53.440 | But coming down to what would be three and a half, in a world that we've lived in for largely

00:16:00.160 | of the over the 14 years of this bull run, the majority of that was at close to zero or zero.

00:16:05.520 | And that's why we're never going back to the bubble of 2021, where SaaS companies are trading

00:16:10.560 | at 100 times ARR, we're going to go back to an environment more like a more normal one,

00:16:15.440 | where valuations are more like the 2017 valuation, something like that. It's three and a half percent

00:16:21.200 | is not a bad, it's still a great deal. Still a great deal if you got your mortgage at that.

00:16:25.120 | If you listen to Buffett, Buffett's teacher, this guy, Ben Graham, in Ben Graham's book, the way

00:16:30.240 | that he would look at a stock, and obviously, look, things have changed. But the way that he

00:16:33.920 | would look at a stock is he would look at that risk free rate, he would double it. And then

00:16:39.280 | the inverse of that is the maximum price to earnings ratio that he would pay for a stock,

00:16:44.160 | right, that's the trade off is, if you can get more than two times the risk free rate,

00:16:48.080 | then it's worth owning a company. What that means is that if you take three and a half percent as

00:16:53.920 | a terminal rate, the right PE is around 14 for the S&P 500. Right now, the S&P 500 trades at 22 times

00:17:01.440 | PE, which would mean that we are 50% overvalued. Now that again, that's a Benjamin Graham model.

00:17:06.320 | And I think the world has pretty cleanly moved away from it. But there's probably some rooting

00:17:12.480 | in that intellectual framework that's still valuable. And to your point, David,

00:17:16.880 | it just reinforces that man, we need to start to learn a new regime here. Because

00:17:21.360 | when rates are not zero, there's just a lot of excess that you can't support.

00:17:26.080 | Because the alternative trade offs for investors are plentiful, you know, and plowing money into

00:17:33.440 | a money losing startup becomes less attractive. And to just give people some background, that's

00:17:38.000 | the intelligent investor was that book, I believe, and he was talking about value investing, which is

00:17:42.560 | what's the earning per share? What's the ratio? What's the PE? And that's something that growth

00:17:48.720 | and momentum investing has been the opposite of and this is a could be, I think you wrote a blog

00:17:53.680 | post about this, Chamath, sort of the regime change. If you look at the Googles, the Facebook's,

00:17:58.080 | the apples, Amazon's is a little bit of an exception here, those companies printed money,

00:18:04.800 | they had profits, they built up large cash reserves. We look at the next cohort of companies,

00:18:10.160 | Airbnb, Coinbase, Uber's, etc. They focus on the top line growth, much like the Amazon,

00:18:17.600 | which was a very obscure approach, correct, Chamath in the history of this,

00:18:22.240 | Nick, do you want to just throw up this chart, we did a little analysis over here. And it was just

00:18:26.800 | basically looking back 60 years of company formation, we looked at all of the 100 most

00:18:32.240 | valuable public company startups. And we index that to the 10 year interest rate.

00:18:37.680 | So what are we looking at here, Chamath with this chart?

00:18:39.440 | Basically, we went back from 1960 onwards. So basically, you know, 63 years. And what this

00:18:48.880 | shows you is the 100 most valuable public technology companies, then the size of the

00:18:55.360 | circle here is their market cap. And then it's overlaid on top of the 10 year interest rate,

00:19:03.280 | as well as gray bars for recessions. So what is this graphic meant to illustrate? Well, it just

00:19:09.840 | was for us to study, is there a correlation between the value of companies and what the

00:19:17.760 | interest rates were what the economy was doing at the time. And to your point, Jason, the trend is

00:19:23.440 | pretty starkly made on this chart, which is that if you are a company that was founded,

00:19:30.240 | in a period of austerity, you had the ability in general to build a much larger company

00:19:36.400 | than that, which was founded in a period of wealth and excess. Right. So when you look at when rates

00:19:43.840 | were sort of approaching zero or were zero, there was a lot of really successful companies,

00:19:49.360 | they're listed here in the in the light gray on the right. But none of those things really

00:19:53.280 | represent the success that these other companies had. That's the first interesting takeaway.

00:19:57.920 | The second interesting takeaway, though, from this has nothing to do with rates per se.

00:20:01.840 | But it is that when rates intersect with the emergence of huge technology trends. So in the

00:20:09.920 | case of the 1970s, it was the PC revolution. In the case of the late 1990s, it was the internet

00:20:15.840 | revolution, those two things which required enormous progress in both physical infrastructure,

00:20:24.080 | so atoms as well as software infrastructure bits, when you put those two things together,

00:20:28.480 | those also created big companies. And so if you add that all up, the point is that whenever you see

00:20:34.640 | huge tectonic shifts in technology, combined with periods of austerity, that's when the gargantuan

00:20:41.760 | dollars are made. So in the 1970s, companies like Microsoft and Apple from the get go had to be

00:20:47.760 | profitable. Right. And in the absence of one very important round of financing that Amazon was able

00:20:53.840 | to close. The next big wad of companies were founded again in rising rates where they just

00:20:59.120 | had to get profitable or find a way to be positive free cash flow or have positive working capital

00:21:03.680 | faster than anybody else. So these are like really interesting trends that I think just say that as

00:21:10.000 | rates creep back up, and if we can intersect that with some improvements in technology over the next

00:21:16.960 | five to 10 years that we've all talked about, it could be a real boon for startups and startup

00:21:21.280 | investing. It would mean people are a little more resilient, a little more hardcore to use a term

00:21:26.480 | free bird. What are your thoughts on this analysis by social capital?

00:21:29.600 | It's interesting. I mean, I think there's probably two ways you could interpret this one is in an era

00:21:36.080 | of excess capital, all the capital gets competed away. And so you pay more salaries, you have,

00:21:43.040 | it's harder to get high quality talent, you make a lower margin, etc, etc. It's much more kind of

00:21:49.440 | competitive on the ground. And then another one is just obviously kind of like evolutionary fitness.

00:21:54.560 | When there's less capital, investors are more selective. I think what might make this era a

00:22:00.640 | little bit different than the past is just the amount of termed dry powder sitting on the sidelines

00:22:07.520 | right now. So the total VC capital raised last year, I think was a record high. That means there's

00:22:14.960 | a lot more cash that needs to kind of be deployed in the next 12 to 36 months than has ever been

00:22:20.960 | deployed in the history of venture. If that holds true. So that may be kind of a counterbalancing

00:22:28.000 | effect here where it may take three years before that effect plays out, where there's more of a

00:22:32.960 | dearth of capital. It's certainly the case that institutional investors, endowments, pension

00:22:38.320 | funds, traditional family office LPs and venture funds are making far fewer commitments this year

00:22:45.040 | to new funds, as I think we all know, and that tightening will play out in the venture funds

00:22:51.600 | that will get raised for this vintage, the next vintage and so on. And so maybe that that kind of

00:22:56.240 | evolutionary fitness concept starts to play out later. And sizing and sizing and sizing. I think

00:23:01.600 | there's also this like, you know, we talked about this on our text screen, but the venture business

00:23:07.680 | of the last 15 years. Everyone since 2008, everyone's been trained and all the younger

00:23:16.000 | people that have come up and are now partners and running the firms on an environment of momentum

00:23:21.440 | investing, rather than fundamental investing. And so there is also a question of how fit the

00:23:28.640 | investors are for a market space, where valuations are flat, or descending, or the decision whether

00:23:36.880 | or not to invest is no longer driven by who else is investing and how much is the company growing

00:23:41.360 | and how much is their valuation going up. But it's much more about kind of the fundamental performance

00:23:46.160 | of the business. Does this match what you're seeing on the ground sacks? Are people

00:23:51.760 | being more dogmatic, pragmatic? Are the capital allocators, really sharpening the knives and

00:24:00.480 | looking at these businesses a different way? Is it actually hit the streets?

00:24:03.920 | Yes, there's a record amount of money venture capital has raised over the last, you know,

00:24:08.480 | couple of years, but it's going to be deployed much more slowly and carefully over the next,

00:24:13.840 | say, three or four years than it was over the previous few years. So divide that amount of

00:24:19.360 | money by three or four, because the pace of deployment is going to go way down. And so yeah,

00:24:26.240 | I think people are gonna be more careful, they're gonna take longer to make decisions. I think it's

00:24:29.760 | going to be much, much harder for new funds to get started. All of the, you know, hype around,

00:24:35.680 | you know, solo capitalists and, you know, all these, you know, seed funds and micro VCs and

00:24:41.600 | all this kind of stuff. I think a lot of that's going to get washed away. I think in hindsight,

00:24:46.080 | a lot of that was a product of the bubble. And yeah, I think you're going to be in for a period

00:24:51.440 | of some retrenchment in VC. And I think that's good. I mean, I think to the point of Chamas'

00:24:56.880 | study, that, you know, that the counterintuitive finding in his study was that great companies are

00:25:05.360 | created during times when we're not in a bubble and capital is sloshing around everywhere. But

00:25:11.440 | when you're in a environment of moderate capital availability, and I think the point is that

00:25:17.840 | we all have to be under some stress, right? That's what evolution requires is, you know,

00:25:23.600 | if an ecosystem or an organism is not under stress, they have no pressure to evolve and become

00:25:30.480 | fitter and compete. And I think that's what makes our industry and our ecosystem very adaptive over

00:25:37.520 | time is that it's constantly, you know, it does face survival pressures. But over the last several

00:25:43.520 | years, all the survival pressures were taken away because anybody could raise money. And-

00:25:48.800 | There was always another bridge available. There was always some extension and there was no-

00:25:53.520 | Some convertible note to be done.

00:25:54.960 | Reckoning. There was no reckoning. You know, a lot of these companies just seem to,

00:25:58.320 | you know, get another 12 months of runway, another 12 months of runway.

00:26:01.680 | And founders learn so many bad habits during that period of time and so much

00:26:05.200 | entitlement and excess built up in the system during that time. And I think now we're seeing

00:26:13.520 | that a lot of that is working its way out. I mean, just look at the Facebook results the other day.

00:26:18.640 | So, Facebook-

00:26:19.280 | Let's talk about Facebook as an example because-

00:26:21.280 | Yeah.

00:26:21.760 | Here you have a company where the stock over the past year had been pounded. It was like down over

00:26:27.120 | 50%. And the market-

00:26:29.040 | 90 bucks a share, yeah.

00:26:30.080 | Yeah. The market did not like its answers around the capital investments it was making. And then

00:26:34.880 | Brad Gerson, our friend, wrote that letter encouraging them to get much more efficient.

00:26:40.160 | And then they did that. And they basically started doing some riffs and basically just

00:26:44.960 | getting much more efficient in what they're doing and specifically taking out layers and

00:26:49.200 | layers of middle management. I mean, that was really the big thing. So, they kind of took a

00:26:53.280 | page out of Elon's book in terms of what Elon had done at Twitter. I mean, not nearly to that extent

00:26:58.640 | because I don't think they needed to, but they targeted this idea of we have too many layers in

00:27:03.680 | the company, too many mid-level managers. And the stock ripped just, what was it, like up 20%, 25%

00:27:09.040 | Yeah, in a day.

00:27:10.400 | Yesterday? In a day.

00:27:11.040 | And they're up to, I actually bought it based, the day they had the layoffs, I put in a buy order

00:27:18.240 | and it was closed at $94 and now it's at 193. And FedEx, of all places, is laying off 10% of its

00:27:27.200 | officers and directors. So, the idea now is, hey, in the senior ranks, what is the inefficiency

00:27:34.320 | there? How do we get-

00:27:36.320 | Well-

00:27:36.880 | More doers, more people who actually are building or operating the companies

00:27:40.480 | to take the reins and get rid of this, as you're saying, middle management, this waste that

00:27:47.520 | companies have.

00:27:48.480 | Let me tell you specifically the problem that builds up in these companies is that everybody

00:27:53.120 | wants to be a manager. And so, you can't just come at this problem by saying we're going to

00:27:57.600 | increase the number of reports that each manager has from five to 10. That doesn't work because,

00:28:02.000 | let me tell you what happens, is that every individual contributor who's a star thinks

00:28:07.520 | that their career advancement requires them to manage a team. So, what happens is you take that

00:28:11.920 | star IC and then you create a team around them. So, that person then hires five people to manage.

00:28:17.680 | And those five people are not a star.

00:28:19.280 | Then they stop working.

00:28:20.640 | Yeah, they stop working, they just start managing. Well, maybe you get like 20% more production

00:28:25.920 | out of that six-person unit than you would have just out of the star. But you're spending five

00:28:30.880 | times more money. So, it makes no sense. And the problem is it cascades. So, that IC becomes a

00:28:36.960 | manager, they hire five people, then those five people, one of them's a star and says, "Well,

00:28:41.760 | I want to be a manager." And all the organizational pressure is to keep building more and more teams

00:28:46.400 | and more and more layers.

00:28:47.600 | Here's the quote from Mark Zuckerberg to illustrate your point from a recent all-hands meeting. "I

00:28:53.440 | don't think you want a management structure that's just managers managing, managers managing,

00:28:57.360 | managers managing, managers managing the people who are doing the work."

00:29:01.520 | Yes, it's the problem of infinite delegation. Every star builds a team around them to delegate

00:29:06.400 | the work, but then they hire a team to delegate the work to. And pretty soon, the most junior

00:29:11.360 | interns in the company are doing all the work and all the best people are just managing. So,

00:29:15.360 | it's actually a huge problem. And I think that I'd say that a lot of CEOs don't quite understand

00:29:20.960 | the problem because they think that all they have to do is increase the number of reports

00:29:25.520 | that managers have. It's not. You also have to reduce the number of layers in the company.

00:29:30.880 | And just the ultimate example of this, just to put a point on it, was at Twitter, what we saw

00:29:35.840 | is that when Elon went in to basically do a riff at Twitter, the first question he asked in the

00:29:43.280 | engineering department is, "Who's checked in code?" And they looked at the code repository,

00:29:48.320 | and over 50% of the engineering department had not checked in code in months. And you want to

00:29:53.280 | know the reason for that is because the engineers were told that if you want to be a manager in this

00:29:58.800 | company, you don't code. Managers don't code. Only ICs code. And no one wants to be an IC,

00:30:04.560 | no one ambitious wants to be an IC. They all want to get promoted. So, it all gets completely –

00:30:08.640 | To explain what an IC is?

00:30:09.920 | Just individual contributor.

00:30:11.440 | Yeah.

00:30:11.920 | So, the whole thing turned upside down because of this idea that, again,

00:30:15.600 | ambitious people want to be managers, and managers don't do the real work.

00:30:19.280 | Yeah, it's like cowboys who don't know how to ride horses. It's a dangerous precedent to set.

00:30:24.080 | What are your takeaways, Chamath, from what happened at Facebook when you look at it,

00:30:30.400 | and the pressure that was put on the ripping of the stock,

00:30:33.120 | even though they're down 2% year over year in terms of advertising revenue?

00:30:37.920 | There's a guy on my team sent me this chart. He did a pretty detailed

00:30:41.840 | technical analysis of Facebook. Nick, can you please put that image up there? So, basically,

00:30:48.960 | this shows –

00:30:49.520 | This is really technical.

00:30:50.560 | This is the first time Facebook mentioned the word metaverse. In Q2 of '21, on the earnings

00:30:58.480 | call, they mentioned it 20 times. And the gray line here is the stock price. So, as they kept

00:31:03.760 | mentioning it, the stock price just reacted as it did. But Q4 of '22 was the first time that

00:31:10.560 | the word efficiency exceeded the word metaverse, and you saw the stock price rip up. So,

00:31:16.800 | what's happened at Facebook is really interesting because I think it transitioned to what's

00:31:20.640 | generally called an ex-growth company, which means that people are now looking at a business that has

00:31:27.200 | essentially gotten to its peak size, and now what they're looking at is its ability to generate

00:31:33.680 | cash flow. The cash flow generation or cash flow yield of the business was like 3.5%.

00:31:40.480 | But they're making enormous cuts, both in capex as well as headcount over time. They're getting

00:31:48.000 | their expenses under control, and all of that should drive up their free cash flow yield.

00:31:53.120 | And so, I think why people got very excited is there are very few ex-growth stocks that you can

00:31:59.600 | own that can just compound and crunch ginormous amounts of money, and these guys are in an

00:32:06.000 | incredible position to do it, more than $100+ billion of revenue. And if you get these costs

00:32:11.200 | under control and get efficient, get the employee base down to 30 or 40,000 over time, this is a

00:32:18.960 | thing that just spits out just ginormous amounts of cash. And so, it's really-

00:32:23.280 | So, back to value investing and Warren Buffett, that means the earnings per share go way up.

00:32:27.600 | Yeah. The Facebook PE is quite modest, actually. Now, I actually put back in stock-based comp,

00:32:34.400 | and its PE is about 11.

00:32:36.000 | So, still reasonable.

00:32:37.120 | If you go back to the Ben Graham analysis, this is a company that perfectly meets that criteria of

00:32:43.440 | you can buy it at a PE that's basically two times the risk-free rate. And so, I think it's an

00:32:50.080 | incredible stock now that you can own. Because if they keep grinding out all of these kind of free

00:32:55.920 | cash flow gains, man, they'll just have enormous amounts of money. They've already announced a

00:33:00.400 | $40 billion buyback. The thing to keep in mind is Apple had a moment like this. And when Apple went

00:33:06.960 | X growth, they did the brilliant thing, which is they said, "We're going to borrow heavily,

00:33:12.240 | and we're going to return cash." I may have posted this in the group chat to you guys.

00:33:17.040 | By 2025, Apple will have exceeded $1 trillion of cash distributions. I mean, that is just nuts.

00:33:27.280 | Does that include buybacks in cash distributions?

00:33:30.160 | Buybacks and dividends. And so, Facebook now, you can credibly see a path where Facebook could

00:33:36.000 | chunk out hundreds of billions of dollars of total shareholder value returned over the next

00:33:42.160 | four or five years. And so, for value investors, it's somewhat of a kind of a no-brainer. I mean,

00:33:47.520 | nothing's a no-brainer, but really, really attractive value fundamentals right now.

00:33:52.720 | I mean, you did see Warren Buffett buying Apple. I think it's his largest position.

00:33:56.240 | You're going to see him probably do the same with Facebook. There was an interesting mass

00:34:00.160 | extinction event tweet that went on that's related to all of this. Tom Leverio, a GP,

00:34:04.880 | general partner at IVP, which is a venture firm, tweeted the following thread. "There is a mass

00:34:08.720 | extinction event coming for early and mid-stage companies, late 23 and 24. Make the 2008 financial

00:34:15.680 | crisis look quaint for startups below. I explain when, how, and why. And we'll start to offer some

00:34:22.320 | detailed advice." Basically, four in five early-stage startups he claims have less than 12

00:34:27.760 | months of runway, according to a Q4 survey of 450 founders by January Ventures. He sees late 23, 24

00:34:36.560 | when this will all come home to roost. Mark Suster from Upfront Ventures, friend of the pod,

00:34:42.640 | replied with the following, "Precisely our internal analysis. 5,000 seed, 2.5 million raised or above,

00:34:50.240 | A and B companies, those are three different categories, funded in the last four years. We

00:34:54.800 | estimate 50% will go out of business. Loss ratios in the last seven years have been artificially

00:34:58.960 | low due to excess capital, as we just discussed previously with the never-ending bridge."

00:35:05.200 | We've talked about this before. If you look back over 40 years of venture capital,

00:35:08.400 | the average top quartile fund distributes 1.6 or 1.7x the capital they raise.

00:35:15.920 | Even though now we've gone through a period where people have shown these unbelievable

00:35:20.080 | markups, TVPIs, the total value of paid-in capital, distributions have not really budged that much.

00:35:27.600 | Distributions are still modest. They're below 2x. We have to go through what's called mean

00:35:32.960 | reversion. We have to go back to the historic statistical average, which means that a 50% to

00:35:39.600 | 60% mortality rate seems pretty reasonable. By the way, in the dot-com bubble, that's what we went

00:35:45.360 | through. In 2001 to 2005, we had a 50% mortality rate.

00:35:48.960 | At the seed stage, you expect 70% to go out, Series A, maybe a little bit less.

00:35:53.200 | Freeberg, what are you seeing on the streets? You're investing in startups?

00:35:56.880 | Is there an opportunity, by the way, also in here? What are you seeing? Is there an

00:36:01.600 | opportunity in this cohort of companies, which seem to be upside down and/or in a tsunami right

00:36:09.600 | now? This cohort of companies, I think, generally is overburdened with feature orientation and

00:36:18.720 | short-termism more than you would see in an era of reduced capital rather than excess capital.

00:36:26.560 | And what I mean by that is a lot of companies built a business or built a product that allowed

00:36:32.480 | them to show traction in the market faster. And typically, those products that are easier

00:36:37.840 | kind of paths to market end up being features. They don't end up being platforms. So it's very

00:36:42.400 | hard to become a big business or to become a scaling business or to differentiate in a

00:36:46.480 | competitive market. That's a very general statement. But I think when you miss out on

00:36:51.760 | the platform play, you start betting as an investor on a lot of the derivative plays that

00:36:57.760 | look like the real big company, look like the platform. I mean, think about how many companies

00:37:02.000 | try to look like some iteration of Stripe or try to look like some iteration of Uber or try to look

00:37:07.440 | like some iteration of, you know, name your big kind of behemoth. And as a result, you get all

00:37:12.000 | these sort of feature ish platform plays that have maybe a niche or some kind of, you know, narrow

00:37:19.040 | kind of market opportunity. They got funded, those those businesses obviously aren't going to have

00:37:24.080 | the same valuation multiples of the winners in the market. And now, and they burnt a lot of money to

00:37:29.200 | demonstrate growth, because so much of investing over the last 15 years has been momentum investing.

00:37:34.000 | And so they try to grow, then they try to get a higher valuation, investors plan more money in.

00:37:38.240 | Now, the problem is that so many of these series BCD and E companies have a true market value.

00:37:43.680 | They're not a valueless company. But the true market value of them is probably less than the

00:37:48.800 | total preference stack of the capital that's gone in. So there are ways let me Yeah, let me

00:37:53.840 | just make sure people understand. I'll just describe it. Yeah. So when investors invest,

00:37:57.840 | they have preferred stock, so they have a right to get their money back. So they let's say a one x

00:38:02.720 | liquidation preference, they invest $100 million, the company is worth 300. So they own 25% of the

00:38:08.000 | company after they invest, but they have a right to that $100 million first, before common

00:38:13.520 | shareholders get paid. The problem now is that a lot of those companies may be worth less than 100.

00:38:18.320 | They're not worth 400 anymore, they're worth 100. And you can see this play out in the public

00:38:22.720 | markets with that that data set I shared with you guys a few weeks ago, over two thirds of

00:38:27.200 | companies now that have gone public since 2020 are worth less than the capital that they have raised

00:38:33.200 | as in the venture market. So if they were still private, they would be worth less than their

00:38:38.000 | preference stack. And that's where these companies start to unravel. Because now the investors have

00:38:42.960 | to totally recap the company, the founders don't want to have all of their common wiped out now

00:38:47.280 | they own nothing. And there ends up being a very ugly scenario that happens with the board at that

00:38:51.840 | point on how do we wind this thing down? How do we recap it? What's going to happen? And that's

00:38:56.400 | usually where everyone starts to run for the hills, the founders one or more of the founders

00:39:00.080 | leave and so on. I have a question for you. So you mentioned this earlier, which I think was a

00:39:03.840 | really important point, but we didn't really touch it. Do you think there's going to be

00:39:07.840 | a reckoning inside of venture firms about recalibrating general partners?

00:39:13.840 | 100% I mean, look, and why sorry, just explain why. Yeah. So I think what's happened is over

00:39:18.880 | the last 15 years to become a successful venture investor, you've gotten into the hot deals,

00:39:24.400 | the deals were and hot deals, the valuations are typically climbing up. And, you know, when the

00:39:29.120 | valuations climb up, that's an indicator that the company is doing well, and you should invest.

00:39:34.080 | That's been the model for operating in the last 15 years. But the truth is that maybe just because

00:39:39.360 | the valuations have gone up and more money has gone in doesn't necessarily mean that that's a

00:39:43.120 | great business or as Jamal points out that you ultimately get a positive net return on that

00:39:47.760 | investment down the road, and that windows now closed. So the the investors that have been

00:39:53.040 | trained jet, this is such a generalization. And I hate saying it because we have so many

00:39:57.200 | good smart friends that work in venture. But generally speaking, there are a lot of folks

00:40:01.120 | who have come up who have been trained on this momentum investing model. And it's like it's like

00:40:06.080 | day trading, the stocks are going up, let's all put money into the stock going up, instead of

00:40:09.600 | having a more fundamental approach to is there real cash generation potential and scalability

00:40:15.120 | and platform ability of this company. And as a result, you're going to have to see I think the

00:40:19.840 | junior partners that have come up and done well in this market. Can I go on your point?

00:40:24.960 | Well, they're, they've, they've done well on paper, but they haven't done well on distribution.

00:40:28.880 | So maybe that Chamath becomes the well, so you decide who's a good venture capitalist,

00:40:33.200 | which of these companies actually returned capital at a peak market?

00:40:36.640 | Well, I think freeberg is really onto something. And he mentioned this before. So

00:40:40.960 | I got curious about this. And I went into pitch book. And my team and I looked at all of the

00:40:47.680 | people, the humans in our business, that have generated more than a billion dollars in

00:40:52.800 | distributions on a given deal. And there's 20 that have done that in our industry. Like, there's

00:40:58.240 | people that have made hundreds of millions of dollars once or twice. But there's 20 people that

00:41:02.160 | have made more than a billion dollars more than once, okay. And if you look not a single one came

00:41:06.240 | up through the ranks as a pure engineer or product manager, right, everybody to a one is extremely

00:41:12.880 | commercial in their background and their operating experience. Very few percentages of them were

00:41:19.600 | actually founders, a huge percentage of them were trained in banks and other places. So non

00:41:25.360 | traditional, quote, unquote roles for what this current crop of GPS look like, because we went

00:41:30.800 | through a phase where if you were a VP of product or a VP of design or a VP of engineering at a

00:41:36.400 | well known startup, that was the most obvious onboarding into a venture firm. But if you just

00:41:42.000 | look back at the data, that cohort of people has actually never made money. Again, according to

00:41:47.040 | pitch book. That's fascinating. And that's a really fascinating counterintuitive takeaway,

00:41:51.600 | which is that, and by the way, what's so interesting about that is Pat Grady, I think

00:41:56.160 | had a tweet, and it just sums it up so cleanly, because he just hired somebody from CO2. And the

00:42:02.160 | tweet was something to the effect of this guy is the most commercial guy we've ever seen, something

00:42:08.080 | like that. And I thought that was so interesting, because that is exactly what our heuristical

00:42:12.800 | analysis of this data was as well. Commercial people in venture are the ones that make the

00:42:17.280 | money. So you look at a Fred Wilson, Michael Moritz, Danny, girlie, girlie, they were investment

00:42:23.760 | analysts, I can show you the list markets before they became venture investors, or Mike Moritz,

00:42:28.400 | who was a journalist, which is a journalist is just an analyst. It's another if you're a good

00:42:33.280 | journalist. It's another word for analyst. Yeah, it was really, really interesting looking at that

00:42:36.720 | list. So like, you know, there are people in there like Jim gets Alfred Lynn, Danny Reimer,

00:42:42.880 | Jan hammer, Fenton. So if you look at all of these folks that are just tier one people,

00:42:49.680 | and we know all of them, the one common thread amongst all those folks is that

00:42:53.920 | unbelievably commercial. And so Jason, in a in a moment like this, where you have to

00:42:58.560 | really hold the entrepreneurs feet to the fire, or be their partner to make extremely hard

00:43:03.680 | decisions, you have to have the ability to be respected by them in those moments where you can

00:43:09.200 | force a very difficult decision. And then separately, if you have to basically force

00:43:14.240 | liquidity so that you prioritize your limited partners, how do you do that while still managing

00:43:18.320 | the relationship with the entrepreneur? How do you know that you just need to cut your losses and get

00:43:21.920 | out? These are very difficult trade offs that I think folks haven't been trained in doing to

00:43:26.960 | David's point. So it'll be really interesting few years to see how these organizations

00:43:32.080 | I think this goes, this goes to Saksa's point about, hey, the ecosystem, if it's hard,

00:43:36.960 | if it's cantankerous, if there's sand in the oyster, it could make the pearl. If you have a

00:43:43.120 | con you know, a congenial relationship with you know, your product manager, VC and everybody's

00:43:48.480 | champagne and caviar and high fiving, maybe that's not as good as having a bill Gurley,

00:43:55.200 | a Michael Moritz and having a foil maybe who is putting pressure on the management team,

00:43:59.760 | hey, we need to hit these numbers, freeberg and then sex.

00:44:02.560 | Yeah, look, I think one one counter argument here may be that there is this friggin title wave

00:44:10.000 | of AI companies. And there is this incredible amount of lubricant in the dry powder that's

00:44:15.520 | sitting on the side of the of the market right now that all these venture funds raised in the

00:44:19.760 | last two years, that is going to lubricate all these AI companies into every vertical in every

00:44:24.880 | market. So every company is wrapped up in an AI cloak, like a magic invisibility cloak, every

00:44:30.400 | AI company has got an AI hat and a badge and a tattoo now or every company is being rewritten

00:44:34.640 | as an AI company. And the money wants to find its way into AI and it wants to rewrite industry with

00:44:40.560 | every industry with AI. So I think similar to what we saw with mobile, and the social web,

00:44:46.000 | you know, going back 10 or 15 years, we're seeing kind of this AI wrapper and this AI technology

00:44:52.640 | enabler, rewrite the possibility of every vertical, and the VCs have capital more capital than they

00:44:58.560 | had 15 years ago, or 10 years ago, or even seven years ago. So there is this counter narrative,

00:45:03.280 | which may be that the game the game goes on, the band continues to march on the current crop dies

00:45:09.280 | out. But there's immediately a new crop waiting right behind it. Or what happens is the herd

00:45:14.400 | dies and everyone runs to the back of the right and gets recapitalized. Because I can tell you

00:45:18.640 | every startup I know that's not going well, everyone's talking about leaving to go do an AI

00:45:22.320 | company. And then you're ready to write money. I think you're I think you're right about that.

00:45:26.160 | I think the question is, the actual person making the check, will they be more or less likely? And

00:45:32.880 | at least what history would tell you is that we've hired an entire generation of people

00:45:40.400 | that and this is clear, do not map to the people in our industry that have actually generated

00:45:46.640 | returns. So you're right, they may take this money and misallocated into these companies that

00:45:51.360 | are just, you know, rebranding themselves. But that just goes and further proves that there is a

00:45:56.720 | type of person that hasn't been recruited into these venture firms yet. That was the first

00:46:02.320 | generation that made all the money. I think it's always been the case that there is some

00:46:06.400 | difference between the background of the VCs and the backgrounds of founders. I mean, you guys

00:46:11.200 | mentioned Gurley and Moritz. Like we said, Moritz was a journalist who had written a book about

00:46:17.120 | Apple. He wasn't technical per se. And Gurley was a investment analyst on Wall Street before he then

00:46:25.760 | made the transition into VC. And as we both know, they're like legendary VCs. You know, I think the

00:46:34.160 | what you want to see in a VC, I think the background matters a little bit less than,

00:46:40.560 | you know, like, how curious are they? How good are they about learning a new area? How good are

00:46:45.840 | they at being like a heat seeking missile? I mean, basically just like zeroing in on,

00:46:50.000 | like, what is the hot space? And specifically, what is the best company within that space,

00:46:56.480 | and somehow figuring that out, being able to assess a founder, you know, that's like a very

00:47:00.800 | subjective thing. So I think there's lots of qualifications that you want to see in a VC.

00:47:06.000 | Now, at the same time, I do think that if AI is the next wave, and the next sort of platform

00:47:13.120 | opportunity, as we all think it is, I do think that places more of an emphasis on technical

00:47:19.280 | skills. And I was I was literally just having this conversation at Kraft that, gee, maybe the

00:47:24.800 | next hire, we should make a craft should be someone who's really deep technically. So they

00:47:29.600 | can, you know, help go deeper on technical due diligence of AI companies. They've never made

00:47:34.960 | money. What's that? They've never made money in the history of our business, who those people

00:47:40.160 | that archetype of hire has never done that on behalf of well, he's in biotech and life sciences,

00:47:46.240 | they have investors usually saying he's saying a technical hire who worked in the trenches at

00:47:52.240 | a company is not as fit no has not in the past has not in the past gotten DPI. Whereas somebody

00:47:58.560 | who is more commercial able to analyze a business. The ideal person is going to be able to get

00:48:03.680 | returns. Right, right. So look, I think, you know, the ideal person would be someone who's

00:48:08.000 | formerly a great investor, but also has some technical background and some technical chops.

00:48:12.960 | We also have a team approach at Kraft. So if you have someone who's very technical,

00:48:16.400 | they can just diligence the technical aspects of the deal. Somebody else can be responsible for,

00:48:20.800 | you know, making an assessment of the founders,

00:48:23.360 | how we've solved this is we have a group of third party individuals that we work with,

00:48:28.160 | that we keep on retainer that we compensate. And whenever we need to do deep technical diligence,

00:48:34.160 | we partner with them to do that work with us. And what it allows us to do is get the best of

00:48:39.360 | their technical thinking without also putting them in a position of trying to adjudicate whether this

00:48:44.400 | company is good or not. What I'm trying to understand is, what is this technical edge?

00:48:49.360 | And can I understand the boundaries of that, but I still keep the investment decision to myself and

00:48:55.360 | my partners, because otherwise, the difficulty is, in my experience, deeply, deeply technical

00:49:01.680 | people are extremely good at diligence, but generally are poor at making investment decisions,

00:49:06.800 | because there's a part of their brain that flips on, which is like, I could do it better,

00:49:10.960 | or I could do it this way, or I could do it that way. And I think like that anchoring bias

00:49:15.680 | can be very dangerous. And you almost want to be a little dumbed down from that depth of knowledge,

00:49:22.880 | because you either find everything that is like not worth doing, and then you can miss a market.

00:49:27.760 | Or you miss the thing that is good enough, because you're like, Oh, well, I would have done x, y,

00:49:33.360 | and z in a different way. So we kind of like use them, but we keep them at arm's length so that

00:49:38.000 | they never feel the pressure of having to actually decide on our behalf, how the money should be

00:49:42.000 | spent. Yeah, that's interesting. Yeah, the number one thing we're doing at this early stage is

00:49:45.520 | training our founders. I know this sounds crazy, on accounting best practices, and pricing best

00:49:51.040 | practices. And we literally have founders who have never made a plan I'm talking about at the

00:49:56.400 | seed stage, who don't know accounting. And so we are running for seed stage startups. And I'm kicking

00:50:02.240 | myself that we didn't do it two years ago or three years ago, but better late than never on how to

00:50:07.520 | just maintain their books and understand operations and the the operational lack of discipline in the

00:50:14.400 | market. I'm seeing series A and series B companies that literally don't understand their own

00:50:19.520 | accounting. And so when we start talking to their accountants, there is a huge gap between what the

00:50:24.480 | accountants think of this business and what the founders think of these businesses, and founders

00:50:29.120 | think they have more revenue than they have or less revenue. They're really don't even know how

00:50:33.360 | to calculate their runway in an honest way. And so there is back to your point trim off about on the

00:50:39.120 | on the venture side of the business, a lot of product focus, a lot of operational focus,

00:50:43.520 | there's not enough focus on just the bottom line. The reason that happened is what Friedberg said

00:50:48.560 | before, which is like somebody would build something, there was a little bit of momentum.

00:50:53.040 | And you'd have to go and present these bona fides to these entrepreneurs to get into the deal.

00:50:57.600 | And so vent what venture firms thought was the right bona fide to present as Oh, I built XYZ

00:51:02.400 | product at this other company, right? And they thought that that edge could get you into a deal,

00:51:07.680 | maybe, but it could turn out that that was the wrong company to be in in the first place.

00:51:11.920 | And so you just missed an entire generation of value creation, because it happened sort of

00:51:17.840 | off piste off the trail. Like, yeah, you really do need to understand fundamentally, because we're

00:51:23.440 | talking about public markets here, the Facebook analogy, what is the ultimate earnings? What is

00:51:29.440 | the ultimate cash that is going to get thrown off this business? And that's what the whole industry

00:51:34.320 | needs to, I think, pivot to and just, that needs to be the operating principle. You guys know how

00:51:40.080 | much money Facebook, Amazon, Google and Microsoft raised combined total before they went public.

00:51:46.400 | That's very small. I mean, Google is minuscule, less than a quarter billion dollars. Unbelievable.

00:51:50.800 | Yeah, all the inefficiency is extraordinary. And then on top of this inefficiency, I don't

00:51:54.800 | know if you're seeing this, they were all profitable when they went public.

00:51:57.360 | On top of all this inefficiency is a dependence on venture debt. I don't know if you're seeing

00:52:02.960 | this sacks, but the amount of focus on adding debt to unprofitable companies over the last

00:52:09.760 | five years has been just extraordinary. I don't understand what I've never understood the venture

00:52:14.960 | debt model or really how it works. I feel like it's a category that doesn't make any sense.

00:52:19.040 | Say more.

00:52:20.240 | I mean, well, I mean...

00:52:21.920 | Explain it to people what's happening.

00:52:24.080 | I don't really understand how it makes sense for lenders or for founders, to be honest. I think

00:52:28.000 | the whole industry doesn't make any sense. For founders, I don't like it because the money has

00:52:32.800 | to be paid back, right? It's debt. So founders take in this venture debt thinking like it's an

00:52:37.840 | equity round, but without dilution, with some warrants. And they don't realize, well, wait a

00:52:42.800 | second, we got to pay this back in a year or a year and a half out of the next round they do.

00:52:47.680 | But that creates an overhang on the next round because the new VC is coming in. They want their

00:52:52.720 | money to go into the company, not paying off a bank. So it actually makes the next round less

00:52:57.920 | attractive. The other thing about it is that the lender is not getting an equity reward. So they

00:53:05.920 | don't want to take equity risk. They may be getting a nice coupon. They might be getting 9%

00:53:12.400 | or something like that, which sounds high for debt, but they're not taking true equity risk

00:53:16.480 | in the company. So the last thing they want to do is be your last six months of runway, right?

00:53:21.760 | They want to be your first six months of runway and then get paid off on the back end. And I

00:53:27.520 | think a lot of founders think, "Oh, well, I'll take this money and it'll extend my runway from

00:53:32.640 | 18 months to two years." But what will happen in that last six months is all of a sudden,

00:53:37.520 | the bank will come to you and say, "No, no, no, no. You have this or that material

00:53:42.720 | adverse condition. It's called a MAC out." And there's all these terms that founders don't

00:53:49.280 | understand because it's highly legalistic. Covenants, yeah.

00:53:51.520 | Covenants. And so all of a sudden, the founders find themselves with a lot less flexibility

00:53:57.840 | in that last six months to a year. Either a covenant gets triggered that makes them pay

00:54:03.040 | back the money immediately, or their business flexibility goes way down because they're

00:54:07.840 | consulting with their bank about everything. All of this is coming home to roost right now.

00:54:12.160 | I think it's a terrible deal for founders. And I think that even for the lenders, I mean,

00:54:17.200 | I guess I assume that these banks know their business better than I do, but

00:54:20.880 | I think that the reason I don't trust it as a category from a lender point of view or from

00:54:30.320 | like an investor point of view is that all the data about defaults over the last five to 10

00:54:36.320 | years happened in this free-flowing zero interest rate environment. And so the startup mortality

00:54:43.440 | rates were artificially low because it was so easy to raise. So yeah, venture debt makes sense

00:54:49.120 | in an environment in which founders are generally able to raise the next round and then pay back

00:54:53.840 | the venture debt. But let's say that that tweet storm you mentioned, Jason, can you bring that

00:54:59.120 | back on the screen? I actually think this tweet storm is basically correct is, I've referred to

00:55:04.160 | on the show before that I think one of the things that built up during this bubble is latent startup

00:55:09.520 | mortality. So many startups that should have died from not being able to raise next round

00:55:15.280 | live because they're able to raise money. And what this tweet storm is predicting is that the

00:55:19.440 | second half of 2023 and then 24, you're going to have a huge crunch where all these companies have

00:55:26.240 | to go out and raise, they've been waiting. So they're all going to get to the point where their

00:55:30.880 | cash is so low, they have to go out and raise. And now all of a sudden, they're going to be

00:55:34.400 | confronted with the new market conditions. I wonder how many of them have venture debt

00:55:38.000 | as an overhang. And those ones, yeah, and they're going to find they have less runway than they

00:55:43.120 | thought because again, those banks, they are going to try and collect the debt before the startup

00:55:51.120 | runs out of money, not when it runs out of money. Catch two falling knives.

00:55:54.720 | You basically- Yeah, exactly. So look, I just wonder,

00:55:57.920 | what I don't trust is whether the return models on venture debt that were created

00:56:04.400 | over the last five to 10 years will be a good predictor of what the returns will be in the

00:56:09.200 | next five, 10 years when a lot of the mortality that should have happened in the past now happens

00:56:15.200 | in the future. Well, I mean, and Sax, correct me if I'm wrong here, but I'm also starting to see

00:56:20.080 | really gnarly term sheets, people foreclosing on businesses, people offering like literally had a

00:56:25.520 | term sheet come in, like we're going to forgive the last note and take this business over for a

00:56:30.080 | dollar, and everybody gets wiped out. The amount of bad feelings that you have to go through,

00:56:35.440 | even if there is a core business to Friedberg's point earlier, hey, they raised 100 million,

00:56:39.680 | but there's a $50 million business in here that people would love to invest in.

00:56:43.520 | Who wants to go through the hand wringing, the negotiation, the toxicity of a recap?

00:56:49.120 | It's an extremely hard process to go through. Are you going through any recaps right now, Sax? And

00:56:54.000 | what is the approach of the firm in terms of dealing with these kinds of situations? Do you

00:56:59.040 | even want to start that discussion up? Or is it too painful? For a new company, not one you're

00:57:05.600 | already in? I don't think for most of our companies, we're at the recap or restructuring stage. I mean,

00:57:09.600 | I'm talking about the ones that aren't going well. People still have a fair amount of cash in the

00:57:13.120 | bank. And we've been beating the drums for literally a year. But what about new opportunities? And new

00:57:18.640 | opportunity comes to you, it's one of these overhang companies that wants to restructure.

00:57:21.920 | Would you even engage that? Or is it just too hard? I looked at seven at the end of last year,

00:57:25.760 | and I tried to reprice three of them. And every single one was able to get a convert done away

00:57:31.920 | from us. Yeah, so I mean, yeah, we tried to find a market clearing price for this equity,

00:57:37.600 | but nobody wants it to David's point, because there's too much money on the sideline.

00:57:41.040 | And people are willing to give them a lifeline that doesn't force them to come to hard terms

00:57:47.440 | with what the reality of the moment is. Yeah, I agree with that. We're not quite there yet.

00:57:52.000 | And I think the the reason why that that tweet you posted, got some traction is it's saying,

00:57:57.680 | listen, the crunch is going to happen. Second half of 2023 and 2024. That's where you're going to see

00:58:03.520 | the down rounds. That's where you're going to see the restructuring, the recaps, and all the rest of

00:58:08.560 | it. And look, I'm sure like every VC firm is going to be a player in that. But yeah, it's going to be

00:58:14.880 | a lot of miserable work. This is when you're going to see founders and see people's true colors when

00:58:19.680 | when when you have to recap a company. And yeah, that's when you can really start to see how crappy

00:58:25.760 | it was in 2003 to be here. Remember 2003 painful? Oh my god. Oh, my god. Yeah, there was lucky to

00:58:34.320 | raise 500k on a $3 million. Oh my god, like 2004. Like what a brutal year. Yeah, there's gonna be

00:58:41.200 | a lot of that. I think the next 18 months, or let's say the next two years, there's gonna be

00:58:46.240 | pretty rough for a lot of companies. And it's just that they didn't cut enough. I mean, we've been

00:58:51.600 | beating on the drums for a year for companies to length of their runway. And some did to some

00:58:56.880 | extent, but many didn't do enough, and they're gonna get caught in this crunch. Can we just go to

00:59:01.760 | that chart that Brad put out? I think that what a lot of founders don't quite understand still,

00:59:10.720 | is that things are just never going back to 2021. I think a lot of founders listening to the top of

00:59:15.600 | the show where we're talking about inflation is under control, they see the market rally,

00:59:19.840 | Facebook's up 25%. They may be thinking, okay, we just have to weather the storm for six months or

00:59:25.600 | a year, and then everything's back to normal. And I think what's important to understand is that

00:59:31.120 | the market did bottom out about a month ago, and is up pretty nicely. If you see here,

00:59:35.520 | this is the SaaS index, it's the median enterprise value divided by next 12 months revenue.

00:59:41.840 | And it was really beaten down about at the end of the year, at the end of last year,

00:59:46.080 | coming into this year. It was like four to five X multiples of next 12 months

00:59:53.600 | revenue for SaaS companies. That's all the way up to 6.1 now. So you're talking about

00:59:59.200 | 20 to 50% rally for a lot of companies, which is huge. We're still below the long term median,

01:00:05.840 | which is just under eight. Okay. But what people need to understand is that even if we revert all

01:00:11.280 | the way to the mean of eight, which I think at some point we will, that's still well below

01:00:16.720 | the bubble of 21, where they got to 16. So even if things continue to inflate, valuations will

01:00:24.000 | still never quite be where they were in 2021. And if you think it's getting back to 12,

01:00:28.960 | or 16, it's not happening. For high growth companies, for high growth companies, in 2021,

01:00:37.040 | you were in the public markets, you were seeing multiples of 30 to 35 times. Now those companies

01:00:42.240 | are maybe at eight to 10, or 12. I think the reliable way that we can look at this for the

01:00:48.560 | future is that we're never going to see these kinds of multiples again, unless rates are zero,

01:00:55.840 | and all kinds of tourist capital need to find a home to escape 0% returns in every other asset

01:01:03.840 | class. But if even the safest asset class now will give you three and a half 4%,

01:01:08.560 | this is probably the new normal for quite a long time. And we're going to be back in that early

01:01:16.000 | 2000s kind of mindset, which takes a lot of hard work to build value around.

01:01:22.000 | We talked about the sort of whipsaw economy. And there's a lot of mixed inflation data.

01:01:27.840 | I think founders need to understand that there's a bifurcation. What's happening

01:01:31.840 | in the tech ecosystem is not necessarily what's happening in the overall economy.

01:01:36.400 | The tech ecosystem is clearly going through a reset and a recession. Job cuts are now the rule,

01:01:43.040 | valuations are much lower. Whereas in the overall economy, we saw a job support today of over 500,000

01:01:49.360 | new jobs. So the fact of the matter is that even if the overall economy avoids a recession,

01:01:56.160 | that doesn't mean that things are just going to bounce back.

01:01:58.800 | Tech is a depression slash recession. Best cases recession.

01:02:02.320 | Tech is a boom bust cycle. And we have a phenomenal 10 years of boom. Now we're in a bust.

01:02:08.080 | And so I would just like tell founders, look, it's good if we have a soft landing in the economy,

01:02:14.080 | I wouldn't assume that that's going to happen. I still think there's a really good chance

01:02:18.400 | of recession later this year. But it almost doesn't matter for you. What matters

01:02:22.160 | is your business and the capital availability for startups, which is fundamentally different

01:02:30.400 | and will remain different than it was in 2021. Freeberg, you were talking in the chat about

01:02:35.040 | Donnie Enterprises and Hindenburg doing this short research and publishing it.

01:02:40.400 | Stock has just absolutely gotten clobbered. They were trading at gosh, 4100 was the

01:02:48.240 | 52 week high, and this thing has just cratered in the last five days.

01:02:54.160 | I mean, I think explain what's going on here.

01:02:57.200 | Well, I mean, the story that the conversation I thought it would be interesting for us to have

01:03:03.280 | is the role that these short seller research analysts play in driving efficient markets by

01:03:12.480 | identifying perhaps things that the market broadly is missing. Particularly, given that a few weeks

01:03:20.240 | ago, we were all kind of talking about the FTX debacle, and how no one was doing their diligence

01:03:25.840 | and no one was digging in and no one was kind of revealing publicly what was going on inside of

01:03:30.240 | that business that ultimately caused significant losses. You know, the claims made by Hindenburg

01:03:35.920 | is that this company Adani, which is founded and run by a guy named Gautam Adani. He started the

01:03:42.480 | company like I think 3035 years ago, and he's built this thing into this, you know, the sprawling

01:03:49.360 | empire, as people would say, where he's owns ports, he owns mining companies, he owns energy

01:03:55.040 | transmission businesses, he's got a whole green energy business. And he's taken a bunch of these

01:03:59.440 | companies, and he's floated them publicly. So they're all kind of publicly traded. There's some

01:04:03.520 | degree of interrelatedness between all these businesses. It reminds me a lot of I don't know,

01:04:09.520 | if any of you guys remember I keep a tista out of Brazil. You guys remember this guy, where you

01:04:14.320 | know, he kind of built the sprawling empire, very kind of broadly diversified industrial conglomerate

01:04:20.400 | with, you know, lots of different kind of segments and used a lot of leverage, a lot of debt to grow

01:04:24.800 | the business, and a lot of interrelated inter party transactions. And ultimately, the whole

01:04:29.440 | thing kind of came crashing down. And that this Adani business, it's super technical and super

01:04:34.320 | complicated, all the kind of accounting shenanigans that Hindenburg is claiming has been going on.

01:04:39.600 | And capital markets shenanigans that they're claiming have been going on with this business,

01:04:43.360 | but they're kind of report, which I think is like 400 pages long, has caused the responses for pages,

01:04:49.680 | their responses long to get the markets shrugged off the response that he put out, didn't really

01:04:54.000 | care. And they kept kept selling the stocks off. So there's like seven or eight publicly traded

01:04:57.760 | companies, all of which are just getting decimated. Look, I don't have any strong opinion on this

01:05:02.160 | business. I you know, I kind of skimmed through the thing. But you know, it really made me question

01:05:06.480 | like how such a big, call it accounting or capital markets fraud if it really is that can go on,

01:05:14.000 | and how much of a role these sorts of players play in the market, whether you guys think that

01:05:20.000 | this is a good thing in the market to have these short seller reporters out there, you know, doing

01:05:24.800 | this analysis publishing it, Jason, by the way, you called out Nick Nicola, Nicola, the electric

01:05:30.320 | car company, as you know, Hindenburg put out that Nicola report, stock tanked, right, they claimed

01:05:35.040 | it was all fraud, etc. And then the thing got destroyed was Trevor Milton got convicted.

01:05:38.800 | Right. And so I mean, I guess, do you guys think that these guys have a have a positive role net

01:05:42.880 | net in the market, and kind of identifying and calling out this stuff, because we all have

01:05:46.480 | friends that are on the wrong side of short sellers, and they complain about it. And it can

01:05:51.120 | be really difficult to grow and build a business when people Ilan had these guys literally claiming

01:05:56.000 | he was running a fraud for years and years. And it was an intense amount of scrutiny. Because when

01:06:01.280 | the trap when the stock was less trafficked in when we were in it in 2015, and 16 and 17. That

01:06:06.800 | was the constant refrain and Ilan was constantly batting back folks like this, who would make

01:06:12.000 | claims. And the way that these guys are allowed to operate is because they use the First Amendment

01:06:17.200 | and say we have the right to say this stuff. I think that shorting falls into two buckets. One

01:06:22.400 | is you use it as a hedging instrument. So when we talk about spread trades, like long Google,

01:06:27.280 | short Facebook, or long Facebook, short Google, you should be allowed to short I think that that's

01:06:32.160 | a very reasonable thing to do. I think the the question is, if you were on the inside of a

01:06:38.160 | company and you say x y z is happening, for example, Trevor Milton, and it causes the stock

01:06:43.920 | to go up, and it turns out to be fraudulent, he's held accountable. The question is, should there be

01:06:49.120 | the same responsibility for people on the outside, who if they have enough distribution, can say the

01:06:54.640 | exact opposite of x, y, z is happening. In this case, x, y, z is not happening, which then causes

01:06:59.840 | the stock to go down. Because what the business model of these short sellers is, write a document,

01:07:07.120 | it looks very polished and very credible, put on some positions, then put the document out.

01:07:13.040 | If the stock goes down, you close it out. In my opinion, I think that short sellers are really

01:07:18.480 | important part of a well functioning market or the ability to short. But what I would like to do is

01:07:23.600 | take an extra step, which is you should hold these folks accountable the same way you'd hold an

01:07:28.560 | insider accountable, which is almost to the effect of like when you put out the screed,

01:07:33.440 | if you make money from it, it should sit in escrow, and the SEC should actually adjudicate

01:07:37.760 | whether it's true or not. So in the case of Hindenburg and Nicola, they shorted the stock,

01:07:43.200 | they put out a report, it turned out they were right. All that money is completely well earned.

01:07:48.320 | Now, what if this Adani thing turns out to be not true, or true, nobody knows right now, except 50%

01:07:53.840 | of the market cap has already been wiped out. So that's where things I think are in a bit of a gray

01:07:58.880 | area. The last thing I'll say is that if you look at in the developing world, there's a very gray

01:08:05.280 | line between some of the leading entrepreneurs in these governments, because these entrepreneurs

01:08:09.680 | are doing the work of some of these governments, whether it's I keep a tease than Brazil in one

01:08:13.760 | moment right around natural resources, or Adani and Ambani in India, or a lot of the people that

01:08:19.680 | made a lot of money in China or the people that are making money in in developing markets, Turkey,

01:08:24.720 | Russia, etc. The government uses very talented entrepreneurs to go and concentrate capital to

01:08:31.920 | develop infrastructure progress. We did that in America in the 1800s as well. So that's where I

01:08:36.720 | think, you know, you have to also balance it because his response was basically like this

01:08:40.080 | is an attack on India. And in a way, you can see where he's coming from, right? Because he's

01:08:45.600 | building ports and roads and bridges. And he's like, without this stuff, how is India supposed

01:08:49.680 | to even exist in the 21st century? That's a reasonable claim. So I agree with you, freeberg.

01:08:54.960 | I don't know whether the report is right or not. But this extra step of actually having the SEC

01:09:00.800 | actually tell us what the answer is, I think would be a very important improvement to how

01:09:05.440 | this kind of stuff works. The other improvement that the SEC has been proposing in rule 13 f dash

01:09:13.200 | two, is that people would need to disclose their short positions, right? This proposed rule would

01:09:21.440 | require institutional investment managers, I'm reading from the SEC website managers exercising

01:09:25.360 | investment discretion over short positions, meaning specific specified thresholds to report

01:09:30.080 | on the proposed form SHO information related to end of month short positions and certain data.

01:09:35.200 | And so no, that is a no brainer, that should absolutely pass.

01:09:39.040 | But that commission would aggregate the resulting data by security,

01:09:43.040 | thereby maintaining thereby maintaining confidentially of the reporting managers.

01:09:46.720 | Yeah.

01:09:47.200 | And publicly disseminating the data to all investors, this new data would supplement

01:09:50.640 | the short sale data. I think this relates to overlanding of stock, right? I mean,

01:09:54.720 | this is less about like, who's doing what, and it's much more about,

01:09:58.160 | are we kind of creating critical fail points in the system by seeing over leverage and over lending

01:10:03.360 | in certain well, there should also be some rules about the spreading of fear, uncertainty and

01:10:07.280 | doubt that FUD that happened with Tesla Q. I mean, paradoxically, you know, thousands of

01:10:14.160 | know, but people that but that's not an account, you know, that's an example of people essentially

01:10:19.760 | lying in public, yes, try to get the stock to move. And Tesla's not a fraud. That's a real

01:10:24.800 | company. I mean, there was a car of the year while this was going on. But there was a real

01:10:28.880 | human labor to that company, right to employees that got spooked to partners that may have gotten

01:10:33.920 | spooked. The pressure, you know, we saw this the pressure on Elon in those periods of time.

01:10:38.560 | And he was he was like on the knife's edge where there was the potential where the company may not

01:10:43.200 | have been able to finance its cash flow needs because of those Tesla Q guys. And so it's not

01:10:48.720 | to say that the Tesla Q guys can't say it. But they should be forced at some level to prove it

01:10:53.600 | if you can create crazy stuff. I posted a link by the way, for anybody that's interested in reading

01:10:57.520 | this. There's a person called Carson block who's being investigated. Yes, because he may have pushed

01:11:03.520 | the boundaries of how short sellers do this. It's a really fascinating read in the Atlantic for

01:11:08.000 | anybody who wants to read it. But this is sort of where the short selling thing can a little bit go

01:11:14.160 | awry. And it's the title of this is the man who moves markets. And it's it's quite a quite a

01:11:18.800 | really interesting read if you're interested in in how all of this stuff works. All right,

01:11:22.400 | everybody, that's the all in podcast for February 3 and fourth for Saks, Friedberg and Chamath. I'm

01:11:29.760 | Jake out of the world's greatest moderator. We'll see you next week. Love you boys. Bye bye.

01:11:35.360 | Ride

01:11:35.760 | Rain Man David Saks

01:11:38.640 | We open sources to the fans and they've just gone crazy with it.

01:11:45.360 | Besties are

01:11:55.840 | going

01:11:56.320 | we should all just get a room and just have one big huge orgy because they're all just

01:12:08.320 | useless. It's like this like sexual tension that they just need to release somehow.

01:12:12.720 | What you're about to be

01:12:14.720 | what you're about to be

01:12:16.720 | what you're about to be

01:12:18.720 | we need to get merch

01:12:20.720 | I'm doing all in

01:12:22.720 | I'm doing all in

01:12:28.720 | ♪ I'm only human ♪

01:12:31.380 | you

E114: Markets update: whipsaw macro picture, big tech, startup mass extinction event, VC reckoning

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