Transcription
I pulled some data together, Nick, if you could pull up the basics. I know we talk about this a lot, but I thought it would be good to show the difference between kind of a normal distribution and a power law distribution. Like venture returns, or I don't like to call it venture returns, but I do think the returns generally in free markets create value creation in a power law distribution, which means that a few of the many account for the vast majority of the capital appreciation of the, the value creation. And that's because of the power of compounding.
If you build a better engine of technology, a better business engine, you will compound, and that means that over time you will accumulate more and more of the market in an outsized way. As you accumulate more of the market, you actually move faster in accumulating more of the market, and eventually it becomes a runaway flywheel. No one can catch up. That's the key return profile in free markets generally speaking. And a manifestation of that is that is also the return profile in venture in technology venture investing because when you find that one or two great hits, the Uber that has a great network effect, or the Airbnb, or the Google, it has a runaway effect in the market and it accumulates all the capital and becomes really valuable, and you can see this in the return.
So, if you just pull up, this is the latest Carta data. So this shows what the IRR by the vintage that the fund was raised, and then also by the size of the fund, and by how the fund has performed on a percentile basis. Look just at the 2017 row. So the top decile funds are doing, call it, 30% versus, you know, the median fund.
>> Hold on. They're not, these are all markups, paper markups. These are not, these are all numbers.
>> Okay, fair enough. But I'll make your case in a second here. And these are not DPIs. This is not distribution cash out. This is just marked up value. And this is 8 years old. This is the 2017 vintage. But just the difference between, you know, call it a 30% IRR and a 10% IRR that compounds over 10 years. So the multiple difference at the end, you should expect is the difference of making 14 times your money or 2.6 times your money. The difference between 10% and 30%. And that's kind of what this shows roughly is that the difference between a 50th percentile and a
>> Problem with this data though is this is Carta's product is used by a small number of people for a small number of years. That's why the other data we showed from Cambridge is much better because the 2018 forward are still in the J curve. So they, and to Chimath's point, they're paper. So I knew, I knew, I knew out there.
>> Okay. I knew we would go down this rabbit hole, so I shouldn't have shown that, but like
>> No, that's okay. There are two key points I wanted to make and just pull it up again, Nick. The first key point I wanted to make is because of the power law, the job of investing is to find the power law winners. It is not to buy the index. If you buy the index, you are losing to the market. Even if these mark, even if these numbers are correct, which they're not, as we've talked about, you're losing to the index if you're just buying the venture index. And it's probably way worse than this. You have to get the winners.
And so what this does show though is that the smaller the fund, the less diversified it is, which means the more they're likely to capture the winners. And you can actually see that the smaller funds generally have better performance than the bigger
>> For sure they do because they're getting in earlier as well, Freeberg, and they're paying less value, lower valuation. So that's
>> But they're also not, they're not getting diluted away by the index. And the index generally is going to return negative. It's going to be a negative returner. I think I told you guys I went to an LP conference years ago. One of the biggest venture funds, and they showed that 45% of their capital went into flat or down rounds, and they had a negative net return on that allocation of capital across 13 funds. And if they had put that, if they had never invested in flat or down rounds, then they would have doubled their IRR overall as a as a fund. Really important point that the, the power law matters, which is your job is to just find the winners. And if you find the winners, they're going to compound.
So how does that translate? So, so go to the next slide, Nick. So this is the one that I shared in 2023, three that Gokul Rajaram published on Twitter, and that's where I first saw this, which is if you buy just the top 10 companies in the NASDAQ and you just held it, you would have made a 24x multiple over a 24-year period versus if you had just bought the, the NASDAQ. So just owning the best companies in the NASDAQ is by far the best way to drive multiple of return over a 10-year period. You made a 9x multiple, 9x just by owning the top 10 companies in the NASDAQ. And this was through roughly the end of 2023.
So now let's pull this up. I pulled this analysis together this morning for our conversation. And this shows that the venture returns don't stop when you stop being a private company. That the real return, and this highlights the point that most of the value, when you find that power law winner, most of the value is created when they are a public company. So Palantir went public after 17 years, and their market cap was $16 billion. So they created $16 billion of equity value over a 17-year period. Since they've been public in 5 years, they're now worth $436 billion. So they've created another $420 billion of equity market value in just the last 5 years, probably eclipsing all venture returns that have been made during that same period of time.
Airbnb went public after 12 years, worth $47 billion. In just 5 years, they added another, call it, roughly $30 billion. Uber went public, $75 billion after 9 years as a private company, and now they're worth $190 billion. So they've added $120 billion of value in just 6 years since being public. And Spotify, another good example, $27 billion market cap when they went public after being private for 10 years. And then they added another $120 billion of value in the seven years they've been public. And I've got the whole list here. This is all these companies that have $100 billion plus market cap. And when you find the power law winner, the value continues to accrete. It continues to compound. And you're better off just buying the public stocks. And I think that this was my, my big kind of conclusion as I went through all this data.
Like >> Chimath is exactly right. When you're in the venture market, you learn a lot. And ultimately, I think you probably want to learn a lot to then allocate your capital more wisely into what you've identified are the power law winners where most of the value continues to accumulate, whether they are private or public. And having an IPO is just a transitionary event for these companies. Their their compounding engine will continue as a public company if you've identified them. Facebook, such a great example. Eight years as a private company, $100 billion market cap at IPO, added another two plus trillion dollars in the years since.
Yeah, I think you >> Freeberg, you've cherrypicked all the winners in hindsight, the biggest winners for that list. What if you were just to create a list of every >> IPO >> tech IPO and how it's fared afterwards, >> right?
>> No, it's a fair point. There'd be a lot of stinkers in there that you haven't >> But my point, Sax, is just find the power law winners, and then that's where all the the value >> improves.
>> Well, I mean, that's hard, too.
>> Yeah. Here's the, I think you have to look at how we got here. I, I started doing this just, you know, in my second decade. And companies decided to stay private longer. That was the big trend. And then there was a lot of reactions to that. Secondary transactions started occurring, and then you just couldn't get DPI. You had to hold it forever. And now the industry is responding to this. So now we have something called strip sales. We have people creating continuation funds, ways to take those early investors and get them out into a new vehicle or to create some liquidity.
And Chimath's point is really important because you do get so much intelligence. And what I learned having been an investor in Uber and Robinhood when they were $5 million and $20 million companies, I was like, first investor into those companies. It's when they crashed in the market. When Uber hit 30, I bought up a bunch of it as a public investor, even though I had a ton from when I was an angel investor. And I did the same for Robinhood at $12 because I knew the management, I knew Vlad, I knew Travis, I knew Dara, and I had that understanding of the market. And the same thing I did with Facebook, having listened to Chim talk about it all these years and Brad Gerstner talk about all these years, I backed into it when it was $92.
So what's happening now is what RUF did with his continuation fund and holding the private ones is in the theme song of this podcast famously when Zach said, "Let your winners ride." That is the overarching thing here. The industry, the venture industry is in in massive transition. It's going to start looking a little bit like private equity and a little bit like Gavin or Brad, where they're private and public market investors, and you're seeing buyouts occur. So people are saying, "Hey, this SAS company's undervalued. We're just going to buy the company. We'll start operating it." So venture is in a massive transition, but I think what comes out on the other side is something that looks a lot more like public-private investing like Ruof pioneered at Sequoia, and we're going to talk to him about that at the summit.
I'll just respond to your last comment and Jal, I appreciate you saying that because yeah, Roloff is coming to the summit to talk exactly about this, which is going to be great. But that is the job of being an investor. To your point, you're like, "Hey, you know, you cherry-pick the winners." But I think that's the point. The point is that the returns accrue to these power law winners, and the job of being an investor shouldn't be to index a market. Anyone can index a market. The job of being a great investor is to find those winners.
>> And the question is how, how hard that is or easy it is. And I think your just makes it sound like, oh, all you have to do is wait for these companies to go public.
>> Sorry, that wasn't my point. Yeah, that wasn't my point. I kind of came across that way, too. Yeah, sorry. I was just saying that the power law winners continue to accrue. In fact, not only do they accrue as private companies, and then you, if you get one of them, you you have these 14x funds, but as a public company, they continue to accrue. And so, you know, this isn't just limited to being a venture investor. Pretty much anyone has access to the public markets and can make the decision that they've made a bet on a power law winner. There were a lot of people who were very vocal supporters of Palantir, very vocal supporters of Uber, of Spotify when these companies went public, and a lot of people said no, they're naysayers.
>> I think the problem that you would have had trying to implement this strategy is it would not have been clear what you would have been underwriting. What would you have been underwriting at Nvidia for, you know, not the last five years, but the many years before then? You would have been underwriting video games.
>> Video games. Yeah.
>> And you would have had this like very odd data center business that didn't make sense, that, you know, Jensen took a lot of heat for that he had to defend, and it, it didn't actually make a lot of financial sense. So, I, I'm not sure.
>> I will give you a counter to that and I'll, I'll call him out and I'll make fun of him. Now, my co-founder at Climate Corp, his name's Siraj. is probably listening right now. He bought Nvidia years ago on the thesis that these GPU chips would eventually be used for AI models because he did all his work at Stanford in distributed computing. He did early work in AI. He was very close with
>> That's different than what you were saying before. I get it. He's a smart guy who made a huge winner. But I'm saying
>> But no, the pro, the problem was he sold Nvidia too soon because he's like, "Oh, they're not actually."
>> Okay. But I'm just saying like there was probably a person that was as smart as Siraj and bought Intel. Then there was another person that bought AMD. Like I'm, I'm not sure what the point is. Here's the point about venture that I think is worth noting. It's an exceptional market that gives the practitioners an incredible edge if you build a business around the information asymmetry that occurs.
>> Yes.
>> That you can monetize. After that, the only business model is building an asset gathering machine to generate fees because even the consistency of being able to generate these power law distributions in successive funds doesn't exist. And you can look at all of the data. Cambridge has done this. A lot of these guys have done this. All the big LP fund of funds like Horsley Bridge has done this. Having a killer fund has zero correlation with your ability to then have a next killer fund as an LP. And I showed these returns on screen, although we blanked out the names, and I'm in all of them. It is really hard to be consistent.