On Due Diligence and Decision Making: Venture Capital

This week, I am continuing a series of posts on due diligence and decision making across different asset classes. Here’s the link to see the first post in the series on poker as an asset class: Link

Due diligence varies substantially across asset classes, and I believe that different investors are better or worse suited for investment in different assets based on how characteristics of asset class decisions match an individual’s personal preferences. I will continue to use the overall framework developed in the last post in order to analyze the decision characteristics of venture capital (VC) against that framework. I’ll end with analysis of the due diligence performed in VC, and discuss the typical investor traits necessary to be successful in VC.

Framework 

Based on my experience, there are 7 decisions characteristics that I believe inform how these decisions are made and subsequently whether you are suited for due diligence of an asset class:

  1. Frequency of Decisions: How often are decisions made?
  2. Distribution of Outcomes: How good or bad can the outcome be? Do outcomes follow a normal distribution or a power law distribution?
  3. Length of Decision Impact: How long lived is the decision? (e.g., venture capital firms might hold a company for a decade, while high frequency traders might hold an equity for a fraction of a second)
  4. Decision Uniqueness: How similar is this decision to other decisions?
  5. Stakeholders: Who benefits or loses from this decision, and how are their motives aligned?
  6. Accessibility to the Public: How easy is it for someone to access this asset class?
  7. Ownership of Outcomes: Who is taking the risk?

Decision Characteristics of Venture Capital

My analysis will center on early-stage venture capital, which is the only segment I’ve had experience in. The later stage you go in VC, the more the asset class looks to private equity, and eventually public equity investing.

Frequency of Decisions: Sourcing decisions happen daily for VCs, whereby they say no to spending time on startups. Actual investment decisions are relatively few, with most partners leading an average of 1-2 investments per year.

Distribution of Outcomes: Venture capital investments exhibit power law behavior, as pointed out by many prominent VCs such as Peter Thiel. I am not privy to VC returns, although some such as the Kauffman Foundation have published copious data on returns to help triangulate. Below is my approximation of how outcomes look in VC as compared to poker for an individual professional poker player or a partner at a VC firm.

There are several conclusions and assumptions embedded in this drawing:

  • Assumption: The Y axis is not drawn to scale. Professional poker players have hundreds of thousands of hands to draw from, while VCs might reach 100 investments over a very long career. If plotted on the same Y axis, the VC distribution would be barely visible, since there are so few actual investments
  • Assumption: The X axis is logarithmic
  • Assumption: The distribution I’ve drawn is a somewhat idealized view of VC that follows a J-curve. Some critics of venture capital including the previously linked Kauffman report have shown that there are a variety of variables that can have strong impacts on return distributions, including things like vintage year, fund quartile ranking, and others. It’s likely that many VC funds out there do not exhibit the positive power law behavior distribution illustrated above, and have instead a somewhat negative normal distribution.
  • Assumption: These are only the company outcomes, not the VC partner’s actual outcome distribution
  • Conclusion: While poker exhibits negative power law distributions, VC exhibits much more of a normal distribution on the downside, and a power law distribution on the upside. VCs have relatively frequent, large, negative outcomes due to the fact that so many startups fail
  • Conclusion: VCs (or at least ideal VCs) have a longer positive tail of outcomes than poker players do, with several orders of magnitude larger positive outcomes ($1B+ vs. $1M+)

Length of Decision Impact: Active VC investors may live with their investment decisions for a very, very long time. Good VCs with a board seat are engaged with their portfolio companies on a day-to-day basis beyond attending meetings once a quarter. The Kauffman Foundation reported many funds have not fully unwound positions more than a decade into the future. Thus, the impact of an investment decision is substantially longer than say poker or sales and trading.

Decision Uniqueness: Decision Uniqueness is extremely high for VC, with each investment having different people, products, and industries. While some VC firms try to specialize to some extent, the decisions still look very different from one deal to the next. It’s incumbent upon VCs to do their own homework and be familiar with a portfolio company’s industry if they hope to have even a chance of adding value.

Stakeholders: VC investments have a very complex set of stakeholders. VCs have both a fiduciary responsibility to the investors (also known as limited partners or LPs), and a fiduciary responsibility to the shareholders of the companies (including founders, employees, and other investors) whose boards they sit on. These stakeholders tend to be more aligned when things are going well, but things can get more complicated if things are going poorly.

Accessibility to the Public: Most VC deals are extremely proprietary, and limited to a small handful of investors. Prior to the adoption of Regulation A+, investing for individuals was limited to accredited investors. Although Regulation A+ has expanded accessibility to venture capital, it’s likely that the best deals will still be proprietary to a handful of VC firms, and mostly inaccessible to the public.

Ownership of Outcomes: Traditional VCs invest someone else’s money, typically money from their Limited Partners (LPs). Although management fees can help reduce VC reliance on carried interest as a salary, Jason Lemkin and others have written about how the capital contributions that General Partners (GPs) are required to put in to help align incentives with the LPs can nullify the salary you get through management fees. This means that VCs have relatively large ownership of outcomes, since they are giving up a substantial amount of immediate cash flow for hopefully large, future carried interest cash flows.

Due Diligence and Investor Traits in Venture Capital

Although venture capital is often compared to poker, there are a number of decision characteristics that dramatically affect how due diligence is performed, and what traits to look for in investors. The relatively small number of investment decisions coupled with the very long 10+ year decisions means that VCs are very “all-in” with individual investments, much more so than a poker player who plays many hundreds of thousands of hands a year. Thus, VCs must be very long-term focused, and willing to be patient and wait for out-sized results far in to the future.

The distribution of outcomes for VC investments also has a substantial impact. Because so many startups ultimately fail, and the fact that 1 or 2 portfolio companies could make or break a fund, VCs really have to swing for the fences with every deal they take. This is in heavy contrast with poker, where professional players are focused on squeezing small edges over a large number of hands. On a day-to-day basis, sourcing tends to be focused on finding reasons to say yes, with a key question being whether or not a startup can make it to the far right end of the power law tail. VCs attempt to filter through hundreds of startups and founders a year to get to 1-2 ultimate investments. As a result, VCs say no to spending more time on startups on a daily basis, often with only a light amount of diligence. While this does mean that they sometimes say no to great deals, this is largely a function of the frequency of decisions and distribution of outcomes.

For those startups that DO make it through the sourcing funnel, VCs perform due diligence in a very different manner than later stage private equity investors.  Because the decision uniqueness is so high in VC, there are usually few if any comparable companies or products. This makes it nearly impossible to accurately forecast the future trajectory of the company. This stands in stark contrast to later stage private equity deals, which generally involve companies with tens or hundreds of millions of dollars a year in real revenues and profit. Private equity stage companies have a relative dearth of information available to analyze to assess the potential of an investment. Little data usually exists for many startup markets, and VC diligence tends to be relatively qualitative as a result.

While people of many backgrounds ranging from finance to journalism have succeeded as VCs, I have seen a few common traits among the VCs I’ve met:

  • Long-term optimism: While some like Founders Fund push the envelope on the pessimistic side, allocation of capital in wait of very long-term, future outcomes requires a high degree of optimism. The way the numbers work out, VC partners are very all-in
  • People-focused: The challenge of filtering through hundreds of startups and founders a year to invest in 1 or 2, means that VCs speak with tons of people on a daily basis. This task is not onerous given that most of the people you are speaking with are bright, passionate founders, but it’s certainly not for everyone
  • 80/20: Despite only making 1 to 2 investments per year, VCs tend to make very frequent decisions on a daily basis, about where to invest their time. In addition, because the outcomes being chased are so far in the future, it’s near impossible to get 100% of the truth today. Thus, VCs are constantly trying to filter between signal and noise, and they need to be able to get to 80% of the “truth” quickly to decide whether they should continue to invest time in a startup or a founder.

It’s clear that while there is overlap between poker and VC, there are some decision criteria that dramatically change how due diligence is performed, and subsequently who is best suited for each. For more insights specific to VC, check out my previous post, What I Learned About Venture Capital This Summer, which goes more in-depth into who is best suited for VC. Next week, I’ll dive into private equity to attempt to tease out why it looks so different from both VC and poker, despite the fact that VC is technically a subset of private equity.

Please tweet me and let me know if you liked this post or have any comments – I’d love to hear from you!

On Due Diligence and Decision Making: Poker

I’ve spent a substantial amount of my career thus far performing due diligence. While there is a legal definition of due diligence, I tend to use it most in reference to decisions around investment in assets. I’ve always been attracted to the decision making around whether or not to allocate capital, and I’ve seen a variety of decision making processes across different asset classes and decision types.

While I was an undergraduate, I played online poker part-time to pay for school, and continued playing after graduation to provide supplemental income. After graduation and working as a process engineer and project manager for a period of time, I shifted to the business development side and worked on negotiating a joint venture in China, including performing both the financial and technical diligence. Since then, I’ve worked in venture capital and in private equity consulting performing commercial due diligence – primarily assessing product-market fit, market growth and size, and competitive positioning.

Due diligence varies substantially across asset classes, and I believe that different investors are better or worse suited for investment in different assets based on how characteristics of asset class decisions match an individual’s personal preferences. To analyze poker as an asset class, I will first layout my overall framework and analyze the decision characteristics of poker against that framework. I’ll end with analysis of the due diligence I performed in poker, and discuss the typical investor traits necessary to be successful in poker.

Framework 

Based on my experience, there are 7 decisions characteristics that I believe inform how these decisions are made and subsequently whether you are suited for due diligence of an asset class:

  1. Frequency of Decisions: How often are decisions made?
  2. Distribution of Outcomes: How good or bad can the outcome be? Do outcomes follow a normal distribution or a power law distribution?
  3. Length of Decision Impact: How long lived is the decision? (e.g., venture capital firms might hold a company for a decade, while high frequency traders might hold an equity for a fraction of a second)
  4. Decision Uniqueness: How similar is this decision to other decisions?
  5. Stakeholders: Who benefits or loses from this decision, and how are their motives aligned?
  6. Accessibility to the Public: How easy is it for someone to access this asset class?
  7. Ownership of Outcomes: Who is taking the risk?

Decision Characteristics of Poker

My analysis will center on Texas Hold’Em since this was the game I played the most, and the game most familiar to most people. Most of the numbers referenced are from my own recollection of approximately 750k hands played in my early 20s. Graphs and figures come from a more recent set of ~150k hands played part-time during my MBA.

Frequency of Decisions: At 8 tables for hour, ~650 hands/hr * ~1.5 decisions/hand = ~1K decisions/hr or more than 1 decision every 4 seconds

Distribution of Outcomes: Poker has extremely high variance, with outcomes exhibiting power law characteristics rather than normal distributions. Below is a histogram showing the distribution of outcomes for individual hands I experienced over about a 150k hand sample size:

Screen Shot 2015-11-30 at 8.44.12 PM

Poker exhibits a few small outcomes very frequently and many extreme outcomes very infrequently. It also exhibits both positive AND negative power law behavior. Due to the extremity of outcomes, it’s difficult to tell from this picture alone whether these are outcomes of a winning player. Below is what the outcomes in the above chart look like over time, and not as a histogram.

results

Length of Decision Impact: The effects of a decision in poker could be felt for a very long time if you are playing riskily and for example putting your entire bankroll on the table. For most poker professionals, the impact is close to 0 seconds assuming they are following appropriate bankroll management and not putting a substantial portion of their bankroll on the line. This contrasts strongly with asset classes like private equity and venture capital, where the impact of decisions are extremely long, and you must live with an investment decision for 5+ years.

Decision Uniqueness: Based on the ability to make a decision every 4 seconds, the vast majority of decisions are repetitive. For a 6-max tight aggressive player, approximately 75-80% of hands are folded after the hands are dealt, regardless of any prior action. The complexity of decision uniqueness in poker is that:

  1. There are more possible arrangements of a poker deck than there are molecules in the known universe
  2. Decisions that occur late in a hand (e.g., calling all-in on the river) tend to involve substantially more chips than early-hand decisions

Thus, there is low decision uniqueness for a large percentage of decisions (such as deciding whether to fold a hand before the flop). However, there is extremely high decision uniqueness for a small percentage of decisions, that also tend to be for very high stakes. This bifurcation of decision uniqueness isn’t completely unique to poker – a reasonable comparison might be a venture capital firm specializing in online marketplaces. This firm sees high decision uniqueness in individual deals with different founders, products, etc., but low decision uniqueness across the body of the investments they look at, which are all online marketplaces.

Stakeholders: Poker is a negative sum game, where the house takes a rake and you play against other players. To break even, you must be better than average in the field to win money from other players. No matter what, someone is losing. As a result, poker tends to be a very individual game. The closest players come to having a team dynamic are through networks of poker player in forums, Skype groups, and real life relationships built to analyze hands, mutually improve performance, and diffuse emotional stress from the variance of the game.

Accessibility to the Public: Live poker is relatively accessible for Americans over the age of 18 near a casino. Online poker has been inaccessible in the U.S. since the UIGEA was passed in 2006. This substantially limited the ability of many poker pros to continue their careers and caused many to leave the country or seek other employment.

Ownership of Outcomes: Some professional players sell pieces of their play (essentially equity in the outcome of the session) to help lower variance/risk. Outside of these scenarios, poker players are generally playing from their own bankroll similar to a proprietary trader.

Due Diligence and Investor Traits in Poker

Due diligence in poker varies substantially by player – many fish never really think critically about their decision making, while poker pros might pore over a hand for days or weeks. The standard for most poker pros is to balance their time between both playing the game, and studying the game. This means that a very large fraction of hands end up having little to no analysis performed.

The combination of the fact that outcomes are power law and decision uniqueness is both low for starting hands and high for hand outcomes informs much of how the game is analyzed. The study of poker itself tends to be bifurcated, with some time dedicated to in-depth analysis of individual hands with large outcomes, and other time spent on analyzing overall game theory that affects the long tail of low decision uniqueness hands. Because poker has extreme outcomes and high decision uniqueness, it’s frequently difficult to identify concrete right and wrong answers in detailed hand analysis. As a result, a common mantra heard among poker pros is to not be results oriented. Substantial effort is made to achieve a focus on the decision making process itself, such that results are not provided upfront in the problem statement, in much the same way that business school cases tend to hold back the result until after the case.

Edges in online poker are small and getting smaller, so winning players are pushing to make 1% more decisions correctly. I recall a thread that appeared once on Two Plus Two, the online forum where the best poker players congregated a decade ago, in which many players posted results of a Myers Briggs personality test. Easily 90% of the players tested as some variation of INTJ or INTP. At the end of the day, online poker is a game that rewards the same skills that proprietary and high frequency trading firms select for: high analytical logic, comfort with ambiguity, and high risk tolerance.

Although there are certainly shared decision characteristics between poker and more risky asset classes such as venture capital, they are different enough that diligence and investor traits are substantially different. A major difference in decision criteria that emerges immediately: while poker, trading, and venture capital all exhibit power law returns, venture capital does not exhibit negative power law returns while poker and trading exhibit both positive and negative power law returns.

These nuances and more next week, when I analyze due diligence and investor traits in venture capital.

What I Learned From My First Board Meeting

Recently, I had the pleasure of attending my first board meetings ever. Thanks to Bilal Zuberi, Partner at Lux Capital, for having me along and answering all of my questions about board dynamics and effective leadership – your continued advice and support are really appreciated and invaluable.

The following are my takeaways from observing multiple meetings between investors and entrepreneurs. The Interpersonal dynamics between CEO/board members and between individual board members can be very telling – they provide an indication of how much thought has gone into the strategic leadership of the firm, and whether the group can work well as a team. Note that board dynamics will look very different between startup, private equity, and public companies. This post will focus on startup boards, which are typically made up of investors and some advisers.

A healthy level of tension helps a board and management team think critically about a startup’s direction

Startups are in a constant fight for survival. Startups that are not facing any tension are not thinking critically about the problems that they need to resolve in order to survive. At the other extreme, if there is too much tension the leadership and company becomes dysfunctional resulting in the death of the company.

Thus, it is the leaders’ job to maintain a healthy level of tension. Boards must be able to have honest, objective discussions about the strategic direction and decisions a company will make, and the leader of the board (the CEO and/or the Chairman) is responsible for facilitating this discussion. This is accomplished in a few ways:

    1. Agenda Setting: Leadership teams have many important things to worry about day-to-day to execute on a strategy, and a limited amount of time should be spent in high-level strategic meetings. Prioritization of important topics of discussion is key. Deciding what to discuss and what not to discuss should be the result of careful deliberation, and not left to open-ended discussion.
    1. Socialization: Board meetings should not be the only time that a leadership team communicates with its board members. Important news should be spread ahead of time such that an appropriate discussion can be had. If you wait until a meeting to drop a bomb, board members will not have had the opportunity to do their homework. The resulting discussion will be much lower level and informative rather than deliberative.
  1. Selecting the Right Team: Because a variety of skills are needed to build a company, leadership teams and boards should be made up of people who bring different perspectives to the table. However, it’s going to be difficult to get mileage out of a board if they don’t understand the business and industry dynamics. Entrepreneurs should do substantial diligence on a potential investor by asking other entrepreneurs that they’ve invested in about the investor’s knowledge of the industry, accessibility, and overall ability to add value.From a people perspective, boards should have members that provide dissenting opinions. This doesn’t mean that every board meeting needs to be a bitter argument, but a board filled with “yes-men” provides no value either. A good investor on a board acts as both a coach that provides critical feedback and as a support team to provide the leadership team with resources it needs to succeed.

At the end of the day, a board’s purpose is to serve the company – they have a fiduciary responsibility to the shareholders of the firm including common shareholders and employees. If you are the CEO, it’s up to you to design your board and board meetings to maximize the value you get from it.

The relationship between the investor and entrepreneur is what you make of it

There are two extremes that an investor-entrepreneur relationship can look like:

  • Investor disengagement: Investor might not even show up for board meetings, or shows up to meetings and gives weak advice. The investor is not invested emotionally in the success of the entrepreneur or the business.
  • Investor partnership: Investor is deeply engaged in the business, and is at the company multiple times a month. The investor and entrepreneur can both see that the other party wants what is best for the business, and a partnership is built based on trust.

A good investor is plugged into the business and actively engaged in coaching the management team and offering advice. This investor engagement can be extremely valuable if the relationship develops into a true partnership and can help align the incentives of the investor and entrepreneur. On the other hand, the development of personal relationships between investor and entrepreneur can complicate the relationship dramatically, making it more difficult to give honest, objective feedback. It is up to both the investor and entrepreneur to optimize for what is best for the business, and to build their relationship thoughtfully. If an entrepreneur doesn’t put effort into choosing an investor who they can partner with and doesn’t work to build that partnership, the default is to have a useless investor relationship.

Entrepreneurs must manage a fine line between confidence and arrogance

Aaron Harris of YC recently published a great blog post on I and we. While the discussion is focused on the relationship between an entrepreneur and their employees, but this discussion of ego is also applicable to the investor-entrepreneur relationship. Generally speaking, the investor is not in the trenches in the portfolio company’s industry. As a result, the entrepreneur has more detail and information from the day-to-day operations than the investor, and thus has a higher knowledge base for making decisions. On the other hand, it’s harder for the entrepreneur to evaluate firm strategy objectively due to their involvement in the day-to-day running of the firm, and because of human factors that cloud the passing of information.

Assuming the entrepreneur and investor have a good relationship (which is not always the case), an entrepreneur must manage their ego to effectively leverage their investor. This does not mean that the entrepreneur should blindly follow every single piece of advice given by the investor. Rather, they should remain objective by communicating the rationale of their decisions based on data. The entrepreneur should remain open to reevaluating their decisions based on new pieces of data that investors may bring to the table.

While the entrepreneur-investor relationship can be very complex due to the boards’ role in deciding to support or replace the management team of a firm, I believe that investors can add value to portfolio companies. Much of this value can be captured only through thoughtful building and maintenance of the board. Although many leaders strive to make decisions based on thoughtful data analysis, the reality is that effective decision making and leadership require effective management of people. Investors and entrepreneurs alike would be wise to think just as carefully about personal dynamics as they think about the business situation itself.

What I Learned About Venture Capital This Summer

I’ve worked with Lux Capital over the last six months as both a part-time and summer associate. I’m writing this blog post to reflect on some of the lessons I’ve learned. In this post, I plan on covering a number of topics including how to add value to a venture capital firm firm, what VCs do day-to-day, how to evaluate whether you’re a good fit, and how to think about getting a job in venture.

How To Add Value To A Venture Capital Firm

Constraints such as industry and investment stage focuses can have a big impact on which activities add value, and venture capital firms pursue different mixes of these activities to benefit their stakeholders. Here are the primary ways to add value to a venture capital firm:

  1. Sourcing – Sourcing looks very different depending on the firm. Some firms have big brand names that attract so much inbound startup interest that they spend more time filtering than they do hitting the pavement to find startups. Sourcing channels look very different across industries as well. For example, although it’s possible to find cool consumer software startups on Product Hunt, biotech breakthroughs might be found only through people connected to academic systems or university tech transfer offices.

    Sourcing is finding reasons to say yes to investing in a startup. Questions one might ask include:

    • Are the founders the right people to build the product?
    • Is the market opportunity big enough for a venture return (in the billions not millions)?
    • Is there product-market fit?
  1. Due Diligence – Due diligence looks very different from firm to firm, and many firms rely heavily on the lead investor to take on the brunt of the due diligence with the assumption that they will do sufficient diligence, given that they are taking the largest risk.

    Diligence is finding reasons to say no to investing in a startup. Questions one might ask include:

    • Are the founders ethical?
    • Does the startup have a moat/competitive advantage?
    • Is the startup missing key people that they will need to successfully execute?
  1. Portfolio Company Support – VC activities that may add value to a portfolio company include providing introductions to relevant people, helping find and introduce key hires and providing a sounding board for key business decisions. Entrepreneurs should do just as much (if not more) diligence on their investors. Speak with other startups backed by investors to understand whether potential investors are good board members and value adding.
  1. Investor Relations – AKA fundraising. Most venture capital firms are in a perpetual state of fundraising whereby they are deploying capital from the last fund at the same time that they are raising money for the next fund. Some funds attached to other entities (think corporate VCs, large asset managers, etc.) don’t have to bother with fundraising, although they may dedicate extra time pitching to investment committees or integrating portfolio companies into the corporate side of the business.
  1. Other (Portfolio Strategy, Attending Conferences, Operations, Marketing, etc.) – Given the dynamic nature of venture capital firms, there are a number of important activities outside of those previously listed. These vary in relevance depending on a firm’s size and investment focus, so your experience may vary.

What Do Venture Capitalists Actually Do? Are You a Good Fit for Venture Capital?

Beyond professional competencies there are a few functional traits that are common to VCs:

  1. Hustle – Do you have the ability to work with little to no direction, or do you need structured problems and projects to succeed? This is a key difference between venture capital and traditional MBA paths like consulting/investment banking, where there are clear projects and workstreams. Hustle is NOT the same as working long hours – it’s the spark and drive to get things done without someone else telling you to do so. My own hustle has ranged from academic to professional: I took organic chemistry at age 17 at an accelerated high school program and ended up graduating early from UT Austin. I played poker professionally to pay for school and help support my family financially in the early days of my career. I chose to do an internship this summer before starting my full-time job while many MBAs were on vacation.

    While there is certainly mentorship and apprenticeship, venture capital firms are not structured like consulting firms and investment banks with in-depth, structured training programs. Thus, you must be a self-starter if you hope to succeed in venture. Even more important, all the entrepreneurs you are funding have insane amounts of hustle. If you can’t hustle as much as your entrepreneurs do, you aren’t the right investor for them. While it is important to be 80/20 while sourcing, you’d better hustle and learn as much as possible during diligence and after investing if you want even a chance of being able to add value to your portfolio companies.

  2. Ability to manage cognitive dissonance of cynicism and optimism – A somewhat cliché quote from F. Scott Fitzgerald states, “The test of a first-rate intelligence is the ability to hold two opposed ideas in mind at the same time and still retain the ability to function.”

    Let me be the first to say that this quote is somewhat narcissistic. That being said, VCs face a very difficult problem: New businesses that will eat the world 10 years but don’t exist yet look absurd today. Absurd businesses also look absurd today. Successful venture outcomes rely on fundamental changes in human behavior that are rooted in Extremistan. Black swans are impossible to predict, because the data we have today do not show the scale of the coming change. Most VCs address this problem by talking to people. Constantly. They try to find both confirming and disconfirming data and opinions. Decisions for truly revolutionary products will by definition always have more disconfirming than confirming data.

  3. Intellectual Curiosity/Passion – VCs are passionate about not only what a product is today, but what the business will be a decade from now. It’s going to be near impossible to find and evaluate startups if you’re not passionate about new products. If you’ve never beta tested a product in your life, it will be very difficult for you to understand an early stage startup’s customer base.

    In addition, VCs love learning, and that learning converts into both sourcing interesting startups and connecting with people that help develop frameworks to evaluate whether a startup is a good investment. Do you enjoy talking to other people about their work, even if their work is not something you’d like to do yourself? I am extremely curious in people, and one of my core life assumptions is that everyone has different life experiences and unique points of view that I can learn from. If you ever see me on an airplane, I’m likely talking to the stranger next to me. Although I can be introverted and need alone time to recharge, I feel extremely excited about the prospect of a day of back-to-back one-on-one meetings with interesting, passionate people.

  4. 80/20 – VCs see lots of deals. Tons of deals. Because of the time constraints of having 24 hours in a day, VCs have to say no to deals all the time. Sometimes, they say no to great deals. VCs are constantly trying to filter between signal and noise, and they need to be able to get to 80% of the “truth” quickly to decide whether they should continue to invest time in a startup or an idea. Often, the “truth” you find leads you to say no quickly. Sometimes, you find something interesting and continue digging. Rarely, that digging leads to an investment.

    80/20 in VC looks very different from 80/20 in private equity or management consulting. Because the markets are totally nascent, the analysis is much more qualitative than quantitative. Consulting cases generally dig into every last branch of a framework through multiple workstreams. VC diligences hit on the high level branches and dig into only a few of the branches that they deem interesting. That’s not to say that they don’t go deep at all, but they are not exhaustive diligences that last weeks or months. One big reason for this is that you can do too much diligence.

Certainly one important question anyone interested in VC should ask themselves is: “Do you believe in venture capital as an asset class?” If you’ve never thought about this question before, you should read this Kauffman report.

Paths Into VC

There are a few ways people tend to get into VC, including:

  1. Entrepreneur – Or other operational roles in early stage firms generally with a fairly successful exit and good relationships with VC backers
  2. Journalist – Usually covering entrepreneurship and technology
  3. Finance – Asset management with exposure to early stage private equity/venture capital, or consulting/investment banking in relevant industries, such as tech or healthcare)
  4. Networking – Few venture firms post job openings like traditional companies. Many hires are people that are previously known through networks

Many who get into venture have a stellar academic track record, and most have some background in technology, investing, or both. That being said, there are no reliable pathways into VC. Like most opportunities in life, opportunities in VC come from some combination of luck, timing, and surface area for opportunities (read: network). If you’re coming from one of the aforementioned paths, you’re still going to have to hustle to get in the door.

Ask the questions that nobody else asks because they assume the answer is no. Add value before you’ve even asked for a job. Don’t take no from an answer, and find out what it will take to convert a no to a yes. The hustle and preparation for getting a VC internship parallels what actually being in the job is like: VCs are very busy people with a substantial amount of inbound interest. Great entrepreneurs are extremely busy building their businesses and have tons of inbound interest from customers, partners, potential employees, and investors. Knowing how to get someone’s attention who has high demands on their time is an important skill to have, whether you’re trying to get into VC, or just trying to accomplish something great.

CRISPR – The Future of Synthetic Biology

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I am excited to be interning at Lux Capital this summer because I am passionate about commercializing emerging technologies. Lux’s focus on partnering with passionate entrepreneurs solving difficult hard science problems is an ideal platform for me to explore the technologies that will define the future. Today’s post is on a piece of technology known as CRISPR that has revolutionized the genetic engineering industry, and holds keys to a future often described in science fiction.

CRISPR

CRISPR, short for clustered regularly interspaced short palindromic repeats, is an important component of the CRISPR/Cas9 system for genomic editing. It represents a huge improvement over previous tools: Zinc finger nucleases (ZFNs) and Transcription Activator-Like Effector Nucleases (TALENs). The CRISPR/Cas9 system is much faster, more customizable, and cheaper than both Zinc fingers and TALENs, and has dramatically improved researchers’ ability to manipulate genomes.

Origin & Development

The origin and adoption of CRISPR/Cas9 for genomic editing is fascinating and quite serendipitous, since the original mechanism comes from nature. CRISPRs are repeated sequences of DNA that were first identified in the E. coli bacteria in the late 80s, but their true purpose and mechanism were not understood for approximately two and a half decades. These sequences are now understood to provide the bacteria with adaptive immunity. When attacked by viruses, bacteria can copy the virus’ genetic code and store it in between CRISPR sequences. Whenever the bacteria runs into the same virus again, this code is transcribed into RNA that corresponds with the viral DNA. A CRISPR associated protein (Cas protein) then cleaves the virus’ DNA, rendering it harmless. In this way, CRISPRs act as a library to store information on previous attacks, with future instructions on how to utilize Cas9 to identify and fight its assailants.

In 2012, Dr. Emmanuelle Charpentier and Dr. Jennifer Doudna published a groundbreaking paper that showed how you could use the CRISPR/Cas9 system with an RNA sequence to selectively cut DNA in a test tube. A few months later, Dr. George Church and Dr. Feng Zhang published two papers simultaneously that showed that this system could be used to edit genomic material within the human genome. Although some might argue that the later research applying the system to the human genome could not have happened without Charpentier and Doudna’s original work, the US Patent office rewarded US Patent No. 8,697,359 to Feng Zhang of the Broad Institute and MIT in April 15, 2015, sparking an intense patent battle.

Despite the patent ownership issues, use of CRISPR has rapidly increased amongst researchers. Over the last 10 years, papers mentioning CRISPR have skyrocketed from 6 in 2005 to 645 in 2014.

Application

CRISPR represents a major step change in genetic engineering for a number of reasons. First, CRISPR increases genomic editing speed, allowing researchers to perform the same experiments that used to take months, in days and weeks. Further, it is a magnitude of order improvement on cost from existing systems. Customized Zinc finger and TALENs systems can cost anywhere around ~$5000 or ~$500 respectively, while a CRISPR/Cas9 system can cost as little as $30. The increase in speed and reduction in cost provided by CRISPR will allow researchers to perform more experiments and reach conclusions and insights sooner. CRISPR’s use in genetic research has become ubiquitous in the three years since Charpentier and Doudna’s first paper.

Beyond being an improved tool for researchers, CRISPR’s promise lies in its potential for genomic disorders to be edited in vivo. Several papers have now been published claiming use of the CRISPR system to suppress or even inactivate and viruses such as the human papillomavirus and hepatitis B virus. More exciting is the potential for the system to be used to neuter disease carrying insects or even to directly fix genetic defects in living, breathing, humans.

However, this amazing potential does not come without its complications. The ease and low cost of CRISPR will make genetic engineering more feasible for research and inevitably drive towards modifying things even more controversial than genetically modified food. This risk is magnified when CRISPR is paired with what’s known as a “gene drive,” which biases inheritance such that populations are significantly more likely to inherit modified genes. While this combination of techniques is very powerful and could allow for a rapid defense against parasites or harmful organisms, any hidden consequences would be drastically exacerbated. This tremendous potential has already led to rapid experimentation including a recent controversial experiment editing the genome of monkey embryos.

To illustrate the danger, I’d like to tell a hypothetical story that could happen 5 years from now: CRISPR technology has developed to the point that we are able to modify one of the parasites that causes malaria, Plasmodium falciparum. P. falciparum is THE worst malaria causing parasite, responsible for the most malarial deaths every year. By coupling a clever CRISPR edit with a gene drive, scientists can change P. falciparum‘s code to render it harmless. The gene drive allows this edit to spread throughout the population of parasites in a matter of weeks. While this looks like a huge net positive for humanity, genetics is a complex beast. This genomic edit actually results in a previously unknown secondary effect that allows P. falciparum to cause a malaria-like disease in cattle wiping out food supply. If this story sounds like scary science fiction, it should. However, what makes this story scarier is that multiple papers have already been published about using CRISPR to edit P.falciparum, indicating that this hypothetical story may be a reality much sooner than 5 years from now.

The Future

Several startups have sprouted in the last year and a half with varying degrees of involvement from the original authors of the aforementioned groundbreaking papers. Despite the ongoing patent battle, Caribou BiosciencesEditas Medicine, CRISPR Therapeutics, and Intellia Therapeutics have all been founded in the past few years. Though their websites describe their mission in a vague way, these startups are focused on developing therapies based on editing the human genome using CRISPR. Though gene therapy has made progress in the past few decades, previous solutions have been limited to development of specific therapies targeted at individual genetic problems. CRISPR offers a platform that allows for rapid customization of therapies.

Here are a few business cases that CRISPR could achieve:

  1. Build a research platform – Build a product/service that reduces researcher pain points. Cost may be difficult to reduce, but time to run experiments, control of inputs, and standardized reproducibility could all be improved.
  2. Build a delivery system – Until now, gene therapy has been limited by our ability to deliver healthy genes to where they are needed in the body. CRISPR offers a mechanism for editing genes in situ, but some sort of delivery system is still necessary to get the desired CRISPR system in the right cell at the right location.
  3. Build a killer app – Develop a targeted gene therapy that was previously unachievable. This path was possible prior to the development of CRISPR, but CRISPR has dramatically reduced the difficulty of doing so. Large inherited genetic disorder markets such as hemophilia or cystic fibrosis could be targeted.

Despite the tremendous potential for CRISPR applications outside of research, there needs to be a dialogue to develop rules and protocols that protect against rash use of CRISPR that could irreversibly alter ecosystems. Nonetheless, the discovery of CRISPR is an immediate step change improvement for researchers, with long-term implications that are promising, potentially risky, but currently undetermined.

Hong Kong protests and their implications for business in Greater China

For many, the magnitude and impact of the protests in Hong Kong are difficult to understand. Some may see the protests as an extension of the 1989 Tiananmen uprising and a general revolt against an oppressive one-party regime. Others may see a movement that looks similar to Occupy Wall Street, with streets filled with young idealistic activists. While certainly there are some similarities to these historical protests, the truth is a bit more nuanced. To start, an understanding of Hong Kong’s historical significance is necessary.

Hong Kong’s Historical Significance

  1. Hong Kong as a gateway for unwanted change

    Even prior to the United Kingdom handover of Hong Kong to China in 1997, Hong Kong has long been a region of experimentation. From the mid-1700s, the greater Guangzhou region (the area surrounding Hong Kong, also known as Canton) was the only point of trade and contact with the Western world under the Canton System. This system was meant to not only limit the perceived commercial threat posed by foreigners, but also to limit a perceived political threat from abroad as well. Following the First Opium War, the UK seized Hong Kong as part of the Treaty of Nanking in 1842, forcefully opening more points of free trade. One of the goals of this war was to rectify a trade balance, wherein the West was purchasing large amounts of Chinese goods but were limited from selling products to the Chinese mainland. What resulted however, was the forced trade of opium into China. This was the first of many unequal treaties, in which China was subjected to the whims of the Western powers during what Chinese historian’s describe as the “Century of National Humiliation.” After a Second Opium War and years of forced opium trade, 27% of China’s male adult population regularly used opium by 1906. From a historical perspective, Hong Kong and the greater Guangzhou region represented an entry point for physical poisons.

  2. Hong Kong as a gateway for controlled experimentation

    Since the United Kingdom handed Hong Kong back to China in 1997, Hong Kong has existed as a Special Administrative Region (SAR), with a different set of rules and regulations than the rest of the Mainland. Under this system, Hong Kong was granted a high degree of autonomy with a separate political system and economy described by Deng Xiaoping as “One country, two systems.” In particular, Hong Kong maintained its own currency, economy, and most importantly, government. The establishment of neighboring Shenzhen as a Special Economic Zone served as an experiment for market capitalism under the system of “socialism with Chinese characteristics.” The investment of large international firms like Foxconn, resulted in large economic successes that drove the rapid acceptance of market capitalism throughout the rest of China.

As a result of Hong Kong’s history, there is a subtle but important cultural gap between Hong Kong and the Mainland. Rightly or wrongly, many Hong Kong citizens see themselves as superior to Mainlanders. Nevertheless, China has continued to allow Hong Kong special privileges not afforded to the rest of China in maintaining Hong Kong as a place for economic experimentation. Given its special status in China, changes in Hong Kong have major implications on business in Greater China

Implications for Business in Greater China

Given this historical perspective on Hong Kong, there are a few key questions that businesspeople need to examine in the wake of these protests:

  1. Will China allow Hong Kong’s historical role as a gateway into China extend beyond an experiment in economics into an experiment in politics?

    What started these protests was that Beijing proposed a change that would limit the existing democratic election process, by effectively limiting the chief executive candidates to those handpicked by the mainland government. Thus, the results of these protests have very specific implications for the future of democracy in Hong Kong, and by proxy democracy in China. Although democracy in China is unlikely at this point, any steps towards or away from democracy in Hong Kong will likely effect the political discourse in greater China.As any who have worked in China know, it is very necessary to have relationships or guanxi (關係) in order to do business there. As market capitalism has spread through China from Hong Kong, business reform has also spread. Thus, the political discourse in China will likely have a long-term impact on the way business in China is done.

  2. Will these protests lead to more severe unrest in Hong Kong and Greater China?

    This is a key question with the potential for more severe short-term financial implications. Since the start of the protests, the Hang Seng Index has already plummeted over 6.4% as investors pull money out of Hong Kong. Certainly, these investors are afraid that extended unrest in Hong Kong will negatively impact business potential in Hong Kong.In addition to the effect of unrest on Hong Kong, one must also consider the impact of unrest in Hong Kong on greater China. Instagram has been blocked in China since Sunday, and other social media and search sites are being actively censored by the government. If the unrest contagion spreads to greater China, it is likely that the PRC will clamp down in a much more extreme manner, but this is dangerous territory. Images of protestors being met by police armed with tear gas and riot shields are likely to evoke memories of Tiananmen, even in China where this event is actively censored. China must tread very lightly, as a violent clampdown of prospects in Hong Kong would likely crush the future of Hong Kong as an international business center.

  3. How will this impact cross-strait relations and the prospect of Taiwan joining greater China?

    China has extended to Taiwan the offer of rejoining China as a special administrative region similar to Hong Kong. Given Taiwan’s status as one of the “Four Asian Tigers,” this certainly has large implications for business, especially for the information technology and high tech manufacturing industries. Since the election of Ma Ying-Jeou (馬英九) as president of Taiwan in 2008, cross-strait relations between China and Taiwan have improved dramatically, resulting in substantial Taiwanese investment and emigration to China.In recent years, one of the simpler ways for foreigners to invest in Chinese growth was to invest in Taiwanese firms investing in China such as Foxconn. How things play out in Hong Kong will have a substantial impact on the future of cross-strait relations and continued Taiwanese investment in China.

The PRC has a very delicate task ahead in figuring out how to address these protests. Extended protests and backing away from previous moves will certainly cause the PRC to “lose face,” but violent clampdowns would have very dramatic repercussions. For businesspeople, it is important to understand that these events could radically change the future prospects of doing business in greater China and Asia Pacific.

Identity in the Business World

Over spring break, I traveled to Copenhagen, Denmark to work on a short engagement with Danaher. Over the course of the week working with my Danish and Polish teammates, I noticed something peculiar about our conversations. After a few days of trying to put my finger on what it was, I realized that they were treating me as an American rather than as a Chinese American. When I told people I was from the US, there were no followup questions like “What about your parents?” or the more insidious “Where are you really from?” It was simply accepted that I was an American. When discussing Danish food at lunch, I was asked questions only about American cuisine, and not Chinese. Teammates were excited to tell me about the time they went to Pennsylvania or Ohio, not the time they went to Shanghai.

While the distinction is subtle, this came as quite a shock. In the years prior to business school, I worked a cumulative one year in China, often leveraging my Mandarin-speaking ability to attain new professional opportunities. Certainly there were instances where I would downplay my identity as a Chinese American, like when I was working with blue-collar workers in the South. Nonetheless, being a Chinese American has always been a large part of my identity in the workplace.

Over the last few years, I’ve had a number of professional identities, ranging from chemical engineer to project manager to negotiator. My racial identity is just one component of who I am as a professional. In this case, the lack of a racial identity allowed me to avoid some of the stereotypes associated with Chinese Americans, but also forced me to think actively about perceptions of Americans. As businesses become increasingly global and complex, professional identity will become increasingly multifaceted. Understanding how you are perceived is important to effective teamwork and management.