What We’re Reading (Week Ending 28 November 2021) - 28 Nov 2021
Reading helps us learn about the world and it is a really important aspect of investing. The legendary Charlie Munger even goes so far as to say that “I don’t think you can get to be a really good investor over a broad range without doing a massive amount of reading.” We (the co-founders of Compounder Fund) read widely across a range of topics, including investing, business, technology, and the world in general. We want to regularly share the best articles we’ve come across recently. Here they are (for the week ending 28 November 2021):
1. New Concerning Variant: B.1.1.529 – Katelyn Jetelina
This week we (epidemiologists and virologists) have been closely following a new COVID19 mutation. Three days ago it was designated the name B.1.1.529…
…B.1.1.529 was first discovered in Botswana on November 11. It was then quickly identified in South Africa three days later and identified in two cases in Hong Kong. This morning Israel and Belgium announced that they have cases. The Belgium case was a young, unvaccinated woman who developed flu-like symptoms 11 days after travelling to Egypt via Turkey. She had no links to South Africa. This means that the virus is already circulating in communities. As of yesterday, 100 cases have been identified across the globe (mostly in South Africa). As I write this, no cases have been identified in the United States.
B.1.1.529 has 32 mutations on the spike protein alone. This is an insane amount of change. As a comparison, Delta had 9 changes on the spike protein. We know that B.1.1.529 is not a “Delta plus” variant. The figure below shows a really long line, with no previous Delta ancestors. So this likely means it mutated over time in one, likely immunocompromised, individual.
Nonetheless, we always pay attention to changes on the spike protein because the spike is the key into our cells. If the virus changes to become a smarter key, we need to know. We are particularly interested in mutations that could do any of the following:
- Increase transmissibility;
- Escape our vaccines or infection-induced immunity;
- and/or Increase severity (hospitalization or death).
B.1.1.529 has the potential to do all three. We know this because we’ve seen a number of these mutations on other variants of concern (VOC), like Delta, Alpha, and Gamma…
…Of these, some mutations have properties to escape antibody protection (i.e. outsmart our vaccines and vaccine-induced immunity). There are several mutations association with increased transmissibility. There is a mutation associated with increased infectivity…
We know a lot about the Hong Kong cases because of their impeccable contact tracing. Health authorities published a report of these two cases yesterday.
The first case in Hong Kong was a 36 year old, fully vaccinated (two Pfizer doses in May/June 2021) male. He was traveling through South Africa from October 22 to November 11. Before returning to Hong Kong, he tested negative on a PCR. As per usual, once he landed in Hong Kong he was required to quarantine. On day 4 of quarantine (November 13), he tested positive on a PCR.
Another guest across the hallway was also infected with B.1.1.529. He was Pfizer vaccinated in May/June 2021 too. In both of these rooms, 25 out of 87 swabs were positive for the virus.
These Hong Kong cases tell us two things:
- Confirms that COVID19 is airborne (we knew this)
- During their PCR tests, the viral loads were VERY high considering they were negative on previous PCR tests. They had a Ct value of 18 and 19 value. So, this tell us that B.1.1.529 is likely highly contagious…
…There are preliminary signs that B.1.1.529 is driving a new wave in South Africa. Health officials are looking particularly at a region called Gauteng. In just one week, test positivity rate increased from 1% to 30%. This is incredibly fast.
If we zoom out on South Africa as a whole, we see cases starting to exponentially increase. On Tuesday there were 868 cases, Wednesday there were 1,275 cases, Thursday there were over 3,500 cases. We do not know if these cases are all B.1.1.529, but the timing of explosive spread is suspect.
The rate in which these cases are spreading are far higher than any previous variant. Disease modeling scientist Weiland estimated that B.1.1.529 is 500% more transmissible than the original Wuhan virus. (Delta was 70% more transmissible). John Burn-Murdoch (Chief Data Reporter at Financial Times) also found that B.1.1.529 is much more transmissible than Delta.
2. Inside the cult of crypto – Siddharth Venkataramakrishnan and Robin Wigglesworth
Chris DeRose was noodling away on the internet when he stumbled over an intriguing post on Slashdot, a forum for extremely online hyper-geeks like himself.
“How’s this for a disruptive technology,” a user wrote on July 11 2010, enthusiastically describing a decentralised, peer-to-peer digital currency with no central bank, no transaction fees and beyond the reach of any government. Using computers to solve cryptographic puzzles would earn people “bitcoins”.
DeRose was intrigued yet unconvinced by the concept. The young Floridian programmer struggled to see what utility it might serve. Many others on the forum were also sceptical. “Hey thanks for trying to post something all edgy or controversial or whatever the hell you think it is,” one replied.
All this changed with the rise of Silk Road. The “dark web” marketplace, launched in 2011, convinced DeRose of bitcoin’s potential. Finally, the cryptocurrency had found its “killer app” and could become real digital money. And his fascination took flight. Regular board game nights with friends morphed into bitcoin nights at the local pub.
By 2013, DeRose, then aged 31, ditched his successful computer consulting business and threw himself wholeheartedly into the mushrooming cryptocurrency world, becoming a popular if controversial podcast host…
…In 2015 soaring interest triggered an explosion of new digital currencies of variable quality. Scams proliferated. The debate began to Balkanise. By 2017 — when the price of bitcoin took off like a rocket, going from under $1,000 per “coin” to almost $20,000 — early discussion had calcified into rigid dogma that bore little relation to reality. Bitcoin and its zealots were the strongest example of this, DeRose felt.
“If you look online at ‘what is bitcoin’, what you’ll see is a gigantic amount of literature and decontextualised media snippets that paint a beautiful picture of the imminent success and domination that is surely awaiting us,” he says.
“However, if you look at bitcoin off the screen, what you’ll see is declining merchant uptake, zero evidence of blockchain deployment or efficiency, and mostly just a lot of promotional events offering cures to whatever ails you.”
DeRose is not alone in his disillusionment. Cryptocurrency has over the past decade become a broad movement with its own language and symbols, driven by a constellation of prophets with varied but overlapping gospels, who treat both external and internal dissent as blasphemy and promise adherents that they form the intellectual vanguard to a bright new future. Sound familiar?
The definition of a cult isn’t cut and dry. Scholars, civil society groups and anti-cult counsellors offer varying and at times contradictory criteria, and the line between cult activity and mainstream religion can be vanishingly thin.
Most groups identified as cults feature a single charismatic leader, something that the crypto world lacks. But many other classic hallmarks of culthood — apocalypticism, the promise of utopia for worthy believers, shunning of external critics and vitriolic denouncement of heretical insiders — are increasingly dominant.
“Crypto is essentially an economic cult that taps into very base human instincts of fear, greed and tribalism, combined with economic illiteracy as a means to recruit more greater fools to pile money into what looks like a weird, novel digital variant of a pyramid scheme,” argues Stephen Diehl, a crypto-sceptic software engineer. “Although, it’s all very strange because it’s truly difficult to see where the self-aware scams, true believers and performance art begin and end. Crypto is a bizarre synthesis of all three.”
Given the global financial system’s growing exposure to digital currencies, the culture around crypto, how much or little it changes, could have major consequences for retail investors, central banks and the environment.
Crypto’s most ardent proponents predict it will eradicate inequality, wipe out corruption and create untold wealth. Most cults make similarly expansive promises. And as the gulf between promise and reality grows, things get dark.
3. ‘Buy the Constitution’ Aftermath: Everyone Very Mad, Confused, Losing Lots of Money, Fighting, Crying, Etc. – Jordan Pearson and Jason Koebler
The community of crypto investors who tried and failed to buy a copy of the U.S. Constitution last week has descended into chaos as people are realizing today that roughly half of the donors will have the majority of their investment wiped out by cryptocurrency fees. Meanwhile, disagreements have broken out over the future of ConstitutionDAO, the original purpose of the more than $40 million crowdfunding campaign, and what will happen to the $PEOPLE token that donors were given in exchange for their contributions.
Over the weekend, the next steps of the project repeatedly changed. In the immediate aftermath of the Sotheby’s auction, in which ConstitutionDAO lost to hedge fund CEO Ken Griffin, the founders of the project asserted on its official Discord that, though they lost, “we still made history tonight.” …
…The specifics of what is happening are quite complicated, but, basically, ConstitutionDAO raised more than $40 million worth of Ethereum using a crowdfunding platform called Juicebox. In exchange for donations, contributors had the option to redeem a “governance token” called $PEOPLE at a rate of 1 million $PEOPLE tokens per 1 ETH donated, issued through Juicebox. If ConstitutionDAO had won, those $PEOPLE tokens would be used for voting on what would happen to the Constitution.
It was never explained exactly how voting rights would be apportioned (the DAO said “Due to the unusual and extremely short timeline of needing to rally around obtaining the Constitution during the auction window, we have not been able to focus on giving the technical aspects of DAO governance mechanics the careful consideration and community deliberation this topic requires.”) But many DAOs use a proportional voting structure; for explanation’s sake, one way of doing this would have been to give 1 vote per $PEOPLE token, allowing people who donated more to have an outsized say in what happened to the document.
Crucially, ConstitutionDAO repeatedly said that donors were not buying a fractionalized share of the Constitution and that individual donors would not “own” part of the Constitution, they would merely have a say in where it was displayed, etc. ConstitutionDAO also said that donating to the project should not be looked at as an “investment.”
“You are receiving a governance token rather than fractionalized ownership of the artifact itself. Your contribution to ConstitutionDAO is a donation with no expectation of profit,” the DAO’s FAQ section read. “Some examples of this would be voting on advisory decisions about where the Constitution will be displayed, how it should be exhibited, and for how long.”
That’s all well and good, but regardless of the intentions of the core team, many people of course were looking at this as an investment (the meme was “buy the Constitution,” after all.) This was a somewhat reasonable expectation—many cryptocurrencies have skyrocketed to ridiculously high valuations off the strength of a meme alone, and DAO governance tokens are themselves a $40 billion market. Clearly, some people expected to be able to flip either a tiny ownership stake in the Constitution or $PEOPLE tokens for a profit. This did start happening over the weekend, with some investors selling $PEOPLE tokens on decentralized exchanges such as Uniswap. ConstitutionDAO repeatedly said on Discord that it “neither prohibits nor encourages any secondary trading of the $PEOPLE token.”
This is all important because, on Saturday, ConstitutionDAO’s admins announced two important things. First, it announced that it would be moving away from the $PEOPLE token into a new, yet-to-be-created token called “We the People” ($WTP), which would govern whatever future the project had. $PEOPLE, meanwhile, would go by the wayside because “we did not acquire the constitution and $PEOPLE’s explicit reason for existing has now run its course,” an admin said in what was billed as “a note from our legal team.” They also announced that they were going to try to issue refunds outside of the Juicebox platform to those who wanted them.
These announcements had the effect of cratering the price of the now apparently worthless $PEOPLE, according to hundreds of angry messages on the Discord ($PEOPLE’s price is not currently tracked by any exchanges, but recent trades on Uniswap show it going for $0.0044), as well as sowing confusion and anger within the community. Many posters on the ConstitutionDAO Discord felt like the team was moving away from $PEOPLE tokens for reasons that weren’t well-explained; this also led to a bunch of arguments about what the purpose of the project was, what the intentions of the founders were, and whether they were being scammed or not. As the price of $PEOPLE cratered, some people bought tons of the now close-to-worthless token.
By Sunday night, however, ConstitutionDAO announced that it would “return to the original plan.” This meant issuing refunds through Juicebox as was originally intended, as well as shelving the idea to create the $WTP token, which means that $PEOPLE was suddenly “useful” again, in the sense that if the project does continue in any way, $PEOPLE is currently the only token in existence.
“One of the reasons for this reversion to the prior plan is that the decision to launch a new token and a new governance token (the previously discussed $WTP token) requires careful consideration, time to incorporate more community feedback, and thoughtful planning around the technology and structure of that governance,” an admin posted. Previous references to $WTP in the Discord were edited out of the old announcements, leading to additional confusion.
The peer-to-peer price of $PEOPLE has continued to fluctuate, according to transactions viewed by Motherboard on Uniswap. Basically, $PEOPLE went from being a hype-y DAO token to orphaned and totally useless to potentially valuable again within a 24 hour period. Its future is still very much uncertain, but people on the Discord are still very angry, wondering if this is a scam, and wondering if $PEOPLE will still skyrocket in value because of the apparent “historic” nature of it as part of a failed meme attempt to buy the Constitution.
4. Ali Hamed – Amazon Aggregators: Buying Third-Party Sellers – Jesse Pujji and Ali Hamed
[00:03:28] Jesse: We’re going to jump right in. Can you start by telling us, we’ve all heard this word thrown around in the business world these days, Amazon aggregator. What is an Amazon aggregator?
[00:03:38] Ali: Well to back up, amazon.com is a big e-commerce business that you can buy a bunch of stuff from. It turns out that often when you’re buying stuff from Amazon, you’re not actually buying it from Amazon itself. You’re buying it from third party sellers often and usually. And there’s really three types of Amazon third party sellers. There’s resellers, they take items that are made by somebody else, they pick them off shelves and they try to sell on Amazon and the margins there are really low. There’s vendors who sell to Amazon and Amazon then sells to us. You give up control of your storefront, you let Amazon do a lot of the work for you, but it’s a little bit easier. And the main type, and usually when people are talking about Amazon aggregators and Amazon third party sellers, they’re talking about Amazon FBA businesses, FBA stands for fulfilled by Amazon.
And these are people who come up with an idea, they get it manufactured. It could be manufactured domestically, but more often in Vietnam or Thailand or China or wherever. You get it shipped to the United States or wherever your consumer is. It stays in the Amazon warehouse and they use an Amazon storefront to sell your product. Amazon aggregators, run around and go buy up these storefronts. If you think about what these storefronts are, they’re small businesses, they sell all kinds of things, might sell whiteboards, beauty creams, scissors, anything.
And what you do is you basically buy these seller accounts. You get the ASIN, you get the SKUs, you get the inventory, you get the reviews, the comments, all the assets, and you continue to operate them. The thought being that an Amazon aggregator finds these seller accounts more valuable than the seller themselves does, because the operator, the aggregator is able to operate at scale. They often have a point of view that post purchase they might be able to improve the assets. And so basically what these aggregators do is they run around, they raise a bunch of debt capital, they raise a bunch of equity capital, they use that capital to go buy these assets at what they think are reasonable prices and then operate them.
[00:05:26] Jesse: And how big is this market? Give us a sense for scale revenue-wise, EBITDA, in broad strokes.
[00:05:33] Ali: So this was the part that shocked us the most, and is what got us really obsessed with the space. About $300 billion of revenues per year is done by these Amazon third party sellers. And that might be an outdated number. And generally these businesses are able to operate at something like 15% to 25% net margins. Let’s call it 20%. So it’s a market that’s about $60 billion of addressable EBITDA. And shockingly is growing anywhere between 30% and 50% per year.
So this is a market that we think is going to be a hundred billion dollar plus EBITDA market. And I don’t know what it’ll trade at at maturity, as low as six to eight times, maybe as high as 10 times. I don’t know if interest rates stay at zero, a hundred times, whatever. When you think this is going to be between half a trillion and a trillion dollar market. If you think about it, what that means from the debt perspective, since this is a fairly levered space, if you were to try to leverage up this EBITDA something like four times, which would not be that aggressive, it would be actually quite conservative. We think something like $250 ish billion of capital can come into the space today. And over time, close to $500 billion of capital.
We think this is a really, really big deal for capital markets, because not only are these big businesses, but they’re voracious users of capital. It’s great for anybody who’s in the investing business. From a market value perspective, we think it’s just massive…
…[00:10:24] Jesse: Let’s talk a little bit more about the stores in particular. So you said there’s $300 billion in revenue today. Roughly how many stores is that, individual storefronts?
[00:10:33] Ali: It’s roughly a hundred thousand that we think are addressable.
[00:10:36] Jesse: So there’s a hundred thousand of these stores. And can you give us a couple examples of stores and maybe even what it looks like on the inside of it? You keep calling them small businesses, so explain what they look like.
[00:10:46] Ali: An Amazon seller account or one of these businesses that you might buy, often sells a hero SKU. So this is a product that they sell better than all their others. And then a handful of other SKUs that may be somewhat related, they might be variations or something similar. But often they’re fairly diversified. And they’re usually in one category, that might be home and goods, it might be in electronics, it might be in sleep, in kitchenware. And so what you’re doing is you’re basically going in and you’re buying the seller central account and all the associated assets that the business has, that they can then use to go sell products through their Amazon storefront.
Really, when we think about the value of a lot of these businesses, you can look at the cash flows, you can look at the assets they have. But more than anything, you’re really trying to buy what’s their ‘real estate’ within Amazon. We think about these businesses and we talk about what makes them so wonderful and what you’re really buying. By the way there’s negatives to these businesses too, but the three most positive attributes is that they have comment and review notes. What I mean by that is you might be ranked really highly in some random category, but if you have 50,000 reviews and your second best competitor has 20,000, you have a really big barrier to entry because the Amazon ranking algorithm is not some big black box. If you think of an industry like Google, a platform like Google, or Facebook timeline, or TikTok, it’s really unpredictable how things get ranked. On Amazon, it turns out that if you have the most comments, you have the most reviews, you’re ranked highly, you don’t run out of stock often and you price competitively, you’re going to be ranked highly.
You’re looking for these assets that have that comment review note. And then the other things that they often have that are associated is, they have manufacturing relationships that can be trusted, a robust supply chain, or often you can apply your supply chain to their supply chain to make it more robust, add some redundancy, make sure you can more consistently get inventory. You have what we like to think of as high margins. The reason is, if you’re ranked really highly and you have that comment review note, you end up having high margins, because you don’t have to spend the same amount of money on ads that a normal e-commerce website might have to spend money on.
And finally, what you’re buying is all the infrastructure that they’re getting through Amazon. Through their FBA program. So what’s really amazing is the P&L of a lot of these Amazon third party sellers is highly variable. If you look at the P&L of one of these businesses, they might do a hundred dollars of revenue. They might be spending $30 on cogs, $40 on Amazon FBA and about $10 on overhead expenses. So what you end up buying is a product that may or may not be hard to manufacture, may or may not be hard to find a manufacturer for, what we’re really buying is their presence and their ‘real estate’ within the Amazon ecosystem.
[00:13:19] Jesse: Yeah that makes a lot of sense. If we flip it around just a little bit to talk about from a stores vantage point, how do these guys start? Who are they, who is starting an Amazon store? How many people they tend to have? What are their average sales? Like? Just give us a sense for that $300 billion divided by a hundred thousand, what are all these little stores out there?
[00:13:37] Ali: Often it starts as somebody who has a day job, they have an idea for a product, they’ve been making it in their basement, their garage, a side room, whatever it might be, selling it on Amazon and it starts to take off. That might be because they’re in a new category. So as an example of a category that’s becoming wildly popular on Amazon is Pickleball. Pickleball is a new sport, it’s growing really quickly. It turns out that if you were selling Pickleball years ago, you were kind of a first mover.
And as the market grew, you grew with it. As categories get too big, what often happens is they attract large companies who want to spend a lot of ad money to try to buy promoted spots on the top of the page. So you have to be careful about figuring out a category that’s underserved or about to grow, where you can be one of those first movers. By the way, a lot of people use pay per click strategies to try to get themselves rank highly initially or some sort of other mechanism. But really the best way to do it is be a new entrant in a category that’s not big now, but might become big later and then accrue those reviews.
So they could be anybody. I have a friend whose father sells paint that changes color when the temperature in a room or atmosphere or environment gets too hot or too cold.
[00:14:44] Jesse: So there’s a bunch of people out there starting businesses for any reason, they’re pretty profitable. They have a good cost structure as you said. Take us back to the early days of the aggregator space. What was the initial insight? It sounds like Thrasio, a couple of the early people have. And what did they start to do? Give us a sense, the mental model for how it started to add up to being a big business.
[00:15:06] Ali: The first thing you’d ask yourself is, okay so these businesses sound pretty good. They have high comment review notes. By the way, we think this is one of the only spaces in the world where you can sell a commodity product with a high barrier to entry, without it being regulated. That’s a really big deal. So you have these hybrid entry products with high margins and variable cost P&Ls. That sounds really good, right? So why in the world, would anybody ever sell their business if it’s so wonderful and at low multiples?
Well, it turns out being a small Amazon seller is really, really hard. One reason is if you’re small, it’s very difficult to manage volatile cash flows. The EBITDA to cash conversion is not that obvious. Largely because if your business is organically growing, you have to keep taking the income that you’re making and reinvest into inventory. So you keep up with growth. On top of that, it’s not like growth happens on a linear basis. The holiday season is tough. The Chinese New Year is tough, if you have your manufacturers in China. Because a lot of these people have somewhat flimsy supply chains, they need to be overly conservative about how much inventory they’re holding at any given time. Amazon started limiting how much storage they allow in their warehouses, because they don’t want to be a storage company.
At the same time, it turns out that supply chain’s gotten harder over the last couple of years. For a lot of these Amazon sellers, you have a supply chain that’s flimsy, because you have a lot of redundancy, you might not have a backup 3PL, you might not have a backup truck broker in Long Beach who could pick up your stuff if there’s not an Amazon truck available. You may not have a warehouse available in Long Beach if you need to store your stuff somewhere, you may not have quality assurance on the ground in China to make sure that the quality of the manufacturing is where you want it to be. You may not have a plan of when you should water freight something, or when you should air ship something, if you need to come up with the inventory.
And by the way, the number one way to ruin your Amazon business is to run out of inventory. If you stock out too many times, Amazon will de-rank your listing, and what’ll happen is your competitors will realize that you’re starting to run out of stock, or starting to sell bad inventory if you didn’t have quality assurance. And so, they’ll start spending more money on advertising to sink you. So, you now have a seller account where your cash flows are volatile, where you’re not getting all your EBITDA and converting it into cash. Where you have a supply chain that is somewhat flimsy, and if you’re not big enough you don’t get a seller account manager, which is your account manager Amazon who can help you fix problems from time to time. If we had another hour I could keep going through list and lists of reasons that being a subscale small seller is really hard.
And so, it might make sense to sell. By the way, my last favorite reason is, if you talk to a lot of these Amazon sellers and you get to go on video call, there is usually some individual who hasn’t seen their family in four Christmases, because Christmas is their busiest time of year. They have bubble wrap and cardboard boxes behind them in the video screen. It is just a very hard business to run by yourself. So, people want to sell. Now, the buying market is odd. On one hand, it seems like there’s so many aggregators out there, there’s so much capital that’s gone in the space. It’s reported that five to $10 billion of capital’s gone in the space. That’s basically nothing. The funniest thing that we saw was Apollo gave money to Victory Park and they gave them $500 million as reported by Bloomberg. And everyone thought, oh my gosh, what a crowded space.
$500 million barely scratches the surface. It’s basically one or two loans to aggregators. If you think about that $60 billion of EBITDA today, we think the space could incur $240 billion of debt, not 500 million, or five billion or 10 billion. So, one reason the multiples are still so low is there’s just still not that much capital. The other reason, which is more structural, is debt service in the space is really expensive, and here’s why. All the normal providers of cheap debt like BDCs, or direct lenders, really struggle to invest in the space, largely because these types of deals don’t fit in their normal mental model. In normal, regular way, LBO Financing, a private equity firm runs around and tries to buy business. They might buy it eight, 10 times EBITDA, say it’s eight times. And basically any direct lender will go to any high quality equity sponsor and lever up their acquisition, call it 70, 60% LTV.
If you’re financing a deal at 70% loan of value, that was purchased at eight times, you’re at a 5.6 times debt to income, sort of wide. So, what you tell your LPs is, don’t worry about it. The LTV is what we really care about. And by the way, you want a low LTV for two reasons. The first is if you got the price wrong, you can still fire sell the asset without losing money. The second reason is you want the private equity fund to have put money in, to align your interest. If the private equity fund put no money in, they don’t care if the business goes out of business or not. In the Amazon third party seller aggregator space, it’s totally different. You finance these businesses at really high loan of values, 80, 90% type loan of values. But instead you’re relying on a low debt to income.
What you do is you basically say, hey. We’re going to finance this at 90% advance rate, which would be really aggressive, but you only bought the business for four times, that’s a 3.6 times debt to income. These direct lenders and BDCs can’t run around telling all their investors, hey. Remember how we told you LTV is the only thing that matters? Actually, it’s not the only thing that matters. Really there’s this whole other thing that matters. And by the way, so much of the direct lending world is so equity sponsor focused, that because these businesses and aggregators don’t have all the traditional equity sponsors everybody’s used to, it’s really hard for these cheap sources of capital to come into the space. So, instead what you have is hedge funds or credit funds or specialty lenders or esoteric credit funds, financing the ecosystem with very limited amounts of capital, which has caused interest to be higher than it would be in a normal ecosystem, where both your debt service and your limitation on debt to income, forces people to buy businesses at lower multiples than they would otherwise buy them.
And finally, even though capital’s been coming into the space, the rush of sellers who now want to sell, because they now know they can sell, is actually keeping pace. So, you might hear people talk about the fact that multiples have risen and gone up over time. We’re kind of seeing that, but not really. What we’re really seeing is the marketing line of what the multiple is go higher. More seller notes, earn outs, tricks and tips of how to juice the value of an asset. I think a lot of people don’t want to get into a debate about whether or not COVID created a bump in demand for certain products, so they solve that debate by just earn outs into the product. There’s a lot of these different reasons that these businesses continue to be attracted to buy.
5. Narrative Distillation – Kevin Kwok
Narrative distillation is a core part of company building
The largest trend in every function within companies is that they’re being pulled internal. Engineering was the first. The birth of modern software companies began when companies first understood that engineering wasn’t a back office job to outsource, but a core part of the primary job of a company. Core, not commodity.
Endogenous compounding is increasingly the foundation of all modern successful companies. In a world where it is hard to be successful and unknown, all external channels increasingly get arbitraged. Companies that discover some novel market or promising acquisition channel quickly find themselves joined by many competitors. And the outsized returns they briefly got fall back down to earth under the weight of competition. It is internally compounding advantages that fight the gravity of this reversion to the mean. This is why we talk so often about network effects & economies of scale. Because like any polynomial equation, as scale rises & approaches infinity, only the highest order bit matters. And it is the aspects of the company that are internal to its organization or ecosystem that can most compound unimpeded by the outside world.
While engineering was first, it is not unique. Every function whose returns on iteration are high and non-commodity will follow the same path.
The transition from marketing to growth was this exact same process. Traditionally marketing was something done after the work on the product was already complete. Companies would finish the product and throw it over the fence to the marketing team. The easiest way to know if a function is core or commodity is 1) whether the function is identical at other companies, or unique to the particulars of their company and 2) whether it has feedback loops in the company or purely uses external channels.
Modern growth teams are impossible to remove from the core flow of their companies. In fact, they are fused to core product and engineering. How can you do growth without it being inextricably tied to the core flows of the product?
Brand marketing is still important, but on a relative basis it is increasingly shrinking compared to paid acquisition and more importantly core product driven distribution. If you think about bottoms up, product driven SaaS companies or viral social networks, they are examples of how impossible it is for traditional marketing to compete with the product itself. The best companies understand that distribution is a first party concern when thinking about a product, not some checkbox to finish after.
In “Why Figma Wins” I wrote about how design is undergoing this exact same transition. Design at the best companies cannot be relegated to artists told what to make after all the decisions have been made. They must be part of the core decision making throughout the entire process and all its iterations. This doesn’t just fall on the companies. It also means designers must accept more responsibility. The best designers want to be at the table. And they understand that they must not just think at a creative level, but also in how their design process and output shapes the core business. The best designers not only do this, they relish it.
The same is happening to the narrative of companies. Increasingly, narrative isn’t primarily about external framing. It’s not something done after the work has been completed.
Adobe has continually shown over the last few decades how core managing the narrative is to getting the support and coordination of investors and employees as the company makes fundamental shifts to their business model. Whether that be in adding new products, transitioning to the faster internal cadence of a SaaS company, refactoring into a cloud-first infrastructure and pricing model, or the myriad other endeavors Adobe has undergone from building printing software to the full expanse it is now.
Those shaping the narrative must intimately understand how employees, investors, and customers think about the company. Refining and expanding the narrative is entwined with the company’s progress. Narrative is shaped by each iteration of a company’s processes and products. And in turn a company’s evolving narrative shapes how it focuses its processes and builds its products.
6. Betting on Unknown Unknowns – Alexandr Wang
The future is difficult to predict. As the pace of technology has accelerated, the rate of surprises has as well. It’s not hard to find examples of experts’ predictions which always end up being way off. It’s not because the experts are not knowledgeable—in fact it might be because they are too knowledgeable.
There’s a peculiar thing where oftentimes it’s the wildly optimistic predictions that end up being right. Such predictions seem entirely crazy at the time—it feels like betting on everything going absolutely perfectly. On the contrary, they are betting on “unknown unknowns” which will meaningfully change the game.
The maker of these optimistic predictions will never be able to chart the path in which their prediction will come true, or even if they tried, that path will be wrong. But, the prediction will end up being right because they are properly betting on unknown unknowns. These future moments of human invention will surprise us each time, but it should not be surprising that they will happen.
On the other hand, making long-term predictions about the future which are grounded in reality will often lead you to be wrong. The world is not an automaton which continues deterministically based on current realities. Betting against invention and innovation has, on the whole, turned out to be a bad bet over the course of human history.
Accurately predicting the future relies on betting on unknown unknowns. It’s impossible to say what these breakthroughs will be, but it’s almost a certainty that they will happen…
…As a final caveat, you cannot always bet on unknown unknowns. Chances are that JC Penney is not going to magically become one of the most valuable stocks of the decade. If you had to bet on that one, the correct bet is probably that they will continue to be more and more irrelevant over time.
You can only bet on unknown unknowns near the frontiers of human tenacity and creativity. Towards the tail distributions on both traits, unexpected tail events start to happen that dominate everything else. The problem with JC Penney isn’t that the department store business is a bad business (you could argue that the online bookstore business for Amazon was also a bad business). The problem is that JC Penney doesn’t have a high density of people who are either deeply tenacious or deeply creative. The unknown unknowns at JC Penney are 1,000 times less likely than at Amazon, so you likely shouldn’t be betting on them.
When you have groups of people who are especially tenacious and especially creative, magic happens. Amazonians had to be far more tenacious than competitors, otherwise they would die. Amazon’s tenacity has perpetuated into Amazon being one perhaps the most innovative company in the world, continuing to invent and enter new markets at a breakneck pace. At its core, the reason to bet on Amazon is their corporate tenacity, and therefore inventiveness.
7. Terra: The Moon Also Rises – Mario Gabriele
Terra is building better money. Not only that, it is creating infrastructure for others to ceaselessly improve and remix it, giving it new abilities and uses. It is a blockchain and a bank and a payment processor, and a sort of technological nation-state. Terra’s contributors are just as likely to compare it to Y Combinator as they are to Singapore.
And yet, while Terra has the potential to revolutionize the financial industry and mainstream crypto adoption, some believe it is destined to fail, architected for collapse…
…In 2017, along with college friend Nicholas Platias, he began to actively study the space, watching as the ICO boom blazed to life. Many seemed to be building applications on top of existing “currency” projects like Bitcoin, even though Bitcoin itself hardly functioned as a reliable medium of exchange. Maybe there was space to create a project that worked as an actual currency?
Inspired by the sector’s potential and sensing a gap, Kwon and Platias started writing a whitepaper, spelling out some of the ideas they had. In particular, the pair were interested in the creation of a decentralized financial system that was actually usable by the average person — one in which a stable currency could be easily held and used as a form of payment both on and offline. In many respects, it was a return to the ideologies of Satoshi Nakamoto, at a time when Bitcoin’s stomach-churning volatility had revealed that it was far from an ideal “peer-to-peer version of electronic cash.”…
…Shin was a young man with money and time. For a few years, he advised and incubated internet businesses in Korea and Southeast Asia — but it was in meeting Kwon that he found a true second act.
Though separated by nearly a decade, Kwon and Shin got on quickly, finding overlapping interests and developing a rapport. Shin was interested in Kwon’s work — though he had yet to spend any meaningful time in the cryptocurrency sector, his experience building TMON had given him a front-row seat to online payments processing and its various quirks and failings.
In Kwon’s theories about a better, decentralized monetary system, he saw not only a provocative idea but a solution to a tangible problem. What if instead of using decrepit, rent-seeking payment processors to manage transactions, online retailers could leverage a well-engineered, decentralized solution?…
…The practical framing posed by Shin would come to shape Terra’s very identity. Gabe, a semi-pseudonymous “Lunatic” — the name given to Terra’s fans — explained:
The Terra blockchain developed based on the principle that the blockchain itself was a means to many ends, and for that means to succeed it had to be better compared to other options…[T]he founding team saw that there were several finance system pain points such as slow payment clearance and high payment fees. Following that, blockchain development happened to be the best available option to resolve those issues.
A partnership was born, and Shin set to work leveraging his contacts. As Kwon explained in our conversation, the TMON founder’s Rolodex allowed the budding blockchain project to condense a product-discovery journey that might have taken months or years into weeks. He also brought a different type of thinking to the project. While Kwon noted that he “used to be a very theoretical and abstract type of person,” Shin was “a more practical, numbers-driven executor.”
Along with Platias and other early contributors, Kwon and Shin started to more concretely scope out their solution, receiving feedback from Korea’s e-commerce players. They called it Terra.
Thanks to Shin’s profile, the Terra team was quick to attract financing. By late summer of 2018, it attracted a $32 million investment from leading cryptocurrency exchanges, including Binance, OKEx, and Huobi. Other backers included TechCrunch founder Michael Arrington, Polychain Capital, and Hashed.
In the fundraising announcement for that round, Shin outlined an audacious vision: to “build a platform that competes with Alipay on the blockchain.” The comparison to the Chinese super-app neatly encapsulated the team’s desire to build an intuitive, widely used financial product that served both consumers and merchants. It also expressed the desire for secondary apps to be built on top of Terra’s framework…
…There is only so far we can go without a better understanding of what Terra is and how it works. Yes, it is a cryptocurrency project. Yes, it improves payment processing for e-commerce companies. Yes, it is — in some sense — creating “better money.”
But what does any of that mean? Answering this question is not trivial. Terra’s complexity on the back-end allows it to be compelling and intuitive to the user. It is somehow elegantly convoluted but entirely logical — a kind of financial watch with hundreds of gears working together to keep time. …
…It’s hard enough to make money. But it’s much, much harder to create money from scratch. Terra’s whole system is founded on the latter — the fabrication of currency and a surrounding financial system.
Now, creating a cryptocurrency that functions as a medium of exchange has historically been rather difficult. Though the initial premise of Bitcoin was to create a true digital cash alternative, the asset’s volatility has made it an ineffective payment method. Who wants to buy something with a currency that might increase in value by 20% in 24 hours?
You can imagine a scenario in which you buy a TV for 0.01724 BTC when the asset’s price is $58,000 per token. That means you’ve paid about $1,000 for your next flatscreen. Ten minutes later, Bitcoin’s price hits $60,000, meaning you effectively paid $1,034 for it now. When Bitcoin hits $69,000 two days later, your TV spend hits $1,190.
This kind of turbulence is typical among crypto assets, which is why a set of projects have emerged that seek not to increase their value but remain as stable as possible. Rather than moving around minute-to-minute, these “stablecoins” trace the price of a fiat currency as closely as possible. Usually, they peg themselves to USD.
Stablecoins serve an extremely important purpose within the crypto ecosystem. Not only do they open up crypto as a medium of exchange, but they provide a place for investors to park assets during volatility without needing to move into fiat. For example, if you’re a long-time investor in Bitcoin but worry about short-term upheaval, you could choose to transfer some of those holdings into a stablecoin rather than selling and converting back into USD. While those holdings wouldn’t benefit from an upswing in Bitcoin’s price, they’re protected from a drop. (At least, in theory.)
The decentralized finance (DeFi) movement has also been a huge beneficiary of stablecoins. Without some stability in terms of value, many fewer would have been willing to stake their holdings in exchange for interest.
Clearly, stablecoins have value. But how exactly do they maintain their stability? How is it that a token can continually be worth $1?
The answer is, it depends.
Disclaimer: None of the information or analysis presented is intended to form the basis for any offer or recommendation. Of all the companies mentioned, we currently have a vested interest in Adobe and Amazon. Holdings are subject to change at any time.
