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The Obligations of Innovation (Part 2)
Silicon Valley is the primary catalyst in the Innovation Economy, but all is not well.
The second of a two piece essay examining the woes of Silicon Valley concludes here. Unfettered optimism and ambition power the Valley, ultimately driving it to the top of the mountain. Without necessary introspection, the Valley has lost sight of the fact that it both reached the peak and only did so because of its collective inputs.
Read Time: 12 minutes
In Part 1 of this essay, I asked “why is everyone seemingly so upset with Silicon Valley today?” From there, I posited, perhaps paradoxically, that a primary cause of this unrest is the very strengths that catalyzed the Valley’s ascendance.
That is, the tech industry is today suffering the classic “championship hangover” - it won the title, so to speak, but to remain atop Olympus the Valley must reshape much of what got it to this point in the first place.
Let’s close this out.
Powered by Optimism
“When you are the leader of a company (or anything else), you have to lead with optimism, enthusiasm, and positive energy.” Fred Wilson
Startups specifically and Silicon Valley more broadly are fueled not by capital but by optimism. Every startup’s pitch, especially its first, is pretty outlandish.
In stark contrast to so much of finance, the correct venture response to such a pitch is not “how could this possibly work?” but “what if it does work?” Innovation by definition must buck the status quo, requiring a reorientation of our fundamental perceptions about how the world works.
Investing in innovation is thus difficult for three major reasons:
Most humans are simply not wired to see, let alone understand, a counterfactual reality.
Most ideas are quite dumb!
We cannot a priori identify with any modicum of certainty which ideas are actually dumb or are simply part of this counterfactual (better) future state of reality.
Thus, optimism - there’s simply no other feasible orientation for a person (whether investor or founder) who knows that the actual probability of success is miniscule. Logically the only reason such a low success rate retains viability is because of the power law distribution of returns. And yet…
Like each of the strengths we’ve already discussed, left unchecked they tend toward spoilage. Downside risk mitigation isn’t fun, but neither were vegetables before we made them fashionable.
Building something because “I can raise money for it” and then wrapping a mission around it may in fact make you wealthy, perhaps obscenely wealthy, but is it healthy? Is it virtuous? Does it help literally anyone other than the small cadre of founders and investors who won the lottery and called it skill?
Unfettered optimism is not just a descriptor but is actually codified in startup valuations. To be clear, valuation is an absolutely necessary piece of the startup life cycle, but a precise instrument it is not.
Valuations of companies that have not yet achieved product-market fit are less this:
and more this:
Early-stage valuations are arbitrary precisely because they are, unlike any other asset class, completely dependent on Intangibles1.
We further codify this optimism-as-valuation in standard VC fund performance metrics. Without boring you with the various acronyms and calculations, there are two primary ways that fund returns are calculated:
Actual cash returned to investors from a liquidity event (e.g., company sale or IPO)
Potential future returns to investors, based on the fund’s ownership stake at the most recent valuation
Because lemons ripen early in venture, the smaller actual investor returns must by definition lag greater potential returns, with most of the value of a given fund often accruing 7-10 years after the fund launched. It is almost never the case that a fund manager will wait until the fund’s returns have completed, or even until investors are “in the money”, to raise a subsequent fund.
That is, a fund manager is actually incentivized to build a portfolio on hyperbolic optimism (“hype”), ostensibly a momentum strategy2, because it will radically increase the valuation velocity and thus the potential value of the current fund.
At some point, poor actual returns may come calling, but the ability to ride optimism (in the form of unearned valuations) across multiple funds is very real, especially when social relationships between GPs and LPs routinely override actual fund returns.
In a decade-long period of historically low rates and dump trucks of institutional capital looking for new sources of alpha, new venture firms sprung up like lemonade stands on a hot summer day, willing to invest in every white male with a pulse (and occasionally a few others).
In such an environment, bereft with speculators and grifters and faux-intellectuals hailed as oracles, the predictable result is that even the most obvious and ludicrously dumb ideas can be rationalized, and funded, at scale:
“Sometimes a half-dozen nearly identical companies show up promising to have a man on a bike bring you a pint of ice cream at any time of day, in 10 minutes, or eight, or six, and then a few months later they are all gone.”
Optimism is the rocket fuel of innovation, but it burns hot and in just one direction. We certainly don’t need a wave of skeptics or cynics here, but it would be healthy to add a dash of pragmatism to the Valley’s flavor of optimism.
Chips on Shoulders
“One of the historically common characteristics of people in tech is that many of them have a sizable chip on their shoulder. They were often the nerdy kids in school, marginalized or bullied for being different (I was definitely not the “cool kid” growing up).” - Chris Neumann
So many flock to Silicon Valley precisely because of its open embrace of the weird and the different, tying back to its geographical and temporal overlap with the countercultural movements of the 60s.
These innovation migrants arrived with plenty of personal (figurative) baggage - often synonymous with burden, but when focused appropriately, actually serves as ambition fuel.
As deep tech investor Josh Wolfe likes to say:
“Chips on shoulders put chips in pockets.”
Or, if you’re more of a visual learner:
For the last 60 years, Silicon Valley has used its NorCal-sized chip to fuel its rise from a small band of traitorous outsiders to the global hub of the Innovation Economy. That feeling of not belonging, of being the nerdy underdog, still remains, but it no longer reflects reality:
“Unfortunately, many people in tech haven’t fully accepted that they’re now at the top of the mountain. Far too many billionaire founders and influential VCs continue to act as if they’re the underdogs. They genuinely believe that they are still David fighting against Goliath.”
The Valley has transformed, but it has thus far failed to accept the mirror’s reflection of reality:
One might argue that this is not a problem; that the industry’s results have been great and to remove a core piece of ambition would necessarily harm global productivity.
I’m not at all convinced. Accepting the Valley’s status shift does not require a diminishment of ambition, nor a pull back on innovation.
No, what I’m advocating here is much needed self-reflection to better ground just how privileged it is:
“When I joined Aster Data as the company’s first employee in 2005, I took a big risk. But I also knew that if things didn’t work out, I could walk across the street to Google, Apple or a host of other companies and get an incredibly well-paying job in a matter of weeks. The worst case scenario was never going to be that bad. That is the absolute definition of privilege. The fact of the matter is people in tech are elite. And if you ask most of Middle America, we’re completely out-of-touch.”
Privilege left un-investigated and unchallenged, coupled with two-sigma intelligence and incredible wealth, unfortunately and inevitably results in tone deaf entitlement:
I’m reminded here of Hemingway’s (perhaps self-serving) take on the burden of intelligence:
“An intelligent man is sometimes forced to be drunk to spend time with his fools”
Remember that Michael Lewis intended for Liar’s Poker to be an insider’s cautionary tale regaling the excesses of a decade. Instead it became a catalyst for young men (always men) to join these very firms, clutching Liar’s Poker like a financial bible worshiping false gods like:
One needn’t squint too hard to see the resemblance between good ol’ Gordon and today’s Silicon Valley. Whereas the bankers and hedge fund managers would pridefully celebrate their purely fiscal motivation for their 80 hour weeks, the Valley instead pushes this “Greed is Good” ethos into the back office and emblazons a mission statement at the top of the balance sheet.
The net result of this unexamined privilege and ascendance is not just greed masquerading as mission but in mass-scale unhappiness:
“They prosper and prosper and speak bitterly about how unappreciated they are, but they seem somehow incomplete. It's as if the money had crowded something important out.” David Roth
I’ll admit that I’m concerned, about…
An industry that catalyzes our global Innovation Economy maintaining its obviously false belief that it is an aggrieved party.
The Valley’s role (however unwilling) in the growing economic divide.
The psychological toll that wealth without purpose has on many of our brightest minds.
All for One and One for All(?)
I’ve spent much of these two pieces extolling the benefits and virtues of innovation that leverages collective action to power the world’s economies. When the industry does well, like in the most recent decade-long bull run, all constituents benefit, collectively.
That is, it is not individuals but the “scenius” of the Valley that truly makes it hum. And yet, it’s possible that this “unity” may simply reflect the positive slope of returns. Ben Thompson writes:
“I assumed that Silicon Valley broadly was in the business of taking care of their own. … [But] the bank run that resulted made it clear that everyone, from venture capitalists to the startups they advised, [was] solely concerned about their own welfare, not about the ecosystem as a whole.”
Matt Levine responds:
“Thompson’s argument in that post is that Silicon Valley used to be an iterated game among repeat players: Venture capitalists had long careers and made many investments and would benefit way more from building a good reputation and helping the overall startup ecosystem than they would by maximizing their winnings on any one deal. But, he argues, as startup exits and venture funds have gotten bigger, “success became less about a series of victories and more about going big or going home,” and that cooperative ethos has weakened.”
“It is funny to think of tech founders and venture capitalists as creatures of myopic self-interest, while bank CEOs are the generous altruists, but the point is the bankers don’t have a choice. Banking is a necessarily social business, banks are interconnected, and the best and biggest bank is only as good as confidence in the broad banking system. You can’t “go big or go home”; even Jamie Dimon has to care about the health of his less competent competitors.”
Building community, and more broadly fostering a healthy ecosystem, is a noble pursuit that we should seek out, celebrate, and ultimately incentivize. Industries are economic ecosystems, after all - loose collections of people, companies, and investors that broadly solve similar types of problems.
And these ecosystems provide communal rewards to its members for its outputs:
A just-graduated engineer receives a $250k base salary not because he’s earned it, but because the collective output of engineering as a discipline has raised the collective value of such a credential.
A mediocre company doesn’t earn unicorn status solely on its own merits (if there are even are any) but because the collective output of corporate exits enables such a valuation multiple.
That is, there is a COLLECTIVE benefit to participating in an ecosystem like the tech industry, or the Innovation Economy, and no individual is ever responsible for that benefit nor should be able to claim the majority fruits of those benefits.
I’ll admit that as a recent “convert” to Georgism3, my brain is acutely tuned to the systems and incentives we use (or don’t) to encourage collective rewards for collective actions. I suspect that few would argue with either of the collective benefits I just described, at least as they pertain to others.
Turn that same question to his own compensation, however, and he will almost certainly hem and haw about all of the work he’s put in, his own skills, and call out the absurdity of any supposition that he is not solely responsible for his compensation4.
We are an individualistic nation, and I am myself more individualist than collectivist. But the Libertarian individualism that colors so much of Silicon Valley thoughts and behaviors today takes these views to an extreme that are not only prima facie incorrect but also counterproductive to the Valley’s constituents.
The reality is that Silicon Valley works because it aggregates the most incredible collection of individuals on the planet, catalyzes innovation capitalism at scale, and then distributes these benefits to its constituents - unequally of course (a topic for another post), but distributed to the collective nonetheless.
Silicon Valley is today a scenius, but this status is not default alive - without the appropriate watering and pruning, it will erode.
That Silicon Valley is so vital to the growth of the US economy, to America’s long-term prospects, and, frankly, to humanity’s, is unassailable. Nor can one question that the valley has been a massively successful engine of both technological development and wealth generation.
But the very characteristics that have catalyzed its ascent are also directly responsible for much of the unease within and the derision leveled against the Valley by its denizens and its critics alike.
The technology industry owes its roots to all of the Homebrew Computer Clubs of yore, but those days have long since passed. The Valley is no longer a nerd collective tinkering in garages but an ecosystem governed by capitalist kings.
This newfound wealth and power comes with obligations that extend far beyond the technology it creates or the wealth that it generates; ethical and moral obligations that require reflection and accountability for how it treats its own and all others.
Some may argue, perhaps persuasively, that this is not the job of industry; that moralizing and philosophizing should be left to those who don’t build.
I am not such an advocate. Capitalism divorced from meaning is a perilous endeavor, and certainly not one that we should strive to reinforce.
A future piece will focus on the Intangibles:Tangibles ratio for private market valuations. It will be more fun than this sounds, I promise.
We currently lack verbiage for venture investment strategies in the same way that East Coast finance has already codified it.
This is especially true of the Valley’s faux-Libertarians, especially those tax-dodging cowards who owe their fortunes to the state they abandoned.