Why Big Money Makes Big Bets (Rebroadcast)

Kara Miller:

Welcome to Instigators of Change, a Khosla Ventures podcast, where we take a look at innovative ideas, the people who come up with them, and those who invest in them. I'm Kara Miller, and this week a journey into why venture capital is where it is and what it is.

Sebastian Mallaby:

The first thing you might learn about finance at business school is that to value an asset, you discount the future cashflow and you work at a price earnings ratio. Well, there's no earnings in a early-stage startup, which is just two-legged mammals walking into your office with a dream.

Kara Miller:

First, though, a little story that, as you'll discover, is ultimately a story of venture capital. So I don't know if you've heard the one about the NBA player who walks out of a movie theater, but here it goes. Imagine you're in a movie theater, you're about to see a movie and you take a look around at the men in the movie theater, and you notice something interesting about them.

Sebastian Mallaby:

5'10" is the average height and nearly everybody is within three inches of that. So between 5'7" and 6'1".

Kara Miller:

Sebastian Mallaby is a senior fellow at the Council on Foreign Relations and a longtime financial journalist.

Sebastian Mallaby:

And when you meet an NBA star and they're 6'10", that is pretty unusual and also sufficiently unusual that if you were thinking about a movie theater and you had a packed movie theater and the one NBA star gets bored of the movie and walks out, the height of the residual men, on average, weren't really changed, because one person who's an outlier doesn't change it.

Kara Miller:

Right. So you've got this normal distribution in the movie theater, the kind of bell curve that you see a lot in science and economics, where all the men, or almost all the men, are clustered in height around this average, which is 5'10". The NBA player is way taller, but when he leaves the average height of, let's say, the 99 guys he left behind, that doesn't really change. One super tall guy cannot meaningfully move the needle. That is a normal distribution, but Mallaby was not interested in normal distributions. Instead, he set out to write a book about something else, a power law distribution.

Sebastian Mallaby:

If you think of wealth distribution in the population and you imagine the movie theater, but the person at the back is not an NBA star, it's Jeff Bezos. It's a very wealthy person. If Jeff Bezos walks out of the movie, because it's boring, the average wealth of the residual men is going to plummet, because that's not a normal distribution. You've got the extreme observations, being both more common when it comes to wealth and way, way bigger, way, way further from the average.

Kara Miller:

And I did the calculations here, let's say 100 men in the movie theater are all worth, on average, $500,000. Now let's say 99 of them are worth $500,000 and one is Jeff Bezos. What will the new average worth of the men in the movie theater be? About 1.8 billion. That's each person's new worth. Which is part of the reason that Mallaby was so fascinated by this idea of the power law. It's a law that's everywhere in venture capital.

Sebastian Mallaby:

Fewer than 1% of companies that get started every year get venture finance in the United States. But that tiny number of VC-backed companies accounts for 75% of the market cap created basically over the last quarter century. So this tiny amount of venture capital generates three quarters of the market cap. That's a phenomenal ratio.

Kara Miller:

Mallaby is the author of the new book, The Power Law, Venture Capital and the Making of the New Future, in which he talked about how venture capital is changing the world, why it struggles to be diverse, how it's grappling with China, why VCs worry there's a bubble and whether founders are wielding way too much power right now. But first Mallaby says this is a strange industry, because it mostly works on breadcrumbs of information, unlike other areas of finance. It's reshaping the stuff we do, and eat, and think about. And it's growing in a few ways.

Sebastian Mallaby:

It's spreading geographically. So, you know you've now got a big venture capital ecosystem in China, and it's growing in India and Southeast Asia and Europe, and it's quite big in Israel. Starting to take off from that in America. It's not just Silicon Valley in the U.S. It's now spread to Miami and Austin, Texas, and so forth. So that's one dimensional, geographical. Then there's the spread along the life cycle of the company, because companies are going public way later than they used to. If you think back to the late '90s, Amazon went public when it hit a valuation of below 500 million and now multi-billion dollar unicorns, Stripe is worth like 95 billion, that's becoming more and more prevalent. So what that means is that companies are staying in the hands of venture capitalists, venture capitalists are writing these bigger checks of 100, 200 million. So that's the second dimension of expansion.

And then the third one is the scope of different industries that are getting disrupted by venture is growing. We used to be basically talking about the internet and IT, but increasingly software has just spread into everything. So whether it's the hotel business with Airbnb, whether it's the food business with Impossible Foods, making a meat-free hamburger, it could be retail, like Warby Parker, upending the way people buy spectacles. Pretty much anything can be disrupted by software. And so that's the third dimension of growth and that's why if you put those three dimensions together, people are rightly focused on venture capital more than they used to be.

Kara Miller:

When you put all that together, do you worry there's a bubble or that people have gotten in who can't handle the ice water in the veins, stomach churning rod it is?

Sebastian Mallaby:

I do. I think that the success of venture capital has drawn in imitators. Sometimes those imitators are just rich individuals who want to have a shot at the excitement of venture investing, because when it goes right, it really goes right in a big way. So you see some disasters like Theranos, famously the fake blood testing company had money from the Walton family of Walmart fame. It had money from Rupert Murdoch. These are people who are not really tech investors. Then you've got newcomers who are financial investors by profession, but they're not really used to tech investing and they may have multiple motives. So one of the things that went wrong with the real estate company WeWork was that it had a lot of investment from banks, like JP Morgan. And I think when you look at it, JP Morgan's interest in WeWork wasn't just that it thought it would buy equity and the equity would do terrifically well. That's a normal venture investment calculation.

On top of that, JP Morgan was hoping to lend money to the company. It was hoping to lend money to Adam Newman, the founder of the company, on a personal basis. It was hoping, crucially, to underwrite the initial public offering, because that's a very lucrative mandate to get. So when you get investors of that sort, who have multiple incentives to invest, they're not necessarily focused on the return on the investment per se. And that creates a blurring of motivation and objective that causes trouble.

Kara Miller:

You spoke to a lot of venture capitalists for this and venture capitalists are very different across the spectrum. Did you feel like the ones were seasoned, had really been around, who understood how this thing worked?, Did you feel like they had something in common?

Sebastian Mallaby:

I think if you compare venture capitalists to another group that I've written about out in the past, namely hedge fund managers, there is a very distinct difference. Hedge fund managers are making intellectual calls abstractly on valuations of stocks and of bonds and currencies and so forth. And it's quite a purely analytic process, very numbers driven. So the character type you get is often introverted. On the other hand venture capital is to a large extent about networking. It's about making and taking introductions. It's about being in the flow of ideas and people and money that are wording around looking for the best purpose to be put to. And so a good venture capitalist will get up in the morning and have breakfast with one person and then have 14 cups of coffee with different people before they go to bed or maybe matcha tea or a smoothie or something. But you know what I mean.

There'd be a ton of meetings, because you're looking for the next founder you might invest in... You're meeting with a founder you invested in three months ago, you are maybe helping to recruit the first five engineers for a startup that you backed a couple of months back. You perhaps looking for the customer for your startup, because that's another thing the venture capitalists do. They put fledgling companies together with their first customers if it's an enterprise-facing startup. So it's all about circulating and being in the ecosystem. And I think you've got to have a decent amount of emotional intelligence and charisma and communication skills, persuasiveness, all of those things play on top of analytic intelligence.

Kara Miller:

Well, I think about a person who I once did a segment on Jim Simons at Renaissance, a real, real big hedge fund. And one of the things that strikes me, too, that's different is that there's a real reliance on computers and data. It obviously is different for a different hedge fund managers, that computers help you predict. Whereas if you're a venture capitalist and you're seeing something in the early days and they're telling you what things are going to be like in 10 years, there's no computer program you can plug that into.

Sebastian Mallaby:

Exactly. A big thing about venture capital, which is what made me fascinated right at the beginning when I began researching my book, is that it is so different to other types of investing and the big point that you just made, that it's non quantitative basically. The first thing you might learn about finance in business school is that to value an asset, you discount the future cash and you work at a price earnings ratio. Well, there's no earnings in a early-stage startup, which is just two-legged mammals walking into your office with a dream.

Kara Miller:

I don't always think of it that way, but yeah. As I said, you talked to a lot of VCs. One of them was Peter Thiel, who makes headlines for all sorts of reasons, but you have a great quote from him and it is "We could cure cancer, dementia, and all the diseases of age and metabolic decay. We can invent faster ways to travel from place to place over the surface of the planet. We can even learn how to escape it entirely and settle entirely new frontiers. That's obviously a lot to process, but just starting with the first bit of evading, like the ravages of old age, this is a man, this is a sector, a whole group of people with very lofty goals.

Sebastian Mallaby:

Yeah. So if you take that literally, it's crazy. It's so ambitious that it sounds nuts. But I think if you look at the method behind the madness, it becomes more interesting. And what I mean by that is that in a world where you have this power law pattern of returns, there is no viable strategy for a venture capitalist, investing in things that are sort of quite good, because the distribution is such that most things are going to go nowhere. And then if you are going to do 10x, 20x, 30x your money, and those are going to be really disruptive ideas. And so you've kind of got to reach for the flying-car type of idea.

That's a caricature extreme, but let's take ideas. What about the notion that a geneticist by profession will invent a new kind of meat that will taste exactly like meat, but actually has no meat in it. And when you put it on the barbecue, it'll sizzle and make a smell like a proper hamburger. That's the idea behind Impossible Foods, which just now a real company heading towards an IPO and it was a success. What about the idea that you're going to upend the entire hotel business based on a strategy where people will take total strangers.

Kara Miller:

Right, right,

Sebastian Mallaby:

Right. To sleep on their couches. Yeah. That's going to work what it did work

Kara Miller:

That should work. Right. Yeah.

Sebastian Mallaby:

So I think that flying cars is a caricature, but pushing for extreme disruption is in fact what venture capitalists do and they do it rather successfully.

Kara Miller:

I want to go back in time for a minute to understand how we got where we are. One of the things you write about is that in the 1950s, when you find some of the first examples of what we might call venture capital in the tech space. The idea of convincing individuals or banks to fund even the very best scientists, even with pretty proven technologies, that was a huge uphill climb in a way that I think is probably hard to imagine right now.

Sebastian Mallaby:

Yeah, that's right. So when the famous traitorous eight left Shockley Semiconductor in 1957, because they didn't like the boss. Shockley was a Nobel prize winner, but he was a terrible guy to work for. Their idea was that they should join as a team of eight scientists and work for another company, because the notion of raising their own money and having their own venture was too radical. And it was the financier Arthur Rock, who became the father of west coast venture capital, who put it to them that this was what they could do, that they could have their own company and own a piece of it and get the fruits of their own brilliance.

Kara Miller:

Why do you think the Bay Area, you write about this in a very interesting way, but why did the Bay Area emerge is so powerful? And I'll just say one of the interesting things I found is that a lot of the explanations people have told me for this over time, you sort of take a swipe at, and you're like, "Yeah, that doesn't really make any sense."

Sebastian Mallaby:

Yeah. Well, so rather like you, I guess, I was told at the beginning of my research project that Silicon Valley is really Stanford Valley. It's because Stanford's such an amazing place. And the reality is that in the 1960s and even 70s, when Silicon Valley got going, Stanford was clearly less strong in engineering than MIT. And then people say, "Well, there was Berkeley." "Okay. But Harvard ain't too bad. And in fact was..." So if you put Harvard and MIT together in Boston, it was clearly a stronger academic magnet than Stanford plus Berkeley. Then people say, "All right. So it's not that, it's the defense contracts." There's the whole narrative about the government wanted to buy defense equipment, which requires semiconductors, and this meant contracts came to Silicon Valley.

Now that's not persuasive either. Why? Because more defense contracts went to the Boston area, famously Lincoln labs was this military-affiliated laboratory with links to MIT. And out of that came a bunch of companies, Raytheon being a good example of a defense major that came out of that connection. And the ministry industrial complex was really about that MIT, Boston, Washington access. To the extent that California was a player was more really Southern California with aerospace. So the defense contracts they is not persuasive either. And then people say, "Well, all right, California had hippies," and you go, "Yeah?" "Yeah." It had a contrarian, do your own thing, anti-materialist collaborative vibe. And that's why people are willing to do startups and take risks and all that.

But I think it's clear that when you look at that story I just mentioned about the traitorous eight finding Fairchild Semiconductor, having spun out Shockley, the impetus came not from the scientists, it came from the financier who said, "You can start your own company. I'll raise the money for you." And time and again, as I went through these narratives of early startups, that became a deal in Silicon Valley and really built the early valley, it was the finance that underpinned the risk that made people willing to take risk. It's not that people sniffed the air in Silicon Valley and thought, "Oh, now I have a big risk appetite, because there's something special out here." No, it was because VCs were willing to say, "It's not actually risky, because I'll give you the money to do this."

Kara Miller:

What's your sense from outside the valley, outside those centers of venture capital and certainly New York and Boston or London is part of that. What do average people, even people thinking up ideas, college kids thinking up ideas for companies, what does the outside world tend to... What's the image they have of venture capital?

Sebastian Mallaby:

I think there's a suspicion of finance generally in society. People don't like bankers. They don't really like hedge fund manager. They don't really like venture capitalists. Venture capitalists maybe had a slight pass for a while, because people didn't quite know who they were, but now they've become more prominent. I think there's a suspicion that they show up and cream the profits off startups. They don't really do much to contribute to the startups and that's wrong on two dimensions, it's wrong because, first of all, society has a limited amount of resources to put into startups. That's both the money and also the people. So somebody had to choose which startup ideas deserve the resources to have a shot at taking off. And so the VCs are steering the money.

And then with that, the talented people that get hired with that money. So that's a useful function in managing resources. And I think VCs are responsible for doing that. And then secondly, after the investment VCs often mentor the startup founders and help them. Starting a startup is super hard work. It's hands down hard work and having an investor behind you who understands the map and the territory into which your startup will fit and to provide just a coaching and mentoring and solidarity function. That's pretty important.

Kara Miller:

You quote, Bill Gurley, who the says basically the vast majority of entrepreneurs, to your point, should not take venture capital. This is for a subset of people. Do you think people have a sense of, who are those people that need the VC world and other people don't?

Sebastian Mallaby:

Well, the answer to who needs it is essentially those who would like to be really ambitious about their startups, grow them really fast, understanding that's going to be stressful, personally. And it's also going to involve risk, because when you spend a lot of money in a hurry on hiring your coworkers and scaling up fast and so on, you might get it wrong and then you might fail. And once you've failed, you're quite likely to do a Monday morning quarterback and say, "Gee, if I'd gone a bit slower, had been a bit more thoughtful and deliberate and more careful, maybe I wouldn't have blown up and maybe the VC caused me to blow up. But as another VC investor said, Josh Kopelman, "I sell rocket fuel and not everybody wants to build a rocket unless-

Kara Miller:

Right. Right Right. Right.

Sebastian Mallaby:

I think entrepreneurs have to decide for themselves if they're up for the rocket.

Kara Miller:

So I want to talk a little bit about what the road ahead looks like. Give a sense, from talking to different VCs, how they see things right now and what kind of change do you think they are looking for in the technology that shapes how we live?

Sebastian Mallaby:

I think one rough consensus is that software has dominate the most exciting investments for the last 20 years. And that's not necessarily going to be the case going forward, that other things, what gets called hard tech or deep tech, but also categories like food tech, potentially stuff around nuclear power, the whole clean tech area, including electric vehicles and batteries for electric vehicles. All of these things, no doubt include software components, but they're not restricted to software. So I think that's broad brush, one type of view of the future. Of course, there's a debate about what the metaverse will wind up meaning and Andreessen Horowitz is an example of a VC company that has prominently bet a lot on the whole area of crypto slash blockchain slash metaverse. And one has to describe it in those slightly loose terms, because this is a project that's in the process of being discovered.

Sebastian Mallaby:

And there are other VCs who would just stay clear of it and say, "I might be interested in little pieces of that, but whilst I might think that, for example, virtual reality headsets will be a real thing, I'm not buying into the wider vision." So that's another debate there's I think quite interesting bifurcation between China and the rest, because the state has obviously weighted into the tech sector in China, famously deciding that it doesn't like digital education or online EdTech and has restricted that. And instead it said, it does like semiconductors. It does AI. So it's driving a lot of VC dollars in the direct that it favors.

Kara Miller:

Well, my sense with the EdTech thing, correct me if I'm wrong, but my sense was that the reason the Chinese government didn't like it wasn't because there's anything intrinsically wrong with EdTech. But because they felt that Chinese parents were being asked to spend essentially too much money on cram courses and certain kinds of prep. And they just felt like it had gotten out of hand.

Sebastian Mallaby:

Yeah. I think there was some of that equity motivated reasoning. Another story I heard from a colleague who is Chinese, although she's now been in the U.S. for a long time and actually worked in EdTech startup before she left of China, she told me that a big motivation, and this is her judgment based on speaking to her friends who are still over there, is that the government doesn't want so many bright young kids to go to the U.S. for university for college. And a lot of these EdTech companies were actually training people to prepare for U.S. college emissions. And that was part of the clamp down too.

Kara Miller:

Yeah. No, it's funny, because you also have stories in the book where people are in China, raising money for different companies and different funds and that kind of thing. And they'll say, "Let's have a meeting tomorrow," whatever, and everybody who shows up, though they might be Chinese, has gone to Stanford, which I think is a funny story. Here you are in the middle of Shanghai, it's, yeah, everybody also went to Stanford.

Sebastian Mallaby:

Right. And that actually gets to the larger point that the Chinese digital economy is to an amazing extent created by the Silicon Valley playbook led by the venture capitalists who came in the late '90s and the early 2000s and set up there with a result that, if you ask the question what's the top VC partnership in Silicon Valley, I think most people will tell you it's Sequoia. If you ask the question, what's the top VC partnership in China, most people will tell you it's Sequoia. So there really is this the same secret source was bottled and exported to China. And that's what was the origins of Baidu, Alibaba, Tencent, SENA, Sohu, NetEase, all these early Chinese digital companies originated with American venture capital.

Kara Miller:

Well, interestingly, you also say that China's venture capital industry, maybe counterintuitively, I don't know, counterintuitively to me perhaps, is more open to women than the U.S. I think the U.S., we think of ourselves as being very into equality, but you say that their VC industry is quite open to women.

Sebastian Mallaby:

Yeah. When I went to China and spent around 10 days going to talk to VCs, I was struck by how many people who... I was just seeing the people I'd been told were the most interesting, the most successful and so forth. And that list turned out to include quite a lot of women. Maybe it might be 40%, something like that. So it wasn't quite equal, but it was getting there. And that's definitely different to if you go to Silicon Valley, that would not be true. So I was struck by that. I think the two leading hypothesis as to why that's the case, one is that the venture ecosystem in China was created around 2005, 2010. And the one in the U.S. was formed in the '70s. And so that interim of 40 years meant that there'd been more progress in attitudes, so that when a new industry was created in China, it was formed with a better set of views on gender inclusion.

Another theory though is that childcare in China, and this is also true in India and Southeast Asia, it's just cheaper. And so one of the things that tends to hold women back in their careers is that, famously in the U.S., there is not really much of a gender gap in pay before the age of having children. And then it really kicks in in that period of young kids, because childcare is so expensive and the default for the burden of that falls on women much more than men. And that's less of an issue in China, because people who are going to be venture capitalists tend to be able to afford a lot of childcare quite easily.

Kara Miller:

Do you think that venture capitalists here are worried about the rise of venture capital in China as a competitive force, or do people think "That's okay. I just want to change the world. And, in some ways, the opportunity to do that in China, America, I'm agnostic as to where I do this." I don't know. To what degree is this competitive or collaborative or what?

Sebastian Mallaby:

I think if you're an investor, if you're a venture capitalist, then it's not competitive. It's just more opportunities. If you look at it from the point of view of government policy or your social concerns as an American, are you worried that America will be eclipsed by China, then clearly it's competitive, because venture capital is basically a facet of national power. If you imagine the United States without various venture-backed companies, whether that's Intel in Semiconductors, or Microsoft in coding. These are companies that, A, generate enormous amounts of prosperity and value and wealth and patents and scientific cutting-edge achievements, but they also generate actual defense products. But I'm less about Microsoft, but clearly there are other coding companies, like Palantir, that specialize in servicing the defense sector. And so if you think about China without Huawei, the 5G routing company, it would be a less powerful country. So I think clearly from a national competition standpoint, it is competition.

Kara Miller:

I'm going to ask you another question with a different geography in it, which is we've been talking about how venture capital is centered in Silicon Valley. New York and the Boston areas also do pretty well in terms of venture capital that they attract. That's not that many places in the U.S. It seems like it would be possible, with technology, I think about the last two years where people are scattered all over the place, doing their jobs and they seem to be doing them okay. Would it be better if venture capital was more distributed geographically? Is that at all happening? Or, we talked about the power a lot at the beginning, is it just the winners keep winning kind of situation.

Sebastian Mallaby:

It's been that winners keep winning situation for a long time, but there was an anomaly that had grown up by, let's say, 10 years ago where the geography Silicon Valley that was creating all this wonderful distance communication techniques and collaboration methods like Slack or what have you, insisted that they had to be physically proximate to each other in order to network and create all this value, which didn't make sense. And they were creating the products that meant that their own premise wasn't true. And so then along comes the pandemic and forces a lot of adaptation. And it's become a cliche to say digital adoption was accelerated by five years or something. It was accelerated, especially in Silicon Valley.

And so now, as you say, you've got people doing startups all over the country, and you've got venture capitalists who have moved out of Silicon Valley to Austin or Miami, or what have you. And I think it is going to be more dispersed, and that will be a good thing. It's just better for the country to have a more equitable regional balance of where ideas get funded and where they get built.

Kara Miller:

One of your criticisms of the industry is, and this is a quote from you, "The venture capital industry is indeed a clique, too white, too male, too Harvard-Stanford, a sector with so much influence on the shape of the future," you write, "...should take diversity more seriously." Is that happening?

Sebastian Mallaby:

I think it's happening, but too slowly. The last data I've got suggests that of all investment partners in Silicon Valley, only 16% are women and only 3% are black investors. And so that's a big underrepresentation, both compared to share of the overall labor force and can prepared to share of vaguely comparable industries like finance. There are more black bankers at a certain seniority than there are black investors at VC firms. And I think that's a problem, because if you're going to invent the future all of society, you better look a bit more like society.

Kara Miller:

And how do you do that? It is hard to break out of a pattern, how do you do it?

Sebastian Mallaby:

Well, I think Kleiner Perkins provides an abject lesson in how not to do it. And hopefully people can learn from that. I describe this lesson, which was that essentially the company had the right instinct and, in particular, the most famous partner there, John Doerr, had the right in instinct of hiring women and promoting them, but failed to create enabling atmosphere that protected women from discrimination and harassment once they were there, because the traditional male culture hadn't been proactively reshaped. You've got to actually go out there and have a collective discussion about, "Okay, we're hiring women and we need to help them to succeed." You've got to take that second step. And instead of which they didn't do that and so the women who were there were, by all accounts, subject to harassment. There was a harassment lawsuit. And most of the women who were hired into Kleiner Perkins wound up doing pretty well, but they did well by leaving and flourishing elsewhere.

So I think the lesson from that, and I think other partnerships get that now, it's a lesson learned the hard way, is that you do have to mentor and promote any young partner who joins your partnership and especially take care to do that with somebody who's not from the same either gender or racial group as the majority. And you got to be really deliberate about how you develop the careers of younger partners. And when I spent time with Sequoia Capital, I was persuaded that they were good at that.

For example, there'd be a new investment. At the beginning, when you do an investment with a startup, you have no idea if the startup is really going to succeed or not. So they would do a double act where a seasoned investor would go on the board and then a younger investor, could be a man, could be a woman, would the shadow board member. And then if the startup starts to go really well, they can switch positions, so that the younger investor gets the credit for the IPO when that happens. But if it fails, the black mark is on the resume of the experienced investor who can handle it.

Kara Miller:

When you think about the people you to talk to both in venture capital, but also people who know the industry well from outside, what do you think people are most worried about right now? Are there big threats out there? Things that eat up people's brain space in a certain way?

Sebastian Mallaby:

I think the danger of a bubble is a big thing that's eating up people's brain space. I think that's going to be felt particularly strongly amongst the growth-stage investors, who are writing big checks to unicorns. Because, of course, if you are investing in a unicorn, it's not so far from a potential exit on the stock market. And so if the stock market is crashing, that's very bad. Whereas if you're doing early-stage invest, you're not envisaging an exit for 7, 8, 9, 10 years. And so who knows where the stock market will be that far away. And so I don't think it really affects you if you're a series A kind of early-stage investor, but it is causing a lot of stress for the later investors.

Kara Miller:

Do you feel like the balance of power between founders of companies and venture capitalists has swung in favor of founders and what do you see driving that movement?

Sebastian Mallaby:

It's clearly swung in the favor of founders. If you look at it just through the prism of the amount of the company that the investors tend to want to own, it's changed from around and 45% of the company that went to the venture capitalist in the 1960s through one third in the '70s and '80s, through as low as a quarter when Google was funded at the end of the '90s, and then to one eighth going to the venture capitalist when you look at Facebook's financing in 2005. I'm talking about the series A, the early-stage investing. So in other words, venture capitalists were providing money and getting less and less and less of the startup they were backing. I think there's a capital of reasons for that. One is that just more money is flooded into VC, so capitalist is plentiful so, therefore, the cost of it goes down.

But another thing is that as the world has shifted towards software, software is something where you can use rather little capital and build a product that reaches a vast number of people very quickly. And so the returns to a company like Google, or Facebook, or earlier on eBay, or Uber, basically another software company, the returns can be really enormous really fast. And so a VC is willing to accept a smaller share of the equity for the startup funding that the VC provides. Now, is this a bad thing? Well, it's bad, I think, insofar as the entrepreneur, the founder, no longer is being overseen by anybody with the power to really offer firm advice. I just think that's unhealthy. I think all human beings are youthfully guided and none of us are perfect. And if you take a founder like Travis Kalanick at Uber, who was a brilliant founder at the beginning, and then went off the rails morally and practically later on when Uber became a big successful unicorn, that might have been prevented, if the startup investor Bill Gurley had had power to force Kalanick to listen.

But because of the way that VC had changed, Kalanick had super-voting rights in his company. The later-stage investors had written multi-billion dollar checks. Literally, I think in the case of Saudi Arabia, they put in three and a half billion and they didn't demand any kind of voting rights to compensate for that enormous amount of money. And so Kalanick had no overseers and the same is true of lots of unicorn founders. And I just think that setting you up for trouble.

Kara Miller:

Sebastian Mallaby is author of the book, The Power Law, Venture Capital and the Making of the New Future. Sebastian, thanks so much. This is great.

Sebastian Mallaby:

Thank you for having me.

Kara Miller:

Sebastian Mallaby was formerly on the editorial board of the Washington Post and a contributing editor for the Financial Times. Coming up for us next week on Instigators of Change...

Jennifer Moss: 

From 2020 to 2021, we sent 40 billion more emails. We're meeting 128% more than we were. We've doubled the amount of time we're meeting.

Kara Miller:

And remember, subscribe to the show on Spotify, on Google Podcasts or wherever you find the things that you love to listen to. I'm Kara Miller. Our show is produced by Matt Purdy. We will talk to you next time.