The Demise of Netflix?

I hope not.

Netflix' success at marketing classic movies and indie films has made it the darling of both Hollywood and the art house crowd. But the company now risks being run over by the online DVD rental revolution it started. Video rental giant Blockbuster launched a competing service last summer that grabbed 15 percent of the online rental market in just four months, according to Adams Media Research. And rumors that Internet retail behemoth will begin offering DVD rentals has sent Netflix's stock tumbling.

IRR as a Relevant VC Tool

Jim Lejeal posts a thought provoking comment on the necessity to calculate an investment IRR when making a venture investment. He makes the following assumption:
Not all venture firms calculate an expected IRR. Some venture firms – especially those focused on early stage investments – will regard the need to calculate an IRR as unnecessary, impossible, and even irresponsible. I’ve heard this more than once.
Irresponsible? I personally think that it's completely irresponsible for any VC not to ever consider the potential IRR of an investment. Who the hell said this? The IRR should always be calculated; however the depth of analysis surrounding it can vary depending on the stage of the company.

The accuracy of a suggested IRR is entirely dependent on the quality of a company's financial projections. And, as we all, know, a company's projections get more accurate as they grow and one better understands the drivers of the business.

For earlier stage investments, the expected timing of growth is the most important factor in calculating return. And, in later stage investments, the replicability of sales & expenses is the most important factor. In both of these cases, the IRR is quite relevant. So, I think that any investor who bases an investment decision on cash-on-cash return alone is not only irresponsible but overly simplistic. Money is made in the margins, and every successful investor knows this.

Plus, it takes two minutes to run sensitivity; so why not do it. It'll help you get that much more of an understanding of your potential deal structure.

Economics of Globalization

I look forward to the day where I might be invited to attend the World Economic Forum in Davos. As an outsider looking in, it seems like the most exciting and impactful annual gathering this planet has to offer (not that I'm aware of other events held across the solar system or elsewhere). If I could only be a fly on the wall during the discussions of globalisation and the forthcoming challenges faced by policy makers and global business leaders. Sometimes, I feel a little narrow-minded in my little world of domestic venture capital.

But, to the point of this post. The fate of LTCM taught us a lot about global capital flows; and that the allocation of capital, consumption and production can (relatively) seamlessly flow to the destinations of highest return or comparative advantage. Ask China, they're clearly feeling it. And, they've reacted by successfully executing an open, trade-oriented development model. But, as the country matures, the Chinese are going to have to focus on developing a stable currency and flexible fiscal & monetary policy. Big changes are in store for this year.

I'm worried about imbalance of the United States in this global capital market. Our Fed has followed a policy of monetary accomodation over the past five years, and I continue to be concerned about our current deficit and real interest rates. Whatever action Mr Greenspan takes over the next months, and I predict certain needed courageous activity, the consequences are not going to be easy for anyone.

We live in exciting times...

The Launch of Movida

Sprint announced its latest MVNO customer, Movida, a new wireless operator targeting mobile service at the 40 million Hispanics living in the US. And, the Cisneros Group is behind it. Bienvenidos!

Aside from a few MVNO services targeted at youth, we haven't seen much segmentation. So, I think Sprint has just launched the perfect MVNO; gaining access to a market previously completely unattainable alone...

Economist on Anti-Americanism

The Economist has published an extremely insightful special report on anti-Americanism.
Under George Bush, anti-Americanism is widely thought to have reached new heights—and, in the view of the Pew Research Centre, a Washington surveyor of world opinion, new depths.…
It's a fairly well balanced article, discussing the underlying reasons for the general global sentiment and reviewing how each country or people actually have quite different historical reasons for liking/disliking America.
America needs the co-operation of other governments if it is to conduct trade, combat drugs, reduce pollution and fight terrorism.
The article actually points to populations whose sentiments are actually contrary to intution, and based on very recent events/circumstances or long-ago experiences.

More on the TiVo Saga

Jeff Nolan points to a news release that TiVo has surpassed the 3 million subscriber mark. That's great news for the company, but I'm still struggling to see how they're going to muddle through as pricing pressures begin to mount. TiVo added approximately 698,000 total net subscriptions during the fourth quarter, of which 2/3 are DIRECTV driven subscriptions. Is that a sustainable relationship? Is that enough to warrant a 2x ttm sales multiple? Om Malik also comments on the subject.

Jeff also points to this pretty neat site for something called MythTV, a project that a guy, Isaac Richards, undertook to build his very own dream PVR - one with a web browser built in, a mail client, some games, and other such functionality not available in a TiVo. This is going to be an interesting story as it unfolds. So it goes.

Subscription Overdose?

Fred Wilson points to a great read by Tom Evslin on subscription based pricing. He brings up Netflix as his first case study then goes on to talk about the flat pricing of dial-up services at AOL and AT&T WorldNet or the pricing of most VoIP service providers. He presents an interesting argument on the simplicity of billing for each of these services and, in fact, the apparent increase in overall margins for the provisioning company.

This subject is particularly interesting to me right now as I'm looking at investing in a company that purports to have found a way to add another $5 to a cable bill for a great value added service. It's a neat business and I think it will work, but I won't get in to that. I'm fascinated by the amount of money that we've started paying for automatically on a monthly basis.

We can break it down directionally (these numbers are made up and I'm not expert):
  • Mobile Phone - $50
  • VoIP - $25
  • CableTV - $75
  • Satellite Radio - $12
  • TiVo - $13
  • Netflix - $20
  • Internet Access - $40
That's $235 right there on standard (according to me) consumer communications & media, and it doesn't yet include any online content, online gaming, ringtones, wifi, mobile data, international calling, pay-per-view, or the $80 a month gym membership that is under-utilized by most (no intended comment there). All that would take the monthly bills north of $400!

The Washington Post has also commented on this topic, and I excerpt:
This lock-'em-in-and-keep-'em-loyal routine has roots going back 100 years, with King Camp Gillette, who at one point gave away his innovative safety razor, then made his fortune selling the disposable blades. High-tech companies have found a way to raise the stakes. The foundation of their new business model may have been pioneered by the cable industry in the early 1940s when it began offering consumers, for a small monthly fee, access to a better television picture. In its early stages, cable charged less than $5 a month for a service that was nothing more than retransmission of local TV stations. Now the industry has become a telecommunications and entertainment behemoth that offers hundreds of channels, high-speed Internet access and telephone service, among other things. The monthly cable bill for millions of subscribers now totals well over $100.
I've heard that story before, with different actual figures. And, it's just astounding!

Lesson in Interest Rates

The term "monetary policy" refers to the actions undertaken by a central bank, such as the Federal Reserve, to influence the availability and cost of money and credit to help promote national economic goals. In the US, the Federal Reserve Act of 1913 gave the Federal Reserve responsibility for setting monetary policy.

The Federal Reserve controls the three tools of monetary policy--open market operations, the discount rate, and reserve requirements. The Board of Governors of the Federal Reserve System is responsible for the discount rate and reserve requirements, and the Federal Open Market Committee (FOMC) is responsible for open market operations.

I'm absolutely fed up with the obnoxious state of the real estate market and have been trying to understand what the dynamics are for what I believe to be a state of hubris. Wait, haven't we seen this before. Well, I'm particularly interested in this industry because I've been pounding the pavement in Manhattan and it's out of control. And, I think one of the main issues is interest rates (and, there are a lot of combining forces here).

The FOMC's most recent hike leaves the federal funds rate at 2.5% ---- pretty low by historical standards and in relation to inflations, but up 1.5% in the past seven months. I don't share the same view as the Fed because I belive that we're tilted toward higher inflation rather than stability. We've got gradually rising cost pressure at the commodity and compensation level and this continues to push core inflation gradually higher. In my opinion, the surveys suggesting stable long-term inflation considerations are out of whack, unless the Fed does something about it.

Short term rates are obviously higher, stock prices are higher, long-term yields and the dollar have declined, and credit is more available. What do you think?

The EVDO Road Warrior

Jeff Pulver posts on his EVDO lifestyle and his recent use of the service. I couldn't agree with him more. I'm done with WiFi, this is truly a fabulous utility. From working online in the back of a moving car to being online in any office I'm in to sitting in Central Park with a connection or waiting at the airport - this just kicks ass. I played with the service in DC when it was first launched and, since then, the throughput has increased significantly. Bandwidth has been better than that dismal DSL service I have at home; and I'm thinking about ditching it all together.

Jeff brings up some applications such as a myriad of presence based services that could be offered, but I see the immediate benefit in communication & collaboration utilities for the always-on road warrior.
  • Imagine a sales guy who can demo his ASP product to a potential customer without having to set up any network connections;
  • Or, an investor who can participate in a Board meeting via video-conference from an airport across the country;
  • Or, an architect/designer who wants to show an engineering client a draft CAD/PSD file before the big boss walks in the conference room;
  • Or, a government contractor who needs access to top secret material only through the most secure VPN.

For $80 a month with unlimited access from Verizon Wireless, you can count me in. I just hope that the Bay Area is added soon - that'll help their business finally take off.

I'm also surprised that Verizon Wireless hasn't signed up any content/application deals as a value add to buy the service. At first glance, the service is a pretty hard sell next to a RIM or Good device but, for what it's worth, I think it's a good buy and it's only going to get better.

Social Security Is Solved By Work

I have yet to fully formulate an opinion on how to handle social security from a federal perspective, but I figured I'd start thinking in writing here. As a capitalist pig, I believe we should each fend for ourselves. However, as a hippie liberal, I also believe that we should work for the common good. I'm torn. So it goes.

Bill Gross of PIMCO made these comments relating to social security:

"Rob Arnott of Research Affiliates LLC, sub-advisor of PIMCO's all asset strategy and a co-collaborator with Peter Bernstein on several articles about risk and future asset returns, has advanced what I consider to be the most realistic take on Social Security and Medicare trust funds. Pre- funding these systems, he argues, 'is basically irrelevant.' And (in my own words) it matters little whether the system is pre-refunded with Treasury bonds or privately held stocks. The fact is that both of these financial assets represent a call on future production. If that production could possibly be saved, like squirrels ferreting away nuts for a long winter, then Treasury IOUs or corporate stocks might make some sense. But they can't. Future healthcare for boomer seniors can only be provided by today's teenagers, twenty-somethings, and even the yet to be born. We cannot store their energy today for some future rainy day. Nor can we save food, transportation, or entertainment for anything more than a few years forward. Each must be provided by the existing generation of workers for those who have retired and are presumably incapable of working."
So, basically, the issue of social security is one of supply and demand. The boomer generation will demand goods and services, and because there are not enough workers, the economy will not be able to supply enough goods and services, and workers will demand more of the saved assets of retirees for what they produce. This can come as increased prices for the production, as a drop in the value of the saved assets, or both. That means either an inflation in prices or a deflation in wealth or a combination of the two.

It is not the amount of money the retired population has saved that impacts our prosperity for the next thirty years. The critical factor is that someone has to do the work so that things and services can be bought. So, Seth Godin breaks up the party with the quote:

I know how to fix Social Security. Let's just raise the official retirement age for everyone who is currently under fifty. We'll take it from 65 to 70.
I'll stand there and agree with him wholeheartedly. If there are not enough goods and services to meet demand, prices will rise. This will make it difficult for people to afford to retire on their savings, and thus they continue to work. And, since the number of available working people isn't supposed to dramatically change (barring an explosion in youth immigration), boomers are just going to have to work longer.

Rubenstein on Emerging Markets

David Rubenstein, a co-founder of The Carlyle Group, was interviewed in the January 17th issue of Buyouts. The interview was insightful, but not nearly as exciting as the Dan Briody book, The Iron Triangle. I highly recommend it, a must read. Carlyle has grown faster than most tech startups I've seen! BuzzFlash also published an interesting interview with Briody. But, I digress.
Emerging markets have an infinite capacity to disappoint. In other words, they always look terrific in the peak years. The always look like a place where you can get greater returns that you can get in mature markets. But because these areas often have boom-or-bust phases, you have to be prepared for the bust. If you're not prepared for this phase of an emerging market, you shouldn't be investing there in the first place. You just do not have the stomach for emerging markets.
For Carlyle, a group that stayed clear of Latin America during the 1990's boom, this is an impressive statement. He's right, you've got to have big cojones & a strong stomach to play in emerging markets.

Latin American Black Hole

After successfully launching a startup in my early twenties and then managing a multi-billion dollar product launch in Corporate America, my first foray in to venture capital was within the walls of Darby Overseas Investments, a global private equity firm with over $1 billion in capital under management led by Nicholas Brady, former US Secretary of the Treasury and Chairman of Dillon Read & Co. In a not-so-common transaction (of a PE firm) in late 2003, Darby was acquired and is now a part of Franklin Templeton Investments.

I was a founding member of a small team that, in the doldrums of 2000, marketed an early-stage venture fund for technology companies across Latin America - Darby Technology Ventures LLC. In an arguably very difficult economic period, we put together an impressive group of strategic shareholders, which included global leaders such as IBM, Comcast, Cemex CxNetworks, Bechtel, Franklin Templeton, and (obviously) Darby Overseas.

I've since moved on to another team, this time in New York rather than Washington, but as I was reading The Deal a few weeks ago I came across a story on Darby's very first private equity fund portfolio (vintage year 1994). The story is particularly interesting as it touches on many of the difficulties faced by the private equity asset class in developing successful investments in emerging markets. There's clearly a lot of money to be made in emerging market transactions, however there's also a lot more to think about when deploying capital - sovereign risk, exit potential, currency risk, corruption, partner selection, and much more.

I'm quite fond of this paragraph (excerpted from The Deal):

More than anywhere, Latin America has stood out as a black hole for private equity, a place where capital goes to die. In the 1990s, elite US and European private equity firms, seduced by the region's muscular if uneven economic growth, began wagering, and squandering, billions in the region. In the end, a rash of fiscal collapses and currency crises, most recently in Argentina in 2001 and 2002, induced many of the wounded to scale back activities or pull out of Latin America altogether. That turbulent backdrop makes the resilience of Darby Overseas Investments Ltd all the more remarkable.
But, I will caution that the book isn't finished yet and it's principal authors (Nicholas Brady and others) are no longer around to help write the conclusion...

Bubbles Are Good?

So, David Isen points me to Tom Evslin's new blog and a post about how bubbles are a good thing for society. I'm going to have to mull this one over for a while, but I wanted to post it anyway for now. He makes three assertions:

  • Bubbles are an inefficient way to allocate capital since they lead to “excess” investment.
  • There has always been lots of chicanery in bubbles.
  • Lots of people get hurt in bubbles.
And, goes on to offer:

Historically, the results of bubbles have usually been more empowerment for more people. Historically, bubbles have provided an explosion of funds which blasted away the entrenchments of an old oligarchy not only to the benefit of entrepreneurs but also to the benefit of consumers in general.
If you believe in Joseph Schumpeter, that "Capitalism is the process of creative destruction." then you might concur with Tom. And, from an investment perspective, John Maynard Keynes so wisely once said "There is nothing so dangerous as the pursuit of a rational investment policy in an irrational world."

Let me think about this. One thing I do know is that Evslin is now definitely on my blog roll.

The Edge of the Network is the Consumer

Roger McNamee has another great post, but this time on technology use by the average consumer. He's pointed out an interesting trend, one in which technologies and, namely, electronics are now very easily adopted by the average consumer and not just relinquished to become geek memorabilia. He comments on how technology businesses who used to sell to the enterprise will now be selling more and more to the end user, the consumer. Enterprises are no longer controlling technology use, and employees/consumers are becoming empowered to adopt their own products/services/applications/technologies/etc.

This idea is entirely akin to the revolution in telecom where applications, like voice, are moving to the edge of the network. So, if David Isen's stupid network is applicable here, then are large centralized enterprises going to become stupid too?

Werbach on Network Utilization

I finally got around to reading something posted by Kevin Werbach, a must-read essay on the growing effects of peer-to-peer applications on network utilization.

Video P2P traffic is inherently more symmetric than the Web and rich media broadcast content that most broadband networks have been optimized for, and its usage patterns differ from the baseline in other significant respects.

Some network traffic flows roughly equally in both directions. The telephone network as a whole, for example, has this characteristic. On average, people make and receive about the same number of calls. In local cases, though, this symmetry does not hold. Ticket agencies, for example, receive many more calls than they make, while outbound telemarketing call centers have the reverse pattern.

When networks designed for one type of traffic encounter a new distribution, they can experience economic and technical problems. Thus, when local phone companies first experienced high levels of dial- up Internet access in the mid-1990s, they complained that the increased number of long, outbound calls to ISPs forced them to make unplanned investments to add ports to their local switches.

Though dial- up Internet connections are exclusively upstream from the perspective of the phone network – people call their ISP, not the reverse – Internet access traffic itself has historically been primarily downstream. Users of the Web request content from Websites. They rarely operate servers which send content out to others. The asymmetry of Internet traffic traditionally tended to increase as file sizes grew. Text based emails are largely symmetric, static graphics are largely send downstream from Websites, and rich media content is almost always received in one-way broadcast mode.

Broadband access providers have architected their networks to take advantage of this asymmetry. Asymmetric access networks allow providers to save on capacity, improving downstream performance at a lower cost. One of the fundamental properties of information theory is Shannon’s Law, which postulates a maximum information carrying capacity for a given communications link.

Introducing asymmetry allows communication in one direction to exceed the apparent Shannon’s Law limit. Moreover, asymmetric networks simply do not require the same investment in upstream capacity.

This distinction is particularly important for cable modem systems. Cable networks were built for television, which is almost exclusively a downstream application. Cable
operators have had to spend money upgrading their networks for upstream capacity, which still comes at a premium.

Asymmetric broadband networks offer other benefits to access providers. They may be able to charge premium rates for specialized video, audio, and gaming content that flows down from their servers to their users. Even if they cannot, they have much more control for traffic engineering purposes over traffic that originates in their network or flows in through a limited number of peering points, compared to that originating at a large number of individual users’ edge machines.

With P2P traffic, every user is potentially an originator as well as a recipient of content.

The most insightful portion of the essay lies in the always-exciting discussion of revenue streams for the service providers. As the applications are separating themselves from the pipe and will continue to do so, service providers are likely to explore different pricing mechanisms for their services. It'll happen with the RBOCs because of voice, and the MSOs won't be too far behind as video becomes IP.
Classifying services at the application level potentially allows broadband providers to offer differentiated value-added services and enhance security. It also could be used to identify and either block or degrade third-party VoIP traffic. Though major broadband providers have so far disclaimed any intention of doing so, they may have economic incentives to tilt the scales in favor of their own voice offerings, absent regulation to the contrary.
The next 3-10 years are going to be exciting from many of us, and extremely challenging for a few of us as well. This is going to be big. Viva la IP revolucion!

Pitching an Idea

Scott Berkun, from, developed a thoughtful primer on pitching ideas and the skills required to do so successfully (thanks to the lead from Jeff Nolan). This is a must read, particularly as its insight is relevant to almost any situation including business plans, product features, job interviews, or even amongst a friend group. He starts off by saying:
Coming up with good ideas is hard enough, but convincing others to do something with them is even harder. In many fields the task of bringing an idea to someone with the power to do something with it is called a pitch: software feature ideas, implementation strategies, movie screenplays, organizational changes, and business plans, are all pitched from one person to another. And although the fields or industries may differ, the basic skill of pitching ideas is largely the same.
He lays out a nine step plan, akin to a scientific methodology, for pitching an idea (whatever it might be):
  • Step 0: Create and refine the idea
  • Step 1: What is the scope of the idea
  • Step 2: Who has the power to green light the idea
  • Step 3: Start with their perspective
  • Step 4: The structure of the pitch
  • Step 5: Test the pitch
  • Step 6: Deliver
  • Step 7: What to do when the pitch fails
  • Step 8: Do it yourself
The last step is probably the most useful in my opinion. It's all about persistence, and that's actually the most important characteristic of the implementation of any idea.

More on IBM's Lenovo Charades

John Paczkowski, from's daily newsletter wrote the following today (I couldn't agree more):
Big Blue? More like Big Blew It: Here's a quick and easy way to ruin your PC brand: Sell it to a Chinese manufacturer. According to a survey published by Merrill Lynch, legions of IBM customers will consider switching vendors as a result of the sale of the company's PC divsion to China's Lenovo. "Almost half of IBM PC users said they would consider switching, a high figure even recognizing that not all will," said Merrill Lynch VP Steven Milunovich. "More problematic for IBM is the finding that PC switchers might buy less of other IBM products as well." No doubt. Certainly, IBM's customer loyalty is already suffering. Witness James Gaskin's latest screed in ITWorld. "I think the IBM PC sale to Lenovo is the worst kind of management stupidity and darn near traitorous," Gaskin writes in a piece entitled "The IBM PC Deal Sucks." "If Lenovo makes most of the IBM PCs already, yet IBM loses a billion per year or whichever number you trust about this story, that tells me IBM management overhead has gotten seriously out of whack. Speaking of whack, let's go to Armonk and whack two of every three executives with a pink slip and see if the PC division can make a profit now. Bet it will. Second, how can management of the world's most advanced technical manufacturer (at one time, anyway) get suckered into outsourcing the majority of production to a single overseas vendor? Suddenly that vendor can afford to buy out the company they've been working for? If I was an IBM shareholder, I might start a class action suit for fraud against management for letting this happen while they're supposed to be 'stewards' of my capital investment."
Will someone from IBM please spend more time explaining this deal and the strategy behind it? As I've stated a number of times before, I just don't get it. I'm willing to bet that Big Blue won't be very big for very long.

Relationships Are All Around

Roger McNamee, a renown investor and new blogger, has an incredible post on the importance of investing in relationships. He associates the relationship building process to that of the j-curve of venture investing.
That’s [J-Curve] when you invest more than you reap in the early stages, but in the long run you get paid huge dividends. You won’t be able to predict when a relationship will be valuable to you—or even if a particular relationship will be valuable to you—but if you invest in enough relationships, the payoff will be huge.
There's more in the post, but the gist is that people make business and the investment in them reaps huge rewards over time.