A few weeks ago, the 3L&3S featured a podcast with Sequoia partner Roelof Botha on its decision to change their fund structures from finite lives to perpetual structures. Ben Thompson, the brilliant analyst focusing on everything to do with technology comes up with a more strategic explanation for this move. He draws upon Carlota Perez’s book “Technological Revolutions and Financial Capital” to show the link between technology cycles and the role of financial capital in each stage of the cycle and where in the cycle are we today and hence what shape does financial capital take in this stage. Best read in conjunction with his previous blog on technological revolutions but this passage throws some light on the Sequoia move:
“Sequoia is transforming itself from financial capital to production capital. Instead of LP’s investing in funds that make speculative investments in risky endeavors, Sequoia wants to keep long-term positions in companies that have proven business models and are embarking on the decade (or longer) process of improving their products and expanding their markets to the entire world.
This also, I suspect, represents the formation of a sort of “Silicon Valley Inc.”; while the big 5 can entirely self-fund, the nature of the SaaS business model is such that companies with proven product-market fit are better off losing more money up-front rather than less:
- Customers, once acquired, are like annuities that make money years into the future, but the cost to acquire them has to be paid up front.
- The core software product represents a huge fixed cost investment that is leveraged by scaling to as many customers as possible.
The combination of these two factors means that SaaS companies take longer to self-fund, even if their models are proven; what Sequoia can do with their model is invest in an entire portfolio of these companies and hold onto them indefinitely, effectively recycling money from mature companies into nascent ones, much as Apple or Microsoft invests profits from their current products into the development of new ones. On an individual company level it looks like venture/financial capital; as a collective it is much more akin to production capital, especially once you realize that many of these companies, thanks to angels and AWS, are already fairly de-risked.
Moreover, while Sequoia’s announcement feels so momentous because of their long history in the Valley, institutions like Tiger Capital are already playing the exact same game; the era of production capital is firmly upon us, which means we are clearly in the Deployment period of Perez’s model.”
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