{"id":2012,"date":"2013-07-14T14:30:34","date_gmt":"2013-07-14T21:30:34","guid":{"rendered":"https:\/\/masonmyers.com\/?p=2012"},"modified":"2015-01-28T12:58:40","modified_gmt":"2015-01-28T20:58:40","slug":"venture-capital-risk-adjusted-investment-returns","status":"publish","type":"post","link":"https:\/\/masonmyers.com\/venture-capital-risk-adjusted-investment-returns\/","title":{"rendered":"New Twist on Venture Capital with Better Risk-Adjusted Investment Returns"},"content":{"rendered":"<p>A higher return investment can have a broad distribution of potential outcomes, as conveyed by this graph from Howard Marks of Oaktree Capital Management (the graph is from his book <a title=\"The Most Important Things Illuminated by Howard Marks\" href=\"http:\/\/www.amazon.com\/gp\/product\/0231162847\/ref=as_li_ss_tl?ie=UTF8&amp;camp=1789&amp;creative=390957&amp;creativeASIN=0231162847&amp;linkCode=as2&amp;tag=greybustewar-20\" target=\"_blank\">The Most Important Things Illuminated<\/a>).<\/p>\n<p>This graph is a more helpful way to understand risk than the traditional graph (the traditional single line sloping up showing higher returns going along with higher risks) because risk doesn&#8217;t have a single relationship to reward. \u00a0Each risk gives a wide range of possible outcomes, a range of rewards.<a href=\"https:\/\/masonmyers.com\/wp-content\/uploads\/2013\/07\/risk-reward.jpg\"><img decoding=\"async\" loading=\"lazy\" width=\"300\" height=\"256\" class=\"alignright size-medium wp-image-2013\" title=\"Risk Adjusted Investment Returns\" src=\"https:\/\/masonmyers.com\/wp-content\/uploads\/2013\/07\/risk-reward-300x256.jpg\" alt=\"\" srcset=\"https:\/\/masonmyers.com\/wp-content\/uploads\/2013\/07\/risk-reward-300x256.jpg 300w, https:\/\/masonmyers.com\/wp-content\/uploads\/2013\/07\/risk-reward-150x128.jpg 150w, https:\/\/masonmyers.com\/wp-content\/uploads\/2013\/07\/risk-reward.jpg 611w\" sizes=\"(max-width: 300px) 100vw, 300px\" \/><\/a><\/p>\n<p>Compared to traditional venture capital, I believe the <a title=\"Greybull Stewardship Small Business Investment Opportunities | Business Opportunity, Business Partner\" href=\"https:\/\/greybullstewardship.com\/greybull-investment-small-business\/\" target=\"_blank\">investment strategy<\/a> at my <a title=\"Greybull Stewardship Business Investment Fund | Business Financing, Funding Sources\" href=\"http:\/\/greybullstewardship.com\" target=\"_blank\">investment fund, Greybull Stewardship<\/a>, is achieving returns on the higher end of the graph without as many potential negative outcomes as in traditional venture capital. \u00a0We believe this will be true because of three hypotheses: 1) more firms are making it through the start-up phase to EBITDA of $1-3m while still founder-controlled because today it is possible to build larger businesses with less capital than historically (there is also more education\/knowledge about how to build businesses in the world), 2) \u00a0a growing sub-set of these businesses do not want to utilize the &#8220;invest\/buy and flip&#8221; model of traditional venture capital or private equity, and 3) our selection criteria at Greybull Stewardship, we believe, helps eliminate some of the downside potential outcomes.<\/p>\n<h2>Model for Investment Returns with Greybull Stewardship<\/h2>\n<p>Some of our criteria that we believe help eliminate some of those potential downside outcomes while preserving many of the potential upside outcomes are:<\/p>\n<ul>\n<li><strong>Invest when the evidence demonstrates a proven model.<\/strong> \u00a0Usually, this means waiting until a company has profits and growth. \u00a0We are not interested in taking start-up risks like &#8220;product market fit&#8221; or risk that a technology may or may not work. \u00a0There are plenty of founder-controlled companies that make it to this stage. \u00a0Then, we are finding a growing sub-set of these firms are no longer interested in the buy and flip model of venture capital or flip equity.<\/li>\n<li><strong>Invest only when the management is in place and wants to stay.<\/strong> \u00a0We don&#8217;t invest when the management is selling out and bailing out &#8212; or there isn&#8217;t management in place with a track record with the specific business. \u00a0We see a higher likelihood that existing management can build on an already good track record and less likelihood that new management could do better. (Yes, this is different than traditional vc&#8217;s who believe a founder has a ceiling on his ability to manage the business. And, yes, we have examples in our fund proving management can improve over time.)<\/li>\n<li><strong>Don&#8217;t change the strategy or impose new constraints on the business.<\/strong> \u00a0<a title=\"About Greybull Stewardship Business Investment Partnership | Unique Business Opportunities, Business Owners\" href=\"https:\/\/greybullstewardship.com\/mason-myers-greybull-stewardship\/\" target=\"_blank\">Greybull&#8217;s evergreen fund model<\/a> gives founders more flexibility than traditional venture capital or private equity models that require certain growth rates, certain exit timeframes, and other constraints &#8212; such as never having a flow-through tax entity. \u00a0With such constraints, the business ultimately gets twisted around the constraints of the investment firm\/fund. \u00a0Unique strategies make all the difference in a business &#8212; its moat for example. When your investors do not allow you to pursue a unique strategy because of an investor&#8217;s constraints, the tail comes before the head.<\/li>\n<li><strong>Earn returns from cash flow or exits or both.<\/strong> \u00a0I believe it is dangerous for a company, particularly when it&#8217;s the largest financial asset of the founder, to aim everything toward an all-or-nothing moon shot exit. \u00a0The VC has the portfolio benefit of some home runs balancing out some strike outs, but the founder doesn&#8217;t have the benefit of a portfolio and doesn&#8217;t want to strike out with his or her main asset. \u00a0It is much more sensible in most scenarios to earn financial returns through a combination of current cash distributions and a potential exit. \u00a0<a title=\"Greybull Stewardship Small Business Investment Opportunities | Business Opportunity, Business Partner\" href=\"https:\/\/greybullstewardship.com\/greybull-investment-small-business\/\" target=\"_blank\">Greybull&#8217;s investment fund<\/a> is built to allow this, including investing in flow-through entities for tax purposes. (Such flow through tax entities cannot work in most traditional venture capital and private equity funds.)<\/li>\n<\/ul>\n<p>The traditional venture capital strategy &#8212; having every investment strive to be a high risk win because the big winners need to offset some total losses and\u00a0some middling results &#8212; has not been working lately. \u00a0<a title=\"We Have Met the Enemy and He is Us - Kauffman Report on  Venture Capital Investment\" href=\"http:\/\/www.kauffman.org\/uploadedFiles\/vc-enemy-is-us-report.pdf\" target=\"_blank\">VC returns have been low and problematic for over twenty years according to this report from the Kauffman Foundation<\/a>. \u00a0(See their comments on evergreen funding as Greybull uses.)<\/p>\n<p>I believe Greybull Stewardship&#8217;s model helps eliminate some downside outcomes while opening more upside outcomes and is a better model for today&#8217;s world than the old venture capital models.<\/p>\n<div class=\"postmeta_wrapper\">\n<div class=\"postmeta classifications small\"><span class=\"post_categories\">Categories:<a href=\"https:\/\/masonmyers.com\/category\/financing-funding\/\" rel=\"category tag\">Business Financing &amp; Funding<\/a>, <a href=\"https:\/\/masonmyers.com\/category\/charts-graphs\/\" rel=\"category tag\">Charts &amp; Graphs<\/a>, <a href=\"https:\/\/masonmyers.com\/category\/investment-and-business-models\/\" rel=\"category tag\">Investment &amp; Business Models<\/a><\/span><br \/><span class=\"post_tags\">Tags:<a href=\"https:\/\/masonmyers.com\/tag\/business-strategy\/\" rel=\"tag\">Business Strategy<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/equity-investor\/\" rel=\"tag\">Equity Investor<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/financial-strategy\/\" rel=\"tag\">Financial Strategy<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/financing\/\" rel=\"tag\">Financing<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/greybull-stewardship\/\" rel=\"tag\">Greybull Stewardship<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/howard-marks\/\" rel=\"tag\">Howard Marks<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/investment\/\" rel=\"tag\">Investment<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/investment-strategy\/\" rel=\"tag\">Investment Strategy<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/oaktree-capital-management\/\" rel=\"tag\">Oaktree Capital Management<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/private-equity\/\" rel=\"tag\">Private Equity<\/a>, <a href=\"https:\/\/masonmyers.com\/tag\/venture-capital\/\" rel=\"tag\">Venture Capital<\/a><br \/><\/span><\/div>\n<\/div>","protected":false},"excerpt":{"rendered":"<p>A higher return investment can have a broad distribution of potential outcomes, as conveyed by this graph from Howard Marks of Oaktree Capital Management (the graph is from his book The Most Important Things Illuminated). This graph is a more helpful way to understand risk&hellip; <a class=\"more-link\" href=\"https:\/\/masonmyers.com\/venture-capital-risk-adjusted-investment-returns\/\">Continue reading <span class=\"meta-nav\">&rarr;<\/span><\/a><\/p>\n","protected":false},"author":2,"featured_media":0,"comment_status":"closed","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[6,163,18],"tags":[89,85,84,47,13,248,86,121,249,16,15],"yoast_head":"<!-- This site is optimized with the Yoast SEO plugin v22.0 - https:\/\/yoast.com\/wordpress\/plugins\/seo\/ -->\n<title>Investment Fund, Business Model | Business Investment Returns | Business Blog<\/title>\n<meta name=\"description\" content=\"Business owner &amp; investor Mason Myers regularly shares his expertise on investment funds, business investment returns and business models in his business blog.\" \/>\n<meta name=\"robots\" content=\"index, follow, max-snippet:-1, max-image-preview:large, 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