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all right everybody Welcome to the all in podcast we're back thanks to Freeburg and sax
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for moderating the show into the lowest ratings in its history hold on hold on please give the keyboard
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Warriors that are their bot armies some respite here they tried their best they just it's it's okay I think the
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ratings of the last episode must be a result of Google uh downranking us as a result of our honesty about not wanting
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to get more boosters you're on the Brigadoon truck somebody at Google some lower level functionary to push a button
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push a button to uh Shadow bit I mean visibility filter us it's everything except the moderation skills it's the
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moderator turning it into Fox Sunday can't be that [Music] let your winners ride
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Man David said we open source it to the fans and they've just gone crazy with them
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the reaction I got from our covid vaccine discussion was hey pretty fair and balanced like not in a in a joking
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way but like actually like yeah the warning on YouTube was pretty benign actually yeah it's like if you want
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coveted information click here thank you okay let's talk about the market data the FED raised 25 basis points the
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market obviously has ripped since then the jobs data this morning was crazy we added 517
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000 jobs more than 2x December and well above the estimates of 188 000 jobs the FED I think is starting to
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realize they can obviously impact inflation and slow down speculative assets but they're having a
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very hard time with the labor market uh obviously labor participation actually is growing we've talked about that many
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times here it's bumped up to 62.4 percent we all know it peaked at like maybe 69 percent during the 2000 time
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period wage growth though continuing to slow so that is some good news there and obviously risk on assets are ripping
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the last couple of days Tremont what's your take on where we are with the market and the fed's action which people
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are starting to believe will be another 25 basis point hike and then maybe staying high for the rest of the year
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did you uh hear their comments you think dovish what's your take on the market I
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watched Powell's speech and it was really amazing because in December he was extremely hawkish and
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he was basically like listen we're going to keep rates higher than you like and longer than you want and that was pretty
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clear and the markets reacted and then not but 35 40 days later he essentially said we
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have two 25 basis point hikes left to go and he's going to try to stick the landing essentially and even though the
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rest of the language in his entire speech and the press conference if you read it in the absence of his
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body language so if you just read the transcript would seem very hawkish as well but the reality was he basically
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capitulated and then the market essentially said okay we're at the end of this thing and we've talked about
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this before but markets tend to bottom six to nine months before it's clear that you could have done this
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and so we're a little bit Off to the Races in the short term it's compounded by a couple of other factors one is that
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at the end of last year so many people were tax loss harvesting which means if you had some gains somewhere else you
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sold some things that were losing money so that you could net the two together you saw a lot of stocks Tesla was
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probably the poster child for this trade all the way down to like 108 dollars a share and it's effectively doubled in
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the last 30 days right so everybody tax loss harvested everybody degrossed nobody was really owning anything and
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then when Powell basically said we're mostly done there's been so much systematic buying
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right now that nobody's really well positioned to me this is very similar and eerily
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reminiscent of the end of 2018 and beginning of 2019 and if you guys remember at the end of 2018 October November
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December the markets just fell and part of it was Powell's going to raise rates inflation's getting out of
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control etc etc and then we got all this data that said China may be entering a real period of malaise
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and Powell capitulated again trying to stick the landing and long story short he didn't that was a head fake and the
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markets just ripped higher then we went into the covet pandemic and all that stuff happened so
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I think we're about to replay a little bit of that at least in the next 30 to 90 days
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the pain trade is to go up so that's probably where we're going here's the FED fund rates chart from 2000 and into
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the 2008 recession and you see just you know to jamaat's point in 2019 that little step up to two
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percent uh and then this dramatic step up uh that we've been on up uh to four and a half or so
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Saks is this where the FED pauses you think they cut and and what overall fact is this going to have on venture capital
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in the startup Market which is super important to us I think we're in the whipsaw economy here just a
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month ago sentiment was incredibly negative on the show we were predicting for the year that we were looking at the
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FED funds rate going from four and a half percent to say five and a half percent 250 Point
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increases the belief was that we were going to have a recession later this year I think
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that was pretty much consensus and now three weeks later you had a situation in which we got a couple of really good
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inflation reports so all of a sudden the consensus changed too we're not going to
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need to raise rates you know to five and a half percent maybe we only get one or
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two more quarter point rates and the market just ripped on the belief that inflation was in the rear view mirror
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the problem had been licked and now we can just kind of move forward and the FED seemed to confirm that just
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yesterday with the quarter point rate increase and now today we have this wild jobs report with over half a million new
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jobs the expectation was only a hundred thousand and so now all of a sudden people are wondering wait a second does
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this mean that labor costs are gonna you know go back up that the economy is overheating and now the fed's gonna have
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to raise more so I would say literally from week to week we're being whipsawed between expectations of uh whether
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inflation has been conquered or not whether the economy is going to have a recession or not and I think probably
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where we're sitting at this moment is you'd have to say that the risks of inflation returning are slightly higher
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but the risk of a recession are slightly lower because with this kind of jobs report better chance of having a soft
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Landing here it's very hard in other words sax to have a recession if people are employed if people are employed
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3.4 yeah exactly so 50-year low right so I just think that we're in a highly volatile economy and it's very hard
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predict the future I'd say that relative to where we were a month ago you'd have to say that the
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odds of us having a soft Landing this year are quite a bit better than they were just a few weeks ago all right
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Freeburg when we look at this employment picture does seeing people are going back to work seems maybe indicative of
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people blew through their savings we talked about this you've been harping on and on previous episodes I've had people
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doing personal debt buy now pay later is a possible thesis here that people yoload for so long post pandemic
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Coachella vacations Etc that maybe they whip through their savings it seems like
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we've burned off a trillion in savings or something like that and the debt's going up so now people maybe need to go
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back to work and they're finally capitulating and taking jobs do you think that's what's actually happening
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here classify that I mean there's obviously a lot of this stuff is on the margin
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the one challenge you know Larry Summers has been harping on since last spring all the way through the summer and the
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fall and you know in multiple kind of interviews and Publications he's done he's the
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ex-us treasury secretary obviously brilliant Economist um that the US needs to have a five to six percent jobless
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rate for five years in order for us to really get to the inflation rate target of two to three percent or below two
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percent and so you know the economists and the macro guys that are tracking their jobs
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report today are I think the indication is we're not there yet and that the implication of a tight job
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market is Wages go up and wages go up inflation goes up and because companies need to charge more because they have to
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pay more to get Talent and this obviously continues to support the escalatory spiral that drives
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inflation so that's the the you know kind of downside to the jobs report today that I think a lot of
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folks are watching the FED mentioned over and over again deflation so any impact there shamoth you think we're
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going to see prices start to Crater and what impact would that have on the market I think sax is right I think the
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the marginal risk here is is for this whip sign so we have a period now which is
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disinflationary but the problem is if the stock market keeps going up and all of a sudden we have less
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restrictive monetary conditions then we're going to be back at the same place we were before which is money sloshing
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around into all kinds of risky assets or more money you know there's still an enormous amount of money sitting on the
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sidelines that has to come into the market now if this thing keeps going higher so we're in a delicate moment and
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if we reignite inflation because all of a sudden more companies have more liquidity that they can tap right more
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money they can raise more money as a result that they can spend because we don't have this first
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inflationary cycle under control there could be a risk that that we reignite inflation and so then then they have to
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capitulate the fat has to capitulate again and start another hiking cycle so I think it's a complicated moment I
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think all of the smart money in Wall Street that I talked to up until this point they forecasted like this period
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would be choppy and the second half of the year would be really robust and like you needed to be super long and things
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were going to be incredible and when I talked to them this week they're like oh God we weren't
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positioned for this we had no risk going into this we're going to be forced buyers there's a bunch of companies that
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are Whispering that they want to go public now oh really the big banks have been
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calling around trying to book build quietly for some IPOs and so if they try to kind of crack this
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Capital markets open I think there's again the marginal risk will be that you mean trying to see if you'll get
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some early takers to buy equity in an IPO perhaps even in a company like stripe that's been sitting on the
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sideline so not striped they're in a complicated moment but when they called the book build they basically say Hey
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listen XYZ company quiet filed look at the S1 what do you think where's the price blah blah and
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they're trying to get an indication of whether you'd want to be in the IPO book so
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I think that there's a lot of those testing the waters that are now starting again would there be an appetite in your
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mind for an IPO in the second quarter of like a stripe type company putting you know I don't know what the other
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candidates are the lead candidates but stripe is one people talk about most the thing that we have to think about is
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like most of the market are not people right most of the market are computers and algorithms and ETFs it's an
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extremely formulaic buying model do you have components of an index those represent certain percentages you have
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to own those percentages to be relevant as that index and so it's this reinforced buying loop as well as a
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reinforced selling Loop right so when things start moving those folks have to just systematically
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move money in all the humans know that so the humans tend to front run all the computers and
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they basically are the ones that sell into these guys and then that's what inflates these prices and similarly on
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the way down humans try to front run it by being short into that stuff so we could see the capital markets open
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even if we don't it's actually the worst scenario because now you have all this money going into a fewer number of names
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that sort of explains Facebook has doubled in in 30 to 60 days yeah I was about time Tesla has doubled in 30 you
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know 30 60 days a lot of the tech stocks like high beta stocks that we are all you know helping to build those
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companies have just absolutely ripped 60 to 100 percent these are not healthy and normal moves
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and so the question is what happens if inflation somehow all of a sudden pokes itself back up right now it doesn't look
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like it is and Powell was clear and it's true we're in a different she said deflation 11 times during his uh yeah
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his use of language yeah that's why the market reps I mean basically that was all part of a narrative where
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inflation's on its way out we've licked that problem and that's what the market was pricing in and I think now the
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question is in light of today's jobs report is that actually true or not one way to look at this is um Jake how
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you showed the chart of the FED funds rate another chart is the yield curve can we just pull up the yield curve for
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a second this is the yield on U.S treasuries on you know RT bills and one way to look at this is as a prediction
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Market of where the market thinks interest rates are going because the FED sets the rate for the fed's funds rate
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which is the overnight rate of lending to Banks but they do not set the rate of you know three months six months bonds
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10-year bonds and so on the market does because the market trades those bonds and it imputes a yield that the market
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requires to want to hold those bonds so what's interesting is that if you view the yield curve as a again as a
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prediction Market it tells you at any given time what the collective wisdom is of the market now this thing is
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fluctuating moving all the time so that Collective wisdom is changing but where things are today it's pretty interesting
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it looks like what the market is saying is that within the next six months the rate Peaks at
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4.75 percent so Nick if you just want to hold the mouse on the six month dot um you'll see it's 4.76 percent so
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basically the market is predicting we get maybe one more quarter point roughly not much and then if you go to the
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two-year it's at 4.09 so a little over four percent so what the market is actually
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predicting is that over the next two years we're actually going to get a 50 basis point decrease from the Fed
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and then if you go to say The Five-Year or the 10-year we're at three and a half
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percent so the Market's basically saying that long-term rates are going to stabilize at three and a half percent
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we're not going back to the abnormal zero interest rate policy or zerp that they had for 10 years three and a half
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percent will be the long-term stable you know cost of money but you can see that
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the market the prediction Market thinks that the FED has done enough to combat inflation because the FED funds rate now
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basically is where the bond market thinks it should be and in fact the bond market thinks it's coming down over the
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next two years but coming down to what would be three and a half in a world that we've lived in for largely over the
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over the 14 years of this bull run the majority of that was at close to zero or zero right and that's why we're never
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going back to the bubble of 2021 where SAS companies were trading at 100 times ARR we're going to go back to an
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environment more like a more normal one where evaluation are more like the 2017 valuation something like that is by the
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way it's three and a half percent is not a bad it's still a great deal still a great deal if you got your mortgage at
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that if you listen to Buffett Buffett's teacher this guy Ben Graham in Ben Graham's book the way that he would look
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at a stock and obviously look things have changed but the way that he would look at a stock is he would look at that
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risk-free rate he would double it and then the inverse of that is the maximum price to earnings ratio that he would
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pay for a stock right that's the trade-off is if you can get more than two times the risk-free rate then it's
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worth owning a company what that means is that if if you take three and a half percent
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as a terminal rate the right p e is around 14 for the s p 500. right now the S P 500 trades at 22
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times p e which would mean that we are 50 overvalued now that again that's a Benjamin Graham model and I think the
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world has pretty cleanly moved away from it but there's probably some rooting in
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that intellectual framework that's still valuable and to your point David it just
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reinforces that man we need to start to learn a new regime here because when rates are not zero there's just a
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lot of excess that you can't support because the alternative trade-offs for investors
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are plentiful you know and plowing money into a money losing startup becomes less
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attractive and to just give people some background that's the intelligent investor was that book I believe and he
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was talking about value investing which is hey what's the earning per share what's the ratio what's the PE and
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that's something that growth and momentum investing has been the opposite of and this is a could be I think you
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wrote a blog post about this jamaat short of the regime change if you look at the Googles the Facebooks the apples
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Amazon's is is a little bit of an exception here those companies printed money they had profits they built up
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large cash reserves if we look at the next cohort of companies airbnb's coinbases Ubers Etc they focus on the
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top line growth uh much like the Amazon which was a very obscure approach correct your moth uh in in the history
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of this Nick do you want to just throw up this chart we did a little analysis over here and it was just basically
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looking back 60 years of company formation we looked at all of the 100 most valuable public company startups
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and we indexed that to the 10-year interest rate so what are we looking at here try math with this chart so
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basically we went back from 1960 onwards so basically you know 63 years and what this shows you is
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the hundred most valuable public technology companies then the size of the circle here is their market cap
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and then it's overlaid on top of the 10-year interest rate as well as gray bars for recessions
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so what is this graphic meant to illustrate well it just was for us to study is there a correlation between the value
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of companies and what the interest rates were or what the economy was doing at the time and to
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your point Jason the trend is pretty starkly made on this chart which is that if you were a
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company that was founded in a period of austerity you had the ability in general to build
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a much larger company then that which was founded in a period of wealth and excess
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right so when you look at when rates were sort of approaching zero or were zero there was a lot of really successful
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companies they're listed here in the in the light gray on the right but none of those things really represent the
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success that these other companies had that's the first interesting takeaway the second interesting takeaway though
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from this has nothing to do with rates per se but it is that when rates intersect
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with the emergence of huge technology Trends so in the case of the 1970s it was the PC revolution in the case of the
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late 1990s it was the internet Revolution those two things which required enormous
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progress in both physical infrastructure so atoms as well as software infrastructure bits when you put those
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two things together those also created big companies and so if you add that all up the point is that
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whenever you see huge tectonic shifts in technology combined with periods of austerity that's when the gargantuan
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dollars are made so from the 1970s companies like Microsoft and Apple from the get-go had to be profitable
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right and in the absence of one very important round of financing that Amazon was able to close
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the next big wad of companies were founded again in Rising rates where they just had to get profitable or find a way
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to be positive free cash flow or have positive working capital faster than anybody else so these are
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like really interesting trends that I think just say that as rates creep back up
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and if we can intersect that with some improvements in technology over the next five to ten years that we've all talked
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about it could be a real Boon for startups and startup investing it would mean people are a little more resilient
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a little more hardcore to use the term Freeburg what are your thoughts on this analysis by Social Capital it's
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interesting I mean I think there's probably two ways you could interpret this one is in an era of excess Capital
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all the capital gets competed away and so you pay more salaries you have uh it's harder to get high quality Talent
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you make a lower margin Etc et cetera it's much more kind of competitive on the ground and then
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another one is just obviously kind of like evolutionary Fitness When there's less Capital investors are
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more selective I think what might make this era a little bit different than the past is just the amount of termed dry
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powder sitting on the sidelines right now so that the the the total VC Capital raised last
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year I think was a record high that means there's a lot more cash that needs to kind of be deployed in the next
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12 to 36 months than has ever been deployed in in the history of venture if that holds true so that may be kind
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of a counter balancing effect here where it may take three years before that effect plays out where there's more of a
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dearthy capital it's certainly the case that institutional investors endowments Pension funds traditional family office
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LPS and Venture funds are making far fewer commitments this year to new funds as I think we all know
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and that tightening will play out in the Venture funds that'll get raised for this vintage the next vintage and so on
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and so maybe that that kind of evolutionary Fitness Concept starts to play out lateral sizing and sizing and
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sizing I think there's also this like you know we talked about this on our text stream but the Venture business of
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the last 15 years everyone since 2008 everyone's been trained and all the younger people that have
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come up and are now partners and running the firms on an environment of momentum investing
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rather than fundamental investing and so there is also a question of how fit the
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investors are for a market space where valuations are flat or descending or the decision whether or not to invest is no
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longer driven by who else is investing and how much is the company growing and how much is their valuation going up but
00:23:44
it's much more about kind of the fundamental performance of the the the business does this match
00:23:49
what you're seeing on the ground sacs are people being more dogmatic pragmatic or the
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capital allocators really sharpening the knives and looking at these businesses a different way is it
00:24:03
actually hit the streets yes there's a record amount of money Venture Capital has raised over the last you know couple
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of years but it's going to be deployed much more slowly and carefully over the next say three or four years than it was
00:24:15
over the previous few years so divide that amount of money by three or four because the pace
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the deployment's going to go way down and so yeah I think people are going to be more careful they're going to take
00:24:28
longer to make decisions I think it's going to be much much harder for new funds to get started all of the you know
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hype around you know solo capitalists and you know all these you know seed funds and micro VCS and all this kind of
00:24:42
stuff I think a lot of that's going to get washed away I think in hindsight a lot of that was a product of the bubble
00:24:48
and yeah I think you're going to be in for a period of some retrenchment in VC and I think that's good I mean I think
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to the point of Chamas study that you know that the counterintuitive finding in his study was that
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great companies are created during times when we're not in a bubble and capital is sloshing around everywhere but when
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you're in a environment of moderate Capital availability and I think the point is that we all have to be under
00:25:19
some stress right that's what evolution requires is you know if an ecosystem or an organism is not under stress they
00:25:28
have no pressure to evolve and become fitter and compete and I think that's what makes our industry and our
00:25:35
ecosystem very adaptive over time is that it's constantly you know it does face survival pressures but over the
00:25:43
last several years all the survival pressures were taken away because anybody could raise money and there was
00:25:49
always another Bridge available there was always some extension and there was no some convertible nothing to be done
00:25:55
right there was no Reckoning you know a lot of these companies just seem to you know get another 12 months of Runway
00:26:01
so many bad habits during that period time and so much entitlement and excess built up in the
00:26:08
system during that time and I think now we're we're seeing that a lot of that is
00:26:14
working its way out I mean just look at the Facebook results the other day so Facebook just thought
00:26:19
about Facebook is an example because yeah here you have a company where the stock over the past year have been
00:26:26
pounded is like down over 50 percent and the market bucks a share yeah yeah the market did not like its answers around
00:26:33
the capital Investments it was making and then Brad gerstner our friend wrote that letter encouraging them to get much
00:26:38
more efficient and then they did that and they basically started doing some riffs and basically just getting much
00:26:45
more efficient and what they're doing and specifically taking out layers and layers of middle management
00:26:51
I mean that was really the big thing so they kind of took a page out of elon's book
00:26:55
in terms of what Elon had done at Twitter I mean not nearly to that extent because I don't think they needed to but
00:27:00
they targeted this idea of we have too many layers in the company too many mid-level managers and the stock ripped
00:27:07
just was it like up 20 25 yeah and they're up to I actually bought it based the day they had the layoffs I put in a
00:27:17
buy order and it was closed at 94. and now it's at 193. and FedEx of all places uh is laying off
00:27:26
10 of its offers officers and directors so the idea now is hey in the senior ranks what is the inefficiency there how
00:27:35
do we get well more doers more people who actually are building or operating the companies
00:27:41
to take the reins and get rid of this as you're saying middle management this waste that yeah let me tell you let me
00:27:48
tell you specifically the problem that builds up in these companies is that everybody wants to be a manager and so
00:27:55
you can't just come at this Palm by saying we're going to increase the number of reports that each manager has
00:27:59
from five to ten that doesn't work because let me tell you what happens is that every
00:28:04
individual contributor who's a star thinks that their career advancement requires them to manage a team so what
00:28:11
happens is you take that star IC and then you create a team around them so that person then hires five people to
00:28:17
manage and those times yeah they stop working they just start managing well maybe you get like 20 more
00:28:25
production out of that six person unit than you would have just out of the star but you're spending five times more
00:28:31
money so it makes no sense and the problem is it Cascades so you know that IC becomes a manager they hire five
00:28:38
people then those five people one of them is a star and says well I want to be a manager and all the organizational
00:28:44
pressures to keep building more and more teams and more and more layers here's the quote from Mark Zuckerberg to
00:28:50
illustrate your point from a recent All Hands meeting I don't think you want a management structure that's just
00:28:56
managers managing managers managing managers managing managers managing the people who are doing the work yes it's
00:29:02
the problem of infinite delegation every like like Star builds a team around them
00:29:06
to delegate the work but then they hire a team to delegate the work to and pretty soon the most Junior interns in
00:29:12
the company are doing all the work and all the best people are just managing so it's it's actually a huge problem and I
00:29:17
think that I'd say that a lot of CEOs don't quite understand the problem because they think that all they have to
00:29:23
do is increase the number of reports that managers have it's not you also have to reduce the number of layers in
00:29:30
the company and and just the ultimate example of this just to put a point on it was at Twitter what we saw is that
00:29:36
when Elon went in to basically do a riff at Twitter the first question he asked in the
00:29:43
engineering department is who's checked in code and they looked at the code repository and over 50 percent of the
00:29:49
engineering department had not checked in code in months and you want to know the reasons for that is because the the
00:29:55
engineers were told that if you want to be a manager in this company you don't code managers don't code only ICS code
00:30:03
and no one wants to be an ice no one ambitious wants to be in ic they all want to get promoted so it all gets
00:30:08
explain what a nice is this individual contributor yeah so the whole thing turned upside down because of this idea
00:30:14
that again ambitious people want to be managers and managers don't do the real work yeah it's a Cowboys who don't know
00:30:20
how to ride horses it's like it's a dangerous precedent to set what are your takeaways uh chimath from
00:30:28
what happened at Facebook when you look at it and the pressure that was put on The Ripping of the stock
00:30:33
even though they're down two percent year over year in terms of advertising Revenue there's a a guy on my team sent
00:30:40
me this chart he did a pretty detailed technical analysis of Facebook Nick can you please put that image up there so
00:30:48
basically this this shows this is really technical this this is the first time Facebook mentioned the word metaverse in
00:30:55
Q2 of 21 on the earnings call they mentioned it 20 times and the gray line here is the stock price so as they kept
00:31:04
mentioning it the stock price just you know reacted but Q Q4 of 22 was the first time that
00:31:10
the word efficiency exceeded the word metaverse and you saw and you saw the stock price rip up so what's happened
00:31:17
that Facebook is really interesting because I think it transitioned to what's generally called an X Growth
00:31:22
Company which means that people are now looking at a business that has essentially gotten to its peak
00:31:29
size and now what they're looking at is its ability to generate cash flow the cash flow generation or cash flow yield
00:31:37
of the business was like three and a half percent but they're making enormous Cuts both in
00:31:44
capex as well as headcount over time they're getting their expenses under control and
00:31:50
all of that should drive up their cash free cash flow yield and so I think why people got very
00:31:55
excited is there are very few X growth stocks that you can own that can just compound and crunch ginormous amounts of
00:32:03
money and these guys are in an incredible position to do it you know more than 100 plus billion dollars of
00:32:09
Revenue and if you get these costs under control and get efficient get the employee base down to 30 or 40 000 over
00:32:17
time this is the thing that just spits out just ginormous amounts of cash and so so
00:32:23
it's actually sell you investing and Warren Buffett that means the earnings per share go way up yeah you know like
00:32:28
like the Facebook PE is quite modest actually now I actually put back in stock based comp and its PE
00:32:35
is about 11. so still reasonable if you go back to the to the Ben Graham analysis this is a company that
00:32:41
perfectly meets that criteria of like you can buy it at a PE that's basically two times the risk-free rate and so I
00:32:49
think it's an incredible stock now that you can own because if they keep grinding out all of
00:32:55
these kind of free cash flow gains man they'll just they'll just have enormous amounts of money they've already
00:33:00
announced a 40 billion dollar buyback you know the thing to keep in mind is Apple Had A Moment Like This
00:33:06
and when Apple went X growth they did the brilliant thing which is they said we're gonna borrow heavily
00:33:13
and we're going to return cash I may have posted this in the group chat to you guys by 2025 Apple will have
00:33:19
exceeded one trillion dollars of cash distributions I mean that is just nuts does that
00:33:27
include Buybacks in cash distributions by vaccine dividends and so Facebook now you can credibly see a path where
00:33:35
Facebook could chunk out hundreds of billions of dollars of of total shareholder value returned over the next
00:33:42
four or five years and so you know for Value investors it's somewhat of a kind of a no-brainer I mean nothing's a
00:33:48
no-brainer but yeah really really attractive value fundamentals right now I mean you did see Warren Buffett buying
00:33:55
Apple I think it's his largest position you're going to see him probably do the same with Facebook there was an
00:33:59
interesting mass extinction event tweet that went on that's related to all of this Tom loverio a GPA General partner
00:34:05
at ivp which is a venture firm tweeted the following thread there is a mass extinction event coming for early and
00:34:10
mid-stage companies late 23 and 24. but make the 2008 financial crisis La Quint for startups below I explain when how
00:34:19
and why and we'll start an offer some detailed advice basically four and five four in
00:34:25
five early stage startups he claims have less than 12 months of Runway according
00:34:29
to a Q4 survey of 450 Founders by January Ventures he sees late 23 24 when this will all
00:34:37
come home to roost mark suster from upfront Ventures friend of the pod reply with the following precisely our
00:34:45
internal analysis 5000 seed 2.5 million raised or above A and B companies those are three different categories funded in
00:34:53
the last four years we estimated 50 will go out of business lost ratios in the last seven years have been artificially
00:34:59
low due to excess Capital as we just discussed previously with the never-ending Bridge we've talked about
00:35:06
this before if you look back over 40 years of venture capital the average top quartile fund
00:35:11
distributes 1.6 or 1.7 x the capital they raise even though now we've gone through a
00:35:17
period where people have shown these unbelievable markups right tvpis the total value
00:35:23
right a paid in capital distributions have not really budged that much distributions are still modest they're
00:35:29
below 2X and so we have to go through what's called mean reversion right we have to go back to the historic
00:35:35
statistical average which means that a 50 to 60 percent mortality rate seems pretty reasonable by the way in the.com
00:35:44
bubble that's what we went through you know in 2001 to 2005 we had a 50 mortality rate at the seed stage I mean
00:35:50
you kind of expect 70 to go out series a maybe a little bit less Freeburg what are you seeing on the streets you're
00:35:55
investing in startups yeah look I I think that there's is there an opportunity by the way also in here so
00:36:00
what are you seeing but is there an opportunity in this group of this cohort of companies which seem to be um upside
00:36:06
down and or in yeah a tsunami right now this cohort of companies I think generally is overburdened
00:36:15
with feature orientation and short-termism more than you would see in an era of reduced Capital rather than excess
00:36:26
capital and what I mean by that is a lot of companies built a business or built a product that
00:36:32
allowed them to show Traction in the market faster and typically those products that are
00:36:37
easier kind of paths to market end up being features they don't end up being platforms so it's very hard to become a
00:36:43
big business or to become a scaling business or to differentiate in a competitive market that's a generalized
00:36:48
that's a very general statement but I think you know when you miss out on the platform play you start betting as an
00:36:55
investor on a lot of the derivative plays that look like the real big company look like the platform I mean
00:37:01
think about how many companies try to look like some iteration of stripe or try to look like some iteration of Uber
00:37:06
or try to look like some iteration of you know name your big kind of behemoth and as a result you get all these sort
00:37:12
of feature-ish platform plays that have maybe a niche or some kind of you know narrow kind of Market
00:37:19
opportunity they got funded those those businesses obviously aren't going to have the same valuation multiples of the
00:37:25
winners in the market and now uh and they burnt a lot of money to demonstrate growth because so much of investing over
00:37:31
the last 15 years has been momentum investing and so they try to grow then they try to
00:37:36
get a higher valuation investors plot more money in now the problem is that so many of these series BC DNA companies
00:37:42
have a true market value they're not a valueless company but the true market value of them is probably less than the
00:37:49
total preference stack of the capital that's gone in so let me yeah yeah so just make sure people understand that
00:37:55
I'll just describe it yeah so when investors invest they have preferred stock so they have a right to get their
00:38:00
money back so they let's say a 1x liquidation Preference they invest 100 million dollars the company is worth 300
00:38:06
so they own 25 of the company after they invest but they have a right to that hundred million dollars first before
00:38:13
Common shareholders get paid the problem now is that a lot of those companies may
00:38:17
be worth less than the hundred they're not worth 400 anymore they're worth a hundred and you can see this play out in
00:38:22
the public markets with that that data set I shared with you guys a few weeks ago over two-thirds of companies now
00:38:28
that have gone public since 2020 are worth less than the capital that they have raised as in the venture your
00:38:34
market so if they were still private they would be worth less than their preference stack and that's where these
00:38:40
companies start to unravel because now the investors have to totally recap the company the founders don't want to have
00:38:46
all of their common wiped out now they own nothing and there ends up being a very ugly scenario that happens with the
00:38:51
board at that point on how do we wind this thing down how do we recap it what's going to happen and that's
00:38:56
usually where everyone starts to run for the hills the founders one or more of the founders leave and so I have a
00:39:01
question for you so you mentioned this earlier which I think was a really important point but we didn't really
00:39:05
touch it do you think there's going to be a reckoning inside Adventure firms about
00:39:12
recalibrating General Partners 100 I mean look and why sorry just explain why yeah so I think what's happened is over
00:39:19
the last 15 years to become a successful Venture investor you've gotten into the
00:39:23
hot deals the deals were and hot deals the valuations are typically climbing up and you know when the valuations climb
00:39:30
up that's an indicator that the company is doing well and you should invest that's been the model for operating in
00:39:36
the last 15 years but the truth is that maybe just because the valuations have gone up and more money has gone in
00:39:41
doesn't necessarily mean that that's a great business or as Jamal points out that you ultimately get a positive net
00:39:46
return on that investment down the road and that window is now closed so the the
00:39:51
the investors that have been trained this is such a generalization and I hate saying it because we have so many good
00:39:57
smart friends that work in Venture but generally speaking there are a lot of folks who have come up who have been
00:40:02
trained on this momentum investing model and it's it's like it's like day trading
00:40:06
the stocks are going up let's all put money into the stock going up and instead of having a more fundamental
00:40:10
approach to is there a real cast generation potential and scalability and platformability of this company and as a
00:40:18
result you're going to have to see I think the junior partners that have come up and done well in this market
00:40:23
Canada well they're they've they've done well on paper but they haven't done well
00:40:28
on distribution so maybe that shamath becomes the well so you decide who's a good venture capitalist which of these
00:40:33
companies actually returned Capital at a peak Market well I think Freeburg is really on to something and he mentioned
00:40:40
this before so I got curious about this and I went into pitchbook and my team and I looked at all of the
00:40:48
people the humans in our business that have generated more than a billion dollars in distributions on a given deal
00:40:54
and there's 20 that have done that in our industry like there's people that have made hundreds of millions of
00:41:00
dollars once or twice but there's 20 people that have made more than a billion dollars more than once okay and
00:41:05
if you look not a single one came up through the ranks as a pure engineer or product manager right everybody to a one
00:41:11
is extremely commercial in their background and their operating experience very few percentages of them
00:41:19
were actually founders a huge percentage of them were trained in Banks and other
00:41:24
places so non-traditional quote-unquote roles for what this current crop of GPS looked like because we went through a
00:41:31
phase where if you were a VP of product or a VP of design or VP of engineering at a well-known startup
00:41:38
that was the most obvious onboarding into a venture firm but if you just look back at the data that cohort of people
00:41:44
has actually never made money again according to pitchbook that's fascinating and that's a really
00:41:49
fascinating counter-intuitive takeaway which is that and and by the way what's so interesting about that is Pat Grady I
00:41:56
think had a tweet and it just sums it up so cleanly because he just hired somebody from CO2
00:42:01
and the Tweet was something to the effect of this guy is the most commercial guy we've ever seen something
00:42:08
like that and I thought that was so interesting because that is exactly what our heuristical analysis of this data
00:42:14
was as well commercial people in Venture are the ones that make the money so you
00:42:18
look at a Fred Wilson Michael Moretz Phil Gurley they were investment analysts I can show you the list markets
00:42:26
before they became Venture investors or Mike Moritz who was a who was a journalist yeah which is a journalist is
00:42:32
just an analyst it's another if you're a good journalist it's another word for analysts yeah it was really really
00:42:36
interesting looking at that list so like you know there are people in there like
00:42:38
Jim Getz Alfred Lynn Danny Reimer Jan hammer Fenton so if you look at all of these
00:42:47
folks that are just tier one people and we know all of them the one common thread amongst all those folks is that
00:42:54
unbelievably commercial and so Jason in a moment like this where you have to really hold the entrepreneur's feet to
00:43:01
the fire or be their partner to make extremely hard decisions you have to have the ability to be
00:43:07
respected by them in those moments where you can force a very difficult decision
00:43:10
and then separately if you have to basically Force liquidity so that you prioritize your limited
00:43:16
partners how do you do that while still managing the relationship with the entrepreneur how do you know that you
00:43:20
just need to cut your losses and get out these are very difficult trade-offs that
00:43:24
I think folks haven't been trained in doing to David's point so it'll be really interesting few years to
00:43:31
see how these organizations I think this goes discuss the Sax's point about hey the ecosystem if it's hard if it's
00:43:38
cantankerous if there's sand in the Oyster it could make the Pearl if you have a con you know a congenial
00:43:44
relationship with you know your product manager VC and everybody's the champagne and caviar and and
00:43:51
high-fiving maybe that's not as good as having a bill Gurley a Michael Moritz and having a foil maybe who is putting
00:43:58
pressure on the management team hey we need to hit these numbers Freeburg and then sax yeah look I think one one
00:44:04
counter argument here baby that there is this friggin tidal wave of AI companies
00:44:11
and there is this incredible amount of lubricant in the dry powder that's sitting on the side of the of the market
00:44:17
right now that all these Venture funds raised in the last two years that is going to lubricate all these AI
00:44:23
companies into every vertical and every market so every company is wrapped up in
00:44:27
an AI cloak like a magic invisibility cloak every AI company's got an AI hat and a badge and a tattoo now or every
00:44:33
company is being Rewritten as an AI company and the money wants to find its way into Ai and it wants to rewrite
00:44:39
industry with every industry with AI so I think similar to what we saw with mobile and the Social Web
00:44:46
you know going back 10 or 15 years we're seeing kind of this AI rapper and this AI technology enabler
00:44:53
rewrite the possibility of every vertical and the VCS have Capital more Capital than they had 15 years ago or 10
00:44:59
years ago or even seven years ago so there is this counter narrative which may be that
00:45:05
the game the game goes on the band continues to march on the current crop dies out but there's immediately a new
00:45:11
crop waiting right behind it or what happens is the herd dies and everyone runs to the back of them right and gets
00:45:17
recapitalized because I can tell you every startup I know that's not going well everyone's talking about leaving to
00:45:21
go do an AI company an adventure friends are ready to write money I think you're
00:45:25
I think you're right about that I think the question is the actual person making
00:45:29
the check will they be more or less likely and at least what history would tell you is
00:45:36
that we've hired an entire generation of people that and this is clear do not map
00:45:43
to the people in our industry that have actually generated returns so you're right they may take this money
00:45:49
and misallocate it into these companies that are just you know rebranding themselves but that just goes and
00:45:54
further proves that there is a type of person that hasn't been recruited into these
00:46:00
Venture firms yet that was the first generation that made all the money I think it's always been the case that
00:46:05
there is some difference between the background of the VCS and the backgrounds of the founders I mean you
00:46:11
guys mentioned Gurley and Moritz like we said Moritz was a journalist who had written a book about Apple he wasn't
00:46:19
technical per se and Gurley was a investment analyst on Wall Street before he then made the transition into VC
00:46:29
is it you know as we both know they're like legendary VCS you know I think the what you want to see in a VC I think the
00:46:37
background matters a little bit less than you know like how curious are they how good are they about learning a new
00:46:45
area how good are they at being like a heat-seeking missile I mean basically just like zeroing in on like what is the
00:46:52
hot space and specifically what is the best company within that space and somehow figuring that out being able to
00:46:58
assess a Founder you know that's like a very subjective thing so I think there's
00:47:03
lots of qualifications that you want to see in a VC now at the same time I do think that if AI is the next wave
00:47:11
and the next sort of platform opportunity as we all think it is I do think that place is more of an emphasis
00:47:18
on technical skills and I was I was literally just having this conversation at craft that gee maybe the next hire we
00:47:25
should make at craft should be someone who's really deep technically so they can you know help go deeper on
00:47:32
technical due diligence of AI companies they've never made money what's that they've never made money in
00:47:38
the history of our business who those people that archetype of hire has never done it on behalf of Wellies biotech and
00:47:45
Life Sciences they have usually what kind of highest investors usually people saying he's saying a technical hire who
00:47:51
worked in the trenches at a company is not as fit no has not in the past has not in the past gotten DPI whereas
00:47:58
somebody who is more commercial able to analyze a business the ideal person is going to be able to get returns right
00:48:05
right so so look I think you know the ideal person would be someone who's funnily a great investor but also has
00:48:10
some technical background and some technical chops we also have a team Approach at craft so if you have someone
00:48:15
who's very technical they can just diligence the technical aspects of the deal somebody else can be responsible
00:48:20
for you know making an assessment of the founders how we've solved this is we have a group of third-party individuals
00:48:27
that we work with that we keep on retainer that we compensate and whenever we need to do deep technical diligence
00:48:33
we partner with them to do that work with us and what it allows us to do is get the best of their technical thinking
00:48:40
without also putting them in a position of trying to adjudicate whether this company is good or not what I'm trying
00:48:47
to understand is what is this Technical Edge and can I understand the boundaries
00:48:51
of that but I I still keep the investment decision to myself and my partners because otherwise the
00:48:57
difficulty is in my experience deeply deeply technical people are extremely good at diligence but generally are poor
00:49:05
at making investment decisions because there's a part of their brain that flips on which is like I could do it better or
00:49:11
I could do it this way or I could do it that way and I think like that anchoring
00:49:15
bias can be very dangerous and you you almost want to be a little dumbed down from
00:49:21
that depth of knowledge because you either find everything that is like not worth doing and then you can miss a
00:49:27
market or you miss the thing that is good enough because you're like oh well I would have done X Y and Z in a different
00:49:34
way so we kind of like use them but we keep them at arm's length so that they never feel the pressure of having to
00:49:39
actually decide on our behalf how the money should be spent yeah I mean that's interesting yeah the number one thing
00:49:44
we're doing at this early stage is training our Founders I know this sounds crazy on accounting best practices and
00:49:50
pricing best practices and we literally have Founders who have never made a plan
00:49:55
I'm talking about at the seed stage who don't know accounting and so we are running four seed stage startups and I'm
00:50:02
kicking myself that we didn't do it two years ago or three years ago but better late than never on how to just maintain
00:50:08
their books and understand operations and the the operational lack of discipline in the market I'm seeing
00:50:15
series a and series B companies that literally don't understand their own accounting and so when we start talking
00:50:21
to their accountants there is a huge gap between what the accountants think of this business and what the founders
00:50:26
think of these businesses and Founders think they have more Revenue than they have or less Revenue they're really
00:50:32
don't even know how to calculate their runway in an honest way and so there is back to your point chamoth about on the
00:50:39
on the Venture side of the business a lot of product focus a lot of operational Focus there's not enough
00:50:44
focus on just the bottom line the reason that happened is is what Friedberg said
00:50:48
before which is like somebody would build something there was a little bit of momentum and you'd have to go and
00:50:54
present these Bona fides to these entrepreneurs to get into the deal and so what Venture firms thought was the
00:51:00
right bona fide to present is oh I built XYZ product at this other company right
00:51:04
and they thought that that edge could get you into a deal maybe but it could turn out that that was the Raw one
00:51:10
company to be in in the first place and so you just missed an entire generation of value creation because it
00:51:17
happened sort of off-piste off the trial like yeah you really do need to understand fundamentally because we're
00:51:23
talking about public markets here the Facebook analogy what is the ultimate earnings what is the ultimate cash that
00:51:31
is going to get thrown off this business and that's what the whole industry needs
00:51:34
to I think pivot to and just that needs to be the operating principle do you guys know how much money Facebook Amazon
00:51:41
Google and Microsoft raised combined total before they went public that's very small I mean Google is minuscule
00:51:49
less than a quarter billion dollars unbelievable yeah all the inefficiency is extraordinary and then on top of this
00:51:54
inefficiency I don't know if you're seeing this they were all profitable when they went public
00:51:58
on top of all this inefficiency is a dependence on Venture debt I don't know if you're seeing this sax but the amount
00:52:05
of focus on adding debt to unprofitable companies over the last five years has been
00:52:11
just extraordinary I don't understand what I've never understood the Venture debt model or really how it works I feel
00:52:16
like it's a category that doesn't make any sense say more I mean well I mean explain it
00:52:23
to people what's happening I don't really understand how it makes sense for lenders or for Founders to be honest I
00:52:28
think the whole industry doesn't make any sense for Founders I don't like it because the money has to be paid back
00:52:33
right it's debt so Founders take in this Venture debt thinking like it's an equity round but without dilution with
00:52:40
some warrants and they don't realize well wait a second we got to pay this back in a year or a year and a half out
00:52:46
of the next round they do but that creates an overhang on the next round because the new VC is coming in they
00:52:52
want their money to go into the company not paying off a bank so it actually makes the next round less attractive the
00:52:59
other thing about it is that the lender is not getting an equity reward so they don't want to take Equity risk they may
00:53:08
be getting a nice you know coupon might be getting nine percent or something like that which
00:53:13
sounds high for debt but they're not taking True Equity risk in the company so the last thing they want to do is be
00:53:19
your last six months of Runway right they want to be your first six months of Runway and then and then get paid off on
00:53:26
the back end and I think a lot of Founders think oh well I'll take this money and it'll extend my Runway from 18
00:53:33
months to two years but what will happen in that last six months is all of a sudden the bank will come to you and say
00:53:39
no no no like you have this or that material adverse Condition it's called a Mac out and there's all these like terms
00:53:48
that Founders don't understand because it's highly legal covenants and so all of a sudden the founders find themselves
00:53:56
with a lot less flexibility in that last six months to a year either a covenant gets triggered that makes them pay back
00:54:03
the money immediately or their business flexibility goes way down because they're Consulting with their Bank about
00:54:09
everything all this is coming home to roost right now I think it's a terrible deal for Founders and I think that even
00:54:15
for the lenders I mean I guess I assume that these Banks know their business better than I do but
00:54:22
but I I think that the reason I don't trust it as a category from you know from A lender point of view from like an
00:54:30
investor point of view is that all the data about defaults over the last five to ten years happened in this
00:54:38
free-flowing zero interest rate environment and so the startup mortality rates were artificially low because it
00:54:46
was so easy to raise so yeah Venture debt makes sense in an environment in which Founders are generally able to
00:54:52
raise the next round and then pay back the Venture debt but let's say that that that tweet storm you you mentioned Jason
00:54:58
can you bring that back on the screen I actually think this tweet storm is basically correct is
00:55:03
you know I've referred to on this show before that I think one of the things that built up during this bubble is
00:55:08
latent startup mortality so many startups that should have died from not being able to raise next round live
00:55:15
because they're able to raise money and what this tweet storm is predicting is that in the second half of 2023 and then
00:55:22
24 you're going to have a huge crunch where all these companies have to go out and raise they've been waiting so
00:55:29
they're all going to get to the point where their cash is so low they have to go out and raise and now all of a sudden
00:55:34
they're going to be confronted with the new market conditions I wonder how many of them have Venture debt as an overhang
00:55:38
and that's those ones yeah and they're going to find they have less Runway than they thought because again those Banks
00:55:46
you know they are going to try and collect the debt before the start runs out of money not you know when it runs
00:55:53
out that's two falling knives exactly so so look I just wonder what I what I don't trust is whether the the return
00:56:02
models on Venture debt that were created over the last five to ten years will be
00:56:07
a good predictor of what the returns will be in the next five ten years when a lot of the mortality that should have
00:56:12
happened in the past now happens in the future well I mean then and sax correct me if I'm wrong here but I'm also
00:56:19
starting to see really gnarly term sheets people foreclosing on businesses people offering like literally had a
00:56:25
term sheet come in like we're gonna forgive the last note and take this business over for a dollar and everybody
00:56:31
gets wiped out the amount of bad feelings that you have to go through even if the there is a Core Business to
00:56:37
free Breakfast Point earlier hey they raised 100 million but there's a 50 million dollar business in here that
00:56:42
people would love to invest in who wants to go through the hand-wringing the negotiation the toxicity of a recap it's
00:56:49
an extremely hard process to go through you going through any Recaps right now sax and what is the what is the approach
00:56:56
of the firm in terms of dealing with these kind of situations do you even want to start that discussion up or is
00:57:02
it too painful I don't think for most of our companies we're at the recap or restructuring
00:57:09
stage I mean I'm talking about the ones that aren't going well people still have
00:57:11
a fair amount of cash in the bank and we've been beating the drums for literally what about your opportunities
00:57:18
a new opportunity comes to you it's one of these overhang companies that wants to restructure would you even engage
00:57:22
that or is it just too hard I looked at seven at the end of last year and I tried to reprice three of them
00:57:29
and every single one was able to get a convert done away from us yeah so I mean yeah I mean we tried to
00:57:36
find a market clearing price for this Equity but nobody wants it to David's point because there's too much money on
00:57:40
the sideline and people are willing to give them a Lifeline that doesn't force them to come to hard terms with what the
00:57:48
reality of the moment is yeah I agree with that we're not quite there yet and and I think the the reason why that that
00:57:54
tweet you posted got some traction is it's saying listen the crunch is going to happen second half of 2023 and 2024
00:58:02
that's where you're going to see the down rounds that's where you're going to see the restructuring the Recaps and all
00:58:08
the rest of it and um look I'm sure like every VC firm is going to be a player in
00:58:13
that but yeah it's going to be a lot of miserable work this is for Founders you see people's true colors when when when
00:58:20
you have to recap a company and yeah this way you can really start to see how crappy it was in 2003 to be here
00:58:28
remember 2003 Penfield oh my God oh my God I found some yeah there was are you lucky to raise 500k on a three million
00:58:36
dollar oh my God like 2004. like what a brutal year yeah there's gonna be a lot of that I think the next 18 months
00:58:44
or let's say the next two years it's going to be pretty rough for a lot of companies and it's just that they didn't
00:58:50
cut enough I mean we've been beating on the drums for a year for companies to lengthen their Runway and some did to
00:58:57
some extent but money didn't do enough and they're going to get caught in this crunch can we just go to that chart that
00:59:03
Brad put out I think that what a lot of founders don't quite understand still is that things are just never going back
00:59:12
to 2021. I think a lot of Founders listening to the top of the show where we're talking about inflation is under
00:59:18
control they see the market rally Facebook's up 25 percent they may be thinking okay we just have to weather
00:59:24
the storm for six months or a year and then everything's back to normal and I think what's important to understand is
00:59:30
that the market did bottom out about a month ago and is up pretty nicely if you see here this is the SAS index it's the
00:59:37
median Enterprise Value divided by next 12 months revenue and it was really beaten down about at the end of the year
00:59:44
at the end of last year coming into this year you were yeah it was like it was like four to five x multiples of of next
00:59:53
12 months revenue for SAS companies that's all the way up to 6.1 now so you're talking about
00:59:59
20 to 50 rally for a lot of companies which is huge we're still below the long-term median which is just under
01:00:06
eight okay but what people need to understand is that even if we revert all the way to the mean of a which I think
01:00:13
at some point we will that's still well below the bubble of 21 where they got to
01:00:18
16. so even if things continue to inflate valuations will still never quite be where they were in 2021 and if you think
01:00:27
it's getting back to 12 or 16. for high growth companies for high growth companies in 2021 you
01:00:37
were in the public markets you were seeing multiples of 30 to 35 times now those companies are maybe at eight to
01:00:43
ten yeah or 12. I think the reliable way that we can look at this for the future
01:00:49
is that we're never going to see these kinds of multiples again unless rates are zero
01:00:55
and all kinds of tourist capital need to find a home to escape zero percent returns in every other asset
01:01:04
class but if even the safest asset class now will give you three and a half four
01:01:08
percent this is probably the new normal for quite a long time and we're going to be
01:01:14
back in that early 2000s kind of mindset which takes a lot of hard work to build value around
01:01:22
we talked about the sort of whipsaw economy and and there's a lot of mixed inflation
01:01:27
data I think Founders need to understand that there's a bifurcation what's happening in the tech ecosystem is not
01:01:34
necessarily what's happening in the overall economy the tech ecosystem is clearly going through a reset and a
01:01:40
recession job cuts are now the rule valuations are much lower whereas in the overall economy we saw a job support
01:01:47
today of over 500 000 new jobs so the fact of the matter is that even if the overall economy avoids a recession that
01:01:57
doesn't mean that things are just going to bounce back depression slash recession best cases
01:02:02
that is a boom bust cycle and we have a phenomenal yeah 10 years of Boom now we're in a bust and so I would just like
01:02:09
tell Founders you know look it's good if we have a soft Landing in the economy I
01:02:14
wouldn't assume that that's going to happen I still think there's a really good chance of recession later this year
01:02:19
but it almost doesn't matter for you what matters is your business and the capital availability for startups
01:02:28
which is fundamentally different and will remain different than it was in 2021. Freeburg you were talking in the
01:02:34
chat about a Donny Enterprises and Hindenburg doing this short research and Publishing it stock is just absolutely
01:02:42
gotten clobbered they were trading at uh gosh 4100 was the 52-week high and this thing has just
01:02:52
cratered in the last five days I mean I think to explain what's going on here well I mean the story that
01:03:00
the conversation I thought it would be interesting for us to have is the role that these short seller research
01:03:07
analysts play in driving efficient markets by identifying perhaps things that the
01:03:15
market broadly is missing particularly given that a few weeks ago we were all kind of talking about the
01:03:22
FTX debacle and how no one was doing their diligence and no one was digging in and no one was kind of revealing
01:03:28
publicly what was going on inside of that business that ultimately caused significant losses you know the claims
01:03:34
made by Hindenburg is that this company adani which is founded and run by a guy named Gautam adani
01:03:41
you started the company like I think 30 35 years ago and he's built this thing into this you know the sprawling Empire
01:03:49
as people would say where he owns ports he owns mining companies he owns energy transmission businesses he's got a whole
01:03:56
green energy business and he's taken a bunch of these companies and he's floated them publicly so they're all
01:04:01
kind of publicly traded there's some degree of interrelatedness between all these businesses
01:04:07
it reminds me a lot of I don't know if uh if any of you guys remember aiki Batista out of Brazil you guys remember
01:04:13
this guy where you know he kind of built this sprawling Empire very kind of broadly Diversified industrial
01:04:19
conglomerate with you know lots of different kind of segments and used a lot of Leverage a lot of debt to grow
01:04:25
the business and a lot of interrelated inter-party transactions and ultimately the whole thing kind of came crashing
01:04:30
down and that the sadani business it's super technical and super complicated all the kind of accounting shenanigans
01:04:37
that Hindenburg is claiming has been going on and Capital Market shenanigans that they're claiming have been going on
01:04:42
with this business but their kind of report which I think is like 400 pages long has caused the responses 400 pages
01:04:49
long too yeah and then the Market's Shrugged off the response that he put out didn't really care and they kept
01:04:55
selling the stocks off so there's like seven or eight publicly traded companies all of which are just getting decimated
01:05:00
look I don't have any strong opinion on this business I you know I kind of skim through the thing but you know it really
01:05:05
made me question like how such a big call it accounting or Capital markets fraud if it really is that can go on and
01:05:15
how much of a role these sorts of players play in the market whether you guys think that
01:05:20
this is a good thing in the market to have these short seller reporters out there you know doing this analysis
01:05:25
publishing it Jason by the way you called out Nick Nicola Nicola the the electric car company as you know
01:05:31
Hindenburg put out that Nikola report stock tanked right they claimed it was all fraud Etc and then the thing got
01:05:37
done it was Trevor Milton got convicted yeah right and so I mean I guess do you guys think that these guys have have a
01:05:42
positive role net net in the market in kind of identifying and calling out this stuff because we all have friends that
01:05:47
are on the wrong side of short Sellers and they complain about it and it can be really difficult to grow and build a
01:05:53
business when people Elon had these guys literally claiming he was running a fraud for years and years and it was an
01:06:00
intense amount of scrutiny because when the Trap when the stock was less trafficked when we were in it in 2015
01:06:05
and 16 and 17 that was the constant refrainment Elon was constantly batting back folks like this who would make
01:06:12
claims and the way that these guys are allowed to operate is because they use the First
01:06:17
Amendment and say we have the right to say this stuff I think that shorting falls into two
01:06:21
buckets one is you use it as a hedging instrument so when we talk about spread trades like long Google short Facebook
01:06:28
or long Facebook short Google you should be allowed to short I think that that's a very reasonable thing to
01:06:33
do I think the the question is if you were on the inside of a company and you say
01:06:39
XYZ is happening for example Trevor Milton and it causes the stock to go up and it turns out to
01:06:45
be fraudulent he's held accountable the question is should there be the same responsibility for people on the outside
01:06:51
who if they have enough distribution can say the exact opposite of XYZ is happening in this case XYZ is not
01:06:58
happening which then causes the stock to go down because what the business model
01:07:02
of these short sellers is write a document it looks very polished and very credible
01:07:09
put on some positions then put the document out if the stock goes down you close it out in my opinion
01:07:16
I think that short sellers are a really important part of a well-functioning market or the ability to short but what
01:07:23
I would like to do is take an extra step which is you should hold these folks accountable
01:07:27
the same way you'd hold an Insider accountable which is almost to the effect of like when you put out the
01:07:32
screed if you make money from it it should sit in escrow and the SEC should actually
01:07:37
adjudicate whether it's true or not so in the case of Hindenburg and Nicola they shorted the stock they put out a
01:07:44
report it turned out they were right all that money is completely well earned now
01:07:48
what if this adani thing turns out to be not true or true nobody knows right now
01:07:52
except 50 of the market cap has already been wiped out so that's where things I think are are
01:07:58
in a bit of a gray area the last thing I'll say is that if you look at in the developing world
01:08:04
there's a very gray line between some of the leading entrepreneurs in these governments because these entrepreneurs
01:08:09
are doing the work of some of these governments whether it's IQ Batista in Brazil in one moment right around
01:08:14
natural resources or adani and Ambani in India or a lot of the people that made a
01:08:20
lot of money in China or the people that are making money and in developing markets turkey Russia Etc
01:08:26
the government uses very talented entrepreneurs to go and concentrate Capital to develop infrastructure
01:08:33
progress we did that in America in the 1800s as well so that's where I think you know you have to also balance it
01:08:38
because his response was basically like this is an attack on India and in a way you can see where he's
01:08:44
coming from right because he's building ports and roads and bridges and he's like without this stuff how is India
01:08:49
supposed to even exist in the 21st century that's a reasonable claim so I agree with you Freeburg I don't know
01:08:55
whether the report is right or not but this extra step of actually having the SEC actually tell us what the answer is
01:09:02
I think would be a very important Improvement to how this kind of stuff works the other Improvement that the SEC
01:09:08
has been proposing in rule 13f-2 is that people would need to disclose their short positions right this proposed rule
01:09:21
would require institutional investment managers I'm reading from the SEC website managers exercising investment
01:09:25
discretion over short positions meaning specific specified thresholds to report on the proposed form Sho information
01:09:32
related to end of month short positions and certain days [Music] that should absolutely pass right the
01:09:39
commission would aggregate the resulting data by security their board maintain thereby maintaining confidentially of
01:09:45
the reporting managers yeah and publicly to sending the data to all investors this new data would supplement the short
01:09:51
sale data I think this is right I mean this is less about like who's doing what and it's much more
01:09:57
about are we kind of creating critical fail points in the system by seeing over leverage and over lending in certain
01:10:03
well there should also be some animals about the spreading of fear uncertainty and doubt that fud that happened with
01:10:09
Tesla Q I mean paradoxically you know thousands of no but people that but that's Anonymous
01:10:16
accounts you know that's that's an example of people essentially lying in public yes try to get the stock to move
01:10:23
and Tesla's not a fraud that's a real company but there was any car of the year while this was going on but there
01:10:28
was a real human rights to that company right to employees that got spooked to Partners that may have gotten spoon the
01:10:35
pressure you know we saw this the pressure on Elon in those periods of time and he was he was like on the
01:10:40
knife's edge where there was the potential where the company may not have been able to finance its cash flow needs
01:10:46
because of those Tesla Q guys and so it's not to say that the Tesla Q guys can't say it but they should be forced
01:10:52
at some level to prove it if you can create crazy stuff I posted a link by the way for anybody that's interested in
01:10:57
reading this there's a person uh called Carson block who's being investigated yes because he may have pushed the
01:11:03
boundaries of how short sellers do this it's a really fascinating read in the Atlantic for anybody
01:11:09
who wants to read it but this is sort of where the short selling thing can a little bit go awry and it's the title of
01:11:16
this is the man who moves markets and it's it's quite a quite a really interesting read if you're interested in
01:11:20
in how all of this stuff works all right everybody that's the all in podcast for
01:11:25
February third and fourth for Saks free bargain chamoth I'm Jake how the world's
01:11:30
greatest monitoring we'll see you next week love you boys bye-bye [Music] besties
01:11:53
[Music] it's like this like sexual tension that they just need to release [Music]
01:12:23
[Music] I'm going all in