To meaningfully differentiate yourself from everyone else in the same space, you have to define the situation in the industry, segment, or category that you want to challenge. Here’s what a list of what you want to challenge might look like:
This is an area in which everyone seems to be stuck in the same predicament and nothing has changed in a very long time.
This is an area where profit performance is average—it really should be more successful than it is.
This is a category where growth is slow and everything seems the same.
Once you have a situation to focus on, describe it in one sentence: “How can we disrupt the competitive landscape in [insert your situation] by delivering an unexpected solution?”
I guess if you had to boil our mission statement at Anthemis Group down to one question,
How can we disrupt the competitive landscape in financial services by delivering an unexpected solution?”
would probably do the trick quite nicely.
Of course, our approach to answering this question is perhaps not to answer it directly but rather to seek out and support a constellation of passionate, brilliant, “what if?” thinking entrepreneurs who are asking this question with respect to specific sectors, products and geographies in financial services (banking, payments, risk management, identity, investing, etc.) and contribute our intellectual and financial capital towards amplifying their vision and improving their chances of success. For all you capital markets geeks out there, we think this approach generates (as close as you can get to) pure “alpha” in that our returns are pretty much divorced from general market movements as the impact on valuation of success (or failure) in building these new businesses far exceeds the second or third order impacts on valuation of prevailing overall public (or even) private market conditions. Clearly, our success is not guaranteed – not by any stretch of the imagination – but at least the input parameters, the choices we make, are the key drivers and within our control. (And not subject to the vagaries of a co-hosted blade pumped up with algos in New Jersey…cf my last post.)
This in our opinion is a much better set of reference terms. Even more so because it doesn’t rely on our unique genius, but rather structurally taps in to a deep and expanding pool of talented people, pursuing their own visions and goals, loosely-coupled through the ecosystem and networks we strive to nurture and grow. We don’t have to make all the decisions. We don’t have to have all the brilliant ideas. We don’t have to do all the heavy lifting. Which is certainly a relief to us and I suspect to our investors as well. If you want to take the ecosystem metaphor a bit further, I guess it would be fair to say that our position is akin to dirt in forest. Or swamp water in a wetland. ie Trying to provide a fertile and supporting substrate upon which the wonders of evolution and life can flourish and grow. Perhaps not a very sexy image, but ask any farmer and she’ll tell you there is nothing as wonderful as a field of deep, dark, steaming dirt.
And coming back to Luke’s three foundational criteria, I think it is clear to all that you can take pretty much any sector of financial services and it would emphatically tick each box. It’s an incredibly fertile environment for disruption. So you know, we’ve got that going for us. We just need to make sure we plant the right seeds.
Anthemis (Án-the-mis) is a genus of about 100 species of aromatic herbs in the Asteraceae… Nicknamed “the plants’ physician”, it seems to improve the health of other plants grown near it. (source: Wikipedia)
I was reminded the other day that I’ve never introduced Anthemis Group to the world. And our website, although not bad, definitely needs updating (we’ll get to it…) But in the mean time, I thought it might make sense to have a go at starting to explain who we are, our world-changing ambitions and our unique plan for achieving same.
As many of you know, I’ve spent much of the last decade thinking hard about how advances in information and communications technologies can enable a fundamental re-invention of business models in the financial services sector, and over the past four years I have focused my energies on figuring out the best way to go about catalysing the creation of new businesses that will drive and profit from this amazing opportunity. It hasn’t always been easy – advocating change never is – but ironically, the global financial crisis of 2008 was actually very helpful as it opened many eyes to the manifest weaknesses and diminishing returns of a financial system and actors that were finely tuned to operate in the “industrial economy” of the 20th century but poorly adapted to address the opportunities and challenges of the 21st century’s “information economy.” Anthemis has emerged out of this work and we are convinced that our approach is ideally suited to profit from the vast opportunity for disruptive innovation in financial services.
Our ambition is to build the world’s first “digitally native” financial services group: a group of companies and businesses uniquely adapted to profit from the emerging competitive landscape of the Information Age.
Anthemis Group is a holding company (think Berkshire Hathaway, DST, Naspers, LVMH…) organised around a small number of key themes and principles:
that an enormous opportunity exists to harness technology to fundamentally rethink how financial services are designed, consumed and delivered.
that a healthy, resilient and relevant financial sector is absolutely critical to the well-functioning of our economies and societies
that loosely-coupled networks and ecosystems (not hierarchies) are the optimal organisational forms in the information economy
that assembling and retaining teams of talented and passionate people is the key to building great businesses.
We’re not a venture capital or private equity fund, although clearly in some respects we share characteristics and often work closely with both; think of us as a fractal start-up – a company that deliberately seeks to connect and grow an ecosystem of complementary and vibrant new businesses by marrying patient long-term growth capital with expert operational and strategic advice.
In future posts over the course of the next several months, I will explore in more detail the themes outlined above and also dig deeper into both our operating model (we have three key operating pillars: principal strategic investments (anthemis | holdings), corporate advisory (ft advisors) and an innovative specialised expert consulting network (anthemis | edge)) and our investment framework (see if you can reverse engineer it by looking at our existing portfolio!) But today, I want to finish by highlighting a great post by Stowe Boyd (which inspired the timing of this post) titled “More Like A City Than An Army.”
In recent appearances, I have used a certain example to make a case about the openness in businesses of the future, contrasting today’s organizations with cities. ‘You don’t have to ask if you want to move to NYC’ I say. ‘You just show up, and start doing your thing, interacting with people, renting a storefront, buying things.’
‘Imagine a business where you can just show up and say, I want to work here. And you’d be engaged in the workings of the business by making connections with people.’
When I read this, it was immediately familiar: it resonated strongly with some of our thinking on how to best manifest the fourth principle above and indeed our business model in many ways adopts a somewhat analogous approach.
Cities exhibit superlinear performance, unlike businesses which are sublinear. As new employees are added to a business, performance decreases per employee. Cities are the only human artifact that break this trendline: they increase in productivity as more people move in.
So, business should aspire to take on the characteristics of cities — to the degree feasible — to break past sublinear performance.
Think of Anthemis as a city. Of our portfolio companies as neighbourhoods. And of our anthemis | edge business as municipal services and resources. The metaphor isn’t perfect of course but our structure and approach is indeed designed to achieve the superlinear performance Stowe alludes to. Before you get too excited, we’re not (yet?) in a position to let people “just show up and say, I want to work here”; I think reputation and trust filters – albeit not necessarily (just) the traditional ones – are relevant, but in terms of our starting bias, I’d say our philosophy is more in tune with this approach than the traditional talent paradigm. After all, why wouldn’t we want to embrace talented, energetic, self-selecting people. To be fair, Stowe acknowledges this potential problem and offers a potential solution:
Of course, the company would have to be organized in a vastly different way. People could ‘work’ at such a future Apple by just showing up, but they might have to convince others to let them participate on projects, or get an idea funded, or change a product’s features. (my emphasis) We’d have to have a wildly different notion of ‘management’: one that would be fully distributed in some way.
This theme is an aspect of what I call messiness-at-scale: for companies to go superlinear, they have to drop all plans to keep things tidy, and accept a state of near chaos, out at the far edge, where the power curve of innovation, creativity, and resilience is at its strongest.
Indeed, the biggest issue I see with a completely open-door policy is one of protecting the reputation and integrity of the firm – (which is really just the community of people associated with it.) Basically, the NAA (no assholes allowed) rule. But the fabulous thing is that in today’s world, it has never been easier to run this filter. Globally. Using both traditional social (old boys’) networks sure but also and much more excitingly (and more scaleable) by using the vast array of digital tools (Twitter, LinkedIn, Quora, Namesake, blogs, etc…ergo PeerIndex, an Anthemis company!) to build up a picture of a person’s authenticity (who they are, what they believe in, what they know and how passionate they are… (Which of course highlights how crucial it is to nurture and maintain a robust digital identity, something that is anathema to most of the corporate leaders of today…)
And if we can solve the reputation / authenticity issue, this just leaves the issue of how can you afford to pay people who “just show up.” We don’t have a fully-formed answer to this yet, but a starting point for thinking about this is: you don’t. Or framed less controversially, you provide them a substrate upon which they can ultimately earn their own way and in parallel you provide a framework by which the firm and its people can invest risk capital (time and money) into the new joiner to buy them the runway they need to become “cash flow positive”.
If this sounds similar to the general approach to financing entrepreneurs and start-ups it is not by accident. Investing in people or investing in groups of people working together on a project are fractals of the same problem set. A cynic would argue that this is just semantics and that what I have proposed aboveis effectively what any company does when it hires a new employee – essentially committing risk capital on the future expected productivity of that person. Sure, perhaps. But by making this social contract explicit – by devolving the process – making it bottom-up, emergent; not top-down – I am convinced that the resulting relationship is very different (and more robust, honest and mutually beneficial.)
So we’re working hard on putting the substrate and framework in place that will ultimately allow Anthemis to welcome all the talented, passionate, self-motivated people out there that share our vision and want to direct their energy towards building a digitally native financial system fit for the 21st century. We’d love to hear from you if you think you can help (but just remember we’re a start-up too, so please indulge us if we’re a bit uneven in our ability to engage, we know we have room for improvement in this department.)
“You never change things by fighting the existing reality. To change something, build a new model that makes the existing model obsolete.” – Buckminster Fuller
I woke up reasonably early this morning with a long list of things to do today. But given that it’s Saturday, I thought it’d be ok to start slowly with a cup of green tea and a few minutes with one of the many as yet unread books beckoning from the coffee table. So I picked up Hugh MacLeod’s“Evil Plans: Having Fun on the Road to World Domination”. I first met Hugh about 6 or so years ago via my friend JP, and was immediately charmed by his great cartoons and unique and brutally insightful characterisation of the “corporate world.” Sort of a grown-up’s Scott Adams…
About 5 years ago I read Po Bronson‘s “What Should I Do with My Life?” and it made an impact. Not too long after I ended up leaving a long and pretty successful career in investment banking to take a new path – one that has led to the creation of Anthemis Group and to moving our family to Geneva. If you aren’t sure you are living your life the way you’d like to, as a first step I’d say read this book. If nothing else Po is an entertaining and engaging writer and I’m sure you’ll enjoy the stories he tells.
As long as you feel inspired, your life is being well spent.
Hugh’s book took only an hour to read, but it brought back into laser focus the real reasons for which I chose the path I am now on. As he states – and all entrepreneurs know – there are a lot of times when it just seems overwhelming. But he also reminds us that that is where passion and purpose come to our rescue. Without these, we are doomed to fail. With them, we succeed even in failure. Buy it. Read it. And keep it close to your desk to lean on in those moments of doubt.
This weekend when catching up on my inbox, I stumbled upon a short article by Steve Denning opining on how Amazon was a different kind of company. His summary of how they were different really resonated with me and so I thought it would be republishing it here, not the least because it is a great characterisation of our portfolio companies at Anthemis and although we haven’t to date articulated it in exactly this format, it is an excellent proxy for some of the filters we run companies through before making an investment decision.
In effect, there are two kinds of organizations in the marketplace today:
Organizations that keep finding new ways to to delight you – and those that are trying to make money off you.
Those that help you solve problems – and those that are pushing their stuff at you.
Those that are steadily innovating – and those that are doggedly tweaking their value chain.
Those are responsive and agile – and those that are busy doing their own thing.
Those that are easy to do business with – and those that make you feel queasy.
Those that surprise you with unexpected extra value – and those who surprise you with unexpected extra charges.
We have a strong conviction that companies that behave in this way, that have this cultural DNA, will generate much higher risk-adjusted returns over the medium to long term than the other kind. Further, we believe that the performance gap between these two types of company will only get wider in the Information Age.
Until very recently, financial services have been relatively immune to the technology-enabled disruptive innovation that has swept through other industries over the past decade or so. This is now changing for a number of reasons, both technological, economic and societal:
continuing advances in communications and information technology – in particular ubiquitous cloud computing and smart devices – is enabling economically viable new approaches to delivering all types of financial services (payments, risk management, investing, banking, insurance…)
demographic change is creating a large addressable population of financial services consumers who have a different expectations (in terms of transparency, control, etc.)
the financial crisis of 2008 has broken many of the bonds of trust that contributed to significant customer inertia wrt financial services providers.
This is opening up one of the most important sectors of our economy to new entrants with new ideas, new approaches and new technologies.
I’m going to give a short presentation, hopefully setting the scene and getting some creative juices flowing before the more interesting part of the workshop where my partner Uday and I will be working with those attending to ideastorm potential new approaches, business models and services that are natively adapted to the technologies and economies of the 21st century. Attendance will be limited to 30 people so if this is something that excites you and you’d like to contribute, don’t wait too long to sign up. The workshop is at 9am on Friday, February 4th and of course you need to be signed up for the conference – if you haven’t already you can do that here.
And if you have any ideas for what you’d like to see or hear or discuss at the workshop, please don’t hesitate to comment below. Hope to see you there!
Update:
Workshop went well I think and I was really lucky to have such an engaged and interesting group. Would have loved to have had another hour to explore the ideas that emerged…here’s the presentation I gave as an intro:
Last week I spent the week in Amsterdam at Sibos 2010 where I had kindly been invited by Peter Van der Auwera to participate in the Innovation stream, and in particular in the Cloud Computing and Long Now streams within Innotribe. On Monday, I gave a short “scene-setting” talk on cloud computing and app stores in finance called The New Financial Stack (more on this / link hopefully later this week) and also I agreed to produce a video aimed at provoking and/or inspiring some original and non-linear thinking about the future of finance. Called “The Financial Reformation”, it sets the scene for two decades of fundamental change in the financial services industry based on the amazing democratising power of information technologies. I hope you like the result:
But as you might suspect if you have watched the video, this is just a start… Indeed, this initial video could be considered as simply the trailer for a longer form video which will look at the period from 2008 to 2028 in more detail; similar in some ways to the AmazonBay video of several years ago. The first draft of the script for this story is already written but I am very keen to build on and enrich it, not only with the fascinating concepts and insights that I absorbed in the Innotribe sessions at Sibos last week, but also – insofar as anyone is interested – with comments and ideas from the wise crowd of Park Paradigm readers. I’ve got a few ideas as to how best to go about this, and plan to post these later this week or next, but in the mean time if you would like to share your thoughts, please feel free to comment below.
ps I’d like to give a special thanks to the amazing team at Motherlode who were instrumental in turning my ideas into reality and who worked tirelessly to deliver the video in time for the world premier at Sibos; I’d also like to thank and congratulate Peter, Kosta and the rest of the Swift Innotribe team for what was simply an incredible four days. I hope Swift gives you the recognition you deserve!
84 percent of executives say innovation is extremely or very important to their companies’ growth strategy. The results also show that the approach companies use to generate good ideas and turn them into products and services has changed little since before the crisis, and not because executives thought what they were doing worked perfectly. Further, many of the challenges—finding the right talent, encouraging collaboration and risk taking, organizing the innovation process from beginning to end—are remarkably consistent. Indeed, surveys over the past few years suggest that the core barriers to successful innovation haven’t changed, and companies have made little progress in surmounting them.
As I’ve written many times before, I think they are barking up the wrong tree. They are trying to have their cake and eat it too which in the context of a traditionally organized (read 20th century business school optimal model) large company is like trying to pee in the corner of a round room. ie Pursuing ‘non-linear’ innovation is not only difficult for these kinds of organisations, it actually requires a framework that is often diametrically opposed to the framework that governs the rest of their business, the business that actually pays the (current) bills. And so it is entirely unsurprising that companies find it hard / impossible to assimilate this within their structures, culture and reward systems. Perhaps paradoxically, one could argue that the better managed a large company is for its current/core business, the worse this disconnect; in poorly managed large companies there is probably more room to roam “off the reservation” so to speak… But I don’t think anyone – including me – would suggest that it would create overall value to manage poorly just in order to pick up a bit of innovation juice around the edges.
So what’s a big company to do? Well I think they should look to invest some of their capital outside their walls. Not corporate venture per se – the corporate antibodies end up killing / ensuring failure of dedicated corporate venture initiatives 9 times out of 10. (A notable exception to this rule – the one of ten (hundred?) – is Intel Capital. If you think your company can do this then go for it. I personally suspect that one of the reasons Intel Capital managed to avoid institutional purgatory is that Intel has a very strong entrepreneurial culture and leadership (deep into the firm not just at the top) that had first hand memories of building businesses from the ground up. Google Ventures may enjoy similar success for the same reasons…) For the rest, I would suggest setting aside a certain amount of capital to make passive minority investments either directly or via specialist sector-specific early stage investors (like us if you are a financial institution, yes I’m talking my book) in companies innovating – especially in those using ‘non-linear’/disruptive approaches – in their markets.
Passive – meaning no board seats, no control – because the alternative would result in adverse selection bias or mission dilution/suffocation or both. Adverse selection, because the best, brightest and most ambitious start-ups in your sector will not take your money if you ask for control and mission dilution / suffocation because if they do take your money and give you some control, your corporate antibodies will do everything they can to assimilate and/or crush what they will correctly see as a threat to the companies core business.
So why bother at all? Why not just wait to see who emerges as winners and then buy them once the risk is gone? Principally for two reasons (in order of importance):
Because you have to have a “position” to really harvest the informational value: this is the trader in me speaking – anyone who has ever traded any asset knows instinctively that the difference between an ‘opinion’ and actually having a ‘position’ is huge. Indeed any good trader who needs to follow any particular market closely – even if this market isn’t their first order concern and/or they don’t (yet) have any strong conviction – will take a small/nominal position in said market in order to ‘be in the flow’ and truly feel the rhythm of that market. Put another way, picture the impact of an internal board presentation on top 10 new industry trends and 20 new companies ‘to watch’ vs a presentation of ‘this is how the 20 companies we have invested in are doing’ and tell me honestly that both will have the same impact…
Because you just might not get the chance to buy the winners – either at all (think Google, Facebook, etc.) or it will cost you very very dearly and worse you probably won’t have enough information to truely know / understand what you are buying (the most toxic manifestation of this is what I call the ‘panic buy’ – eg NewsCorp/MySpace.) In other words, the buy later strategy has it’s own set of very real risks. And even when/if you do ‘buy later’ a company that you haven’t invested in, as a result of (1) above you will almost certainly be able to better mitigate some of these ‘buy later’ risks.
So why don’t more big companies do this? I’m not sure. Would be interesting if McKinsey would ask this question (they are more likely to get answers than The Park Paradigm, not sure I have a lot of Fortune500 C-suite readers!) I suspect it is because the time horizons needed to be successful in such a strategy (5-10 years) far exceed the time horizons of most senior executives. And related to this, that they are afraid – quite possibly correctly – that “Wall Street”/”the City” will chastise them for spending any money on ‘speculative’ investments, that it is “not their job” and that they should “focus on their core”. Funny however how the most successful executives and companies however manage to ignore the peanut gallery and pursue their plans with conviction and diligence. Perhaps these are the companies who may listen and find value in my suggested approach…
Buttonwood has posted an excellent analysis of why financial markets are unlike other markets for goods and services:
This apparent contradiction can be resolved. Financial markets do not operate in the same way as those for other goods and services. When the price of a television set or software package goes up, demand for it generally falls. When the price of a financial asset rises, demand generally increases.
Which explains why bubbles develop and burst and why ‘market fundamentalism’ does not generally serve us well when thinking about financial markets (as opposed to other markets.) Buttonwood also alludes to the fact that bubbles often develop at times of great change (has he read Perez???):
Why not just let the markets rip? Some would say that bubbles tend to coincide with periods of great economic change, such as the development of the railways or the internet. Individual speculators may lose from the resulting busts but society gains from their overoptimistic investments. However, this argument is harder to sustain after the recent bubble in which society “gained” some empty condos in Miami and holiday homes in Spain.
His conclusion is that because of these structural characteristics of financial markets, central banks (and possibly regulators and/or governments) have a natural, pro-active role to play in trying to mitigate or counter these problems.
Of course a few investors – the most high profile being Warren Buffet – have successfully arbitraged this weakness in capital markets buy being countercyclical, being “greedy when others are fearful, and fearful when others are greedy”; but as most people know this is bloody hard to pull off and exposes the investor to significant liquidity/solvency risks if they get the timing wrong. As Keynes said, “the markets can stay irrational, longer than you can stay solvent…” If you have an edge, even a small one, doubling down will usually work as long as you have an infinite bankroll. Ooops, small fly in the ointment. (Besides, if you have an infinite bankroll, what the hell do you need to bother about worrying about returns!)
Well I have neither an infinite bankroll nor the skills (and/or luck) to adopt a Buffet-esque investment strategy. But I do have some skills. And some experience. And I can recognise patterns reasonably well. And I have conviction. And a reasonable track record for building new markets and adopting and executing novel business models. So a few years ago I figured out that by focusing these modest talents and skills on investing in and helping to build new businesses, with a lot of hard work and days and months of research and reading I could generate pretty decent financial returns that were (almost) completely uncorrelated with the massive tides that buffet the world’s financial markets. And most importantly, this lack of correlation is structural – ie it doesn’t disappear in violent bear markets when almost all mainstream asset classes discontinuously jump to near perfect correlation (much to the chagrin of the VaR boys.)
It’s not hard to understand why. In fact it’s pretty obvious. For a new business, the ups and downs of the market, GDP, etc. have at best a second or third order effect on the company’s value. These factors are overwhelmed by the single most important factor driving value creation which is of course, can the company successfully sell it’s products or services to paying customers (or be more and more clearly on that path.) As someone wise once said: a “start-up is not GM” ie They are not correlated to GDP.
Now don’t get me wrong, I’m not suggesting that investing in new companies is without risk. In fact as most people would glibly observe, investing in start-ups is ‘very risky’. Well yes, but the risk is almost entirely idiosyncratic and manageable – much much less dependent on vast, uncontrollable, macro-economic trends and forces. And just because the risks are easier to identify and name, doesn’t mean it is easy to manage them, just that they are potentially (more) manageable.
So if this is true, why have venture capital returns generally been so poor (at least in the last decade or so) and why don’t more smart people try their hand at this (rather than trading/managing other types of assets)? Answering the second question first, I suspect this is because failing together is much nicer than failing alone, and so if the global financial crisis wipes out your hedge fund or investment bank or savings, well that sucks but, you know, shit happens. If however you pour your own (or worse your investors’) capital into a couple of dozen new companies that crash and burn, well that’s just a very lonely place to be. The answer to the first is not simple and you could probably write a book on this (perhaps Paul Kedrosky will?) but with the disclaimer that I don’t pretend to really know, my short and dirty take would be that there are two related factors at the heart of this failure. First, investing in new companies is hard to scale – at least compared to many/most other asset classes and secondly, the traditional structure of the industry is poorly adapted to this reality. Private equity legal and economic structures (which is how most venture partnerships are structured) doesn’t really fit the risk/reward/resource profile needed to invest successfully in new companies. Of course their are exceptions – both temporal and human – but just because their are some investors clever and/or lucky enough to make it work doesn’t make it right.
I could of course be wrong. And I could fairly be accused of hubris, especially as at this point I don’t have a long enough track record and/or enough exits to prove without doubt that my approach is correct. And while I am confident in my own abilities and have backed that up with a lot of “skin in the game”, I am even more confident in my larger analysis that while the venture capital industry might be broken / poorly organized, the risk-adjusted returns available to those who chose to invest – methodically and with a well-calibrated capital and incentive structure - in new companies, are excellent and, for the VaR-boys out there, truly uncorrelated to mainstream asset classes. The challenge is of course to find these investors and not to swamp them with too much capital. This problem isn’t solved but it looks a hell of a lot like the problem facing hedge fund investors (in most strategies that also do not scale beyond certain amounts of capital) and the asset allocation community would do well to try some of their more successful solution there on finding and seeding managers in this asset class.
And if you ask me, the rise of the ‘super-angel’ much talked about in venture circles these past months, is a step in the right direction and perhaps an indication that asset allocators are (finally) waking up to this opportunity.
Now, though it maybe hard to predict what innovations PayPal’s platform will enable, it’s safe to say that the payment industry is going to change dramatically. As money becomes completely digitised, infinitely transferable, and friction-free, it will again revolutionise how we think about our economy.
The author talks excitedly about PayPal’s new open platform X.com and how it is poised to change the current payments landscape which continues to be dominated by the credit card companies. PayPal launched this new approach late last year with their first developers conference Innovate09. Here’s what PayPal President Scott Thompson had to say about the conference:
As you might imagine, given my views on both the enormous opportunity that exists to disrupt an increasingly anachronistic financial services industry and my enthusiasm for “platform-based” business models, it is quite satisfying to see someone like PayPal take on this opportunity in such an aggressive manner. Not only do they help to validate the opportunity – bringing both human and financial capital to bear – but they can capture the attention and imagination of a generation of engineers and entrepreneurs in a way that we simply could not (at least not yet), even if we had a very large amount of capital to deploy. And that can only be good news, except perhaps for the management and shareholders of dominant incumbents like Visa:
“What we witnessed was truly a perverse form of competition,” said Ronald Congemi, the former chief executive of Star Systems, one of the regional PIN-based networks that has struggled to compete with Visa. “They competed on the basis of raising prices. What other industry do you know that gets away with that?”
Of course payment networks are classic “two-sided” markets, with strong natural tendencies towards monopoly providers (due to strong network effects and high barriers to entry. Further the structure of these markets allows providers to levy charges on only one side of the market (merchants) while seemingly offering the other side a free or inexpensive service. Last fall The Economist explained why, in such a market, regulation is often ineffective and can often actually produce worse outcomes in some cases:
The case for tight regulation seems strong, at first glance. In rich countries, where paying by plastic is now commonplace, the firms that run card-payment systems look like other utilities, which have long been subject to price caps. Visa and MasterCard are associations run on behalf of their member banks. Competition officials are usually wary of such shared ventures but accept that it is more efficient for rival banks to band together in one network in order to process payments and settle accounts. A common fee structure stops members from abusing the rule that retailers must take all cards issued with the association’s brand. It also obviates the need for countless bilateral deals between thousands of banks. Even so, regulators still fret that banks might use their combined heft to overcharge.
They need to tread carefully. Judging how much credit-card firms ought to charge for their services is trickier even than setting the right price for water or energy supplies. That is because the payment-card system is a “two-sided” market. What sets this type of enterprise apart is that it caters to two distinct groups of customers and each sort benefits the more custom there is from the other sort. Consumers will sign up for a credit-card brand if it is widely accepted as a means of payment. Merchants will more willingly accept a card if lots of consumers use it.
In my opinion, the best way to ensure good value to all the participants in the payments value chain is to encourage and facilitate competition: new approaches, new ideas, new entrants. PayPal has long been the poster-child for “start-up” innovation in financial services, but had seemed to have lost its way in stuck in the corporate bureaucracy of eBay. It’s great to see them breaking free of that and striving to re-ignite their creative and entrepreneurial juices. (Although I still think they would probably be better off independent of eBay…even better, how about a merger of an independent PayPal and an independent AWS: now that is a stock I would love to own!)
For several years now, it has been dead obvious to me that new and exponentially improving information and communications technologies would create the foundation upon which bright, ambitious entrepreneurs would build new companies and business models that will disrupt the moribund incumbents and their 20th century business models. And that’s why I started Nauiokas Park. We’ve made some good decisions along the way, and we’ve learned a lot. But one thing we got spectacularly wrong was our naive belief that leading incumbents in the financial services sector would embrace our vision and our proposition as an opportunity to hedge the strategic risk of continuing to rely (exclusively) on their existing business models. That they would look at the management failures and massive value destruction suffered by the traditional media and telecommunications companies and look to deploy multiple strategies to mitigate the risk of being caught unawares in the same way. But it would seem that they are uninterested. A toxic cocktail of hubris, myopia, inertia and institutional politics seems too often to blind them to the risks posed to their continued hegemony. As if admitting Christmas exists – let alone voting for it – would make it’s inevitable arrival more likely.
I’m not sure what the venture community makes of Right Side Capital Management, but I think their novel approach to early stage investing is really interesting:
Yes, we do love fledgling startups. They may not have finished products, marquis customers, or proven markets. But every one has “Black Swan” potential.
Given the opportunity they represent, seed-stage startups are badly underserved. The chances of finding funding are so low that many qualified entrepreneurs sit on the sidelines. It takes so long to put together a decent-sized angel round that many promising companies miss their market window. The transaction costs are so high that a good chunk of investment capital evaporates instantly.
We’re going to change that. We’re planning to fund 100-200 seed-stage startups each year and give founders a yes-no decision in two weeks. It’s a win-win. Lots of entrepreneurs get a chance to innovate. We get a well-diversified portfolio.
I think this approach is very clever and (in a slightly different context) in fact a couple years ago worked on a business model focused on improving angel funding process / environment (for both investors and entrepreneurs) that very much relied on a similar systemization of process. While I’m not sure we are ready for a fully algorithmic early stage investment process (black box VC anyone?), it seems clear that there is certainly a lot of room for a more robust (technology-enabled, data-driven) process, lowering costs and improving efficiency. I hope RSCM succeeds and in so doing helps move the market towards this vision which I think would be a win for both investors and entrepreneurs.
I particularly like the way they have clearly articulated one of the key factors involved in early stage investing – chance – and how their high-volume, process-driven approach addresses this issue head-on and seeks to mitigate the impact of luck (good or bad) on portfolio returns:
However, we also understand that the probability of a particular young startup succeeding is relatively small. Many things are beyond its control. Many things can change. Many things have to go right. Probability compounds and there are literally thousands of factors that can significantly affect a young startup. So there’s a tremendous amount of uncertainty. We do not believe anyone has a model with much skill in picking winners at the seed stage. Therefore, the only reasonable strategy is to diversify away the idiosyncratic risk as much as possible by constructing as large a portfolio as is practical.
No one can claim to ever be able to fully remove risk from any process, but by bringing talent and a deliberate process to bear, I do believe one can improve the odds of any given outcome considerably. A top professional golfer cannot guarantee a hole-in-one, and indeed it is possible that a 36 handicap weekend warrior could get one. Black swans etc. But if the competition consists of hitting 100 balls to a par 3 green and scoring 10,000 points for a hole in one, 100 points for any ball within 3 feet and 10 points for any ball on the green, I know I’d much rather back the professional golfer, even though there is a non-zero chance that the hacker could get lucky and win. I think venture – and especially early stage – investing is similar. I can’t guarantee any investor that I will get a hole-in-one. But I think I can make a credible case that most of the investments I make will be ‘on the green’ and a fair number will be ‘inside the leather.’ It seems that RSCM have taken this view and put it explicitly at the heart of their approach.
However, I would be curious as to the reaction of their potential investors/LPs to this kind of approach. It is entirely anecdotal and quite possibly an unrepresentative sample, but we have found most investors to be very cautious with respect to any new approach and/or structure, preferring standardized and ‘traditional’ ways of doing business with innovation a domain to be restricted to the companies we invest in. This of course may be particular to our circumstances, but given the extremely high homogeneity in fund structures and investing approaches we have observed across the venture capital (and private equity) universe, it would indeed seem that limited partners have little or no appetite for (as RSCM puts it) “innovation in the business of innovation.”
So if there are any LPs out there reading, I would encourage you to comment on both RSCM’s model specifically, and especially on innovation in fund structures and/or investment methodologies more generally.
As many of you know, I’ve spent much of the last decade thinking hard about how advances in information and communications technologies can enable a fundamental re-invention of business models in the financial services sector, and over the past four years I have focused my energies on figuring out the best way to go about catalysing the creation of new businesses that will drive and profit from this amazing opportunity. It hasn’t always been easy – advocating change never is – but ironically, the global financial crisis of 2008 was actually very helpful as it opened many eyes to the manifest weaknesses and diminishing returns of a 
And if we can solve the reputation / authenticity issue, this just leaves the issue of how can you afford to pay people who “just show up.” We don’t have a fully-formed answer to this yet, but a starting point for thinking about this is: you don’t. Or framed less controversially, you provide them a substrate upon which they can ultimately earn their own way and in parallel you provide a framework by which the firm and its people can invest risk capital (time and money) into the new joiner to buy them the runway they need to become “cash flow positive”.
. I first met Hugh about 6 or so years ago via my friend 
and it made an impact. Not too long after I ended up leaving a long and pretty successful career in investment banking to take a new path – one that has led to the creation of Anthemis Group and to moving our family to Geneva. If you aren’t sure you are living your life the way you’d like to, as a first step I’d say read this book. If nothing else Po is an entertaining and engaging writer and I’m sure you’ll enjoy the stories he tells.
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