From StarTribune.com, via SAI, from YouTube co-founder Jawed Karim:
Silicon Valley has a lot of noise, a lot of hype. People are very excited about all of the Facebook stuff, Facebook applications. It’s just been a huge hype over the last year when actually … there isn’t really that much value. It’s just a bubble. It’s almost a distraction.
Couldn’t be truer… Facebook’s grown quite a bit in the last year, but I’d argue it’s done that despite the Apps, not because of them. Anyway, Karim is looking for startups both in the Valley and his high school stomping grounds, the Twin Cities in Minnesota. It’s a good thing he didn’t limit himself to his college alma mater, Stanford, lord knows they get enough financier interest. Karim left YouTube early on to return to Stanford. I’m sure he sleeps well at night: he was also a member of Paypal, which sold for $1.65B (where he met other YouTube founders Steven Chen and Chad Hurley).
A lot of traditional VCs (particularly those based in the West Coast) woke up this morning and tossed some chairs around and broke some really expensive shit because of this article in the Wall Street Journal, lauding Peter Thiel and his partners over at Founders’ Fund, which include Sean Parker, Luke Nosek, Ken Howery. The fund’s investments include:
- Iron Port Systems: email security software (recently sold to Cisco for $830M).
- Slide: the #1 or 2 widgets maker on Facebook.
- Facebook: apparently, a popular social networking site.
- Powerset: the natural search language company launched on the heels of a XEROX patent.
Anyone who has ever read anything on HipMojo.com knows that while I respect VCs, I think the entire industry is one big game of smoke and mirrors. Fred Wilson deserves some credit for introducing transparency to the industry, as does Brad Feld, and a slew of others. While we’re handing out props, TheFunded.com has done a great job of giving some Vulture Capitalists a much deserved public ass-whooping in a fairly open and direct manner, though yes, it has its drawbacks, too. The guys at VentureHacks.com deserve a lot of props for sharing their know-how, because let’s face it, indeed VCs work on term sheets 24/7/365 whereas us hapless entrepreneurs don’t.
But while Wilson and Feld still represent the VC establishment, and TheFunded.com and VentureHacks.com remain outsiders with little direct, material influence; Thiel and his partners in crime are insiders by virtue of being investors, and have a big impact because regardless what any entrepreneur thinks about the value of his or her company, said value is a function of demand and supply… and in an environment where less capital is required to build an empire (and in less time), Thiel’s fund definitely tips the scales in favor of the entrepreneur.
As an entrepreneur, there are no two ways about it: you love what Founders’ Fund is doing, even if they hitherto only invest in limited segments, amongst people they know, and in a specific geographic area.
Moreover, Thiel and Founders’ Fund differs in one more significant way: their track record is actually very impressive, both as investors and operators. Thiel was CEO of Paypal, which we ranked as one of our 13 most explosive startups ever and its acquisition by eBay as one of the best Web M&A deals of all time.
The experiences at Paypal - which has become a GE-like super factory of technology entrepreneurship and investing (in how it has churned out so many founders, investors and managers) - is actually inspiring.
The experiences the men have had individually - such as the rumor that Thiel resents how Mike Moritz pushed Max Levchin’s then-named Confinity to merge with Elon Musk’s X.com to form Paypal and thus dilute his holdings, or pretty much everything pertaining to Sean Parker at either Napster, Plaxo and Facebook, etc. gives them a lot of street cred with entrepreneurs who have grown wary of anything that comes out of a VC’s mouth. You need not read between the lines: I don’t trust VCs, thankfully I’ve not needed VCs to grow WatchMojo.com thus far. While I am not alone thus far, most entrepreneurs don’t have a choice and throw caution into the wind and accept draconian terms.
The main point of objection I have is that it’s not as if VCs - either individually or as a cohesive group - even have an enviable track record. VCs brag about 5 investments crapping out, 2 to 4 being so-so hits, and 1 being a grand slam that makes up for the others. Huh… note to PR team, draft another elevator pitch, pal. I would not brag about taking other people’s money and then sinking 50% of the investment in a toilet… but I digress.
If I have a beef against VCs, it’s not personal; it’s professional. I see through their spin, I can BS better than them, and being a media content oriented company, it’s not traditional VCs that I really count on to find a financial partner. But again, I digress. Technology startups I advise welcome VCs’ interest though I almost view it as a kiss of death (reference Zantaz, Filmloop, and many others).
Anyway, that out of the way… Some gems from the article:
- “Mr. Thiel, the former CEO of online-payment company PayPal, is making waves in Silicon Valley with an investment strategy that differs significantly from the traditional approach. His company invests only modest amounts of money, sometimes just a few hundred thousand dollars, and focuses on entrepreneurs Mr. Thiel and his partners often know personally. He also takes an uncharacteristically hands-off approach to company management.”
- “Many VCs “have these very cushy jobs, they get paid a lot,” and often can’t relate to founders, he says.”
- “Most traditional VC companies want to invest larger sums, several million dollars, say, for large stakes in start-ups and then exert control over the companies’ operations. Some demand “liquidation preferences,” or guaranteed returns if companies are sold.”
- “Significantly, the fund often buys only a 5% or 10% stake in a company and sets up a special class of stock that start-up founders can sell while they are building their companies — and before venture-capital investors see profits. That way, the thinking goes, the company founders can reap some financial reward and stay motivated to build the company before an IPO or company sale, which can take years.”
- “Some traditional investors don’t think founders should make money before backers do, since early paydays might distract them from the task at hand. All of this is causing traditional VC firms to re-examine the way they invest in tiny tech start-ups. VC concerns including Trinity Ventures, for example, are now letting a few of their entrepreneurs “take money off the table” early on by selling stock.”
- “Mr. Thiel acknowledges his company faced resistance from blue-chip investors when it set out to raise money for its latest, $220 million venture-capital fund. One large institutional investor, who declined to be named, said he was put off by Founders Fund’s anti-establishment pitch. Others wonder whether Founders Fund could soon tap out its close-knit network of entrepreneurs and run out of companies to fund.”
I won’t comment on each one, suffice to say it’s refreshing and a welcome change from VC’s draconion rules of engagement in standard term sheets, something I covered recently here. I’ve also long argued that one reason we don’t see any grand slams anymore is because of the greatest mistake VCs and entrepreneurs make, which is not taking any money off the table in financing rounds. What’s that saying? Bulls make money, bears make money, but hogs get slaughtered… yeah, that one.
A cynic would highlight, however, that Founders’ Fund it too young, too early, and too idealistic to have hit some rough patches. In other words, it’s not what Thiel et al. think and do now in good times, but how they will react in a downturn. Judging by many economic indicators, the economy won’t be spectacular in 2008, but as we’ve outlined before, that will actually help the Web sub-economy in a few ways.
To conclude, Founders’ Fund won’t even be the biggest wave to shake down VCs in the US. That, my friends, will be foreign capital, trickling in more and more in 2008 and flooding American startups in 2009 and beyond. Foreign financial institutions - be it in China, Singapore, Saudi Arabia, etc. - are investing 5-10% in American financial giants. Over time, the same trends will lead many investors to start to invest in US startups as well. For more on this, see our sister publication WorldMojo.com’s post World to USA: Who’s Your Daddy?.
Last year, I published the 13 Most Web Explosive Startups of all time and ranked Paypal at #8, ironically, eBay, who bought Paypal for $1.5B, ranked #4. To see who was #1, read the entire post here.
Paypal is king of online transactions, eCommerce in the USA by 2010 will represent a $300B segment. Online advertising is getting everyone excited but will be, at best, a $30-70B industry. As such, Paypal will clearly prove to be a bigger and better acquisition as time goes by.
We’re not alone in that sentiment, one that is obviously shared by Stifel Nicolaus Internet analyst Scott Devitt. In a recent post on Paid Content, it was mentioned that:
Ebay could be contemplating an IPO for a minority stake in its PayPal unit, according Stifel Nicolaus Internet analyst Scott Devitt, reported by TechTraderDaily. Devitt estimates that PayPal accounts for about $7 billion to $9 billion of eBay’s $48 billion market cap; he thinks the company could be worth $15 billion on a stand-alone basis.
Wow. While Rupert Murdoch, god bless his style, likes to argue that MySpace is now worth $10B, I think Paypal could easily be worth the ranges that Devitt throws around. After all, Amazon’s 2006 financials read as follows:
2006 Sales: $10.7B
2006 Net income: $190M
P/S: 2.69
P/E: 108
Forward P/E: 52
Market Cap: $32.5B
I think for Amazon, sales is somewhat irrelevant because their margins are slim. But as an e-commerce play, seeing that they’re worth some $32.5B on $190M in net income is key.
So, what’s Paypal’s contribution?
In “You’ve got Cash: Why eBay Loves Paypal“, we outlined that
“PayPal’s first-quarter revenue grew 31%, to $439 million, at a time when eBay’s core shopping business grew just 23% and active buyers and sellers grew 10%. (…)
Last year, PayPal processed about 6% of all online payments worldwide. And in the first quarter, roughly 40% of the $11.36 billion in payments that PayPal processed originated on sites other than eBay’s shopping properties. “The off-eBay business will, at some point, eclipse the on-eBay business,” says Scott Thompson, PayPal’s chief technology officer.”
So looking at that, Paypal does about $1.5B-$2B in sales, but given its fee structure:
* PayPal is Free for Buyers. Once a buyer sets up a Paypal account, then it costs nothing to send money to other PayPal users. The funds are withdrawn from the user’s credit card or bank account, or both. PayPal does not charge buyers to send money.
* PayPal Charges Sellers 1.9% to 2.9%. PayPal will only charge you to receive funds. Using a special surcharge formula, PayPal will bill you whenever you receive a payment from a buyer.
1. For receiving transfers under $3000 USD: the fee is 2.9% + $0.30 USD.
2. For receiving transfers $3000.01 to $10,000: the fee is 2.5% + $0.30 USD.
3. For receiving transfers $10,000.01 to $100,000: the fee is 2.2% + $0.30 USD.
4. Receiving transfers over $100,000: Paypal charges 1.9% + $0.30 USD.
I think you can easily argue that Paypal’s net income is equal if not higher than Amazon.com’s. I’m not saying, of course, that Paypal is today worth anywhere near what Amazon.com is worth… but over time?
Forget the enormous fact that even eBay’s CTO observes that Paypal will one day be larger than eBay, let’s see just how big Paypal can be.
Just assume that Paypal will in 2010 have 5% of the online transaction business worldwide. We don’t have figures for that offhand, but in the US, online commerce will be a $300B segment, at 5% of that pie, Paypal will generate $15B in the US alone! That’s 10x what it’s making now!
Yes, the multiples are very different, I know, but Google will make $15B this year in ad sales, and sure, it’s got a dominant position and all, but Google is worth $150B. I’m not, in any shape, form or fashion telling you that Paypal will get those multiples etc., but Paypal’s defensible position will be quite strong.
Alas, even at 1x sales, that implies a $15B value for Paypal by 2010. Not too bad… Oh, that is in the US-only… start to play with the variables and you see why Paypal’s future is not necessarily within eBay.
Of course, anyone who knows the history knows that eBay bought Paypal on its terms because had eBay squeezed Paypal out, then yes, a lot of eBay shoppers would have been upset, but the flip side is that Paypal would have lost a massive amount of business, since it was getting then, as it is getting now, a lot of sales off eBay. This is somewhat similar to what happened to Overture who sold to Yahoo! somewhat cheaply… because the bulk of its distribution came from other sites…
All to say, how much of eBay’s DNA is now in Paypal is a question only insiders know… but it doesn’t take an insider to realize that sooner or later, eBay will spin off Paypal and cash in, big time.
Let that serve as a lesson to buyers, and sellers, worldwide.
That 2002 $1.5B deal for Paypal is looking shinier and shinier with every passing quarter (both quarters as in cents, nickels and dimes… as well as reporting cycles):
If eBay Live! is a celebration, then eBay’s online payment service is the guest of honor. PayPal’s first-quarter revenue grew 31%, to $439 million, at a time when eBay’s core shopping business grew just 23% and active buyers and sellers grew 10%. PayPal is proving that its success, while connected to the growth of eBay’s shopping sites, is not solely dependent on it.
(…)
PayPal has designs on the greater e-commerce market, which is expected to top $300 billion in the U.S. alone by 2010, up more than 50% from current levels. Last year, PayPal processed about 6% of all online payments worldwide. And in the first quarter, roughly 40% of the $11.36 billion in payments that PayPal processed originated on sites other than eBay’s shopping properties. “The off-eBay business will, at some point, eclipse the on-eBay business,” says Scott Thompson, PayPal’s chief technology officer.
(…)
In the off-eBay world, most purchases are still made with credit and debit cards, so PayPal’s main rivals for online dollars are Visa, MasterCard, American Express, and the banks that issue their cards. Though PayPal has a lofty 143 million accounts, Visa has more than 1 billion.
To compete with banks, PayPal is becoming more like a bank itself. For the past year, PayPal has tested a virtual debit card enabling users to make purchases with PayPal on Web sites that do not offer it as a payment option. The service, which PayPal plans to launch broadly before the holiday shopping season, provides a one-time MasterCard number for a given purchase. The money is then debited from the user’s PayPal account.
Also like a bank, PayPal has long doled out interest on balances left in PayPal accounts. The rate, often more than 4%, is typically higher than that offered by brick-and-mortar banks. It also offers actual plastic credit cards, through a partnership with GE Consumer Finance, for which it gives buyers 1% back on transactions. In addition, PayPal allows users to wire money through eBay’s Skype online phone service. There also are plans to give users the ability to view receipts for past transactions online, says Thompson.
(…)
PayPal’s bank-like extras have given it an edge over services such as Google Checkout, which does not offer credit cards or interest on deposits. Despite aggressively promoting Checkout to its search advertisers, Google has yet to match PayPal’s strength or popularity. Google blames this partly on eBay’s refusal to allow Checkout as a form of payment on eBay’s auction and shopping sites.
Read more on Business Week in The Bank of Paypal, and check our own top 10 best web m&a deals of all time.
Just some food for thought: e-commerce sales in the US in 2010: $300B, vs. advertising market in the US in 2010: $30-70B depending on who you ask.
PLAY
