VC thoughts on NBA free agency 2014: multiples & life optimization

The past NBA season ended a month ago in a way most real basketball fans would truly appreciate: team triumphs over star, with games played in a way they should always be played, a beautiful way.

But then again, NBA is a business. Everyone knows that NBA won't achieve its prominent status today without its superstars and the stories circulated about them. And naturally it was barely a week after the most satisfying championship for the low-key Spurs that the media have already turned their attention to the losers — oops, I mean the superstars that would become free agents this summer: LeBron James, Camerlo Anthony and many more.

The 2014 Champions of the NBA — San Antonio Spurs

While in the end most of these coverages will turn out to be but noises, as a fundamentals-driven fan — I enjoy disecting a team defensive play on the playboard more than watching Blake Griffin dunk over a car or any living animal — and a venture capitalist I am still inspired by the whole frenzy. I'd like to share two main thoughts here, using this Bleacher Report piece « 
How Free-Agency Dominoes Will Fall After Carmelo Anthony's Decision » as a reference.

 

Multiples valuation of startups

Most of the entrepreneurs know about multiples valuation, which is basically taking a certain KPI of the startup performance, e.g. revenues, EBITDA, active user counts, eyeballs, etc., and multiply it by a certain multiple to arrive at your firm valuation.

Multiples valuation is based on the Law of One Price, in which you wouldn't pay more for an identical product than what you could get elsewhere. It's popular in startup valuations not only because startups have a very uncertain near term future which renders intrinsic valuation (Discounted Cash Flows) meaningless, but also because ultimately a startup has to be exited via transactions, either through an IPO or a trade sales. And if it's to be sold, the Law of One Price seems to be a good argument when you negotiate with the buyers — until it's not.

To illustrate my point, let's read this paragraph from the Bleacher report:

Jodie Meeks signing with the Detroit Pistons for more than the mid-level exception certainly set a market for shooters, and Kyle Lowry’s deal worth $12 million a season established the price range for near-max unrestricted free agents.

"Jodie who?" you ask as a casual NBA fan — and that's exactly my point!

In fact, as an entrepreneur you should feel lucky if people see you as Jodie Meeks, who blossomed somewhat last season on a injury-ridden LA Lakers team in his contract year. Despite having a limited skill set and a mediocre overall shooting percentage, he did make 40% of his 3-pointers and more than 2 of them per game — apparently good enough to net him a contract believed to be worth  $19.5 millions over 3 years. If you're a startup that's very good on a particular thing but does not own a package of offerings that could be offered independantly, you have the chance to be the Jodie Meeks in the startup world so to speak.

Jodie Meeks, a shooter with LA Lakers the past season, just signed with Detroit Pistons as a free agent

Jodie Meeks, a shooter with LA Lakers the past season, just signed with Detroit Pistons as a free agent

What's more important is the comment in the quote: "(it) certainly set a market for shooters". Mapping that to our VC-startup world, Jodie Meeks would be one comparable company and he would provide a reference for negotiation among the parties of any startup transaction, where it's a series B or an IPO or a trade sales.

The similarity ends here though. While a Meeks-like free agent will probably get a similar pacakge from a team with enough cap room, as a startup you don't necessarily get that.

Why?

Simple: a team in need of a shooter will always want to hire want, but the market might not need a second Airbnb — if the first one is good enough and constantly evolving, it'll just have the entire market to itself.

To be more specific, if you really do have offerings and competencies to a particular front runner that just got a valuation from the capital providers, you're but a copy. Or put it another way: if I present you a social network service that functions basically like Facebook, are you going to value it at a multiple that FB (Nasdaq) enjoys?

Maybe. Maybe not. But it certainly is not a given, as would be the case for a mid-level NBA free agent in the summer.

Bottom line? As a startup you should always keep an eye on your comparables in addition to your competitors. And think all the time how you're gonna convince investors that a comp so similar to you won't be the one grabbing everything on the table. In other words, how you are comparable to your comparables (so that the multiples make sense) but still incomparable enough to worthy of a VC investment!

 

The big fish on the free-agent market this summer — Carmelo Anthony

The big fish on the free-agent market this summer — Carmelo Anthony

Optimizing your life

One of the biggest free agents this summer is Carmelo Anthony, an ultimate scorer with a mediocre defense. In some sense, his free-agent decision holds more sway than that of the currently best player on this planet, LeBron James. It would trigger a series of domino moves once it's done.

My concern is to be able to compete on a high level, a championship level, coming in this last stretch of my career, I want to compete at that level.
— Carmelo Anthony, February 2014

This is what Melo said in February, in a tone common to great players getting sick of losing games more often than not. But by the time the free agent rumor mill started to churning, with journalists following every step of his way, he started to say something like this:

The average person sees the opportunity to say, ‘Melo should go here, Melo should go there, he should do this, I think he should do that.’ ... They don’t take in consideration the family aspect of it. Where are you going to be living at? Do you want your kids to grow up in that place or that city? Do I want to stay the rest of my career in that situation and city? All that stuff comes into play.
— Carmelo Anthony, June 3rd 2014

In other words, he's thinking about how to optimize "his" position and championship becomes but one of the many goals he tries to optimize toward.

Now this could either mean that he's not really serious about winning, or worse — he's serious but after years in the league he still doesn't have a clue about the haphazardness in winning a championship.

Anyone that has ever won an NBA championship or been close to win one — think Charles Barkley and Karl Malone — would know: it's so darn hard to win it all. You need so many different pieces to fall into place along a 8-month long season. Luck has its way big-time and all you can do is keep trying and putting youself in a position to win.

All this means that if you REALLY REALLY want to win a championship, you cannot afford to optmize other aspects of your life. You can't shooting at max income, playing for a winning team, having friends around, having predictably happy daily life for your wife, having nice parks nearby for your children, blah blah blah ..

There should be only one factor in your decision process — can I win or not?

This is why I don't think Melo will ever win a championship. Trying to optimize your life all at once gets you no closer to that golden trophy, if not pushing you further away.

The same thing applies to a startup.

Being an entrepreneur means you don't really get to optimize your life. If you are keen on keeping a spreadsheet calculating the opportunity cost of quiting France Telecom to start your own company, then don't even start. The uncertainties ahead will throw any of your planning out of the woods. There's no way you can optimize around them. There's no tradeoff that you can make between your work and life if you're an entrepreneur. You just simply can't afford it since the market surely won't care how badly life is treating you. The consumers only want to give a verdict on your product offerings, either by pulling out a credit card or by hopping on the next TGV out. That is the fact of an entrepreneur's life, period.

As venture capitalist we fully understand this and it's part of our job to give you professional and emotional supports. But if you could not get out of that dangerous thought about optimizing your personal life, you will never hit the ball out of the park.

Much like Melo will never win a championship.

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