1. “If you want to get disproportionate returns, go against flow. Otherwise returns will not be as high. If everybody thinks it’s a great idea, returns would be under pressure… It’s a positive indicator if you go against the flow–for not only investors but founders as well. You almost have to have it if you want to be disproportionately successful.” “…being criticized is a positive indicator that you are going to succeed.” That a person with Yuri Milner’s math skills would understand that you can’t beat the crowd by being the crowd shouldn’t surprise anyone. To the extent that Milner falls in with any crowd, it is with other contrarian investors like Howard Marks – those who agree on the need to be occasionally contrarian and to be right on some of those occasions to be a successful investor. To outperform a market you must find mistakes made by other people. It is the search for mispricing that is the primary job of any rational investor. A great business that is overpriced is a poor investment.
2. “I only invest in companies that are run by founders. The overwhelming majority of successful founders are not motivated by money but by vision and a mission. It’s rare that a good founder cashes out in the early life of a company.” Yuri Milner has adopted a “missionary founder CEO” rather than a “mercenary founder CEO” approach to investing in startups. He and many others in the venture capital world believe that companies with missionaries rather than mercenaries as CEOs are more likely to be mispriced by the market since missionaries will work harder and stay the course longer. Missionary CEOs also know their business better than mercenaries, since they are so passionate about what they do. In short, passion for a cause is more motivating and more likely to result in innovation than passion for cash.
3. “A founder installs his DNA with the first 10 or 15 people he hires. Then his DNA is transferred to more hires from those first few.” Hiring great people, particularly early in the life of a business, has benefits which compound in a nonlinear way as time passes. Nothing determines success in a digital business more than how the kernel that is the early core of a startup feeds back on itself. Great people attract other great people [repeat].
4. “All these business models are driven by one simple fact: that everybody is connected. So as time goes by, more and more people get connected, the screen size changes. It gets smaller. It becomes mobile. But fundamentally, it all drives only one parameter – the number of connected individuals and the frequency of usage.” Yuri Milner is clearly a believer in Metcalfe’s law (the value of a communication network grows in a way that is nonlinear). My view is that the best estimate of Metcalfe’s law is that the value of a communication network of size n grows like n log (n). This rate is faster than linear growth but slower than the quadratic growth suggested by some people as the right estimate of Metcalfe’s s law (i.e., those people who believe the value grows with the square of n).
Metcalfe’s law is just a rule of thumb and not a real law at all, but it is a useful mental construct. It coveys the idea that connecting people together creates great value. What Yuri Milner is saying here is that he uses connectivity as the primary basis for his investing thesis.
5. “It’s not about revenues: The fundamental economics in digital business is scale and margins.” “Algorithms are constantly adjusting to better cater to our needs based on our feedback. And this virtual cycle continues at an ever increasing pace, making these companies even harder to catch up with.” Yuri Milner understands that supply-side and demand-side economies of scale in a digital business can produce positive feedback that can create vast barriers to entry for a business. When the creation of value through a digital process is self-reinforcing in a positive way, you have the makings of powerful barriers to entry (a moat). The nature of feedback means that the better the offering of a business gets, the better the offering gets [repeat]. This positive feedback tends to produce what Nassim Taleb calls “Extremistan” results.
6. “You’re hearing there’s no business model for social networks, or that Facebook isn’t making money. I’m seeing the opposite. That gives us the confidence to make this investment in Facebook.” This is perhaps the most fascinating quote of this Dozen Things for me. The way I read this is that Yuri Milner was highly confident that his Facebook investment was going to pay off, since he had already seen social networks monetized in Russia first. He had better information than other people about social network monetization and saw that Facebook was substantially undervalued by the market. He bet big on Facebook on the basis of this information arbitrage and won.
7. “From a margin standpoint [user generated content] is very magical.” A new media business that is able to get its users to create content will obviously have a far lower cost than a traditional media firm’s cost of attracting users. These radically reduced costs create high margins and scalability. Why is that magical? Because people underestimate the impact of nonlinear phenomena since they don’t encounter it very much in their daily life. Most people think they understand the magnitude of a nonlinear phenomenon, but few people really do.
8. “There’s something called Zuckerberg’s law. Similar to Moore’s law. Every 12-18 months the amount of information being shared between people is doubling.” “Technology will shift from collecting data to analyzing data.” “This is the era of mathematicians.” “There is coming an era for people with a mathematical state of mind.” People like Yuri are proof that mathematical skills can produce an investing premium in a digital world. Even just the ability to understand nonlinear phenomenon better than the non-mathematically inclined is hugely valuable for an investor. Investors who can harness the power of machine learning to find mis-priced assets are able to reap a significant premium as investors. That machine learning will produce more winners in investing is an inevitable trend.
9. “Social is a better way to interact with the digital world. It is better than search.” One of the biggest core challenges in the world today is discoverability. There is more information than ever, but how do you find the information you need? And how do you get help making sense of that information? Yuri Milner is saying he believes in the Facebook model over the Google model. He isn’t saying it is the only model, but instead that is the better model.
10. “I must analyze, from what I do now, what will be the impact two or three or five years in the future.” Bill Gates said once that the mistakes that can most hurt a business most are ones that are made five years or so earlier. Yuri Milner appears to believe much the same thing. He is saying an investor should invest based on “where the puck is going in three to five years, and not where it is now” – to paraphrase a famous Wayne Gretzky saying.
11. “Intermediation is under pressure and there is a social cost…when improvements now happen this quickly the question is how fast people can adjust.” Yuri Milner understands that there are many jobs which will be eliminated as certain activities are “disintermediated” by technology, particularly in ecommerce. New jobs will inevitably be created as old jobs disappear, but the speed at which changes are happening may mean that the new jobs are not created fast enough to prevent social disruption. My own view is that a robust social safety net is essential when the world is changing this quickly. There is too much danger of negative feedback loops driving peoples’ lives into hard-to-escape poverty. A strong social safety net is a wise investment for society, especially in an age of nonlinear change.
12. “Fundamental science and the people who practice it are less and less appreciated in our world…. fundamental science, and fundamental physics in particular, is an important occupation in spite of not triggering any practical results right away.” Basic research and development is what is known as a “public good.” These sorts of goods are call non-rival (you having it does not mean others can’t have it) and non-excludable (you can’t prevent others from having it without paying you). This is a problem since basic R&D produces what are called positive externalities (spillovers) for society. Stated differently, from a societal standpoint markets will under-produce basic research and development since you can’t profit from it. This means there is an important role for government and philanthropy in supporting basic research and development. Applied research will be adequately funded, but it is basic research which enables applied research to flourish.
Notes:
Forbes – Facebook Investor Yuri Milner: Investing Against The Grain Is Essential
Wired – How Russian Tycoon Yuri Milner Bought His Way Into Silicon Valley
Forbes – Interview: Yuri Milner On The Rise Of Xiaomi And Celebrity Scientists
BusinessWeek – Yuri Milner: Genius Investor or Gold Rush King?
VentureBeat – Zuckerberg and Milner, on Facebook’s latest funding — and social networking revenue
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