Free Money Makes a Fool of You and Me
(listen to the audio version here)
If the company that made the Thighmaster was in its prime today, it could be a unicorn. It could call itself a tech company and offer online classes led by Suzanne Somers. The CEO would give talks about changing the world with “home exercise as a service” while a chart of explosive revenue growth was projected in the background.
If you think I’m kidding, you never read the Peloton prospectus, where the company declared itself — not as you might think, a maker of pricey spin bikes — but as a “Technology, Media, Software, Product, Experience, Fitness, Design, Retail, Apparel and Logistics” company. In his included letter the CEO declared: “Peloton sells happiness.” He then boasted about the opportunity to create “one of the most innovative global technology platforms of our time.” What he didn’t boast about, despite this being a letter to potential investors, were profits. But hey, who could put a price on happiness?
Exercise fads, and the companies that profit from them, come and go. The evidence is in the vintage infomercials uploaded to YouTube or barely used gear downgraded to your basement. We could only imagine the valuations that could have been bestowed on the sellers of Ab Rollers and Tae Bo videos if this was their heyday. Then again, those companies had one serious flaw that may have disqualified them from full unicorn status: they made money.
How, exactly, did we all become so naive? At what point did we suspend all disbelief and start praying at the feet of whichever hype man could sell the grandest vision, one where mounting operating losses and no path to profitability somehow proved his genius? When the history of the current startup boom is written, the focus won’t be on the fall from grace of the Ubers, WeWorks and Pelotons of the world. It will be on how they rose so high in the first place.
Technology cycles also come and go, often accompanied by an investment boom. But at least during the last one, the dotcom bubble, web companies were new and different enough that we could justify suspending disbelief. Executive office companies and exercise bike makers on the other hand have been around forever, and neither business model has proven itself immune from the business cycle. Tech companies can sometimes transcend that cycle, but free beer on tap or an expensive video subscription service does not a tech company make.
Entrepreneurs have always had unlimited faith in their own vision, but the one thing that’s different this time is that they also have unlimited access to capital. There was a time when startups would have to fight to raise money. Now it’s the VCs that struggle to get in. “Money is free,” more than one respectable investor has said to me in the past year, “so you have to fight to get access.” That’s the kind of situation that’s bound to end badly, or maybe already has.
Promising unlimited capital to a startup is like giving a teenager a credit card with no spending limit. Only irresponsible decision making can ensue. As much of a distraction as it may be for entrepreneurs to have to raise capital, that struggle keeps them in check. It reigns in their ambitions and enforces focus. People tend to function better when they have limited choices. If you grant them unlimited options and endless capital you are bound to get something resembling the leadership style of Adam Neuman.
The public markets have turned out to be the Waterloo of this money madness. That could be due to tighter reporting requirements, or the fact that public investors don’t operate in as much of an echo chamber as private ones. Regardless, the stunning post-IPO declines of Uber, Lyft, Slack and now Peloton, and the shocking inability for WeWork to find a bid at any price, are bound to reverberate. Whether this is some temporary blip for a handful of Unicorn-cum-Icaruses or a broader reversal remains to be seen, but the trouble may only be starting for the fallen five.
Losing money, counterintuitively, makes it easier to sell a fantasy. Investors are suspicious of any company that makes a million dollars today projecting making a hundred million tomorrow, as the percentage increase is too steep. But if that same company is losing a hundred million instead, we can all pretend they are a flip of a switch away from making just as much. When unicorns switch to cost-cutting and profit-making mode, they can no longer sell that fantasy.
A WeWork that was going to open a gazillion new centers and take over housing, fitness and education could at least pretend to deserve a $50 billion valuation. A WeWork that is nothing more than a millennial-friendly executive office company with slow growth cannot. Regardless of what happens to the rest of the startup scene, the writing for these companies is on the wall. Or maybe it was in their prospectus all along.
The opinions expressed here are strictly my own and not that of any associate, employer or client.
