|In 1999, working as an analyst for an Internet filtering company, we saw the Long Tail early on. With the top 300 sites comprising 50% of total page views and the top 1500 garnering two-thirds, little did we know at the time that our graphical representations of content and total number of hosts held the secret for Amazon’s, Ebay’s and iTunes’ future sales successes – the economic theory of The Long Tail for multimedia retailers and entertainment.
The idea stems from supply-side economic theory, where retailers have to rely on limited shelf space and stocking of popular items (hits) in order to maximize their revenue, thus you have supply and demand setting the price – the economics of scarcity. This fact still holds true for the Wallmarts of today. However, the idea of the Long Tail suggests that if you can make every product available to your customer (an economy of abundance) and get it to them easily while not even maintaining an inventory, then popular item #100,000 is just as important as popular item #9, and therefore, every sale does not increase your cost. Reaching economies of scale just got a whole lot easier. Meanwhile, producers and retailers still profit and customers get cheaper products (in theory) and more choice over time.
For those of you who haven’t read the Long Tail, go to Chris Anderson’s original Wired magazine article that started the “big head” rolling on his best selling book "The Long Tail". For a critique of what makes a Long Tail business, go to Guy Kawasaki’s "The Wrong Tale: A Checklist for Long-Tail Implementations" (for criticism is what Guy does best). Apparently, VC’s in the Valley are sooooooo tired of hearing entrepreneurs spout the Long Tail implications of their businesses in their plans. I digress.
The Asymmetrics of Deal Selection
In December, E-mbrio, the in-house incubator/VC of Teknoloji Holding, came forth last month with some interesting opening results since their foundation in June. As reported in the Hurriyet, E-mbrio has had 450 ideas and plans submitted through their website from prospective entrepreneurs in the last 3 months (or since their inception?). Of course, E-mbrio is only a €3 million fund for seeds and start-ups. Their outlook is to invest in 3-6 projects a year, potentially reaching 25 projects by 2010.
Of these 450 that applied, 10 were called for presentations and 2 of these companies received undisclosed funding. On a side note, I ask you, "Is this an accurate barometer of Turkish VC deal flow?" In my mind, for Turkey, any deal flow is good deal flow. Thus, I congratulate E-mbrio and look forward to their success for the sake of the industry.
Nevertheless, I couldn’t help but notice – you guessed it – a long tail. (C’mon, everyone is seeing them everywhere, anyway.) We know that generally 6 out of every 1000 business plans reviewed get funded. From the VC’s perspective, this is a tedious process, but you can see how the right team, the right plan, the right financial structure and a little luck can separate the wheat from the chaff. The right plan has what it takes and the half-baked plan doesn’t. Once funded, who are we to know that the brilliant idea from the VC that saved an entrepreneur’s production time or millions in expenses didn’t come from a half-baked plan sitting in his trash bin? Who are we to know that a funded entrepreneurs revenue-generating focus or marketing angle didn’t just come from a VC’s lunch date with a socially-inept entrepreneur-introvert who didn’t have a management team? Just like asymmetrics of information that works both ways when an entrepreneur is presenting the value of an idea in a VC’s conference room, so too does the quantity and quality of information given to a funded entrepreneur by the VC. Napoleon Hill once said, "Ideas are the beginning points of all fortunes." This is the intangible value of deal flow for a VC.
The Long Tail of Venture Capital
In this case, the economics of mass deal flow and receiving half-baked business plans could ultimately lead to successful investments and exits – steering VC’s (or incubators) in the right direction by providing information on upcoming trends, ideas, products and services that could potentially work (and be fine-tuned) in the future.
Not only do the small hits and half-baked plans prepare VC’s for the reception of future home-run presentations (what is right and what is wrong), but it builds their repertoire of potential leaders, managers and entrepreneurs in their list of contacts that could aid head-hunting for future investee companies.
As well, by increasing the number of plans reviewed, the more opportunity VC’s will have to find a fundable entrepreneur. In addition, you will have your small hits with low ROI, but you will also (hopefully) have your higher valuation companies and successful exits.
But to be continued in another post, I ask you, "Is the Long Tail of Venture Capital really just a learning curve?" and "How can Turkey improve its innovation record and deal flow?"
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