Reading time: 4 – 6 minutes

Umair Haque opened up a thread on his HBR site back in August (yup, I am a little late to the game on this one but I think it is still very relevant) entitled “Overinnovation”.

His main argument: innovation and sustainability are at odds (or are they).

He suggests this is something to chew on and I agree.  That statement is one that I am sure could spur debate for weeks, months and even years but I’ll simply talk about it for about 700 words or so.

Here is the premise in Haque’s words:

Innovation is premised on force-feeding people more junk; on fueling artificial needs for super-size meals, Hummers, and a new pair of sweatshop-produced fast-fashion jeans every weekend.

Sustainability, on the other hand, is premised on helping people finally step off that creaking treadmill of consumption.

Is sustainability the long-overdue nemesis of the innovation fever that’s gripped boardrooms for the last decade – and led to a banal consumptionscape of gewgaw-filled warehouses littering asset-stripped suburbs? Conversely, is sustainability just a crutch for players – like Wal-Mart -can’t innovate in the first place?

Or can sustainability drive a better kind of innovation?

(Some of the comments on his post are fantastic so I highly suggest reading them.)

I think Haque is a bit harsh in his description of innovation as “force-feeding people more junk” (although some innovations do lead to that conclusion).  I think, when done well, innovation looks to do something better, more efficiently and more inexpensively than it was done before and those things, generally, sit well with sustainability.

One of the commenters suggested that what Haque really should have used for terminology was bad-capitalism versus good-capitalism.  I believe what the commenter meant by this was simply that innovation and sustainability should never be at odds when compensation and motivations are pointed toward the larger good, as they should be.  This is probably true and it suggests that innovation isn’t at odds with sustainability at all.  In fact, innovation should drive sustainability when practiced in a system that values the right things.

It really comes down to what people value.

We are starting to see innovation and sustainability come into closer alignment as people begin to realize that our current system can’t work forever. Consumerism is simply unsustainable.

Due to this shift in consumer’s values we have seen a lot of innovative business models emerge. In fact, while they are innovative, some of them just seem, well, pretty basic.

One of the most interesting models to emerge is to turn a product into a service.  This model has been best employed by larger product based companies looking to provide a more sustainable service to their customers and it yields a recurring revenue stream to the business, which is a nice bonus.  The idea can be summed up in this example:

Say you are Carrier and you make air conditioning units.  When you make these A/Cs you aren’t incentivised to make an A/C that lasts forever.  If you did that than a customer would buy once and never buy again and that doesn’t make for a long lasting business.  So what you do is you build an inexpensive A/C that will break after a certain number of years so that the consumer will have to come buy a new A/C on a fairly regular basis. (In fact, it is known that some product companies actually do design in failure points for their products to ensure consumers need to continually repurchase.)

With the innovative move-a-product-to-a-service model Carrier would charge their customers for “air conditioning services” where they would sign a contract with the customer that stated Carrier would keep the customers air at X degrees Fahrenheit for $X per year, month, etc. Now that the cost of of the actual A/C unit (and the power to operate it) falls to Carrier they are incentivised to build the longest lasting most energy efficient A/C they can in order to lower their cost to provide the air conditioning service to their customers.

The longer lasting more efficient A/Cs are better for everyone since Carrier ends up with a nice recurring revenue stream, the customer can focus on their business and not their air conditioning units and the environment ends up with fewer broken A/Cs in landfills and less toxic freon floating around.

At the end of the day, when incentives are aligned properly, innovation and sustainbility should walk hand in hand.  They should never be at odds and, if they ever are, there are probably higher level systemic things that need changing.

Reading time: 5 – 8 minutes

I have begun to read Umair Haque more and more lately.  Haque’s writings have done a few things for me:

1. Reminded me why I love to write and share my ideas.
2. Challenged me to think differently and more critically about the current state of the economy and of business in general.
3. Fired me up about the possibilities for the future.

As all of you know, I love innovation.  I particularly love innovation in technology but I also love innovation in business models, management styles, organizational structures, etc.  I love pushing the boundaries of what is possible and challenging assumptions and commonly held beliefs.

Recently I read a post by Haque that got me thinking.  The post was entitled, “A Manifesto for the Next Industrial Revolution“, and in the post Haque does a great job at assessing where things are and then follows on with what he thinks the future looks like.

Haque suggests that the future of, say, finance, isn’t simply getting more money to lend, it is about organizing the system better.  Haque uses the example of Muhammad Yunus and the Grameen Bank to illustrate this point.  Yunus didn’t simply get some money together to loan to the folks at the bottom of the pyramid, he changed the way lending worked by organizing the lendees into groups that would create necessary lendee payback discipline via peer pressure (this was much needed since there was no collateral available to back the loans) in order to keep payback rates high, which, in turn, made the whole Grameen system sustainable and able to help many more people.

Haque thinks that organizing things is where the innovation that will fuel the next industrial revolution will come from and I don’t think he is far off.

Google is probably one of the most shining examples of the organizing phenomenon.  Their mission is to organize the world’s information and, in doing so, they revolutionized the advertising industry while making it more efficient.  This of course let to incredible growth and huge profits for Google.

Some other examples include Threadless (organizing a group of t-shirt designers and t-shirt buyers who create and buy the shirts rather than Threadless trying to guess at what people might want) and Etsy (organizing production of handmade goods into one place).  Both of these websites list in my top ten and both are centered around organizing and enabling people to choose and create what they want rather than trying to guess at what people may want, mass produce that product and then jam it down people’s throats until the inventory is sold.

What is interesting about both Threadless and Etsy to me is that at a high level they really created marketplaces and marketplaces aren’t new at all.  Perhaps rather than using the term organize we should really use the term market.  Creating markets where people can interact and exchange ideas, goods and services are inherently valuable.  The trick is trying to figure out where the business who facilitates the market can extract the value that will keep the organization and its market up and running.

With Etsy and Threadless the value extraction is fairly simple in that goods are sold to people who pay for them and the companies make a profit (Etsy from fees from the sellers and Threadless through the sales of the t-shirts).  Selling goods is a clear cut way to extract value but perhaps there are other innovative ways to extract value from a market in other industries.

Haque throws out some more things that need organizing including the world’s hunger, energy, thirst, health, finance and education.  All of these are industries that need fresh ideas and new blood and are perhaps areas in which businesses that organize can thrive.

I personally get fired up about innovating in the financial space since I have always been a fan of the financial markets but also realize that they are in dire need of innovation.  What ideas do you all have for a business that organizes things in a way that benefits the business and the financial industry? How do you think the theme of markets and organization can help with the other areas Haque mentions?  I am curious to hear your thoughts and I hope this idea of organization as a means of change and innovation inspires you as much as it has inspired me.

Midwest side note: I see organization as a part of the solution around making the Midwest into the technology hub is really should be.  I find that a lot of people around the Midwest don’t know what other folks are doing and that lack of information really stalls innovation here.

Think of the issue in comparison to Silicon Valley.  In the Valley there are a number of events, meetups, etc. that you can attend in any given night.  This allows for great networking and fantastic visibility into what is going on in the area.  This visibility really helps people to collaborate on things, find talent for their business, get the funding they need and many other things.

The idea of organization as a means to innovate and create value is exactly what Frank and I had in mind when we created TECH cocktail.  We believed, and still believe, that organizing technology focused people in the area would lay the ground work for some amazing change to happen here in the Midwest and we’re starting to see the idea become reality.

We’re going to continue on with our organizing mission by working on events in each of the Midwest cities (i.e. Ann Arbor, Madison, etc.), which will be added the current roster of Chicago, Champaign, D.C. and Boulder.  The intent here is to organize the local communities and then to bring all of the Midwest communities (and some other select communities) together once or twice a year so that everyone from the Midwestcan start a regular dialog with one another.

When combined the Midwest is much more, and will be much more, than the sum of its parts and we hope to be the folks that organize and, therefore, catalyze the technology innovation here in the Midwest.

Reading time: 6 – 10 minutes

I have to admit that Umair Haque’s recent two part series of posts on venture capital really made me want to start writing on this blog again.  His posts, entitled “Asleep at the Wheel of Creative Destruction” and “Five Problems Venture Capitalists Should Have Solved (But Didn’t)” really got me thinking.  In the words of my friend and partner in TECH cocktail crime, Frank Gruber, Haque got me “fired up!”

At a high level Haque is calling for VCs to step up their game and push innovation forward rather than sitting back, like some have been, and making a lot of “me too” investments that, even if they play out, don’t really move the needle much for the world in terms of meaningful change, job creation, etc. Here, here! I am with him 100% on changing the world for the better.  That’s why a lot of us got into VC and entrepreneurship in the first place.

I agree with Haque on a number of the points in the “Asleep at the Wheel” piece.  It certainly seems that the VC industry is flooded with too much capital looking for homes that don’t exist (however, some places, the Midwest for example, don’t have nearly enough capital to fund the great entrepreneurs, ideas and technologies they have) and that, as Haque puts it, a culture of imitation, rather than innovation, has started to permeate venture capital.  I also agree that “transparency, disclosure and discussion” can help venture capital by allowing it to become more participative and open.

Haque closes “Asleep at the Wheel” with this statement:

Unfortunately, today’s venture investors are about as interested in reform as yesterday’s bankers were. So it just might take a venture crash – just like Wall St’s financial crash – to wake up the guys and gals asleep at the wheel of creative destruction.

Ouch!  He may be right about some folks but, as long time readers know, I have been a big fan of innovation in the VC business for some time now (and have written about some innovative ideas in detail) and there are many other forward thinking VCs that are interested in improving their business too.

That said, we need to figure out a way to innovate that can also provide great returns for our investors.  One of the main issues is that we hold illiquid investments for a relatively long period of time before we can either sell them or, hold on to your hats people, IPO them (haven’t seen one of those in a while).  Once we put money into a company the clock starts ticking and, when the investment is finally exited, that clock allows VCs and their investors to calculate the efficiency or quality of an investment, which comes in the form of an IRR or Internal Rate of Return.

The IRR allows different investments to be compared to each other directly to help asses if the VC investment was a good one as compraed to, say, putting money in an S&P 500 index fund (i.e. just because you received 5x your money, for example, doesn’t mean the investment was the best one you could have made – the time your money was locked up in that investment needs to factor in).  Here is an example:

Say you invest $1,000,000 in a startup right now and you get $10,000,000 back at some point.  Either way you look at it you got 10 times your money back.  A huge home run right?  Not necessarily.  Let’s take a look at your IRRs at different periods of elapsed time:

$10,000,000 returned at 5 years: IRR = 58%

$10,000,000 returned at 10 years: IRR = 26%

$10,000,000 returned at 15 years: IRR = 17%

$10,000,000 returned at 20 years: IRR = 12%

Interesting isn’t it.  You wouldn’t have done much better than the long term market return if you couldn’t exit your deal before 20 years of hold time.  That means, at 20 years, you and your investors didn’t get a great return especially considering that, generally, the startup you invested in was inherently more risky than the overall market and, therefore, should have had a far better return than the market to account for the excess risk you took (more risk needs to equal more return to make things work – see alpha).

This is why VCs have specific hold time targets (usually about 5 -7 years and sometimes less) and limit their funds’ life to 10 years (if you have to hold investments longer than that the IRRs, even at 10x your money, start to degrade and the folks investing in your VC fund become unhappy).

The folks that invest in venture capital funds (i.e. the big institutions) want returns that make it worth the risk they took and those returns are affected by investment hold time.  Some of the things that Haque suggests VCs should have fixed or innovated on and the markets we should have created don’t appear to have the profiles that would make for good investment where good equals what LPs want in terms of IRRs.  Therefore, even if VCs did dive into this harder-to-solve stuff they may have done a lot of good but the returns may not have been there and, thus, these VCs would not be able to raise a new fund and continue to innovate since their investors would have been unhappy.

Bottom line: if the VC business wants to start moving in the direction of some of the issues Haque puts forth and suggests VCs should have solved than VCs need to figure out how to get the returns their investors demand while pushing forward on harder to solve problems.

At the end of the day venture capital still needs to be sustainable and that means driving good returns to LPs. Good returns enable VCs to continue to raise new money to invest in innovate young companies and to perpetuate the innovation the cycle.  Returns are our constraint as VCs and we need to find creative ways to work within that constraint while still taking on the big risks that help to create new industries and completely revitalize old industries.

This is the challenge and it is a big one but one that will be exciting to work on.

At the end of Haque’s “Five Problems Post” he suggests that if VCs can’t solve problems like:

• Reinventing communications
• Reconceiving capital markets
• Business models for public goods
• Business models for radical responsibility
• Discovering new sources of advantage

than VCs are obsolete.  In fact, he says VCs are obsolete as of right now since we didn’t solve those issues.  I am not sure that he correct when he says that and I do think he trivializes the issues the VC business faces by ignoring the fact that VCs do need to provide returns that make sense to their investors.

However, I tend to look at Haque’s two recent posts as inspiration.  He’s right.  VCs can do better and VCs need to continue to strive to do better and to foster meaningful innovation.

I am not sure what the answers are in terms of working to reshape the VC business into one that address what Haque suggests VCs should be addressing. That said, I am willing to investigate the issues and to try to find some solutions that can get venture capital to the next level and I am sure many others are as well.  I am really glad that Haque and others continue to challenge the VC business.  It is too easy to become complacent and posts like Haque’s can really kick people into gear.

If a number of people heed Haque’s call some really exciting new ideas, businesses and industries will no doubt emerge and we (VCs and entrepreneurs) will continue to be able to combat the world’s largest, and most nagging, issues.