The Emperor Will Buy New Clothes

Cockroach and Workato secretly raised pricey rounds from Altimeter. I explore funky happenings in early stage investing. And I reflect on the bubble that never popped.

There should be a Silicon Valley version of the emperor has no clothes fable. It starts off the same way – the emperor wearing no clothes and his sycophantic supporters telling him that his robes look magnificent. But in Silicon Valley, the emperor seizes on the mania, raises a bunch of money from his acquiescent followers, and begins work on new magical garments. Maybe in a few years, with a little work, the robes will be real this time. If you doubted the emperor, you were a fool for finding fault in the present instead of grasping the possible.  

You could apply this parable to Tesla, Uber, SPACs, DoorDash, Airbnb – all sorts of things. Sure, Tesla lost a bunch of money and couldn’t reasonably justify its valuations based on the profit margins of its existing products. But sustained enthusiasm for Tesla, despite that reality, allowed the company to raise billions to invest in new products and new markets that might someday justify its soaring stock price. You can chase that logic in circles all day. Investing in Tesla made sense all along. Sucks to be Jim Chanos.

There are, of course, more charitable ways to frame what’s going on. But give us Chicken Littles our stories. We lost. You won. I’ve come to finally appreciate why predicting a bubble will burst is for suckers. Sam Altman technically lost his bubble bet. Now, however, his proposed portfolio of stocks is looking better than ever. He would win the bet if it were calculated today. In a text to me, Altman remarked on “how loud the bubble talk was back in 2015. Everyone was so sure.”

The pandemic hit and the party only got better. Oops.

I wrote in April, “Now we know how the bubble ends.” Wrong. Sequoia warned founders of a “black swan” event. More like white swan. To be fair to myself and Sequoia, almost everyone in Silicon Valley thought the pandemic would be bad for business. “All the GPs and the CEOs were freaked out that it might be a down year,” one investor with a broad view of the market told me. “Who would have predicted that home delivery would grow at the rate it did? I think there's a lot of fortunate investors. It’s less about them being smart and more about them being at the right place, at the right time.”

I want to pause for a moment to reflect how absolutely horrible the pandemic is right now in the United States. The New York Times homepage blares: Intensive Care Beds are Nearing Capacity Across the Country. Deaths are climbing at 39% and reached 2,597 Tuesday. I get that the markets tend to worry about companies’ future performance and that the equity markets are not a good proxy for the welfare of average Americans. But the disconnect between the sick American story and the euphoric financial markets is dystopian. I have to believe that if all Americans were more equally financially vested in the outcome of American capitalism, the disjunction wouldn’t be so stark.

Anyway, back to the world where everything is working. The New York Times also published a story this week titled, ‘This Is Insanity’: Start-Ups End Year in a Deal Frenzy.

Ahead of public trading, DoorDash raised $3.37 billion at a $38 billion fully diluted valuation. Turns out investing aggressively in growth instead of taking a more profit-minded approach like GrubHub was the right one. The market thinks DoorDash will make great magical robes someday. Public investors ignored Bill Gurley’s bellyaching. Meanwhile, SoftBank, that ultimate bubbly investor, stands to make a killing on DoorDash and Opendoor.

Airbnb, which is expected to begin trading this week, has been raising its valuation. The company could bring in money ahead of its listing at a $42 billion valuation. I’m sure experiences will materialize eventually.

But I don’t begrudge public investors for buying into already highly-valued stocks. Where else are you going to put your money? Interest rates remain low and central banks are printing more money. There’s little to do besides close your eyes and invest in equities. And technology companies do seem to be helped by a world in which everyone is holed up at home. (The real answer for the unsophisticated is that you should own a diversified basket of stocks that you add money to at a regular rate.)

“Valuation multiples are at perhaps historic highs – except perhaps the fantasy bubble period,” says Sandy Miller, a former investment banker and now a venture capitalist at IVP. “Companies are also growing very rapidly, so for some of them, it's easier to justify the lofty multiples.”

Altimeter’s Secret Enterprise Investments

One firm, Brad Gerstner’s Altimeter, has experienced the benefits of market euphoria first-hand. Altimeter was a big private investor in Snowflake. The company’s stock price has soared since going public. Snowflake’s market capitalization stands at $106 billion today. The cloud-based data-warehousing company lost $349 million on $265 million in revenue in 2019. Yes, it has phenomenal growth and retention, but public investors are really betting that story continues apace.

With the knowledge that he can invest in companies before enthusiastic public investors get access, Gerstner is quietly doubling down on his enterprise strategy.

Sources tell me that Altimeter has secretly led two private rounds in promising enterprise businesses. His firm led a $150 million to $200 million investment in Cockroach Labs valuing the company at about $2 billion. Cockroach Lab’s annual recurring revenue is something like $20 million, so the deal gave the company a 100X ARR multiple.

The company supports an “enterprise-grade distributed SQL database” called CockroachDB. Back in May of this year, the company announced an $86.6 million Series D round led by Altimeter and BOND. And now it’s already secretly raised another round, again led by Altimeter.

Benchmark, GV, Index Ventures, Redpoint Ventures, Sequoia and Tiger Global are also Cockroach investors. A spokesperson for Cockroach Labs wrote in an email, “Cockroach Labs does not speculate on funding and it does comment on financials publicly.”

Altimeter also stealthily led a similarly sized round in a workflow automation company called Workato. The deal valued the company at $1.7 billion. That gave Workato a roughly 70X multiple on its annual recurring revenue. Redpoint, Storm Ventures, and Battery Ventures are among the existing investors. Workato did not return a request for comment.

Today, Gerstner’s existing investment, Snowflake, just invested in another Altimeter investment, DataRobot. Altimeter led the Series F round that valued DataRobot at $2.8 billion.

If you want to make money investing in companies right now, you’ve either got to bet on future growth or you’ve got to step off the dance floor and hope that the music finally stops. I hear there are at least two other big enterprise rounds getting done at the moment.

Early Stage Funding Oddities

In the early-stage world, the excitement is leading to other weird phenomena. I hear the biowearables company Levels, which raised a $12 million seed round(!) from Andreessen Horowitz’s Jeff Jordan, is offering angel investors a chance to invest at something like a 40% markup in a round immediately following the a16z investment. That’s unusual.

Meanwhile Sprig and Udemy co-founder Gagan Biyani raised $4.3 million in a seed round led by First Round Capital. The round carried a valuation of $20 million. (The company, which is facilitating cohort-based classes online, doesn’t even have a name yet.)

Biyani and his co-founder Wes Kao, are doing something unusual: they’re taking applications to let investors into a follow-on round at a slightly higher valuation. “I don't love the fact that venture capital is such an insider sport,” says Biyani. He caveats that exceedingly mild criticism of the industry with, “to be clear I still work with insiders. I love insiders. They're insiders for a reason. They're smart. They're kind.”

But Biyani said he thought it was important to broaden the company’s investor base. “We really want to make sure that we have a diverse investor group. We want to expand the type of person who invests,” he says. Credit to Biyani, but the fact that broadening access to a speculative early investment in a startup seems like a benevolent act says a lot about how people think about investing right now. And Biyani and his co-founder think they’re underpricing the deal. Biyani says, “We certainly are not pricing at market.”

It’s worth noting that Biyani’s old company Sprig is not about to IPO like DoorDash. Sprig shut down several years ago and Biyani traveled the world.

Altman seems a little less confident about market conditions this time around. He texted me this morning, “Now the fact that no one says it’s a bubble is a bit more concerning. 😊”