Silicon Valley's rebel investor talks profits, Trump, and how big investors have 'sobered up'

Chamath Palihapitiya, Launch Festival 2013Owen Thomas, Business InsiderChamath Palihapitiya

Venture capitalist Chamath Palihapitiya is an outspoken voice in Silicon Valley.

The investor, who was born in Sri Lanka, started his career at AOL, then went to Facebook to lead user growth, increasing the site’s number of users from 50 million to 700 million in just four years and becoming a near-billionaire in the process. 

After leaving Facebook, in 2011 Palihapitiya launched Social Capital, a VC firm with more than $1 billion in assets. The firm’s most notable investments include the file-sharing platform Box, workplace messaging application Slack, and online investment manager Wealthfront

Though Palihapitiya is one of the savviest investors in the Valley — and a minority owner of the Golden State Warriors — he’s also known for his candid remarks on the shortcomings of the tech industry. He’s recently decried the gender gap, shared which startups he thinks are “mostly crap,” and publicly criticised Apple CEO Tim Cook. But Palihapitiya, who’s intent on building the VC firm of the future, is righteous in his conviction that today’s generation has the opportunity to put “a massive dent in human suffering and make trillions of dollars in return.”

We caught up with Palihapitiya in June, the week after the Warriors lost game 7 the NBA Finals to the Cleveland Cavaliers. We’ve already published several stories from that interview:

But our conversation touched on a lot of other matters as well. Here’s a transcript, edited for length and clarity.

Biz Carson: I was hoping this would be a happier meeting. What was Game 7 like from your perspective? 

Chamath Palihapitiya: Such a bummer. It’s pretty devastating. I walked out within one nanosecond of them winning so I didn’t even stick around to see what it was like. I was just so dejected. I felt bad for the guys. They’re such good guys.

If you take a step back, I don’t know who said this but I saw it a lot on Twitter and on ESPN, but this may be one of the top three sporting feats of all time, what LeBron did. So, I dunno.

These guys will be stronger for it, and life goes on.

Carson: So what comes now?

Palihapitiya: The big thing for us at Social Capital was launching our public hedge fund, which we did May 1. We’re putting all of the pieces in place for what I think Social Capital can become over the next 5 to 10 years. I think like any other startup we’ve now found a product market fit and it’s time to scale and it’s time to grow.

The way that I see this is that the entrepreneurial struggle is the same at basically every stage in the sense that there’s maybe slightly less risk but strategic issues are generally always the same. And now there’s so much existential risk from another company either being able to compete or being able to disrupt you in the same way you’re disrupting somebody else, an entrepreneur needs a real steady partner who has the ability to start working with them in the Seed or the A and be credible and value-add [with] strategic advice, and just be backstopped by so much capital that you can do any growth round or even a public round.

So for us, we said, OK, let’s put these pieces in place so we can basically be a turn-key partner for an entrepreneur. We can do the [series] A, $10 million bucks, great. Then our growth team goes in there and our growth team can help them implement the right data infrastructure, implement the machine learning, implement the right sort of customer acquisition metrics and reporting. All of the bells and whistles and suspenders that we learned at Facebook that made us so successful, let’s impart that.

And what that immediately does is it lifts the probability of success and we see this is in the data. If you look at Mattermark, they have this great slide where they calculate a firm’s ability to generate follow on investor interest. And the number one company around the A and the B is us and the number 2 is Benchmark. So it just speaks to the fact that when we start with a company at its earliest phases, we really position them and help them have the best chances of being successful. 

 But our point of view was that wasn’t enough. So now we can lead the B or we could lead the C or a growth round, $50 million, $100 million, $200 million, because we have that capital.

But even then we can keep going. So when a company files to go public we can navigate the public markets. We can help them understand the nuances between RSUs and options. We can help them understand how to think about stock based compensation and dilution just as easily as we can help them with product market fit.

There I think now we can be a partner with the CEO for 15 years or 20 years. And that to me is really exciting. And I think that an entrepreneur increasingly will need that kind of help.

Carson: Why do you think that’s increasing? You just said that startups are facing more existential risk than ever.

Palihapitiya: Because the half-life of companies is shrinking. So in the same ease in which you can start a company today to disrupt an incumbent, you have to also realise that somebody will do that to you as well just as easily. So if you’re not just going to get on top but stay on top, that will require a real prepared mind across many companies.

Carson: What are the companies that have done this well?

Palihapitiya: Facebook has done it well. Google has done it extremely well. Amazon.

In our portfolio there’s about five or six companies that are the first batch of companies that will go public who are well poised to do that as well. 

The other thing is, when you look at how the public markets treat private software companies when they go public now, it’s really important to have a strong voice in the public markets that anchors sentiment. That’s why we felt it was really important for us to also launch this public vehicle, because now as a large public hedge fund, we can shape sentiment. And if we have been a partner with the CEO since the series A for 5, 7, 8 years and we know that company intimately well and we have credibility with Wall Street, then we can help bridge the gap and help them do that. And that’s also important because it minimizes the volatility.

And that volatility, as you saw with companies like LinkedIn or Box, can be really destabilizing. It can really have impacts to morale. Then what happens is the CEO is confronted with a really terrible set of choices: never go public and give their employees liquidity, or go public and have to deal with volatility?

Carson: But why are startups scared of going public now? Is it really just that volatility? The election?

Palihapitiya:No, I don’t think it’s the election.

I really do think there are a couple things at play that we need to sort out.

In this gold rush mentality that we’ve been in for the last five years there has been not enough focus on business model quality.


The first is business model construction has been somewhat poor. Facebook very early on, and I’ve been kind of vocal about this, was profitable. I think since 2009 or ’10 we were profitable. So two or three years before we went public. We knew what our margin profile looked like. We knew what our cost structure looked like. We knew what it cost to acquire [users]. We knew what it cost to support those users. We knew how to monetise those users. The very nascent set of things that came together even in our earliest model allowed us to be self sustaining. I would put that in the category of a good business model.

Dropbox just announced that they’re free cash flow positive. I would also put them in the category of a good business model.

I think unfortunately in this gold rush mentality that we’ve been in for the last five years there has been not enough focus on business model quality. So when push comes to shove, there actually aren’t that many great businesses that can go public. Because I think if you’re going to thrive as a public company, it presupposes that you make more money than you spend.

And it’s weird but I think people in Silicon Valley are almost like “Why is that important?”. They don’t appreciate the fact that you have to be self-sufficient and self-sustaining. 


Carson: Why has there been such a tolerance for this the last five years?

Palihapitiya:If you look at the ecosystem, entrepreneurs as a class have gotten younger, younger, and younger. They also as a class have become less and less and less experienced.

The good part about that is that you’re unlocking this ability to start a company to so many more people. That’s an amazing positive.

The negative is they’re coming to that job with dramatically less experience than they have ever had. So there needs to be someone around the table that can then help them.

 I think that responsibility should be the investor’s. But if the investors themselves are not sophisticated, if they themselves are not putting a lot of their own money to work, if they themselves don’t understand the continuum of capital and how different parts of the capital structures react differently, then they’re basically worthless. They’re not going to give great advice to these entrepreneurs who then need it.

So that is unfortunately the cycle we’re in and we have to break the cycle. And the way that you break the cycle is that the investor class has to become more sophisticated, they have to become more integrated and then they can provide the kind of advice to these increasingly younger entrepreneurs so they can then plan for what has to be a business model that make sense, ideally two or three years before they go public.

Carson: Do you think startups lost sight of the goal of going public the last few years?

Palihapitiya: I think going public should not be a goal and the more that we make it a goal, the less it will be a goal. It’s kind of like, I have three young children and when I tell them to eat vegetables, the last thing they will ever do is eat vegetables. I think it’s just this weird thing where entrepreneurs have a reflexive negative reaction when people are pushing for it. I think you have to view going public for what it is, which is a transitional moment where you can consolidate mindshare and win at an even larger scale.

The goal of a private company is, first, zero to one. Get past the product market fit, figure out whether people actually care about what you’re trying to build and someone will pay you money for that. That’s the zero to one problem.

So scaling, one through N, is figuring out can you do that at scale and how big is the scale. And when people pay you more than what it costs for you to make it, does that equation end up leaving you with money left over, i.e. profits.

Once that’s figured out, the reason to go public is that it is a massive branding, marketing, credibility, trust-building exercise with your customers, and then it allows you to consolidate power and scale and market share. Do we want to be a huge company with a huge impact? If the answer to that is yes, the only way that that happens is by going public. It it is effectively a branding event that catalyzes interest. It helps with recruiting, it helps with marketing, it helps with sales. It just helps on many dimensions.

I think it’s basically a litmus test for the CEO’s ambition.

Carson: What did you make then of the Microsoft LinkedIn acquisition?

Palihapitiya:Amazing on both sides. I was stunned.

Carson: I think we all were.

Palihapitiya: I was stunned for a couple reasons. One, that’s immense courage by Microsoft to basically put themselves out there. Two, that’s a really courageous thing for Jeff and Reid to basically decide that they could do more for their employees by giving them a buffer and safe harbour of being a part of the Microsoft family.

Jeff Weiner, Satya Nadella, Reid HoffmanMicrosoftJeff Weiner (left), Satya Nadella (middle), Reid Hoffman (right)

If you wind the clock back to February or January or whenever that was that LinkedIn’s stock price collapsed, on basically air, it was not justified. 

What’s sad is that that event, the short term, whether it was risk management or capitulation of all these public market investors, robbed a bunch of others — including me — of the opportunity to own what is just a fantastically useful well-run quasi-monopoly. Buffett tells you that these are the kinds of businesses you want to run forever. For me, I was disappointed that it was acquired only because it means I can’t own it anymore and I’m not a particularly enthusiastic Microsoft shareholder only because it doesn’t meet my growth targets.

But if you look at why it happened, it didn’t have to happen if public market investors were more stable and less skittish.

Carson: Well LinkedIn had that problem with stock-based compensation. You wrote about it. Is that a growing problem for more companies?

Palihapitiya:It’s important to understand the compensation equation that a CEO and a founder has with his or her employees. I think it’s also important to understand because we have huge issues at least [in] Silicon Valley right now with respect to congestion, traffic, affordability of housing, and we have to understand where this compensation ultimately goes. I actually don’t think most of the incremental gains in compensation and inflation of wages that’s happened in Silicon Valley of the last five years goes into the actual pockets of the people who work at these companies. I think they end up largely in the hands of service providers and the landlords because I think rents have gone up lockstep with wages.

Chamath at facebookSteve Jurvetson via FlickrPalihapitiya at Facebook in 2008.

And so the stock based compensation thing was to sound the alarm bell that  things are changing, that you need to pay attention to this as a private company, if you start to scale, you’ll be faced with a decision on whether to switch to options to RSUs, and if you do, you need to understand what the complications are. And so you have to think about how do I manage dilution, how do I actually report metrics, how do I actually create business model decisions.

Why should I not report on GAAP? Like the young entrepreneur right now that is starting a company, she should be telling herself “alright you know what f— all the nonsense, I’m reporting GAAP from day one.” Immediately clarifying. You can’t hide the cheese. And then you have to set a goal, I’m going to spend less than I make.

I swear to God if you say that people will scratch their heads. Now, you don’t have to do that day one, but you have to have a goal of getting there, right? It took [Facebook] six years to get to profitability. It took us eight years to go public. And when you look at some of our companies today, at a certain point of scale, it tends to happen at the $20 to $50 million mark for revenue, they tend to be 15 to 18 months away from being totally cash flow positive. And we have a bunch of them now that are basically at or near profitability.  

Carson: I feel like a lot of entrepreneurs hear all this talk about profitability and realise they need to lower their burn. So, they just start chopping off perks and people.

Palihapitiya: If you’re trying to get to profitability by lowering costs as a startup then you are in a very precarious and difficult position. You need to grow through profitability.

The people who would have typically marked up deals and done huge growth rounds at crazy valuations, they have sobered up.


Startups should be, if you graph their financial performance, it should be what’s called a J curve. You start out at zero, you’re not making any money, you’re not losing any money.

As you start the company, you start spending spending spending ahead of revenue but then you come out of it and very quickly you should become a company that spends less than it makes. And what I mean by very quickly, is that window of time should be in that 6 to 8 year time frame. And the reason is because if you build your business model correctly it’s almost unavoidable.

Carson: What does the funding environment look like from your perspective? Are you still bracing for the downturn? 

Palihapitiya: I think we’re in a long, protracted, negative cycle. There will be no shock to the system in my opinion. But I think what’s happening is basically two things.

The first is that the people who would have typically marked up deals and done huge growth rounds at crazy valuations, they have sobered up. And the reason they have sobered up, is that going back to this original point, is that they have invested in some horrendous business models at huge prices. And what you’re going to see are a bunch of things amongst that class of company. And what do I mean by the class of company? Negative gross margins, terrible unit economics, high customer acquisition, low LTV, all of these things were ignored because of some vanity metric that justified a huge up round at a huge valuation. But all those investors are now having to deal with the impending reality that there is no greater fool to then mark up the deal after them, that they may have in fact been the greatest fool.

And that’s happening right now.

So you’re looking at the quality right now, these companies again that are gushing so much money are no longer are finding a bid at higher prices. So one of two things can happen. Number one, you find a bid at lower prices, i.e. a down round. Or number two, you reprice this last round at a lower price so that then you can then do a “upround” from the last price.

However you want to put the lipstick on the pig, that’s what’s happening now.

It will be silently for the most part. These are things that are not talked about publicly, but there are many companies going through this process, either a repricing or a downround.

Carson: And this is all behind closed doors?

Palihapitiya: Absolutely behind closed doors. But the inside baseball of it is that you hear enough rumours that you know it’s happening.

And then the second thing that’s happening is that as they realise that these are the only options, the firms that did these rounds have to revalue their portfolio. So now that deal that looked amazing looks barely break even or is now underwater.

So what happens then? They become more risk averse because they’re like “Oh my god, I need to slow down and just do a really good high-quality investment. No more speculative investing.”

Then what happens? The limited partner gets the report. And they, who felt like the hero for investing in that great growth fund, now also feels sheepish because they’re like “Oh my gosh, what happened to all of this upside that was there that is no longer there?” So they go back to their committee and now they have to rebalance their risk exposure.

Carson: But it seems like LPs haven’t slowed down their investing.

Palihapitiya: The LPs have to decide where to allocate capital. I think we’re in the first phase of that. You have to remember that LPs get reports once a quarter. So I suspect you need four to six quarters of this kind of data before LPs really sober up to the fact that all the paper profits that they thought they had aren’t really there. And then what they will do I suspect is put a lot more pressure on the growth funds to sober up.

I think they will also look at firms like us and Benchmark and say “I should just have more capital with these guys at the early stages because that’s where there’s the least risk.” Because what they’re going to see is they invested in a growth fund thinking that they were buying high quality business models, high quality revenue, predictable outcomes, 18 to 24 months of liquidity. Instead what they really did was make a series A investment but with $100 million instead of $10 million. That’s really bad risk management.

Bill GurleySteve Jennings/Getty ImagesBenchmark Capital’s Bill Gurley.

Carson: So the past couple of years it’s been the growth funds making the risky calls?

Palihapitiya: I think so. We’re in the process of unwinding all that. That’s the first big thing that’s happening.

The second thing that’s happening is that there are incremental sources of capital coming into this market looking for a home. So for example, Saudi Arabia’s gonna sell $350 billion of Saudi Aramco. Where’s that going to go? Well if they’re looking to generate any sort of return, some of that is going to find its way back to technology. That money will find its way to Silicon Valley and some of that money will find its way into a bunch of these firms.

Carson: Does that balance the effects then?

Palihapitiya: It doesn’t balance it, but that’s why it feels more muted. If the capital wasn’t flowing in from other parties, I think this would feel a lot more dramatic and the downturn would be less moderated. 

But at the end of the day, the partners though will probably be behaving differently. They got really cute, they learned a lesson, they’re probably not going to be held accountable for that lesson, but they’re probably not going to repeat the same behaviour again.

Carson: What about the employees? I was talking with someone and they said the difference between this bubble and the one from 2000 was at least then startup employees, even if the company collapsed afterwards, then at least they got money. Is it a bad time to be a startup employee in this downturn, even if it is gradual?

Palihapitiya: That’s just wrong. Companies that went public in that first internet bubble were basically borderline frauds. 

I think the reality is that it’s never been a better time to be an entrepreneur, it’s never been a better time to work at a startup. You work at a really intellectually free environment, you get to work with people who are like-minded, it’s very energetic. It’s wonderful. 

Companies that went public in that first internet bubble were basically borderline frauds. 


It’s OK, by the way, that it takes 10 years for you to make “money.” Since when was it that being in your mid-30s to make a few hundred thousand dollars or a million dollars was like egregiously unfair? I think we have to have a sense of perspective here. We’re all going to live into our 80s or 90s. So what is everybody in such a rush for?

I think what you should be in a rush for isn’t necessarily the immediate monetary return, but it’s to know that this equation that exists between an employee and a company is being honored.

So what’s the equation? I’m going to give you my most precious thing that I have, which is my time and my reputation, I’m giving that to you. That’s what the employee says. And the company says I’m going to take your time and your reputation and direct it at things that we believe collectively have a huge impact opportunity to do something extremely positive. And that positivity will get measured in impact and also economic upside.

And I want you to be happy and work here for 15 and 20 years, and that equation should pay off over all those years. That’s f—ing awesome.

This should not be viewed as a get rich quick scheme. The point of Silicon Valley at least when I moved here was we’re all trying to do stuff and none of us quite felt like we fit in anywhere else. But we were all trying to do good things. And the money was just the byproduct of good things. The idea that there’s an obligation to have that thing happen in four years or five years or six years, I think we need to disavow that.

Carson: Last question: Donald Trump. What is his affect going to be on Silicon Valley? Are you advising your startups to have contingency plans if Trump wins?

Palihapitiya: No. So if I put my public market hat on, I think you’re talking about we in the public markets would call tail risk. Maybe the question is how much tail risk is there in a Trump presidency? And I think the answer is it’s unclear. I also think the answer is that markets are quite resilient. We’ve dealt with the almost implosion of the entire global financial system. We’ve dealt with the almost implosion of all of the European political infrastructure. We’re currently dealing with the almost breakup of Britain from the rest of Europe. So, markets are resilient.

People should absolutely have a point of view about the political process themselves individually, but I think that we’re also at a point in the evolution of capitalism where any one individual’s impacts are probably over estimated because there is enough regulation and guard rails. They may be odious, they may be grotesque in what they say, but the practical day-to-day impacts from a policy perspective tend to be limited because the system made it so. I think that’s why you see a lot of political apathy because people have internalized the inability for anyone either really really good or really really bad to do anything.

So I would tell startups to just keep your head down, keep building. Your contingency plan, if you have one, should be because you are still spending more than you make and you still don’t have a line of sight for that J curve. That is the most important contingency. Because otherwise you are betraying that equation to your cofounders, to your investors, to your employees and to your customers.

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