The Power Law: Venture Capital and the Art of Disruption

by Sebastian Mallaby

Spend as little as you can, because every dollar of the investor’s money you get will be taken out of your ass. —PAUL GRAHAM

John, venture capital, that’s not a real job. It’s like being a real estate agent. —INTEL’S ANDY GROVE, ADDRESSING JOHN DOERR

Anytime you have outliers whose success multiplies success, you switch from the domain of the normal distribution to the land ruled by the power law—from a world in which things vary slightly to one of extreme contrasts. And once you cross that perilous frontier, you better begin to think differently.

retail innovation did not come from Walmart; it came from Amazon. Media innovation did not come from Time magazine or CBS; it came from YouTube and Twitter and Facebook. Space innovation did not come from Boeing and Lockheed; it came from Elon Musk’s SpaceX. Next-generation cars did not come from GM and Volkswagen; they came from another Musk company, Tesla.

Nobel laureate Ronald Coase, the economics profession has long recognized two great institutions of modern capitalism: markets, which coordinate activity via price signals and arm’s-length contracts; and corporations, which do so by assembling large teams led by top-down managers.

Proving skill is difficult in venture investing because, as we have seen, it hinges on subjective judgment calls rather than objective or quantifiable metrics.