Venture Slugging Percentage: Bringing Baseball to Business

In honor of the new baseball season (and the start of spring), here’s a blog of mine that first appeared in Forbes. The basic idea? Instead of celebrating home runs alone, let’s bring the art of getting on base to the evaluation of venture capital…and see if that helps everybody rack up the wins.

What Entrepreneurs Evaluating Venture Capitalists Can Learn From The Way We Evaluate Baseball Players

In Major League Baseball, 2018 was the year of the home run. A record 6,105 home runs to be exact. 2018 was also the year of the strikeout, with 40,105 racked up across the 30 teams. It is, many have written, a new era of the game. There’s even a name for it: Three True Outcomes (home runs, strikeouts, and walks).

This is not at dissimilar from the all-or-nothing, home-run-or-bust approach taken by many venture capital firms. The “swing-for-the-fences” philosophy works for some fund managers and for some entrepreneurs as well. But for the vast majority of entrepreneurs who aren’t playing for an IPO, this approach can leave them stuck in the minors, waiting for a call up that’s never going to come.

The problem, for both baseball and entrepreneurs, is that the “Three True Outcomes” aren’t, truly, the only outcomes that matter. It may be much sexier to brag about hitting home runs, but baseball long ago figured out how to value singles, doubles, and triples too. It’s called Slugging Percentage. And it’s time to create one for venture capital.

Here’s how a Venture Slugging Percentage would work, what it would be good for, how else it might be used, and how I think we can get started bringing baseball logic to the investment process:

In baseball, slugging percentage is a measure of total bases per at bat. In other words: how successful a batter is, on average, for each at bat. It’s really a measure of both power and consistency, and it avoids overweighting the “noise” of a home run for the consistency of a solid approach at the plate. A Venture Slugging Percentage would work much the same way, and would be most useful as a tool to analyze a fund manager’s consistency, in addition to already existing tools for measuring absolute return.

Baseball’s slugging percentage formula is pretty simple: Take the number of hits, multiply by the number of bases for each type of hit, then divide by the number of at-bats. It looks like this: [(Single x 1) + (Double x 2) + (Triple x 3) + (Home Run x 4)] /Number of at-bats.

Venture Slugging Percentage could work the same way and utilize the same formula. We only need to agree on a couple definitions.

First: What we call a home run and however we’re measuring it (whether a multiple or internal rate of return) needs to be consistent. For the sake of argument let’s use a multiple. Let’s also agree that a home run is an exit that equates to a multiple of 5x or more—meaning the investors get a return of at least five times their investment. A triple is a 4x exit, a double is 3x, and a single is 2x. Anything less than that is an out (and grand slams, as in baseball’s slugging percentage, don’t count extra).

Second: We need to define what constitutes an at-bat. This is pretty simple. An at-bat is a portfolio company investment. If you have 10 companies in your portfolio, you have 10 at-bats.

The question is, what would this tell us? Basically, it’s a measure of consistency. It’s a formula that takes luck out of the equation. For example, let’s say there’s a venture fund with 10 investments. Of those, nine fail completely. One of them is Facebook. How good are the fund managers, really, at the VC game? The “Facebook Luck” is going to skew their numbers. By a lot.

A Venture Slugging Percentage (VSP) could enable interested investors to compare the consistency of fund managers, beyond looking at absolute returns. So a fund manager who hits a few singles, a double, and a (non-Facebook) home run in their 10 at-bats is, in reality, a lot more consistent than our first example. As Dave Chen, Chairman of Equilibrium Capital says, “The question of return consistency versus home runs is an age old debate. One big hit can make an entire year. So can a more consistent collection of quieter hits. What you look for is dictated by the approach you decide to take.”

For entrepreneurs, consistency across a portfolio might tell you which investors are best at nurturing their companies to success. Or which investors are only interested in spotting the next Facebook and, therefore, have neither the time, patience, nor latitude to consider something with a target market smaller than “everyone, everywhere, with an internet connection.” And since we know that a good relationship with the right investor greatly influences an entrepreneur's ability to succeed, understanding this entrepreneur-investor fit on the front end is important. “Finding an investor who shares your values and goals can make all the difference for an entrepreneur,” says Rob Lalka, Executive Director of the Albert Lepage Center for Entrepreneurship and Innovation at Tulane University’s A.B. Freeman School of Business. “If everyone’s priorities align from the very start, you can also align incentives and decision-making criteria in the short and long-term, which benefits investors and founders alike.”

Putting the question in baseball terms, imagine yourself as a General Manager faced with this team-construction conundrum: Would you rather have peak season Brady Anderson, or career Joe DiMaggio? In 1996 Brady Anderson, an outfielder for the Baltimore Orioles, had one of baseball’s all-time outlier seasons. He hit 50 home runs, had 110 RBI, and a batting average of .297. His slugging percentage of .637 was more than .200 points higher than his career average.

If Anderson’s 1996 season were a full career, his slugging percentage would have placed him second in the history of Major League Baseball, ahead of Ted Williams, Willie Mays, Mickey Mantle, Stan Musial, and, yes, Joe DiMaggio. I may be a Red Sox fan, but I’ll take Joe DiMaggio over Brady Anderson any day of the week. And that’s what VSP does. It helps us avoid mistaking the highest point for the best career.

Once I started thinking in the venture context, I wondered what else VSP could be used for. I came up with two other areas that align very closely with the world of Impact Investing and the Impact Economy, where I spend the bulk of my time. If you’re not familiar with Impact, think of it as an approach that seeks to generate both financial returns and a measurable benefit to society, within the same activity, business, or investment. It’s a field that’s experiencing tremendous growth and surging demand, and a place where I think a VSP-derived formula could be helpful.

  1. Impact Slugging Percentage (ISP): Here, we’d be looking at specific types of Impact across portfolio companies or divisions (whether clean energy or education, health care or good job creation) and establishing goals across those various types of impact. Now, however, we’d be able to standardize for consistency in meeting those goals. We’re not trying to place an economic value per unit of Impact (there’s some very good work being done on that by my friend, Howard W. Buffett, at Columbia University), but are trying to understand the consistency of achieving, and skill in achieving, stated Impact goals.

  2. Diversity Slugging Percentage (DSP): In this case, you could imagine setting goals for individual companies within an investment portfolio, or individual divisions within a corporation. This could help us understand which companies (or funds) are best at consistently building workplaces and cultures that are truly reflective of the communities they seek to serve.  You’d establish goals and determine your single/double/triple/home run thresholds using a similar approach as with VSP. In this case, we could anticipate that achieving a diversity goal would be a single. Exceeding a diversity goal by 25% would be a double. 50%, a triple. 75% or more, a home run. And now we’d have a clear, consistent, and replicable framework for analyzing progress.

Here’s a final, but crucial, question: How do we start doing all of this? There are academic centers at major research universities, including Georgetown’s Beeck Center (headed by Sonal Shah, the first Director of the White House Office of Social Innovation and Civic Participation) already set up to handle the data analysis necessary to create a publicly available VSP/ISP/DSP index. Ideally, several of these centers would team together (baseball is, after all, a team sport), to explore the simplest methods of data collection, analysis, and reporting. This could (and should) also include a check list of questions for entrepreneurs to ask in evaluating a manager’s consistency and approach.

Once the models are run, if the concept of VSP proves valuable, we might see capital analytics firms (like Prequin and Cambridge Associates, among others) incorporate the statistic into their annual reports. Or Impact-specific analytics groups like GIIRS might add ISP to their fund evaluation criteria. The goal is to add a new tool to an existing set, to make the process of investing in entrepreneurs better for everyone.

Baseball and investing are ever-changing games, employing ever-evolving methods of measuring what matters. So, if we can bring some of baseball’s best lessons to the worlds of investment and entrepreneurship, maybe we’d better position ourselves to make the most of our opportunities at the plate. And that, no matter how you define it, would be a home run.

Keys To Running An Impact-Driven Business: Lessons From Instant Ramen, Chobani And Genentech

This post by Mark Newberg first appeared in Forbes.

Roughly 47 years ago, Milton Friedman made a mistake. Or, more accurately, for most of those 47 years a mistake has been happening to what Milton Friedman said.

In his New York Times Magazine article, “The Social Responsibility of Business is to Increase its Profits,” Friedman never said it was impossible for a business to increase its profits by doing good. He certainly didn’t say that an executive, confronted with an opportunity to improve the value of her business today, should stop in her tracks if that opportunity would also produce a benefit to society. And yet, since September 13, 1970, the shorthand approach to interpreting Friedman has stood at odds with Impact-driven activities all around us.

In its simplest form, Impact is the business-driven intersection of doing good and doing well. It’s a way to merge profit-generation with the purpose of producing a specific benefit to society. When it’s done right, Impact can form the basis of a successful investment fund, the foundation of a strong company, or the impetus for a new initiative within a giant corporation.

The key to successful impact is to apply the kind of rigorous management practices Milton Friedman endorsed. Yet it’s the broad misinterpretation of what Friedman actually said that has led (some) to insist that Impact and profitability are mutually exclusive. But examples of Impact and profitability (whether Impact Investments or Impactful products or practices) are hidden in plain sight, all around us, every single day. Because I was struggling to communicate this reality I decided to start collecting examples as I encountered them. The goal: to prove that Impact can be an integral part of profitable business ventures, a core part of how companies approach growth, and a lens through which we evaluate a whole range of opportunities, from product development to purchasing.

Here are three of my favorites:

Instant Ramen

In post-World War II Japan, hunger was widespread. Food supplies were scarce, jobs were hard to come by, and the nation was far from the economic power it would become. The United States was providing food aid, and doing so in the form of flour, while suggesting that the Japanese people bake bread. Of course, there were at least a couple of problems with that approach. First, bread doesn’t last. It gets stale, it gets moldy, and it’s not well suited to long-term storage. Second, bread isn’t a traditional part of the Japanese diet. So trying to transition a recovering nation to a food staple that’s culturally and logically ill-suited to the task doesn’t make much sense.

Momofuko Ando didn’t think so either. He was determined to help feed the nation by developing a cheap, easy, and long-lasting food staple from the flour shipped in by the US, but in a form that was immediately culturally familiar: noodles. After much experimentation, the instant cup of noodles was born. History credits this creation with nourishing Japan through its recovery. Instant Ramen may be associated with college kids today, but it was born to solve a humanitarian crisis. That’s Impact.

Genentech

In 1976, venture capital was emerging from its infancy. Returns were being chased. Titans were being crowned. Tom Perkins, co-founder of Kleiner Perkins Caulfield & Byers was among the most powerful practitioners of the craft. But there was also a specific problem he wanted to address: the glacial process of creating life-saving medicines.

The team at KPCB realized that a gigantic market opportunity awaited whomever could figure out how to accelerate the time-to-market of new therapeutic medicines. They dispatched Bob Swanson to search for promising research in the Bay Area and he found it, in the University of California lab of Dr. Herbert Boyer.

Boyer was a pioneer geneticist, at the forefront of research into gene splicing. But, for as much potential as the research held, it was still stuck in a lab. KPCB partnered with Boyer to commercialize the technology, something Boyer hadn’t ever considered, saying, “I never set out to create an industry. I just wanted to create something useful.”

Perkins applied his venture capital mindset to the structuring of a company around Boyer’s work. Instead of spending $3 million to build a brand new factory in the hope that Boyer’s process would work, the newly formed company subcontracted different parts of the process to different research laboratories, performing the final steps back at the University of California. The needed investment was slashed to $250,000, dramatically reducing the financial risk in pursuit of life-saving treatments.

Not long after, the risk paid off. A gene was spliced. A human hormone was synthesized. And then human insulin, a life-saving treatment for diabetes. More treatments followed. The company grew. It went public. And in 2006 it was acquired. For $47 billion. Its name? Genentech.

Investing in a major pharmaceutical company today, strictly for the purpose of earning a return on investment, probably wouldn’t qualify as an Impact Investment. But back when KPCB put up its money, and combined with its clear interest in saving lives as a result of its investment, I would call it an Impact Investment. And, as best I can tell, it was one of the earliest (and most financially successful) venture-backed Impact Investments of the modern era. Later, in the documentary “Something Ventured,” Perkins would  remark that, of all the investments he made in his career, he was most proud of Genetech, because of the lives that were saved in the process: “Isn’t it great if you can make money and change the world for the better, at the same time?”

Chobani

In 2005, a dairy plant in Upstate New York was shuttered. In a region that was struggling to stem the tide of economic decline, losing the plant, and the 55 jobs that went with it, could have been precipitous. That the plant was owned by Kraft Foods, a corporate giant with the ability to anchor an economy, seemed to signal an economy on the brink.

Hamdi Ulkaya who, more than a decade prior had come to the United States, from his native Turkey, felt differently. Ever since his early student days in America, Hamdi had been missing the foods of his youth. In particular, Hamdi missed yogurt. But not any yogurt (America had plenty of that). What Hamdi missed was the thick, strained yogurt native to the Mediterranean. By the time the Kraft plant closed, Hamdi was ready for his next challenge and a challenge he found.

Armed with entrepreneurial drive, an American education, and a Small Business Administration loan, Hamdi set out to introduce his adopted country to a taste of the Near-East. He hired a dedicated staff and a culinary master, and decided he’d treat them right. Together, for nearly two years, they experimented with recipes and methods, learning to turn small batches into full-scale production.

In 2007, they launched. A few supermarket clients became several, several became many, and many became thousands. The initial handful of employees in the South Edmeston plant became legion, and it grew clear that Hamdi’s dream had become a reality. He had introduced America to Greek yogurt, and America had welcomed it with open palates. Sales of Greek yogurt soared. And so did the value of Hamdi’s enterprise. A company known today, around the world, as Chobani.

The Chobani story, good-paying jobs in an economically distressed region, is Impactful on its own. Chobani’s product, a generally healthy food that’s driving dietary patterns in the right direction, is Impactful too. But the full story of how Chobani operates, as a $2+ billion dollar enterprise, is even more compelling. Because in 2015, after raising a round of capital, Hamdi did something not often seen: he took 10% of his company and gave it to his employees.

Think about this: from 55 jobs lost to 2,000 (and counting) created, with an intentional desire to create those jobs in a place (and industry) where they were badly needed, making a healthy product, building a brand, and distributing wealth back to the employees who helped create that value. Doing it all with intention, and each decision a core part of how the company’s operations. Hamdi, now a billionaire, embodies much of this generation’s American Dream.

So there you are: three examples, from three different decades, of businesses prospering by addressing the pressing problems of their times. Three examples that couldn’t have happened if it were truly impossible to mix business and benefit. While the definitions of Impact may change over time, and what’s Impactful in one era may not be Impactful in another, that’s OK. It’s a sign of progress that the same problems don’t exist in the same way forever, and that the way of thinking that defines one era doesn’t dictate the approaches of future eras. The point is that we can make things better, and that businesses of all kinds have the opportunity to be better because they focus on making their part of the world a better place. That’s what happens when we realize that Impact is hidden in plain sight, and that what we thought Milton Friedman said isn’t exactly how he said it

What if the Key to Job Creation is Baseball?

This post by Mark Newberg first appeared in the Huffington Post.

With another baseball season underway, I’ve been reflecting on the revolution within the game. Since Michael Lewis’ Moneyball hit the shelves, baseball analytics departments have become the “thing” in front offices all around the game. Sabermetrics [1] has taken hold. New statistics have replaced “old” ideas like batting average and ERA. Newfangled things like OPS and OPS+, FIP and ERA+ are bantered about on message boards and SportsCenter alike. [2] And even someone with a liberal arts background (like me) can see what’s going on. But this blog isn’t about baseball. Not really. It’s just the starting point. And the real place to start is the statistic that fascinates me most:

Wins Above Replacement, or WAR. It’s the closest thing baseball has to a Grand Unified Theory of Everything. It breaks every event that unfolds during a baseball game, offensively or defensively, into a unit. And that unit is part of the thing that matters more than anything else in sports. Wins. Which means that for the first time, we can actually tell how much a player is worth. Or, rather, how many wins a player has been worth — especially when compared to a baseline — and then predict how many wins that player will be worth in the future. [3]

Now: What if we could do that with job creation?

What I’m talking about is Jobs Above Replacement. Call it JAR for short. A way to measure how many jobs, above a baseline, any particular investment or initiative might be expected to produce. A Grand Unified Theory of What-Actually-Works-in-Economic-Development. Instead of guessing at a dollars-per-job number in advance, or waiting to retrospectively report (and then argue over what’s included in a measurement), a formula that can help guide us, public or private, to the things that create the most jobs. And not just any jobs. Good jobs. Because like WAR, the formula behind JAR would be weighted too.

A smooth defensive left fielder with a cannon for an arm isn’t worth the same as a sweet-swinging second baseman with a howitzer for a bat (they’re pretty close to being the inverse of each other). So why should we be counting a $10 per hour job without benefits the same way as a salaried position with benefits, training and advancement opportunities? We shouldn’t. They’re not the same now, and their effect on the future (individually and collectively) isn’t the same either. We need a better way to measure what matters.

To get started creating this new statistic, we have to figure out what we’re actually trying to measure. Ideally, we’d be able to determine how many jobs are expected to be created absent whatever investment or intervention we’re analyzing. Said differently, we’re talking about the jobs we’d expect to be created if (name your geography/company/institution) just kept doing what it’s already doing. This would represent the “replacement level” part of the JAR equation.

There are any number of ways to develop a formula that would result in a JAR figure. It will take time, and experimentation, to get it right. But here’s where I think we might start:

1. Jobs Created: With weighted adjustments for the type of job. Full-time, part time. One could imagine an “expected” number, with an adjustment for “actual” when evaluating outcomes.

2. Good Jobs Adjustment: Yes, this will be contentious, but benefits matter. So do career advancement opportunities. And living wages. [4]

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3. Jobs Saved: A job that isn’t lost, because of a particular investment, might be worth the same as a job created. In baseball, a defensive run saved is worth the same as an offensive run created. [5] In energy efficiency, a kilowatt of electricity saved is worth the same as a kilowatt of electricity generated. So we need to count jobs saved. And we need to guard against “false job anxiety.” Those are my words for dire pronouncements of impending job cuts, designed to force some type of investment or concession. In other words, we need a way to count jobs saved that are truly saved, and that’s going to be tricky.

4. Velocity: How fast are the jobs going to be created? A job this year is worth more than a job next year. A dollar in the bank this year is worth more than a dollar in the bank next year.

5. Multiplier Effect: Is a particular job-creating investment likely to lead to follow-on investment? Indirect jobs should count. A cleanup hitter may not be able to control who’s on base when they’re at bat, but the extra runs they knock in sure do count.

6. Cost Per Job: Even if it’s hard to measure in advance, the projected cost per job is important. If the expected cost is $100,000 per job created, that’s not as valuable as $100,000 investment that’s expected to create10 jobs. Just like Troy Tulowitzki’s projected WAR of 4.5, at a salary of $20 million, aren’t worth the same as Dustin Pedroia’s 4.5 at $12.5 million. [6] Value matters here.

7. The Baseline: As outlined above, all of this has to be divided by what we’d expect in job creation absent the investment being considered.

Making JAR work smoothly is going to take time. It will probably require some statistically savvy baseball fans with economics backgrounds to dig in. [7] But there’s precedent here too. When Bill James wrote his first Baseball Prospectus, the modern world of sabermetrics didn’t yet exist. The Prospectus begat the Baseball Handbook, which evolved into the world of advanced statistical analysis we see across the sports world today. [8]

The lesson I draw from all of this is: once you decide what it matters to measure, you can get to the matter of measuring it. Jobs matter, so let’s figure out the measuring.

[1]: Sabermetrics is, essentially, advanced statistical analysis applied to baseball.

[2]: On-base Plus Slugging (OPS), On-base Plus Slugging Plus (OPS+), Adjusted Earned Run Average (ERA+), Fielding Independent Pitching (FIP)

[3]: A (very simplified) way of thinking about it: Every event on a baseball field contributes to some percentage of a win. A home run is worth X. A stolen base is worth Y. An error subtracts Z. Put it all together, once the formula is determined, and you get WAR.

[4]: There are a number of groups that work on measuring (and creating) good jobs. Fund Good Jobs is one of them. [Disclosure: Fund Good Jobs is an Impact client of Womble Carlyle]

[5]: Though it’s a lot harder to measure.

[6]: There are multiple ways to calculate this. I used Steamer.

[7]: Yes. I just described the front offices of the Red Sox and Dodgers, among others. Or maybe Nate Silver can give it a shot?

[8]: Bill James is considered the father of the modern statistical movement in baseball. A legion of dedicated baseball fans has collectively researched and contributed to new evolutions in statistics, including the membership of the Society for American Baseball Research (SABR)

Avoiding The 'Squirrel Trap' And Other Hidden Entrepreneurial Lessons From Hollywood

This post by Mark Newberg first appeared in Forbes.

What can a talking dog, a human computer, an aging fighter, and a farmer’s field teach us about entrepreneurship? More, it turns out, than we might imagine. Especially if we’re willing to think a little differently about the messages from some of our favorite films. In that spirit, here are a handful of Hollywood’s hidden lessons:

  1. The Squirrel Trap, and how to avoid it

Being an entrepreneur means being an idea person. There’s really no way around it. From figuring out what you want to do, to launching a business, to getting a product out the door, there are new ideas lurking around every corner, just waiting for you to run them down. Here’s a great bit of advice hidden in an even better Pixar movie: Don’t. Don’t try to chase everything. You’ll end up catching nothing.

Remember “Up!,”? There’s plenty to remember about it, from a floating house, to a cantankerous and curmudgeonly protagonist, to one of the best silent scenes in the history of talking movies. But there’s one bit that’s always stuck with me, even if I didn’t know why. It involves a talking dog. And a squirrel.

It wasn’t until I started mentoring startups, and paying attention to the patterns I saw, that I realized why the “Squirrel Trap” was so clever. It’s because, so often, entrepreneurs (and the entrepreneurially inclined) want to chase after every idea. We get distracted. Or we get enamored. Or we think we can do it all. But we’re not Gal Godot, or Robert Downey Jr. We can’t do everything (and even Tony Stark needed a robo-butler and metal suit in order to save the world).

2. Treat Words Like Math

How many times have you heard someone struggle to explain something? When this happens, the natural tendency is to add words to the explanation, layering them on top of each other in an attempt to talk our way to a sensible conclusion. It doesn’t usually work. Instead, if you find yourself punctuating sentences with, “right?” or “know what I mean?” the chances are that your intended audience is thinking, “No. Not at all.”

While watching Hidden Figures, I was struck by the precision of the math. There were no random insertions of stray equations into the formulas for launch or re-entry. If there had been, John Glenn wouldn’t have come home. And that’s another lesson: Be precise with your words. Explaining what we do, regardless of what it is, is hard work. It takes effort, and practice, and refinement. But the reward for getting it right is an audience (or investors), who understand your point.

3. Put in the Work

Real entrepreneurship isn’t particularly glamorous. There are many more tough days than easy ones. There’s plenty more failure than success. Despite the much-hyped glamour of hockey-stick growth and fast exits, there’s little that’s easy in entrepreneurship.

We tend to forget how much unseen work goes into overnight success. Which means we ought to learn a lesson from Rocky Balboa. Take your pick of the Rocky movies. Each of them can be remembered (except Rocky V) for the glitz and glamor, pomp and pageantry of the main event. Or we can remember the training montages that celebrate the hard work that led to the main event. I prefer the latter. I’m also partial to 2006’s Rocky Balboa. Because it’s a reminder that, no matter how experienced or well-known you might be, if you’re going to take on a big challenge, you’d better be willing to put in the work. And above all, if you go into it looking for the quick exit, you’re better off not getting into the ring at all.

4. If you Build it, They Might Come

In 1989, Iowa farmer Ray Kinsella wandered into his fields of corn, chasing an elusive voice exhorting him to do something crazy. It was, in many ways, a perfect metaphor for entrepreneurship. What it turned into was a cultural phenomenon.

These days, a modified version of Field of Dreams’ most famous phrase ((“If you build it, he will come.”) is ingrained in American culture, right alongside baseball and apple pie. It exists as a sort of shorthand for the power of product. If you just build it (whatever “it” is) and get it to market, people will buy it. And you will succeed.

But that mistakes the imagined meaning of the film for its actual message. Nothing about the movie was easy. Ray spent far more time teetering on the brink than reaping the rewards. In fact, of the movie’s 107 minutes, just fewer than 60 seconds involved “they” showing up. In other words, less than one percent of the story focused on success, while nearly all of it focused on the effort to get there. Which made it a great movie, and an even better lesson.

Stay Focused. Be precise. Work hard. Persevere. Nothing about these ideas, applied to entrepreneurship, are at all new. They’re almost a tale as old as time. But sometimes it takes a different lens to remember what we already know. So, especially if you’re an entrepreneur, keep looking for inspiration in all the usual places. Just do it in all the unusual ways.