I believe there is a science to venture capital—a “business physics,” if you will. A lot is written about the science of investing and optimal risk, but none of the existing literature has fully explored the limits of the science of venture. It’s easy to look at someone who says they want to run a lemonade stand and tell them it will never be a venture-backed business. If we can be so confident in that “no,” then what are the limits of that confidence?
We may never have business theories that are as reliable and precise as scientific theories—but we can develop frameworks that help us think about business more rigorously. For example, I use a frame use a framework catalyzing moments in technology—i.e., to ask, “Why now?”
The vast majority of capturable enterprise value happens right after a catalyzing moment. It’s why we haven’t seen a single new mobile social application since 2014, with the launch of Musical.ly (now TikTok). The “Why now?” that supported Twitter, Snapchat, Instagram, and TikTok was the distribution of cellular bandwidth speeds. Twitter came first because it was initially only text with the smallest packet size.
Then came Instagram with images, Snapchat with pictures and video, and TikTok with video. That couldn’t have happened in any other order. If there were any other mobile media platforms, we would have seen them emerge in line with that spectrum of cellular bandwidth deployment.
I use these frameworks in the same way as I experience a visit to the optometrist: you sit in the chair and stare at fuzzy letters, and they start to come into focus. Often I’ll layer them: there will be one core framework, and then I’ll try different combinations. Sometimes it’ll help me see more clearly, or sometimes it’s wrong.
Sometimes there will need to be a hand-whittled lens that will bring me clarity at the end—and that’s because it’s something I’ve never seen before. I use them to get a base-level understanding of a new opportunity.
This piece is the fundamentals—the stuff that can be known. My thoughts draw on and synthesize concepts from economics, math, physics, chemistry, biology, and psychology. I rely on several concepts as inputs, including inclseveralioral economics, cognitive biases, entropy, game theory, moral hazard, nudge theory, potential and kinetic energy, price elasticity of demand, social psychology, supply and demand, and thermodynamics, alonamongy others.
I can only assume thatamongstors disagree with some of these frameworks, which I welcome—it took 1,000 years of experiments and debate to arrive at the heliocentric model of the universe.
Let’s dive into the frameworks.
Atomic value swaps
An atomic value swap checks how long core events in an environment can keep happening. A nuclear value swap is when cash is swapped for a good or service. Both sides agree that the deal will benefit them, so it goes through. If the price of a good or service is too high, the buyer won’t buy it or hire the service.
The market clearing price of the exchange quickly understands secular-to-secular (money/goods/services) atomic value swaps. Secular-to-sacred atomic value market clearing price of the business soon understands secular-to-secular (money/goods/services) atomic value swaps tend to change how people’s predicted reactions to changes in the transaction will change.
This best extends to less tangible exchanges as a concept for understanding non-monetary transactions and, for example, asking for an invitation to a new product exchange best grows social indebtedness for a scarce resource understanding questions that help me figure out what’s going on with an atomic value swap are:
1. What kind of value is being given?
2. What does what is shown seem to be worth?
3. How well does the writer get paid for the work they do?
Examples: Instagram’s leading value exchanges with its users are with producers and customers. Content creators spend their time and energy on work in the business to get their work out there and build a product that can be sold (and following).
Consumers are ready to watch ads as a way to pass the time when they are out shopping. For marketers, there is a third atomic value swap, a regular exchange of money spent on advertising (“ROAS,” or return on ad spend).
More minor atomic value swaps exist at the product feature level. When users like advertisers, a unit of work to “thank” the person who made it is also a form of social signaling, but not as much. This would only happen if it were hard enough to thank the person who made it. The instant value swap happens and can continue if the friction between the two things is low enough.
Business model–product fit
“Business model–product fit” is as critical for a company to succeed as “product–market fit.” Optimal business modThe atomic value swap occurs and is sustainable by–product fit is the company-level version of the nuclear value h trade on their site. Why does the unseen hand say that a 20% take rate suits markets? It’s essential to know the alternatives to marketplaces and what they give the supplier side, which usually pays the fee instead of the demand side.
The marketplace provides pre-existing demand for incremental supply. A potential supplier in a market can rest assured that if they correctly price their products or services and position them on a liquid market, the order will appear and be executed. It is common for businesses to devote roughly 20% of their top-line revenue to marketing and demand generation. If the supplier were to outsource all demand generation to a singular entity, that entity would be entitled to collect approximately 20% of what would have otherwise been spent.
One of OnlyFans’s new ideas was a business plan called “product fit.” The number of chargebacks from credit cards on adult sites needed to be lowered for payment platforms to make money. Because of this, many payment platforms flat-out refused to work with sites with adult material. OnlyFans took on this extra refund risk and passed it on to its users through a higher take rate. In most situations, a 20% take rate must fulfill the demand to be able to last.
Business model-product fit frameworks
Demand with a low ACV (average contract value) can’t be taught
Suppose the expected economic return on an acquired customer is low. In that case, any acquisition path that requires the consumer’s education inevitably fails unless a macro tailwind or zeitgeist eventually eliminates the educational co in a typical environment. Most self-serve products fall into this bucket.
High ACV demand necessitates Suppose education
This sums up enterprise sales perfectly. If a prod. In that case,ct with a high ACV doesn’t require education about its benefits; competitors who charge lower ACVs and acquire customers more efficiently will have an advantage in the market. If a product with a high ACV “sells itself,” the manufacturer should anticipate the entry of cheaper competitors.
User-generated content is superior to editorially-driven content on ad-supported platforms
Competing for the same ad dollars with a product with higher COGS (cost of goods sold) is impossible.
Examples: In today’s world, journalism faces a challenge in keeping up with the times. With the rise of the internet, news outlets are now competing with user-generated content platforms for ad revenue. Before the shift, news publications were beautiful businesses with a significant market share in advertising and a healthy paid consumption model. See the New York Times’s revenue collapse and slowly recover through the focus on subscriptions.
Content chosen by editors is better than content users select on sites that charge for access.
With a paywall, a site for user-generated content that only offers access and not making money from the content can’t work.
Examples: Netflix and Spotify are great paywalls primarily about making money for content providers. Medium is an excellent example of a fee that didn’t work because its original value offer to users was more about sharing than making money.
The seven dangerous sins are the most important things that drive people
All successful companies that deal with customers play on at least one of the seven deadly sins. They are tried-and-true ways to get people to do things, and the fact that they have stayed the same over time shows how powerful they are.
No successful consumer companies do not appeal to any of the seven deadly sins.
Different motivators can apply to varying constituents within each company and even other behaviors from the same branch.
Examples:
Sloth: Uber, Amazon
Pride: Instagram, TikTok
Gluttony: DoorDash, Netflix
Lust: Tinder, OnlyFans
Envy: Pinterest
Wrath: Twitter/X
Because the end user places a reasonably consistent value on the trade-off between money and time (convenience), sloth is typically the most straightforward trait to monetize.
Pride can also be easily monetized; see the demand elasticity framework and Maslow’s hierarchy of needs.
As consumption is the source of gluttony, its valuation is straightforward.
Lust has historically been confounded with finding a long-term partner, a seemingly impossible atomic value exchange that has afflicted dating websites.
Envy is difficult to monetize due to the difficulty of controlling the point of purchase (the path from inspiration/jealousy to a transaction that can be monetized can be lengthy and convoluted).
It is challenging to monetize wrath because it frequently manifests through in-group/out-group dynamics.
Naturally, covetousWhile trickiest of all vLust ices to monetize. Therefore, the user is hesitant to engage in a suboptimal transaction and would instead be monetized through any other vice (i.e., idleness in the form of performance fees).
Why ask, ‘Why now?’
Venture capital is a specialized instrument designed to finance companies capable of rapidly creating value over short periods. Concurrently, the invisible hand is a constant force that diminishes a company’s ability to generate disproportionate value.
So, venture capital is best for financing companies that take advantage of “dam-breaking” times, such as sudden changes in technology and regulations (and, to a lesser extent, in capital markets and social changes). Each new growth is like a new unstable nuclear isotope being made. Radioactivity gives off a lot of energy in the form of business value.
Still, this energy is lost over time (the unseen hand at work) without a good answer to the question “Why now?” any venture capital spent in the company or sector is subsidizing business growth better served by other capital instruments (with a lower cost of capital, like debt, etc.).
Several Examples: “Enterprise value per year” is a valuable metric to investigate because it often clarifies the distinction. Facebook has averaged $43 billion informationally since its inception, compared to $54 billion for Google and $50 billion for Apple. In contrast, Disney has generated an average annual enterprise value of $3.5 billion, an order of magnitude lower than Nike’s ($3.9 billion annually).
Lululemon, a thriving consumer apparel company founded in 1998, is worth $43 billion—Facebook has created a Lululemon each year since 2004.
We have yet to see the emergence of additional mobile-first social companies. We are well into the smartphone’s half-life decline. Most enterprise value capturable in the mobile social space occurred in the first few years following smartphone saturation (Snapchat was founded in 2011). Similarly, we have yet to see a successful new company utilize DVDs, even though they once represented a technological turning point.
Pre-smartphone, Uber, Lyft, and other ride-hailing companies could not exist. Cellular networking speeds were more important than a unified operating system to connect transporters and passengers via the same software in enabling on-demand innovation. The original iPhone’s 2G/Edge network was sluggish to support real-time GPS and turn-by-turn directions. Cellular bandwidth enabled the iPhone 3G to deliver these essential featuWeiginal iPhone was introduced in 2007, but the iPhone 3G wasn’t introduced un July 11, 2008. Uber was established nine months afterward.
Being the answer to ‘Why now?’ for other businesses
Assuming proper business model—product fit, if a company can answer the query “Why now?” predominantly through technological innovation, it will be a venture-scale outcome for other companies. The challenge is that the innovative company’s customer base does not exist at one point at its foundation (market risk).
FAQs
Q: When it comes to venture capital, what is “Business Physics”?
A: “Business Physics” is a way to look at technology companies using a scientific method to buying and figuring out how much risk there is.
Q: What does it mean to study “Business Physics”?
A: “Business Physics” means looking at a company’s technology, market potential, business plan, finances, and management team to figure out how likely it is to succeed.
Q: Can “Business Physics” be used by any company that works with technology?
A: Yes, the ideas in “Business Physics” can be used by any technology company, no matter how big or small it is or what business it is in.
