Thursday, November 09, 2006
Deal Note: Accel, Index, NewMedia Spark vs Mind Candy
OK. By now you know that Mind Candy, the guys behind Perplex City, have taken $7m from Accel Partners, Index Ventures, and NewMedia Spark.
Let's deconstruct the rationale behind the deal a bit, as well as it's implications.
1) First, kudos to these funds for doing this deal. It's a great deal. Not because Mind Candy will be the next Google.
Like any other industry, venture has to learn - to shift down a learning curve. Yesterday, it was software. Once most funds had mastered what it takes to make software investing in software successful - relationships, deal sizes, marketing, etc - the pickings were rich.
Today, venture guys need to learn to invest in new spaces - media, cleantech, transport possibly (there are plenty more).
But most funds have little idea about just what it is - relationships, capital, management - that makes media investments succesful. The slow but sure amplification of churn (and, in some cases, outright implosion) on Sand Hill Road is a testament to this.
In large part, the success of today's vintage of funds depends on building this learning - especially in media, where near-term returns promise to be the greatest (relative, to, for example, cleantech).
2) What's the play being made? This is perhaps the most interesting part of this deal.
Though Index might be, Accel (especially) isn't known for huge insight in this space. Though they've done a few notable deals recently, imho, they've struggled for the last couple of years to figure out where/why/how value can be created and captured in new media.
The first point to note is that this is a bet on content. Yes, the content is user-gen, interactive, hypersocial etc - but so is, for example (geek out) D&D or Magic: The Gathering. Point being - historically, it's justifiably difficult for venture guys to invest in content, because idiosyncratic risk dominates such investments.
The Mind Candy deal is a nice datapoint that this idiosyncratic risk is beginning to evaporate (the others being deals like Lionhead and Habbo).
The risk is evaporating for three reasons. First, content players in certain spaces are less and less at the mercy of publishers and retailers (hi games industry, hi record labels). Second, and the deeper economic rationale behind point 1, is that being creative is iteslf becoming less and less risky, as marketing investment shrinks, distribution channels become circuits, etc.
But third, most powerfully - and this is likely Accel's rationale - new revenue streams are coming online. Branding is going to be revolutionized (this year and next). It should be intuitive just what a powerful platform for doing exactly that a company like Mind Candy/a service like Perplex City offers.
Now, beyond that, it should be intuitively clear that the economics behind this investment - if we can vaporize the idiosyncratic - are very compelling indeed.
Of course, there's a big danger here too. Mind Candy is pioneering a new category of gaming. This will take not just money - but freedom.
The danger is that the investors LinkedIn/Friendster them - when near term revenues fail to materialize, advise (force) management to sacrifice the economics of the underlying innovation for immediate gains.
At Friendster, for example, the CEO shuffle began as the search for revenue streams viable in the short run became the only priority.
Of course, this was a huge strategic error - if Friendster had focused on economics (instead of simply chasing more and more elusive profits), they could have crafted the same social value proposition and strategy that Myspace did, only 1-2 years earlier.
So Mind Candy's success depends, to a greater degree than most other plays in these spaces, on the team having the freedom to do what they do best, especially when things get turbulent (double esp since beancounter VCs, no matter how much they claim to love playing World of Warcraft, really have no idea about what makes games cool, and what makes consumers connect).
In this scenario, the most likely outcome is that Mind Candy ends up basically being another D&D or Magic: the Gathering; investors cash in on the brand and IP, multiplying revenues across very traditional retail channels.
Now, you might think there's nothing wrong with that - except that it's not going to make anyone the kind of returns which justify the existence of venture capital in the first place.
I'm not sure I agree with a couple of your arguments here. You say that Mind Candy is a great deal because it will allow Accel, Index, et al to learn more about how to do media investing. Could wind up being an expensive lesson, you never know. Since we don't know the entry or exit valuations and other terms, I think it's impossible to say it's a good deal yet.
Your second argument is the one I take greater issue with. The idiosyncratic risk of of content investments is not evaporating. If anything I think it's getting higher (now that the old media infrastructure is dying, there's nobody left to flog crap and content has to stand on its own merit). On a per case basis, the idiosyncratic risk of a content play is still quite high; what's happened is that the search costs of finding good content have diminished considerably. Thus it's easier for VCs to find dog food that dogs will probably eat. The hard part will be to find good content that has reached enough critical mass to be past the idiosyncratic risk threshold but still need VC quantities of money to scale. Mind Candy makes cool content that might not scale well. I guess time will tell.