Silvergate – Hidden Network Effect in the Crypto Industry

3 Minute Read

I have a decent grasp of the technology and utility of blockchains. I think that digital currencies add value to our world. And I think they will be here to stay.

If you can feel comfortable that the entire blockchain ecosystem isn’t a scam—a BIG IF given that Warren Buffett is convinced that Bitcoin is a Ponzi scheme – then Silvergate (NYSE:SI) is a great way to ride this trend.

I first heard about Silvergate nearly a year ago from the newsletter of my favorite journalist, Matt Levine.

On the surface, Silvergate is a bank. Their core business began by taking customer deposits and doing boring bank things like investing in municipal bonds.

Silvergate has actually been around for 40+ years, and they were one of the first banks to serve the digital currency industry 2013.

Since that time, Silvergate has pivoted to focus 100% on digital currency customers, carving out a nice niche for itself.

What makes Silvergate truly special is the Silvergate Exchange Network (SEN). SEN lets Silvergate’s customers transfer assets to one another instantly around the clock. It creates a classic network effect, and Silvergate has first-mover advantage.

Some of Silvergate’s core customers are the digital currency exchanges who actually handle crypto assets.

Think of it like this: SEN is an exchange for those exchanges. It also serves the broader ecosystem of crypto investors, developers, miners and more.

No other bank has the SEN. It would be difficult to replicate today, and that difficulty is only going to increase over time.

Imagine if JP Morgan owned the NYSE, and the NASDAQ didn’t exist. That would be a very powerful bank.

Silvergate is a bet on crypto without having to choose any specific currency. Silvergate has a strong brand in the digital currency world. They are headquartered in San Diego, and they generate real profits with real $USD.

Risks:

In general, the world of digital currency seems to attract a lot of young, sketchy, self-promoters. With Silvergate, however, management seems scrupulous. They have decades of experience and lots of gray hair.

Silvergate’s interest-yielding loan portfolio looks boringly vanilla which is what their depositers and investors should want. Plus, they have great relationships with banking regulators – with whom they’ve collaborated closely from the beginning.

The real risk is that the entire cryptocurrency ecosystem is a house of cards as Warren Buffett asserts. I disagree with the Oracle of Omaha here, but you must decide for yourself.

Valuation & why now:

Silvergate is profitable. But looking at the profits alone would obscure the underlying growth.

Here is the quarterly growth of activity on the SEN, as measured by the volume of cash transactions amongst the bank’s customers to one another.

And here is the associated fee income generated by digital currency customers.

One note: Q3 digital currency customer fee revenue has not yet been officially released (Earnings release on 10/26). $3.7M is my estimate based on Silvergate’s October 6th press release.

For comparison, Q2 net profit for the entire company was $5.5M, so ~$1.3M sequential growth in this revenue line item is very meaningful to the bottom line.

As fee revenues continue to grow, the market will be forced to realize that Silvergate is not just a bank. It has something that few banks have – a network effect.

As I write this, the stock has run up 30% this month and sits at an all-time high.

It’s still quite cheap. You are paying around $15 for $1 of net income today.

But if you think digital currency fee revenue can continue to grow 100%+ a year for the next few years, then you would be paying $5 today for $1 of net income in year 3.

(August 2020 Silvergate investor deck, Coindesk September 2020 Research Report on Silvergate)

Why I write about my portfolio

I want you to challenge my beliefs. I’d love for you to tell me what I’m missing. I want you to tell me about public companies that I may not know about. And I’d love for you to teach me more about the companies that I already know.

As of 9/30/2020, Silvergate was the 4th largest position in my personal portfolio.

I bucket the company as a “Hidden Gem”. Next time, I will dive deeper into another Hidden Gem – Electro Optic Systems.

Drop me a line if you have any questions / comments or just want to get in touch! yz@yishizuo.com

Disclaimer: I am not a registered investment advisor. Nothing I write should be construed as investment advice or the solicitation of investment.

Stock Bucket #2 – High Growth Beasts

5 Minute Read

These “High growth beasts” comprise 38% of my portfolio as of 9/30/2020.

These 6 companies are growing rapidly and are priced at a premium. I believe that the strengths of these businesses justify their valuations, but decide for yourself.

Atlassian – NASDAQ: TEAM – (15% of portfolio as of 9/30)

Atlassian makes collaboration tools—primarily for software development.

Their flagship product—JIRA—is as important to software development as Microsoft Excel is to financial analysis.

Just like with Excel, users start with JIRA because it’s the industry standard. Once they become familiar, there are few reasons to switch.

Atlassian products are priced via a freemium SaaS model. It’s easy to get started, and costs scale naturally with the customer’s success. As such, relative to its fast-growing SaaS peers, Atlassian spends very little on sales and marketing.

Founded in 2002, the Australian-headquartered company raised very little capital until their 2016 IPO, and the two co-founders own a shade under 50% of the company today—a rarity amongst tech companies at this stage

Key risk(s):

The enterprise collaboration / productivity space is extremely crowded. While Atlassian does have tools beyond JIRA, they haven’t made much progress outside of its core developer market.

They tried to compete against Slack, but they called it quits in 2018 and instead transferred some IP and cash to Slack in return for an equity stake.

I wouldn’t be surprised if Atlassian bought Slack one day. After all, the 800-lb gorilla in the room is Microsoft, which is starting to encroach upon Atlassian’s core.

Can Atlassian ever expand beyond its core software developer market? That would be nice, but I don’t think it needs to.

Valuation:

You are paying $17 today for $1 of gross profit 3 years from now. (I assumed 25% annual growth)

(Most recent Atlassian investor deck)

InMode – NASDAQ: INMD – (8%)

InMode is an Israeli-headquartered medical device company that makes products used in non-invasive, aesthetic procedures.

My friend Jay Vasantharajah wrote this sharp, much more detailed analysis of InMode a few months ago—I suggest you read it!

Consumer demand for InMode’s products is growing rapidly, and they have a superior distribution + pricing model relative to its competitors.

Not only that, but relative to those players, InMode has better product, better marketing, and overall better management.

In recent years, InMode has grown much faster than its competitors, just this week management announced that Q3 revenue increased by ~100% from Q2 (which to be fair, was depressed by COVID).

Key risk(s):

There are many players in this space—some standalone, some owned by private equity, some owned by larger medical device companies.

Valuation:

You are paying $4 today for $1 of gross profit 3 years from now. (I assumed 60% annual growth)

(Most recent InMode earnings release)

Match Group – NASDAQ: MTCH – (8%)

Match Group is the dominant global player in online dating.

These products fulfill a core human need and are not going away. The market is far from saturated and monetization will continue go up.

Online dating is a tough business to enter. Users naturally leave the service, and customer acquisition costs relative to lifetime value is very high.

Fortunately for me as an investor, Match Group has first mover advantage, brand recognition and economies of scale. They have the ability to buy companies for cheap, cross-advertise across their properties, and monetize where others cannot.

Key risk(s):

Facebook announced in 2019 that it would enter this space. While Facebook certainly has the userbase, its attempts have so far to penetrate the dating space not made a dent.

Valuation:

You are paying $13 today for $1 of gross profit 3 years from now. (I assumed 10% annual growth)

(Most recent Match earnings release)

Duck Creek Technologies- NASDAQ: DCT – (2%)

Duck Creek is a US-based vertical software provider similar to Constellation and Enghouse; however, unlike those companies, Duck Creek only operates in one vertical—property & casualty insurance.

Byrne Hobart, who publishes a paid newsletter that I subscribe to, wrote a great feature on Duck Creek in August.

The company is in the middle of a transition to SaaS. Looking at the financials alone, Duck Creek’s 70%+ SaaS annual recurring revenue growth is obscured by its legacy business.

On the SaaS front, returning customers spent $1.13 for every dollar that customers spent last year – and this includes the negative impact of customers who left.

And according to management, Duck Creek wins 2/3 of all potential new business opportunities (including ones they are not asked to bid on).

Key risk(s):

Insurance isn’t going away, but you are exposed to one industry.

Valuation:

You are paying $7 today for $1 of gross profit 3 years from now. (I assumed 20% annual growth)

(No deck – but here is the Duck Creek IPO prospectus)

Bill.com- NYSE: BILL – (2%)

Bill.com is a SaaS platform that helps small-to-midsize businesses (SMBs) collect and pay their bills.

As a leader at a small company, I’ve personally used this product and am familiar with the value that it provides. Collecting and paying bills can be a pain in the butt

Interestingly, I see parallels between this product and Zoom 2-3 years ago—the same people who were early adopters of Zoom’s video conferencing software are the same people I see first to use Bill.com.

Returning Bill.com customers spent $1.21 for every dollar that customers spent last year – and this includes the negative impact of customers who left.

Bill.com’s opportunity extends beyond SMBs. The most agile, and ultimately successful, large enterprises will empower their smaller team to choose their own tools. The Bill.com’s of the world will penetrate large enterprises at the grass roots level and expand upward.

Key risk(s):

Valuation is very high.

Valuation:

You are paying $27 today for $1 of gross profit 3 years from now. (I assumed 40% annual growth)

(Most recent Bill.com investor deck)

Adyen – Euronext: ADYEN – (2%)

Adyen is a Netherlands-headquartered payments platform.

They enable “unified commerce”. In other words, they make it easy for their customers to accept payments in different countries in different formats.

Behind the scenes, the world of payments is incredibly complex and constantly evolving. And that is great for this company. When complex systems change so quickly, customers need tools like Adyen to adapt.

Because Adyen owns the merchant relationship, it doesn’t matter whether Visa, Mastercard, Unionpay, Apple Pay, Google Pay, Wechatpay, Alipay, Grabpay, or anyone else will prevail on the consumer side–ultimately, Ayden wins.

Key risk(s):

Valuation is very high.

Adyen competes with Square, which is US focused, and to a lesser-extent – Stripe, which is focused on digital businesses.

Adyen’s forte is multi-channel payments, and its core market is retailers with a physical presence.

Right now, there appears to be enough room for all these players to coexist

Valuation:

You are paying $48 today for $1 of gross profit 3 years from now. (I assumed 25% annual growth)

(Most recent Adyen investor day presentation)

Why I write about my portfolio

I want you to challenge my beliefs. I’d love for you to tell me what I’m missing. I want you to tell me about public companies that I may not know about. And I’d love for you to teach me more about the companies that I already know.

Next article: Silvergate – Hidden Network Effect in the Crypto Industry

Drop me a line if you have any questions / comments or just want to get in touch! yz@yishizuo.com

Disclaimer: I am not a registered investment advisor. Nothing I write should be construed as investment advice or the solicitation of investment.

Yishi’s Stock Bucket #1 – Stable Cash Generators

3 Minute Read

These “stable cash generators” comprise 47% of my portfolio as of 9/30/2020.

These 4 companies aren’t growing particularly fast, but I like the risk-reward trade-off.

It is unlikely that any will double in 6 months. But the chance of permanent loss of capital is low.

In a downturn, these businesses should do fine.

Equinix – NASDAQ: EQIX – (26% of portfolio as of 9/30)

  • Equinix is a US company that operates global “Interconnection facilities”— locations where the internet physically connects
  • Imagine the pipes that carry data across the internet. These pipes come into an Equinix facility. Within each facility, enterprises can connect directly to one another
  • Enterprises have a lot of reasons to share data, and those reasons are growing
  • For these enterprises: latency matters, proximity matters, and having a one-stop shop matters.
  • As a result, Equinix is the dominant global provider and enjoys winner-take all network effects and customer lock-in

Key risk(s):

The internet is becoming multi-polar with increasing local regulations. In such a world, a global interconnection provider like Equinix could matter less.

Valuation

You are paying $23 today for $1 of adjusted funds from operations 3 years from now. (I assumed 10% annual growth)

(Most recent EQIX investor deck)

Slate Grocery REIT – TSE: SGR.UN – (11%)

  • Slate Grocery REIT (SGR) is a Canadian company that owns grocery-anchored real estate across US suburban areas
  • Their most recent rent collections through COVID have been relatively steady at 90%+
  • On the downside, the company’s cash flows are currently not growing
  • But they have plenty of liquidity
  • My hypothesis is that SGR will eventually recover to pre-pandemic levels, and their sizable dividend will remain reasonably steady and afford me time to wait

Key Risk(s):

While SGR doesn’t operate grocery stores, the more anchor tenants they have, the better. Amazon is a perpetual threat to the grocery industry given their Whole Foods acquisition + Amazon Fresh. And in the longer run, digital grocery delivery could disrupt the industry entirely.

Valuation

You are paying $8 today for $1 of adjusted funds from operations 3 years from now. (I conservatively assumed 0% annual growth)

(Most recent SGR investor deck)

Constellation Software – TSE: CSU – (5%)

  • Constellation Software is a Canadian-based company that acquires and grows vertical software businesses mostly in North America but expanding globally—especially Europe
  • Vertical software means selling software tailored to the needs of a specific industry (I.e. utilities, hospitals)
  • Generally, vertical software is a great business to be in given that the product, once installed, becomes critical for the customer. And switching costs become very high
  • As a result, you have predictable, recurring revenue with high margins and annual price increases. Costs are predictable too
  • Management is superb. For decades, Constellation has executed nearly flawlessly

Key Risk(s):

The company is expensive relative to its growth rate.

Valuation

You are paying $55 today for $1 of net income in Year 3. (I assumed 10% annual growth)

(No deck but CEO Mark Leonard has published annual letters that reflect his intellect and clarity)

 

Enghouse – TSE: ENGH – (3%)

  • Similar to Constellation, Enghouse is a Canadian-based company that acquires and grows vertical software businesses mostly in North America but expanding globally—especially Europe
  • Again, vertical software is a great business model
  • Management seems cut from similar cloth as that of Constellation
  • Relative to its larger “cousin”, Enghouse is less proven but the playbook seems similar
  • Relative to Constellation, Enghouse is growing faster, but priced more cheaply

Key Risk(s):

Can Enghouse continue to execute as it scales?

Valuation

You are paying $30 today for $1 of net income 3 years from now. (I conservatively assumed 10% annual growth)

(Most recent ENGH investor deck)

Disclaimer: I am not a registered investment advisor. Nothing I write should be construed as investment advice or the solicitation of investment.

Why I write about my portfolio and specific stocks

I want you to challenge my beliefs. I’d love for you to tell me what I’m missing. I want you to tell me about public companies that I may not know about. And I’d love for you to teach me more about the companies that I already know.

Next article: Stock bucket #2 – Fast growing beasts

Drop me a line if you have any questions / comments or just want to get in touch! yz@yishizuo.com

Yishi’s Stock Portfolio Q3 2020 Review

2 Minute Read

Here is an overview of my personal stock portfolio as of September 30th, 2020.

The 15 companies I own span a wide variety of industries.

  • US centric with global revenues: Most of my portfolio companies are headquartered in the US. The rest are all based in Western countries. However, much of the collective revenue is global.
  • Predominantly B2B: With the exception of Match Group, the entirety of my portfolio is B2B. A few others–InMode, Slate Grocery REIT– sell to businesses, but are closely driven by consumer spending.
  • Mission critical: Many of these companies are mission-critical businesses (Equinix, Kinder Morgan). Their customers would be in serious trouble if they disappeared.
  • Diverse value drivers: Some are riding unique, long-term trends (Silvergate, EOS). Some are cyclical (Schlumberger, Total).
  • Diverse stages: Some are in high growth mode and reinvesting capital back into the business (Bill.com, Ayden). Some are stable and spitting out double-digit dividend yields (Total, Slate Grocery REIT) or repurchasing large amounts of stock.
  • Software Focus: Much of this portfolio is software. Some sell across industries (Atlassian). Others are focused on specific industry verticals (Constellation, Enghouse, Duck Creek).
  • Understandable: Most of the tech companies in my portfolio depend less on any cutting-edge technology and more so on their integrations, ecosystems, customer lock-in & network effects.

I’ve bucketed my portfolio into 4 categories to reflect my thinking (More to come in a future article).

Why I’m publicizing my portfolio

Disclaimer: I am not a registered investment advisor. Nothing I write should be construed as investment advice or the solicitation of investment.

I used to be a professional hedge fund investor. I’ve been investing out of my personal portfolio for some time. I’ve done alright over the past few years, and I find the experience fun.

The reason I’m publicizing my portfolio is because I want you to be my thought partner.

I want you to challenge my beliefs and try to poke holes in my thesis. Please tell me what I’m missing.

I want you to tell me about public companies that I may not know about. And I want you to teach me more about the companies that I already know.

I think investing in public companies helps me become a better entrepreneur & vice versa.

In the coming months, expect to see a series of articles analyzing these companies and discussing my investment philosophy.

Welcome to the combination of value-investing + entrepreneurship.

Drop me a line if you have any questions / comments or just want to get in touch!  yz@yishizuo.com

Next post: Yishi’s Stock Bucket #1 – Stable Cash Generators

Hidden in plain sight – how corporations exploit the power of lotteries

4 Minute Read

Take a look at the economics of a lottery, and you’ll realize that these things are extremely profitable.

From the Roman Empire to the Han Dynasty, governments have long recognized that lotteries are a license to print money.

And of course, even the dumbest emperor would not allow this type of power to go unchecked.

Throughout the course of history, the state has erected a monopoly around this cash cow. And in every developed country today, lotteries are strictly regulated.

However, companies have found clever ways to exploit the power of lotteries to their advantage without breaking the letter of the law.

5 examples of how companies exploit lotteries

#1 Sweepstakes

Sweepstakes have also been around for centuries and are completely legal.

The McDonalds Monopoly partnership is a good example. Cereal box tops are another example. Consumers buy your product and earn a chance to win a prize.

The only catch is that in the United States, you have to let people enter your sweepstake without purchasing anything.

However, you can get around this regulation by making it difficult for the public to enter your sweepstake without buying your product.

Two common practices:

  • You require people to mail a physical letter
  • You require the letter to be hand written

Both these steps add friction; so instead, most consumers choose the easy path and just buy your product.

In effect, you force people to buy your product to enter your lottery. You can then call it a sweepstake, and it’s a completely legal sales tactic.

#2 Robinhood’s sign up bonus

Robinhood’s referral rewards mechanism is ingenious.

While other, less creative companies give you cash, Robinhood gives you—the new customer, and the person who referred you—a free share in a random company.

You might get a $5 stock, you might get a $200 stock– you have no idea. That’s what makes it so exciting.

When I joined Robinhood in September 2018 via my friend’s referral code, I received a share of Denbury Resources. It was worth $5.30 when I got the stock for free. And about a month ago I saw this email:

Despite my 100% loss on my 1 share of Denbury, I am a fan of this referral rewards program. It’s much more fun than just straight cash, and very on-brand for Robinhood.

P.S. If you don’t have Robinhood – would you please do me a favor and sign up with my referral code? I hope that one of us will get a share of Kodak, Nikola, or if we’re really lucky – Hertz 😉

 #3 “Do us a favor for the chance to win something”

Here is an ad that I saw on Instagram just this week.

Note the fine print: “No purchase necessary”. $30,000 is a lot of money. And Fidelity is treating this like a sweepstake.

This is commonplace on a smaller monetary scale too. Companies, even big ones – request user feedback for the chance to win $50 – $500.

I get these emails all the time. And I’ve sent a few of these myself.

From my personal experience:

  • This lottery mechanism works well, and you will see higher response rates.
  • People do not think about the amount of time spent relative to the chance of winning.

None of these “Help us for a chance to win $50” surveys I’ve seen or sent include the line: “No purchase necessary”.

It’s a legal gray area. To participate in your lottery, consumers are not allowed to pay with money, but there seems to be no restrictions on their time + attention.

#4 An incredibly successful start-up built on-top of a lottery mechanism

Let’s play a trivia game. Try to guess the name of this company:

  • This company was centered around a daily lottery
  • This lottery was free to play.
  • But it required your time and attention, and some degree of skill.
  • They made the lottery drawing a regular event, with a highly charismatic host
  • The prizes started out small at first, but eventually grew to 6 figures
  • At the height of this lottery’s popularity, 1M+ users would tune in for the nightly drawing

Any idea what this company is?

The answer is HQTrivia

A trivia contest isn’t the same as a lottery, but the core mechanics of HQTrivia are very much lottery-like.

The best part was that it was completely legal. After all, users didn’t have to pay money to play this lottery. They paid with their time and attention, and HQTrivia sold that time and attention to advertisers.

HQTrivia rose like a rocket, largely due to that lottery mechanism. Later, they crashed spectacularly and quite tragically. For more information, I highly recommend that you check out The Ringer’s “Rise and Fall of HQTrivia” podcast.

#5 Loot Boxes

Loot Boxes are the modern version of Magic / Baseball / Pokémon cards. You buy a pack and have the chance to win something really valuable.

In essence, it’s a mini-lottery.

With Loot Boxes, video game companies have taken the baseball card concept and digitized it so that it is even more profitable and scalable.

Video game players (“gamers”) can buy virtual, in-game currency with real money. (They can also earn virtual currency during normal gameplay). And gamers use that virtual currency to buy Loot Boxes. The contents of those Loot Boxes can then be sold on various markets for real money.

Just think. You are a video game company. Your customers—your gamers—come back to you day after day, week after week. You take this mini-lottery model and multiply by millions of gamers and make your product even more addicting.

Your costs are minimal since everything is digital. And you have a money-printing machine. You now wield powers that were once limited to emperors.

Loot Boxes have been controversial. Parents are complaining that this is encouraging children to gamble. And lawmakers across the world are starting to scrutinize the practice.

I think they have a point. As far as I can tell, this is the closest thing to a privately-run lottery that exists today, hidden under the virtual currency façade.

In conclusion

Hopefully these examples inspire you to try some of these models in your own businesses.

I hope you do it in an ethical way – because this stuff is powerful.

I certainly missed a ton of other examples. If you know of any other interesting hidden lottery mechanisms being used today, please drop me a line – I’d love to learn more! yz@yishizuo.com

How YOU can become a millionaire Tiger King – An MBA’s tongue-in-cheek analysis

5 Minute Read

Can tigers be a sustainable business model?

Maybe.

Photo Credit: Vlad Tchompalov via Unslpash

Viewed from conventional business lens, tigers are an awful asset class.

The fundamental problem: timing of cash flows

In any business, you want to match the duration of your assets and liabilities. More simply, you want your bills to be due at the same time cash flow comes in. Otherwise, it’s easy to get into trouble.

Let’s pretend you own a tiger cub. Let’s call him Tigger. And let’s look at the timing of cash flows over the course of Tigger’s lifetime.

People adore tiger cubs and are willing to pay big bucks to pet them. For example, Jeff Lowe, who still owns GW Zoo, charges the equivalent of $500 / hour!

So Tigger generates some serious cash while he’s young. But as we saw on the Netflix show, after a mere few weeks, he is no longer be cute and cuddly. Tigger quickly becomes a dangerous liability both physically and financially.

According to the one and only Carole Baskin, who is an expert at maintaining and feeding big cats – the upkeep for an adult tiger is $8,000 / year. And a captive tiger can live up to 20 years.

So all of a sudden, you are making no income and you have some big bills to play with no end in sight.

You are scrambling for ideas, and the thought comes to mind, what if you exhibited adult Tigger and charged admission?

You realize that is almost certainly not feasible from a business standpoint, or else there wouldn’t be a big cat crisis in this country. So you scratch that idea.

Now what do you do? You are getting desperate.

Morally dubious tiger business practices

Well, there are two morally dubious shortcuts you could take to mitigate liability.

Option #1: Joe Exotic taught you that the market rate for tiger cubs is ~$3,000. You find Tigger a girlfriend, breed cubs and sell the cubs. You generate immediate cash for yourself and shift liability to someone else. When Tigger Jr. grows up, those costs will be someone else’s problem. Congrats, you have just made the big cat crisis worse.

Option #2: If you think Option #1 is bad, Option #2 is even worse. In the Netflix show, you learned about the allegations of euthanasia against Joe Exotic & Doc Antle. That’s certainly one way you can end your liabilities immediately. Are you barbaric enough to dispose of your beloved Tigger?

Assuming you don’t want to take either option. Let’s start over and see if there is a principled AND profitable way to operate a tiger business.

Brainstorming an ethical tiger business model

You can try to pull a Carole Baskin and operate a rescue park, but good luck if you wish to compete against her. After all, you’ve seen what happens to her enemies!

You could sell tiger naming rights (maybe even multiple times over like a timeshare model).

You could sell sponsorships or “adopt-a-tiger” programs, but Carole Baskin seems to have cornered that market.

Gimmicks aside, realistically, cub petting is the only feasible path for you to become the next Tiger King. But running a tiger petting operation humanely is expensive.

To avoid animal abuse, you shouldn’t allow petting until Tigger is 8 weeks old, after all of his vaccinations are complete. And according to the USDA, tiger cubs become too dangerous to pet after week 12.

So unless you are okay with young Tigger getting sick, or your customers getting maimed by teenage Tigger, you only have 5 full weeks in which you can earn serious income from the animal.

Running the numbers to try to make it work

Remember, after Tigger is no longer cute and cuddly, he will become a financial burden.

Using Carole Baskin’s $8,000 estimate as the annual all-in cost of supporting Tigger for the next 20 years, the total lifetime cost adds up to $160,000.

Can you make $160,000 profit in 5 weeks?

Assume 6 exhibiting days (1 day of rest / week), 6 hours of petting time a day, a couple of employees, insurance, etc. You would need to make somewhere around $1,000 an hour to break even.

That’s double what Jeff Lowe charges at GW Zoo, which I would assume to be market rates.

It’s hard to adopt ESG (Environmental, Social and Governance) best practices when less high-minded competitors are able to undercut you.

Now, maybe my assumptions & calculations are wrong. And maybe I’m being unfair to Jeff Lowe, and he is in fact an upstanding businessman who a) really cares about animal welfare and b) is running an ethical operation. I can’t really opine on that, but you should just watch the show and decide for yourself . . .

A solution to market failure

Hypothetically, if everyone in the tiger industry agrees to a set of sustainable business practices and abides by them, then the supply of tiger cubs should decrease. Naturally, the price of tiger petting will go up, which can support the ethical model outlined before.

The problem is that as the price of tiger petting goes up, the incentive to cheat the system and breed more tiger cubs grows. Without someone to enforce the rules, any kind of industry agreement is unworkable.

We need someone with the power to punish the rule breakers. But as you saw in the show, it’s been politically difficult to pass any such legislation.

There is a solution though – in the absence of the law – we have the Carole Baskins and PETAs of the world.

As the next Tiger King, rather than antagonize the animal rights people as Joe Exotic did, why don’t you work with them?

You could put in safeguards against abuse and publicly showcase your humane practices. You could livestream each animal 24/7. You could be transparent about everything, i.e. share medical records, food records, financial records, and more.

You saw the animal rights people chase Joe Exotic out of the malls. They are powerful. Get them on your side. Not only can they help you acquire demand, but they can also hinder your less honorable competitors.

Tiger cub petting doesn’t seem likely to disappear, so the industry might as well be led by someone ethical.

That someone might as well be you!

**

About the author: Yishi is a former hedge fund investor and current entrepreneur who enjoys thinking about businesses in his free time. http://www.yishizuo.com/about/

He is the CEO of DeepBench. We connect users with experts on any topic in any industry, and we also license our software to enterprises to help them build their own knowledge networks. (Check us out if you are interested in joining our network or using our product!)

Business Opportunities in Chess: Pay-to-play Micropayments

6 Minute Read

I’m a casual Chess player.

I once took classes as an 8-year old. I remember playing a decent amount on Yahoo! Games as a teenager. But mainly, it was the in-person, banter-filled games with my best friends in high school that I loved most.

One thing that I’ve always liked about Chess is how universal it is. This is a picture of me in Uzbekistan in July 2013, encountering a few local kids at a sidewalk café, and stopping to enjoy a cup of juice and a quick match.

We didn’t speak one another’s language, but Chess created a mutual connection and a lasting memory =)

Nowadays, I play Chess on an app.

I prefer the untimed variety. I like having plenty of time to think without stress. I like that I can play asynchronously on my own schedule. And I love the strategic element of the game.

And of course, my mind can’t help but wander to the business side of Chess. First, let’s analyze the core product, which I think benefits from a few unique advantages.

Chess as a Product – durable appeal and accessibility

Chess dates from the 1st millennium and is the most popular board game in history. Some sources estimate that there are 600 million Chess players globally.

Unique amongst games, Chess is seen as less of a frivolous pastime and more of an intellectual sport. (Anecdotally, my parents limited how much StarCraft I was allowed to play as a kid – but there were never any restrictions on Chess!)

That may also be because Chess is easy to understand. After all, the rules are easy to learn, but the game is hard to master. This makes the game very accessible to beginners, and further enhances its popularity.

Furthermore in Chess, it is extremely easy to handicap the better player to balance the playing field and provide a learning opportunity. You could remove a piece, give one side more time, or provide takebacks. Easy handicaps help make the game more fun & accessible for all.

Lastly, Chess is very spectator friendly. As an observer, you can think through moves alongside the players. And given the turn-based, mental nature of the game, it’s almost as if you are playing the game yourself. No other competitive event can come close – except perhaps televised Poker – another of my favorite games.

The Chess business landscape

A very interesting thing I noticed is that the Chess app I use has Twitch built-in. They regularly advertise on the home page, and with the click of a button –I seamlessly navigate to a livestream of Alexandra Botez – a popular Chess influencer.

Overall, Chess streaming viewership is up 500%+ since 2016.

Technologies such as Twitch make it easier for Chess influencers to earn money via advertising and sponsorships. And there are others ways to make money too. For example, a Grandmaster with the pseudonym Chessbrah sells branded clothes.

Another Grandmaster named Simon Williams sells instructional material.

While I can’t speak to the quality of Simon’s paid material, I did watch a free YouTube recording of one of his Chess streams. I would recommend as it is not only highly instructional, but also a great look at the modern Chess economy in action.

In the video, Simon mentions that the bulk of his income comes from sales of instructional materials. And notably, several people tipped Simon during the livestream. Most tips were about ~£5-10 , but there was one £50 donation!

Just like other professional sports, Chess seems to follow a power law. It’s very difficult for players outside the top 20 to earn significant money from tournaments and endorsements. And there are only so many Alexandra Botezs, Chessbrahs, and Simon Williams’ that the industry can sustain.

But I think that there is another economic model for Chess that is being neglected.

Pay-to-play micropayments – a new business model for Chess

If you’ve ever walked around Union Square in Manhattan – you’ve seen the Chess Hustlers sitting around. You can walk up and pay ~$5 / game to play them. Demand is brisk, and some of these hustlers make $400+ / day.

I think that there is an opportunity to take that pay-to-play model and apply it to digital Chess. And I see no reason why micropayments can’t be integrated into a Chess app directly.

Another key feature that would enhance this economic model is asymmetrical time limits. For example, an expert could be allotted 15 seconds per move, but an amateur could have 15 minutes per move, or even unlimited time.

Under these time constraints, if an expert can complete games in an average of 40 moves and charges $20 / game, she would make $120 / hour – whether she wins or loses.

I used $20 / game as the benchmark because I would personally pay at least that amount once a month to play with an expert who can help me improve. The expert limits her precious time, and I as the paying customer have all the time in the world to work on my game. Plus – it would be an interesting social interaction, something that I would tell my friends about.

You can do other creative things too. For example: the challenger pays $100, but if he beats the expert, then the challenger gets $50 back. Want to takeback a move? That will be $10!

How to capitalize on this?

There are 3 major chess platforms in the world. Any one of them could build this. Chess.com, the platform that I use, seems to be relatively tech-forward. They have that neat integration with Twitch shown earlier.

I’m not sure why Chess.com hasn’t gone down the micropayment route. This article is a great overview of their history + vision. They are a distributed company, have bootstrapped for years, and raised a very modest amount of capital in 2015. My hunch is that they looked at their own resources, made a strategic calculation to partner with Twitch in 2017 rather than build in-house.

As an outsider, I have no idea what the partnership agreement between Twitch and Chess.com looks like. Theoretically, if Chess.com started building micropayments as outlined above, it could eventually bring them into competition with their partner. So that potential conflict of interest may be all the opportunity that another entrepreneur needs.

As we saw with Simon Williams, Twitch’s platform does enable donations. But that model is clearly a blunt instrument and you can’t unleash Simon’s full potential with it.

There is an opportunity for a micropayment-focused chess app to revolutionize the industry. Building the product wouldn’t be cheap, and gaining an audience won’t be easy. But in this modern influencer era, success is very possible.

How big could this be?

To estimate the market for this let’s start by focusing on Chess.com. It alone has over 20 million members, and over 1 million are active daily. (Apparently, Coronavirus has accelerated the popularity of the game. Chess.com expects to see a decade’s worth of growth in the next few months!)

Let’s say you can capture just 10% of those daily active users and get them to pay $20 / month. And let’s assume a 25% take rate – you would generate $6 million / year.

This doesn’t include advertising or any type of add-ons—i.e. subscriptions, 1-on-1 coaching, group lessons, etc.

But let’s not stop there. Let’s look beyond Chess.

The real long-term opportunity is to take on Twitch, acquired by Amazon in 2014 for ~$1 billion and estimated to be worth ~$4 billion today

After all, if micropayments work in Chess, there is no reason why the same model couldn’t be applied to other games. For ANY player who wishes to monetize her talent, you could provide a credible, more flexible alternative to Twitch.

If you build the platform, you can control the flow of money. And if you control the flow of money, you control the world.

It would be very cool to see an entrepreneur give this a shot, and I’d love to help in some way.

Lastly, apart from the business idea – my handle on Chess.com is @yishizuo. Feel free to shoot me an invite =) I’m always down to meet new friends via a casual game!

**

About the author: Yishi is a former hedge fund investor and current entrepreneur who enjoys thinking about businesses in his free time. http://www.yishizuo.com/about/

He is the CEO of DeepBench. We connect users with experts on any topic in any industry, and we also license our software to enterprises to help them build their own knowledge networks. (Check us out if you are interested in joining our network or using our product!)

Knowledge as an addictive drug — an investor’s guide to the expert network industry

7 Minute Read

In 1995 Jeff Bezos could have started Amazon by selling any product, but he chose to sell books for two reasons:  1) high number of SKUs and 2) low storage costs.

Question: What has infinite SKUs, and zero storage costs?

Answer: Expert knowledge.

A modified version of this article first appeared in Integrity Research.

What are expert networks?

Expert networks are a marketplace for knowledge.

The core product is a paid 1 hour phone call between a customer (often an investor or a consultant) and an industry professional with several years of experience.

There are variations: 30 minute calls, video calls, in person meetings, written surveys, group conferences, and more; however, the general concept is the same. Expert networks find and connect industry professionals with paying customers via paid interactions where knowledge is exchanged.

This marketplace isn’t about connecting the same industry professional to the same customer for repeat interactions. After all, one day you want to learn about X, and the next week you need to learn about Y.

This market is about connecting:

  • the same customer to different experts, or
  • the same expert to different customers.

(Jeff Bezos doesn’t sell the same book to the same customer either.)

Macro industry driver – the growing complexity of our world

As the world becomes more complex, existing data platforms cannot keep up – and a lot of valuable knowledge remains trapped and not written down anywhere. Not even Google can index what is in our minds (not yet anyway). Some of the most valuable data in the world is the unstructured, tacit insights in our heads.

Sometimes we don’t even know what we know until someone starts speaking to us, and the ensuing conversation leads to the synthesis of new and profound insights that are useful for both parties.

In our modern, fast-moving, and complex world, the ability to connect and speak with industry professionals becomes ever more important. And that is the value that expert networks provide.

Knowledge as a drug

Paid expert calls are an addictive product. And here is why.

In a previous job as a hedge fund investor, I used to be on the client side of these expert network calls. Even if the industry expert can’t answer my questions perfectly, guaranteed – she knows more than I do about her field. And no matter what, I will certainly learn something new and useful.

A good analogy for learning is like swimming in a magical pool. In this magical pool, you can sort of see the floor in the shimmering water, but as you dive deeper, you realize that the floor is farther than you realized, and you can never reach the bottom. Similarly, as you swim horizontally, the sides of this pool expand farther away—like a fleeting mirage.

As such, I have always walked away from expert conversations with new insights and new questions. Not only am I a satisfied customer, but the more I eat the hungrier I get.

And not only are paid expert calls addictive at the individual level, but once you start using the service, eventually your competitors have to use it too. Otherwise, they will be left behind.

Peer pressure is tough to resist.

A human-centric business model

The barrier to entry to starting an expert network is relatively low.

Not a lot of capital is required. All you really need is one employee with an internet connection.

However, there are a lot of nuances to connecting expertise as the business scales.

  • We are not dealing with sterile bits and bytes of data.
  • Neither are we dealing with pieces of dead trees bound together by a colorful cover.
  • Rather, we are dealing with human beings & all the emotions and personalities that epitomize our species.

At their core, expert networks exist to help people communicate complex topics to one another.

Effective communication is rarely easily accomplished, and sometimes – a great deal of human hand-holding is required to establish the trust & comfort required to enable strangers to have a deep, meaningful conversation.

One can try to replicate that trust-building via technology, but such is easier said than done. As such, the traditional expert network industry is largely a human-centric, customer service business.

The demand side of the business

First, a few quick facts about the industry

  • Longevity: Expert networks have been around for close to 20 years.
  • Growth rate: 20%+ year.
  • Size: ~$USD 1bn in annual revenue, with a few large existing players. GLG is the biggest at ~50% of the market

There is a bit of “a rising tide lifts all boats” dynamic in the expert network industry. Given the aforementioned macro trends and fundamentally addictive nature of the product, it’s a good industry in general to be in. And there are more and more new customers, non-traditional users of expert networks, such as Fortune 500s, start-ups and market research firms trying these services for the first time.

The core group of traditional expert users are investors and consulting firms, who make up 70-80% of traditional expert network demand today. And this group is well covered by entrenched market incumbents.

Here is a summary of incumbent advantages

  • Affinity for the familiar – existing players have an advantage in any industry, but given the high touch nature of traditional expert networks, those advantages are particularly acute here. Users of traditional expert networks are constantly on the phone / emailing with their account managers – and over time, the relationship naturally becomes stronger.
  • Price insensitivity – traditional expert network users aren’t very price sensitive. If you are making a $50 million investment, what is an extra $500 to you for a call that could make or break the deal? If you are a consulting firm, these costs are generally passed on to your end customer so price becomes further abstracted.
  • Disconnect between end user and economic buyer – the person using expert networks is often an entry-level analyst. (I used to be one of them!) Sadly, any time + effort saved for junior analysts like us does not directly impact the economic decision makers. The average entry-level employee cares about personal career growth and is relatively risk averse. In general, actions that are client-facing and revenue-generating receive more visibility relative to actions that help the firm reduce expert network overhead—hence, this a dynamic that helps the incumbents.
  • “No one gets fired for buying from IBM” mentality – Again this is a common enterprise sales challenge for new entrants in any industry, with multiple risk-averse departments —i.e.: legal, procurement –guarding the gates. Compliance is a particularly unique gate-keeper in the expert network world. As such, adding a new vendor is a hassle that few users have the stomach to deal with. In addition, sometimes customers of the large incumbent expert networks are forced to pay up-front for annual contracts, with credits that roll-over upon renewal—another dynamic that naturally favors the existing players.

The supply side of the business

On a positive note for 1) new entrants to and 2) customers of the expert network industry, there are few supply-side advantages for the incumbents.

Professionals are not bound by exclusivity arrangements to any network. Many experts are on multiple networks. It relatively easy for most expert networks to acquire new supply to satisfy most of their customer requests.

That is the hidden secret of the industry. Check out “The secret of how expert networks operate” for more details.

Fundamentally, industry professionals enjoy being experts for 4 reasons

  • Earn easy money – it’s easy for us to talk about something that we know a lot about, especially in a 1-on-1 setting. As long as expectations are set in advance, the threshold for success can be exceeded. So from the expert’s perspective, it’s easy money, but money isn’t the only attraction.
  • Feeling of power – during these calls, the industry expert is at the center of attention. They get to feel powerful and important. It’s a nice feeling—like multiple shots of dopamine over the course of a 60-minute phone call. Just as knowledge is an addictive drug for the consumers, so too is it addictive for the suppliers.
  • Feeling of altruism – the core part of what experts are doing is sharing knowledge to help another individual. We human beings are social animals, genetically altered through millennia of natural selection to be inclined to help one another. Ultimately, as thousands of industry experts have told us, there is something enjoyable about sharing their knowledge that stretches beyond money and power.
  • Exciting break – modern knowledge workers are intellectually curious and drawn to the new. The vast majority of the industry professionals in our network have full-time jobs. They have a daily routine, and doing a call once in a while is a nice change of pace. They are scheduled to speak with a mysterious stranger. Excitement is in the air. They have no idea where the conversation might lead. And they will likely learn new things as well.

All of these items make for a fun experience for experts and that is why the expert network business model works.

DeepBench’s approach

Our company is approaching the expert network industry from two unique directions

First, we are licensing software to help other organizations build their own knowledge networks.

Second, we are focused on reducing costs and expanding the market for paid knowledge exchange.

Our expert network is already 30-70% cheaper than the incumbents, and we continuously strive to:

  1. Push down our own costs through technology,
  2. Create more user engagement on our platform, and
  3. Capture more data over time and use it to our advantage, creating a virtuous feedback loop

Our long-term vision

The end goal isn’t to beat GLG; it is to create the next social media platform focused on professional knowledge.

Think of us as a LinkedIn focused on what you know, rather than who you know or where you‘ve worked in the past.

DeepBench will be the go-to tool that people visit to learn things that aren’t easily discoverable via Google. (A more detailed product vision to come in a future article, stay tuned!)

Near term & potential partnerships

Meanwhile, DeepBench will keep growing our expert network business. Every day, we add liquidity to our marketplace and build new platform features as we march relentlessly toward our vision.

We hope that this guide is informative. And if you are interested in partnering with us – inquiries@deepbench.io

Sincerely,

-Yishi Zuo (CEO, DeepBench)

“We win, they lose” – Radically Reframing the US Immigration Debate

3 Minute Read

 

My parents brought me to America when I was 6 years old. Not a day goes by do I forget how fortunate I am to be a naturalized US citizen.

Now, as a tech entrepreneur who has created American jobs, I’ve witnessed the absurdity of the American immigration system up close.

Immigration is a topic that hits close to home as a significant number of friends I’ve met in the USA are foreign-born. What many Americans don’t realize is how incredibly tough it is for even highly skilled foreign students, who attended some the best universities in this country, to legally stay and work in the USA.

In recent years, I’ve personally witnessed many of my foreign-born friends be forced to leave the country. I’ve seen vibrant companies shut down, American jobs lost, and lives uprooted. I’ve indirectly experienced, via consoling friends and coworkers, the needless stress created by an immigration system that only benefits other countries and hurts the USA.

Our politicians need a wake-up call. America shouldn’t be expelling some of our best and brightest to help other nations create jobs.

According to a 2019 Gallup poll, 75% of Americans think that immigration is a good thing for this country, but 75% support restricting illegal immigration.

Over the past few years, President Trump has done a masterful job of framing the immigration debate as a national security issue. By engaging on Trump’s terms and focusing on issues such as detention camps at the border, the Democrats play into his hand. Not only do they look weak on national security, but they appear to be supporting illegal immigration –which is opposed by an overwhelming majority of the electorate.

In “The Art of War”, Sun Tzu dedicates an entire chapter to choosing the right setting to face your foe. By allowing Trump to focus the immigration debate on border security, the Democrats are losing this war of public opinion.

Fundamentally, the Democrats should reframe their message to appeal to the 75% of Americans who support immigration but want to restrict illegal immigration.

So I challenge the Democrats to shift the debate to skilled immigration.

To ensure that the message resonates, they should take it one step further and engage the public at a simpler, emotional level.  The Democrats should take a page out of Trump’s populist playbook.

I dare the Democrats to explicitly tell voters that the United States will steal the best, brightest, and hardest-working people from other countries and transform them into Americans.

In practice, this is what America has always done—use brain drain to our advantage. However, to my knowledge, no major political leader has ever made this argument in favor of skilled immigration in such explicitly stark terms.

Essentially, this is framing the immigration debate as: “We win, they lose”. As arguably inaccurate as this framing is – it is a powerful, visceral message.

“We are the best. We are exceptional. We are fierce competitors. We will continue to WIN by recruiting the best from other countries to join Team USA!”

Such a message appeals to our national pride and our natural confidence. A clever politician can use this message to co-opt America’s nativist elements.

Republicans can also embrace the “We win, they lose” approach to immigration and use it to win votes. But they don’t need to. Because at the moment, they have the upper hand in that debate. And because they don’t need to, they almost certainly won’t – so my message is addressed to the Democrats.

Despite my advocacy for more skilled immigration, I have not forgotten America’s history and our moral obligation to help the tired, the poor, and the huddled masses.

Unfortunately, our political system has Lady Liberty pinned under heavy crossfire. In order to win the war of words in the immigration debate, we must equip Lady Liberty with the most powerful weapons in our arsenal. Skilled immigration is the just the superweapon that she needs. The best & the brightest must serve as the valiant vanguard which fights to relieve the siege and protect the huddled masses.

I sincerely hope that some politician will dare to try this unorthodox approach—that he or she will use this message to WIN, solve the immigration impasse, and do good for America & the world. And I will savor the satisfaction of knowing that I have done my little part to build a better reality.

**

About the author: Yishi is a former hedge fund investor and current entrepreneur who writes in his free time – mostly about business topics.  http://www.yishizuo.com/about/

He is the CEO of DeepBench. We connect users with experts on any topic in any industry, and we also license our software to enterprises to better unlock expertise internally. (Check us out if you are interested in joining our network or using our product!)

Poker + business + applied lessons from Nassim Taleb

3 Minute Read

This summer, a casino opened up right by Boston. And I’ve swung by a few times to play Texas Hold’em — low stakes cash games.

As mentioned in my Liar’s Dice article, I love games that involve incomplete information, strategic deception, and reading people. Pokers offers an exciting challenge that complements my career.

As a start-up CEO, I’m constantly communicating with people via meetings, calls, emails — etc. At a poker table, it’s nice to be able to just sit back, relax, gather insights and make quick decisions.

Poker, like investing — is a highly analytical, solitary affair involving incomplete information — and it certainly embodies parts of my old hedge fund job that I miss.

How I play poker

My playing style is very much aligned with my personality.

I try to be very disciplined.

In general, I try to limit my losses, and really press my advantage when I have it.

At the poker table, what this means is that I will slowly lose small amounts of money, on average, for an extended period of time. And once in a while, the losses will be punctuated by a big win that will more than make up for everything.

For those of you who’ve read Nassim Taleb– this strategy should sound somewhat familiar. Taleb wrote in The Black Swan about how he became financially independent. His investment strategy was to lose money year after year. But when a previously unthinkable event happened, i.e. the 2008 financial crisis — BOOM –he made back his losses manifold.

So an hour in my shoes at the poker table might look something like this.

This is a relatively volatile strategy, but what is unique is that it is only volatile in one direction. (High Sharpe ratio, low Sortino ratio)

There are generally only positive surprises. And that is exactly what I want out of poker and in general, what we all want out of life … right?

To my knowledge, no one else plays cash poker like this. And this strategy is working out decently for me so far. Perhaps it won’t work at higher stakes tables — but we shall see.

Business — the most complex and exciting game of all

The concept of stomaching small losses and doubling down when there is a clear advantage is uncannily similar to my own business experience.

At DeepBench, we are constantly running little experiments. Sometimes they work, sometimes they don’t. We have a core business model that enables us to experiment. You can think of us as one big stack of poker chips, and we are at the table making bets.

Sometimes our experiments open doors for us and lead to areas where we want to double down. Or we are forced to do so by necessity. When the odds are in our favor — we are always prepared to go all-in with our chips. (Note, this experimental mentality is a hallmark of Amazon’s success.)

One key difference between business vs. poker decisions is that there are more things we can do in business to stack the odds increasingly in our favor. And sometimes, we can choose an entirely different game to play.

That is what makes business a much more complex and exciting game for me.

So while the stakes for running a start-up are far higher than your average poker game, ultimately, my philosophical approach to both business & poker is one and the same.

Work life harmony + freedom

About a year ago, my friend and VC investor Li Jin told me that she doesn’t believe in work life balance, but rather — she embraces work life harmony. Her words resonated strongly with me given the lessons I’ve learned from studying Warren Buffett.

For me, work life harmony means merging the professional and the personal so that work and play become one and the same. The beauty of this approach is that you will never be bored.

In contrast, I have another friend who like myself is a startup founder who likes poker. She is quite good at it — far more so than me. However, she does not tell people she plays, because she is afraid of what people like her employees & investors would think.

I can see this friend’s point of view and respect it — but I have a different approach. For me, the only way to be happy is to be free. For me, freedom requires authenticity & transparency — and that come with a risk. But as Nassim Taleb says:

I try to be purposeful with how I spend my time. And I feel fortunate to have a found a hobby in poker that aligns well with my strengths & long-term goals.

**

About the author: Yishi is a former hedge fund investor and current entrepreneur who enjoys thinking about businesses in his free time. http://www.yishizuo.com/about/

He is the CEO of DeepBench. We connect users with experts on any topic in any industry, and we also license our software to enterprises to better unlock expertise internally. (Check us out if you are interested in joining our network or using our product!)