Chamath Palihapitiya, an early Facebook executive and outspoken presence in Silicon Valley, is unapologetic about his frustrations with the venture-capital industry. There’s too much money chasing deals, making it harder to generate strong returns. Too many VCs conflate luck with talent. And everyone who benefits from the current system is resistant to change.
Technically, Palihapitiya is a venture capitalist himself. But he aspires to be a master of the universe, as his firm, Social Capital, expands with separate funds for late-stage investing, debt, and public equities. Founded in 2011 to back early-stage startups, Social Capital now manages $1.8 billion worth of assets. It looks less like a traditional venture-capital firm and more like a tech-focused private-equity conglomerate. Palihapitiya takes inspiration from Warren Buffett’s model of investing in and acquiring companies for the long term. “I want to fucking dominate this industry,” he says, punctuating each word with a table pound.
As it expands, Social Capital is losing core members of its initial team. Co-founder Mamoon Hamid abruptly left last month to join Kleiner Perkins Caufield & Byers. Now, the third co-founder, Ted Maidenberg, also plans to leave the firm, according to people familiar with the matter.
Maidenberg has no timeline for his departure but will not participate in Social Capital’s fourth early-stage venture capital fund, expected next year. The firm has deployed around two-thirds of its $600 million, third early-stage fund, raised in 2015, according to a person familiar with the situation. Maidenberg plans to keep all of his board seats and continue to work with existing portfolio companies.
Maidenberg and Hamid are early-stage investors who saw the firm moving away from its original mission, according to people familiar with the situation. “Most firms prioritize the portfolio companies first, then the limited partners, and then growing the firm,” one person familiar with the situation said.
Maidenberg’s departure will leave Palihapitiya as the sole founder of an increasingly diverse operation. According to Palihapitiya, Social Capital’s model of investing in startups across every stage and asset class, “resets how this industry should work in a more rational way.” Regarding the venture industry, he says, “If we’re really going to be part of the future, we need to mature and grow up.”
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Beyond its expansion, Social Capital hopes to change how some companies go public with a novel solution: a special purpose acquisition vehicle, or SPAC. On Thursday, the firm raised $600 million in an IPO for its first such SPAC, dubbed Social Capital Hedosophia. This publicly traded shell company will use money it raised to acquire all or part of a privately held tech company, thereby taking the target company public. Most likely, the SPAC will acquire a minority stake in a company worth more than $600 million; it could buy 10% of a company worth $6 billion, for example.
Palihapitiya and crew are hoping SPACs can save Silicon Valley’s unicorns from IPO purgatory---where they are valued more highly as private companies than they likely will attain as public ones---and irritate bankers like Goldman Sachs and Morgan Stanley along the way. “Nobody wants to fucking deal with Morgan and Goldman,” Palihapitiya says. “You take the entire process out of the hands of bankers and you put it into the hands of technologists who understand the company.” Social Capital is not doing this for free, though. The firm will charge 20% of the value of the deal, to be paid in stock with a one-year lock-up. The firm is calling this model IPO 2.0.
Palihapitiya is not the first to attempt a new way of going public. Google’s Dutch auction in 2004 was regarded as a success but few companies chose to repeat it. More recently, Spotify is reportedly planning to cut out investment banks entirely by listing its shares directly on NYSE.
Tech executives often cite the IPO process as a reason to put off going public. They say it is a time-consuming distraction that forces them to glad-hand investors who set the price of the IPO but may sell the stock on the first day of trading. They hate mandated lock-ups that prevent employees from selling their stock for a period after an IPO, and they resent paying fees to investment banks for the whole miserable experience.
To pull off a reverse merger, Palihapitiya has recruited Tony Bates, former president of GoPro, and Adam Bain, the former COO of Twitter. Bain, who left Twitter last November, says the SPAC will not be a full-time gig for him. Having gone through Twitter’s IPO, he sees an opportunity to fix the “acute pain points” in the traditional process, particularly the way an IPO distracts a company’s management from running the business. “If IPO 2.0 can help solve that problem, [it] could be a good answer to getting higher quality companies out,” he says.
A SPAC deal would take just 90 days to complete. With a shorter time frame and a streamlined process, venture investors could see a faster return on their investments, startup employees could cash in on their stock sooner, and public-market investors could get access to high-growth tech startups while they’re still actually growing.
There are challenges: Palihapitiya and executives of the target company will have to agree on a price that both companies’ investors will accept. He will need to ensure that any company the SPAC acquires is ready for the scrutiny of being public, with quarterly earnings reports and analyst coverage. If he can’t strike a deal within two years, he must return the money to the SPAC’s investors.
Using a SPAC to buy a high-growth tech startup is unusual, but Palihapitiya might be onto something. By mid-afternoon Thursday, 15 highly valued tech startups had called expressing interest in a possible deal, he says, noting that SEC rules prevent the firm initiating deal talks until October 1. “Somebody has to fix this stuff,” he says. “I may as well go fix the fucking system.”