“In VCs / PEs”, Birds of a Feather “Lose Money-Together” | by: Carmen Nobel | HBS Working Knowledge

The more “Affinity there is between two VCs / PEs investing in a Firm/Venture…”, the “Less-likely the Firm/Venture will succeed”, according to research by Paul Gompers, Yuhai Xuan and Vladimir Mukharlyamov…!!

To illustrate the old adage that Birds of a Feather Flock Together, there may be no better example than the #VentureCapital, industry..!

A recent study finds that #VentureCapitalists, have a strong tendency to team up with other VCs / PEs whose ethnic and educational backgrounds are similar to their own…”Unfortunately, that tendency turns out to be bad for business…”

“ AT THE EARLY-STAGE OF A COMPANY, YOU WANT THE PEOPLE AROUND THE TABLE TO CHALLENGE EACH OTHER…”

“Much of the homophily-literature in business research talks about the positive benefits of working with people who are similar to you—ease of communication, comfort level, and the like,” says Paul Gompers, the Eugene Holman Professor of Business Administration at Harvard Business School, who cowrote the paper with HBS Associate Associate Professor Yuhai Xuan and Vladimir Mukharlyamov, a graduate student in the Economics department at Harvard. “What we show is that, in this context, the effects can be quite negative”..

The Team set out to Answer a Few Key-questions : What specific characteristics influence individuals’ desire to work together on an investment deal ?? And given that influence, how does affinity affect investment performance  ?? Do common characteristics lead to better communication, which then leads to better decisions ?? Or does like-mindedness lead to narrow decision-making, to the detriment of the deal  ??

The research began with a database of 3,510 individual venture capitalists and their investments in 12,577 companies between 1973 and 2003….Over the course of six years, the research team collected detailed biographical information on each VC, including ethnicity, educational background, and employment history. They then looked at who had invested with whom, and what those co-investors had in common…!!

Across the board, the researchers found that venture capitalists tended to co-invest in deals with other VCs who possessed similar characteristics. This was true regardless of whether the similarities were ability-based or affinity-based. For example, two VCs who graduated from the same undergraduate school were 34.4 percent more likely to collaborate on a deal than were two VCs from different alma-maters… And the probability of collaboration between VCs increased by 39.2 percent if they were members of the same ethnic minority group…!!

The data held up with what Gompers had observed qualitatively in his two decades of studying the venture capital industry…”There are strong affinity groups with Indian venture capitalists and entrepreneurs and with Chinese venture capitalists and entrepreneurs,” Gompers says. “And there’s sort of a cabal of Jewish entrepreneurs and VCs as well…”

The Team then examined how these similarities had affected the outcomes of the portfolio companies in the study…(For the purposes of the paper, a successful outcome was defined as one in which a company eventually filed for an initial public offering)

They found that the probability of success decreased by 17 %  if two co-investors had previously worked at the same company—even if they hadn’t worked there at the same time… In cases where investors had attended the same undergraduate school, the success rate dropped by 19 %… And, overall, investors who were members of the same ethnic minority were 20 %  less successful than investors with different ethnic backgrounds.

It dawned on the researchers that affinity might make it easier for one venture capitalist to guilt-trip another into making a bad deal—doing a favor for a friend. “We thought it could be that they only syndicate the deals to their friends that they can’t get anyone else to do,” Xuan says.

To test for that possibility, the team assessed the 12,577 investments according to measures that had proven to be indicators of future success, according to previous research…Such indicators included whether a company’s founder had a history of founding successful companies, the stage of the portfolio company (risky early stage versus less-risky later stage), and how much media attention the company had received at the time of investment…!!

Controlling for these factors, they found that the quality of the deals was not apparently affected by co-investor affinity…In other words, birds of a feather did not necessarily pick worse investments than birds of different feathers on day one…”It’s not like we invest into a deal that’s bad to start with, and therefore we get a bad outcome in the end,” Xuan says…

Rather, the lack of success among similar investors seemed to lie in the decisions that followed the investment…!!

In addition to granting Cash, Venture-capitalists are heavily involved in Hiring or Firing the CEO of the Portfolio-company, choosing a Board of Directors, devising an Overall Strategy, Identifying Potential-Partners, and so on…Indeed, the researchers found that the negative affinity effect was strongest in early-stage deals, which generally require more input from investors than do later-stage deals…

“[The] lower likelihood of success of co-investments between venture capitalists that share similar characteristics is triggered by them making inefficient decisions or even mistakes that they would otherwise avoid,” the researchers write in The Cost of Friendship.

They attribute this in-efficiency to “Group-Think,” the psychological phenomenon in which members of a group make poor decisions because they fail to consider viewpoints other than their own….“When you are really familiar with each other, you tend not to go outside of your circle to get an outside opinion,” Xuan says…!!

The findings are in line with some organizational behavior studies, which have found that that work groups perform better when members learn from one another’s disparate experiences…!!

“I think this carries over to venture-funded start-ups, in which having a diversity of venture-capitalists around the table is actually critical to their success,” Gompers says….”Take two people who once worked at Google, who went to Harvard Business School, and who are Indian American….They probably look at things in a very similar way and are unlikely to challenge each other…But at the early stage of a company, you want the people around the table to challenge each other…”

Gompers and Xuan make a point of sharing the finds with students in the MBA program at HBS, many of whom pursue careers in the venture capital industry. In fact, people with Harvard MBAs make up 24.4 percent of the professional ranks at venture capital firms in the United States, according to a study by PitchBook. A network that powerful must beware the power of group-think and collaborate with other networks, the professors advise.

“But it’s likely that if you’re an HBS MBA, you think like other HBS-MBAs, because you took the same courses from the same professors…And it’s important for students to realize that it might be useful to have a diversity of people around the table when you make investment decisions OR you’re working on New-ventures..That, at least for me, is an important prescriptive element of the paper…”

Accelerating the “Digitization of Business-Processes”: Answer to “Radical Overhaul & Efficiency of Business-Operations” | McKinsey

” Customers want a Quick and Seamless #DigitalExperience, and They Want it NOW… “

Customers have been Spoiled….!!  Thanks to companies such as Amazon & Apple, they now expect every organization to deliver products and services swiftly, with a seamless user experience…!!

Customers want to log in to their #OnlineElectricity Account and see a Real-time Report of their Consumption…They expect to Buy a Phone from their Telecommunications provider and have it Activated and Set-up immediately out of the box…They want #BankLoans, to be Pre-approved OR approved in minutes.. They expect all #ServiceProviders, to have automated access to all the data they provided earlier and not to ask the same questions over and over again…They wonder why a bank needs their salary slips as proof of income when their money is being deposited directly into the bank every month by their employer…!!

Many traditional organizations can’t meet these expectations… As a result, attackers born in the #DigitalAge, can swoop in and Disrupt the Market through rapid delivery of digital products and services combined with advanced algorithms and full access to information…

Customers wouldn’t phrase it this way, but they are demanding from companies in many industries a radical overhaul of business processes…Intuitive interfaces, around-the-clock availability, real-time fulfillment, personalized treatment, global consistency, and zero errors—this is the world to which customers have become increasingly accustomed. It’s more than a superior user experience, however; when companies get it right, they can also offer more competitive prices because of lower costs, better operational controls, and less risk..

Delighting the customer :

To meet these high customer expectations, companies must accelerate the digitization of their business processes. But they should go beyond simply automating an existing process. They must reinvent the entire business process, including cutting the number of steps required, reducing the number of documents, developing automated decision making, and dealing with regulatory and fraud issues. Operating models, skills, organizational structures, and roles need to be redesigned to match the reinvented processes. Data models should be adjusted and rebuilt to enable better decision making, performance tracking, and customer insights. Digitization often requires that old wisdom be combined with new skills, for example, by training a merchandising manager to program a pricing algorithm. New roles, such as data scientist and user-experience designer, may be needed…

The benefits are huge: by digitizing information-intensive processes, costs can be cut by up to 90 percent and turnaround times improved by several orders of magnitude. Examples span multiple industries: one bank digitized its mortgage-application and decision process, cutting the cost per new mortgage by 70 percent and slashing time to preliminary approval from several days to just one minute. A telecommunications company created a self-serve, prepaid service where customers could order and activate phones without back-office involvement. A shoe retailer built a system to manage its in-store inventory that enabled it to know immediately whether a shoe and size was in stock—saving time for customers and sales staff. An insurance company built a digital process to automatically adjudicate a large share of its simple claims..

In addition, replacing paper and manual processes with software allows businesses to automatically collect data that can be mined to better understand process performance, cost drivers, and causes of risk. Real-time reports and dashboards on digital-process performance permit managers to address problems before they become critical. For example, supply-chain-quality issues can be identified and dealt with more rapidly by monitoring customer buying behavior and feedback in digital channels. Leading organizations, have come to recognize that the traditional large-scale projects to migrate all current processes to a digital world often take an extremely long time to deliver impact, and sometimes don’t work at all. Instead, successful companies are reinventing processes, challenging everything related to an existing process and rebuilding it using cutting-edge digital technology. For example, rather than creating technology tools to help back-office employees type customer complaints into their systems, leading organizations create self-serve options for customers to type in their own complaints..

This kind of approach is usually done process by process in a series of short-term releases combining traditional Process Re-engineering methods like Lean, with New Agile software-development methodologies…!!

SUCCESS FACTORS :

Companies in most industries can learn from the practices employed by firms that have done this successfully..Which are :

Start at the End State and Work Back :

Digitization often enables a process to be fundamentally reconfigured; for example, combining automated decision making with self-service can eliminate manual processes. Successful digitization efforts start by designing the future state for each process without regard for current constraints—say, shortening a process turnaround time from days to minutes. Once a compelling future state has been described, constraints (for instance, legally required checks) can be reintroduced. Companies should not hesitate to challenge each constraint. Many are corporate myths that can be quickly resolved through discussions with customers or regulators.

Tackle the End-to-End Customer Experience :

Digitizing select stages of the customer experience may increase efficiency in specific areas of the process and address some burning customer issues, but it will never deliver a truly seamless experience, and as a result may leave significant potential on the table. To tackle an end-to-end process such as customer on-boarding, process-digitization teams need support from every function involved in the customer experience. The end customer should be heavily involved too, not least to challenge conventional wisdom. To do this, some firms are creating start-up-style, cross-functional units that bring together all colleagues—including IT developers—involved in the end-to-end customer experience…The cross-functional unit has the mandate to challenge the status-quo…Members are often collocated to improve lines of communication and ensure a true team effort.

Build Capabilities :

Digitization skills are in short supply, so successful programs emphasize building in-house capabilities. The goal is to create a center of excellence with skilled staff that can be called upon to digitize processes quickly. Still, many times companies must search for talent externally to address the need for new skill sets and roles, such as data scientists or user-experience designers. Given its importance, the first managers selected to lead the transformation should be carefully chosen, well trusted in the organization, and ready to commit for a long period of time. It is also important that the team has the skills needed to build the required technology components in a modular way so that they can be reused across processes, maximizing economies of scale.

Move Quickly :

Traditional IT-intensive programs deliver a return only at the end of the project, sometimes years after the project’s kickoff…Digitizing end-to-end processes one by one, however, can deliver improved performance in just three to five months. Complex IT challenges such as legacy-systems integration can be harder to move along quickly, but there are ways to mitigate the risks of delay. For example, one industrial company pursuing an IT legacy-systems integration used low-cost offshore resources to re-key Data among Systems, allowing a new #DigitalCustomer, process to be brought online for use with pilot customers while a robust IT interface was built in parallel…This approach reduced the risk involved with the integration effort and accelerated payback…

Moving quickly isn’t always easy…More often than not, it’s business decision making that’s causing the bottleneck rather than IT development. That’s why digitization programs need strong board-level support to align all the stakeholders, while all other decisions should be delegated to the project team..

Roll In, NOT Out :

In traditional deployment, a new solution is rolled out progressively across sites to existing user teams. However, a different approach may be needed when organizations undertake digitization, because of radical changes to processes and the supporting organization. For example, telecommunications salespeople may prefer customers to apply for services through the existing store system instead of self-serve kiosks. Bank-credit underwriters may not trust automated algorithms and may choose to review automatically approved applications. In these cases, it might be easier to roll in a new organizational unit to handle the new digital process, and then bring employees into this unit while increasing the volumes handled by it in parallel. This ensures a much easier transition to the digital process by not expending extensive energy on changing old habits and behaviors. By the time all process volume has migrated to the new digital process, the new organizational unit will have “swallowed” all the required employees from the legacy units.

Companies that digitize processes can improve their bottom lines and delight customers….The value at stake depends on the #BusinessModel, and Starting point but can be estimated by allocating costs to End-to-End processes and Bench-marking against peers…To kick-start the approach and Build Capabilities and Momentum, organizations can undertake one OR two pilots and then scale rapidly…!!