Sequoia Capital (Part 1)

Summary Notes


In this episode of Acquired, hosts Ben Gilbert and David Rosenthal delve into the history and impact of Sequoia Capital, a venture firm that has played a pivotal role in building the modern tech economy. Founded by Don Valentine in 1972, Sequoia's focus on large markets, company-building, and long-term partnership has led to investments in transformative companies like Apple, Cisco, and Oracle. With a philosophy of investing in markets over founders, Sequoia's "aircraft carrier" strategy around Apple catalyzed numerous successful ventures in the PC ecosystem. Despite early missteps like prematurely selling their stake in Apple, Sequoia has continuously evolved, achieving superior returns and institutionalizing venture capital practices. The episode also highlights the significance of generational transfer within the firm, as Valentine handed over the reins to Michael Moritz and Doug Leone, ensuring Sequoia's enduring legacy and stability.

Summary Notes

Personal Shopping Experience and Podcast Introduction

  • David Rosenthal shares a personal anecdote about seeking the latest model of Nike Free Flyknits.
  • Ben Gilbert introduces the podcast, Acquired, and mentions his role at Pioneer Square Labs.
  • David Rosenthal introduces himself and his role at Wave Capital.

"I love it. You know, they, I'd been intending to upgrade, and then when I was in New York, I was like, I'm gonna go to the flagship Nike store and get like, the latest, latest model. They don't make them anymore." "Welcome to season five, episode four of Acquired, the podcast about great technology companies and the stories behind them."

The first quote indicates David's interest in a specific product and sets a casual tone for the podcast. The second quote is Ben's formal introduction to the episode, establishing the podcast's theme and his professional background.

Sequoia Capital's Impact and History

  • Sequoia Capital's history is described as "immaculate" and too extensive to cover in one episode.
  • Ben Gilbert highlights Sequoia Capital's role in catalyzing companies with a combined market value of $3.3 trillion.

"Since its founding in 1972, the firm has helped to catalyze companies that now represent $3.3 trillion of public market value." "For comparison's sake, what did we say next? Which is one of our a pluses, we said generated a trillion dollars in market cap value."

These quotes emphasize Sequoia Capital's significant contribution to the technology industry and the economy, with a staggering $3.3 trillion market value attributed to its influence.

Pilot's Role in Startup Accounting

  • Pilot is presented as a comprehensive accounting solution for startups and growth companies.
  • Ben Gilbert and David Rosenthal discuss the importance of startups focusing on core product value and outsourcing non-core functions like accounting.
  • Pilot's growth and reputable backers, including Sequoia Capital, are highlighted.

"Pilot is the one team for all of your company's accounting, tax and bookkeeping needs." "Pilot both sets up and operates your company's entire financial stack."

The quotes describe Pilot's services and its position as a significant player in startup accounting, illustrating the company's evolution and its relationship with Sequoia Capital.

The Origin of Silicon Valley and Fairchild Semiconductor

  • David Rosenthal outlines the historical context of Silicon Valley, emphasizing its roots in silicon-based technology.
  • The story of the "traitorous eight" and their departure from Shockley Semiconductor to form Fairchild Semiconductor is recounted.
  • The difficulties faced by the "traitorous eight" in financing their venture and the unique structure of their deal with Fairchild Camera and Instrument Corporation are discussed.

"So to set the stage for this episode, we need to rewind back to the origin of Silicon Valley and indeed, Silicon." "It wasn't an independent company. It ended up, they had a really tough time getting it financed."

These quotes provide a background on Silicon Valley's beginnings, highlighting the pivotal moment when the "traitorous eight" left Shockley Semiconductor and the unconventional financing of Fairchild Semiconductor.

Early Venture Capital Environment

  • The nascent state of venture capital in California during the time of Fairchild Semiconductor is described.
  • Key figures in early venture financing, such as Arthur Rock, Pitch Johnson, and Bill Draper, are mentioned.
  • The limited and informal nature of the venture capital industry at the time is contrasted with today's expansive investment landscape.

"For one, it was so small that the individuals who were doing it, all of them in California, they would meet for lunch once a month at the Mark Hopkins hotel in San Francisco at a table, regular table."

This quote illustrates the small scale and informal beginnings of the venture capital industry in California, setting the stage for the emergence of more structured venture capital firms like Sequoia Capital.

Don Valentine and the Founding of Sequoia Capital

  • Don Valentine's background, including his education and military service, is detailed.
  • Valentine's career progression, from working in sales and marketing at Fairchild Semiconductor to investing in startups, is outlined.
  • The challenges Valentine faced in obtaining financing for startups and his decision to start Sequoia Capital are discussed.

"So it's right at this moment in time that a quite a maverick, one might say, individual, comes on the scene and basically single-handedly writes the playbook of what modern venture capital, and alongside it, what a modern startup would look like. And that man's name is Don Valentine."

This quote captures the pivotal role Don Valentine played in shaping the modern venture capital landscape and his innovative approach to startup investment, leading to the creation of Sequoia Capital.

Charlie’s Outsourcing and Public Speaking

  • Charlie's revolutionary move was to outsource the production of chips, changing the industry.
  • However, Charlie was not good at public speaking, which was problematic for earnings calls.
  • Don was brought in to lead earnings calls, an unusual move for the time.

"Charlie is obviously brilliant, and this move of outsourcing production of chips is revolutionary to the industry and quite prescient. But there's one thing that he's absolutely terrible at, and that is public speaking."

The quote highlights Charlie's strengths in innovation but his weakness in public speaking, which was significant for a public company's earnings calls.

The Role of Capital Group

  • Capital Group was a large investor in tech companies like Intel and AMD.
  • They noticed the potential in Silicon Valley and decided to back companies there.
  • Don was known to the Capital Group through his private investments and his role at National.

"Capital Group, they had been seeing what was starting to happen up in the new proto Silicon Valley. They'd seen the intel IPO that had happened, which intel was the first true venture backed company that had gone public and all the wealth that that had created."

This quote explains Capital Group's awareness and interest in the emerging tech scene in Silicon Valley, particularly after Intel's successful IPO.

Don’s Transition to Full-Time Investing

  • Don was offered to work full-time with Capital Group, leveraging his skills in market analysis.
  • The offer allowed Don to move from small personal investments to supporting companies until public offering.
  • This was the start of Capital Management Services, Inc.

"So Don jumps at this chance. This is his true passion. He loves this. And this is a chance know. Take all of these roadmaps and marketing and market analysis skills that he's developed and just have this be his full time job."

The quote illustrates Don's passion for investing and his decision to take on the opportunity with Capital Group as a full-time venture.

Don’s Investment Philosophy

  • Don believed his selection system for investments would be successful.
  • He emphasized the importance of having access to a large pool of capital.
  • Don's reputation and experience were key to attracting entrepreneurs.

"So people who were interested in starting companies often gravitated to me to help them start their companies from their point of view. I had some money. I knew how markets worked and how to help them position their company in the market."

This quote demonstrates Don's confidence in his ability to select and support successful startups, highlighting his role as a magnet for entrepreneurs.

Sequoia Fund’s Inception

  • The Sequoia Fund was established by Capital Group with a $5 million fund in 1972.
  • Don worked on behalf of Capital Group's clients and simultaneously created his own firm, Sequoia Capital.
  • Raising the first independent Sequoia fund was challenging, highlighting the difficulty of establishing a new fund.

"Finally, in 1970, and even that. That was like single digit. Like, how big was that fund? I couldn't get the exact data. Well, I saw a couple of conflicting sources, but I believe it was somewhere between three to 5 million."

This quote discusses the challenges and uncertainties faced by Don while raising the first independent Sequoia fund, emphasizing the tenacity required in the process.

Don’s Ground Rules for Investing

  • The investment must be in a large market and in northern California.
  • It should involve advanced technology with high gross margin potential.
  • Sequoia must see the potential to make $100 million on the investment.
  • Companies must be receptive to active participation from Sequoia.

"One must be in a very big market, the potential investment. Two must be in northern California that's changed. Three must be in advanced technology. Four must have high gross margin ability."

The quote outlines Don's strict criteria for investments, which include market size, location, technology, and profitability potential.

Early Investments and Lessons from Apple

  • Sequoia's first investment was in Atari, leading to a quick but suboptimal return.
  • A key investment was made in Apple, but Sequoia sold its stake prematurely for tax purposes.
  • This experience led Sequoia to focus on tax-exempt nonprofit LPs for future funds.

"So Apple had grown quite a lot. It's now 1979. And Don, before the IPO, sells Sequoia's stake, which they had invested $150,000 for $6 million to make this tax distribution to lps."

The quote reflects on the missed opportunity with Apple and the decision that drove Sequoia to change its approach to LPs, focusing on long-term, tax-exempt investors.

Long-Term Value Creation in Companies

  • Value creation in companies that are building and creating markets is a long-term process.
  • Companies like Airbnb, Google, and Apple continue to create value even a decade or more after their founding.
  • Sequoia Capital learned the importance of patience and long-term investment to achieve returns significantly higher than the initial investment.

"When things are going well, go like value creation in these companies that are building and creating enormous markets takes a long, long time."

The quote emphasizes the need for a long-term perspective when investing in companies that have the potential to create substantial markets and significant value over time.

Sequoia's Early Investment Returns

  • Sequoia's first couple of investments returned a profit of about $10 million, which seems small compared to the enormous value created by these companies later on.
  • The early returns from investments in companies like Apple and Atari set the stage for Sequoia's future investment strategy and expectations.

"It is wild to think that that is the sum total of Sequoia's return on those two companies."

This quote highlights the surprising modesty of Sequoia's early returns from two now-iconic companies, reflecting the growth potential that was still untapped at the time.

Sequoia's Investment Philosophy and Playbook

  • Sequoia's playbook includes staying invested for the long haul and encouraging companies to remain independent rather than selling early.
  • The sale of Instagram to Facebook is debated as a premature exit, potentially limiting greater future value.
  • Sequoia's "aircraft carrier" strategy involves investing in a leading company and its ecosystem, leading to a diversified and robust portfolio.

"When things are going well, really try and convince these companies to stay independent and not sell."

This quote captures Sequoia's strategy of encouraging portfolio companies to stay independent for longer to maximize value creation, using Instagram's sale as a case study.

Sequoia's "Aircraft Carrier" Strategy

  • Sequoia invested in companies around the PC industry, such as Tandon Corporation, Printronics, Prium, Dyson, and others, creating a network of investments that supported the main "aircraft carrier," Apple.
  • This strategy led to significant returns for Sequoia in the early funds, with notable investments in LSI Logic, Electronic Arts, Threecom, Oracle, and Cypress Semiconductor.

"They start financing component companies around the pc industry."

The quote explains Sequoia's approach to investing in the broader ecosystem of a leading company, creating a network of related investments that all benefit from the primary company's success.

The Evolution of Venture Capital and Software Investments

  • Early venture capital was hardware-focused, but Sequoia adapted to include software companies like Oracle, which was capital efficient and initially resistant to VC.
  • Sequoia learned to invest in software and technology companies, recognizing the potential for high gross margins and market disruption.

"I think part of the reason why Larry was so anti VC was VC was anti software and anti Larry."

This quote reflects the initial resistance to software investments in venture capital and the eventual recognition of software's potential, illustrated by Oracle's success.

Sequoia's Investment in Cisco

  • Sequoia's investment in Cisco is highlighted as one of the greatest hardware investments, with Don Valentine's focus on the market and application rather than the team.
  • Cisco's development of the first router and its IPO became a significant milestone for Sequoia and the venture capital industry.

"We network networks."

This succinct expression of Cisco's business model encapsulates the company's foundational role in enabling the Internet, which Sequoia recognized and capitalized on.

Building Sequoia as a Firm

  • Sequoia grew from a small fund to raising approximately $150 million per fund in the 1990s.
  • Don Valentine focused on adding diverse partners with functional startup experience rather than conventional education.
  • The firm sought partners who were confident, willing to challenge and be challenged, and brought different perspectives to investment decision-making.

"Our investment decision making process requires very self-confident people able to be challenged publicly."

This quote underscores the importance of confidence and open debate in Sequoia's culture, reflecting Don Valentine's philosophy in building a successful investment team.

Generational Transfer and Leadership at Sequoia

  • Don Valentine facilitated a successful generational transfer of Sequoia to Michael Moritz and Doug Leone, demonstrating a rare willingness to step back and hand over control.
  • The stability and ability to adapt through generational changes have been key to Sequoia's long-term success and relationship with limited partners.

"I'm giving this firm to you."

Don Valentine's decision to pass the leadership of Sequoia to Moritz and Leone exemplifies a forward-thinking approach to ensuring the firm's continuity and evolution.

Venture Capital Investment Philosophy

  • Venture capital investment involves a partnership approach rather than a purely financial transaction.
  • Investors like Don see potential in markets and aim to build companies together with founders.
  • The downside for founders who want to remain CEOs is that investors may own a significant portion of the company and have rights to replace them.
  • The investment terms at the time often allowed firms to own a third to a majority of the company and had rights to buy out the founder or replace them.

"The terms of these investments, especially at this time, were that often firms would own 33% to 51% of the company. They would have the right to buy the rest from you. They would have the right to replace you."

This quote highlights the control venture capital firms could have over the companies they invested in, including significant ownership and the power to change leadership if necessary.

Venture Capital and Founder Dynamics

  • Management can be augmented, implying that changes in leadership might be necessary for the company's growth.
  • This approach can have upsides and downsides, and while investors like Don and Sequoia might sometimes get it wrong, it can also be the right move for building a great company.
  • The relationship with investors like Don is one of building a large company, with or without the founder's ongoing leadership.

"Well, the unspoken words in know quote that we said earlier about management can be augmented, is management, of course, can also be."

This quote suggests that while management can be supported and improved, it can also be changed or replaced as needed, which is an unspoken aspect of venture capital investment.

Sequoia's Ethos of Partnership

  • Sequoia Capital frames its involvement with companies as a partnership rather than just an investment.
  • Their ethos emphasizes long-term partnership, avoiding terms like "deal" or "exit" and focusing on building society-defining companies.
  • The distinction between being investors and partners reflects a deeper commitment to the companies they fund.

"We consider ourselves partners for the long term."

This quote encapsulates Sequoia's approach to venture capital, emphasizing long-term commitment and partnership over short-term financial gains.

Alignment in Venture Capital

  • Alignment is crucial in early-stage venture capital, focusing on building long-term, great companies.
  • Venture capitalists need Limited Partners (LPs) who are willing to commit to a long-term investment horizon.
  • Venture capital involves actively participating in company building and decision-making, not just providing funds.

"It's all about alignment. And I think this is know through this history we've told how Don and Sequoia came to understand what this alignment meant."

This quote emphasizes the importance of alignment between venture capitalists, founders, and LPs in the pursuit of building lasting companies.

Sequoia's Company-First Philosophy

  • Sequoia operates with the philosophy that the firm exists to support founders and companies, not to promote individual partners.
  • The firm's low-ego approach is about the collective effort and the long-term success of the companies they invest in.

"It's not about Sequoia, it's about the founders. It's more importantly about the companies."

This quote highlights Sequoia's philosophy of putting the success of the companies and founders ahead of the firm's own brand or individual partners' recognition.

Sequoia's Playbook and Market Focus

  • Sequoia's playbook includes a focus on market size and dynamics for rapid adoption by new entrants.
  • Change and turmoil in markets are seen as opportunities for investment.
  • The team is important, but the opportunity can sometimes outweigh the traditional team structure.
  • Sequoia's approach is to be company builders, not just investors, and this requires a hands-on early-stage involvement.
  • The DNA of a company is believed to be set within the first 90 days, making early influence crucial.
  • Sequoia allows winners to run, letting investments grow over decades.
  • The firm's long-term orientation is reflected in its investment decisions and the nurturing of companies.

"One of our theories is to seek out opportunities where there's major change going on, a major dislocation in the way things are done."

This quote from Don captures the essence of Sequoia's investment strategy, which is to find and capitalize on major changes and disruptions in the market.

The Existence of Early-Stage Venture Capital

  • The early-stage venture capital asset class allows for significant investment in ideas, with the potential for substantial value creation.
  • The system of early-stage capital is unique and has had a significant impact on GDP and innovation.
  • The venture capital model is based on taking calculated risks with a diverse portfolio of companies.

"It's a pretty special thing that it exists, and this is probably an ethnocentric statement, but that it exists in our country."

This quote acknowledges the unique and impactful nature of the early-stage venture capital system, particularly in the United States.

Sequoia's Long-Term Orientation and Value Capture

  • Sequoia's long-term orientation is a key factor in its success, with the firm being recognized as a top-performing manager across all asset classes.
  • The firm has learned from past mistakes and has become adept at capturing the value they help create.
  • Entrepreneurs funded by Sequoia may feel that the value captured by the firm is justified by the support and growth they received.

"Sequoia is the single best performing manager that they have had in their entire portfolio for the last 30 plus years."

This quote reflects Sequoia's exceptional performance and its ability to capture value over a long period, as acknowledged by a major institutional investor.

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