Games People Play with Cash Flow (2020)

> If you start from a wrong set of axioms, you would eventually end up with a flawed conclusion.

While cash flow comes into it, I think the primary axiom which is different (between VC and bootstrap) is the definition of success.

A bootstrap company is successful if it makes a profit, and remains in business. Some growth is nice, but there are plenty of one-man / familiy businesses to show that growth is not required.

By contrast a successful VC business goes out of business early, or with (these days) a multi-billion $ exit. Like a company that exits with a $50 million OVER investment is a failure.

If you want to win huge or nothing, then VC is the path to that. As a founder if you want to retire with money in the bank, then VC is "probably" not the right choice.

Of course the optimum might be a mix- take VC money till you're 30, if it doesn't work out you still have time to build a nest-egg the old fashioned way.

Great read, especially from the perspective of just trying to understand why people overfit certain thinking to certain problems.

My startups perspective: I think it’s hard for people to understand the subtlety from all the memes and hearsay.

We hear that you need to talk to your users to understand what to build, but I’ve seen this fall flat on its face and lead to extreme confusion, several times now, when you’re not talking to your users as a matter of observing your product/business model against reality to then update the axiomatic thinking that (hopefully) lead you to its current iteration.

I’ve seen this play out as a cringy ask to “let us know if you think of any other features you might like” met with puckered faces from customers that essentially said “or how about not because my job isn’t to build your product?”

This is Henry Ford / Steve Jobs talking about faster horses. You’re not asking your customers what to build. You’re asking them to help you understand the reality against which your logic plays.

Then there’s the opposite, where a business marches forward because some axiomatic thinking has determined that the macro environment should support it, not updating itself against a pending catastrophe in cash flows that leads to cuts that further undermine its ability to exist even within its own framework.

Design and test from first principles, but operate for the pain of as many rounds as possible. Maybe one day you can truly optimize and it won’t hurt as much.

One of the most genius “games” that I’ve seen in real life is Tesla’s offering of a roadster for a huge up front payment to pre-order (~$45,000).

They literally created a new product out of thin air that they are untethered to in terms of time or specs (except that it has to be able to accelerate with the force of a jet engine?) to “unlock” millions of dollars of cash flow to fund current operations. (I imagine this to be the brainchild of Zach Kirkhorn.)

I don’t know how many startups can employ “pre-order” tactics with their lack of brand power, but the basic essence is probably useful.

I had a an accounting class in college and cash flow never clicked.

I get the examples, especially the restaurant one.

But I don’t blame anyone for not being able to play cash flow games.

So as I understand you play these games with cash flow but ultimately the objective eventually is to still turn that into profit. After you've grown your company for several decades at aome point you stop growing and you start milking it. Similarly you want to accumulate float as a restaurant to prepay your suppliers to get better prices and hence more profit.

This strikes me as an excessively complex argument. Personally, I would zoom way out to work with some more abstract axioms, namely…

- Money now is more valuable than the same money later.

- The above applies for all parties to varying degrees.

- Some operations are money-constrained.

- There are ways to move money forwards or backwards in time.

Now most businesses are not in a position to financially engineer all that much, rendering the response to a given situation per the above axioms rather simple.

However I agree with the piece in its insistence that you shouldn’t just look to the obvious categorical solutions — there may be some interesting opportunities to find in the cracks. This point was well outlined in the example of the restaurant owner securing a discount by pre-paying for ingredients.

I would love to hear some non-monetary examples of axiomatic reasoning failures. Whenever I reflect back on a process I led a couple of years prior, I am startled by my limited awareness of dynamics/risks/opportunities — even though I was confident at the time and it went well. These reflections make it clear to me that we are always missing useful information, and I further laud the author for acknowledging this fact.

There are a few very strange, almost unbelievable, things said about people's understanding of the issues.

I can understand that startups and small business may not understand that value comes from cash flow not profits. The value of an asset is the value of the discounted cash flow. This is very basic to the theory finance, so how come banks and wall street did not know it? There has to be more to this.

just being an institutional investor looking at selling at a profit as soon as possible.

The stuff about payment terms, speed and pre-payments is standard good cash flow management. Did these people have no professional advisors explain this?

This is literally business textbook stuff. I have the textbooks (even the MBA ones, which are a bit more basic cover it all in the first few chapters).

The British supermarket chain Kwik Save financed its growth (in the 1970s) by getting long payment terms and selling for cash, and they were imitating the strategy of similar businesses in the US. This is not new.

I read the Bezos quote as primarily talking about long term vs short term, not cash flow vs profit measures. I am sure he understands both issues given his background in banking and investment, but here he is really talking about looking at the long term. It makes sense given he owned a large chunk of the business he intended to hold, rather than being focused on next year's find manager league tables.

these are the exact same arguments people make against something like UBI or really any public benefits. "starving people feel motivated to eat food, so they work to make money to buy food. therefore starving people is the correct thing to do because I believe that if we give people food they will be lazy"

I have personally seen a handful of people in tech and tech influencers argue that if people had all their basic necessities met, then they wouldn't be motivated to do anything and they would just play video games all day.

To me, this is a profoundly privileged opinion to have that follows this exact same hyper-idealistic thinking pattern. It comes from these "first principles" that are naive at best. In reality it is more so the bias of the person showing through, we can analyze these systems, look at the data and we won't be coming to these conclusions.

These "first principles" are not based on data or understanding. They are based on emotions, personal experience and biases. ie "I was lazy as college student, therefore all people are lazy.. therefore if people had their needs met, they would also be lazy like I was... therefore depriving people of basic necessities is actually the justified thing to do" I say from my multi-million dollar house in North Dakota with my 300k a year salary and cushy full-time youtube platform.

The flaw is in the step 2. - raising capital reduces skin in the game which reduces “incentive”. Honestly heard this before in things like “don’t allow founders to cash out in early rounds they won’t be hungry”. This is akin to “if you take the shackles off your slaves they will run away”

Taking on capital reduces risk for the founder which makes it more likely they will take better long term decisions. There is a balance obviously - if you give me a billion dollars for my pitchdeck I will certainly feel reduced risk but that may be offset by the risk the owners of the billion now take on.

But yeah, the flaw is thinking hungry people make good long term decisions

Great read. I knew as soon as I saw EBITDA that Amazon would be used as an example, but the savings for prepaying for beef blew me away.

Every time I read one of these “thinking doesn’t work” blog posts I come away thinking “omg, these people just have no idea how hard it is to think”. IMHO the only situation you should be allowed to draw axioms and propositions like little balls with arrows between them is if you’re working in a formal theorem proving system. Anybody who has tried that knows that it’s just not true that the conclusion “startups shouldn’t raise money” logically follows from vague statements like “you’ll be more focused if you don’t have much money”.

This was posted 4 years ago also. https://news.ycombinator.com/item?id=25357669

This was a great read and definitely fits into something that regularly crosses my mind: “what you say is incorrect but it will take a lot of time and energy to explain why.” The length of this article definitely proves this point!

Just to nitpick (and not detract from the article) this point:

Once you have less skin in the game, it is easier to make bad decisions. The author argues this is due to a) having a capital buffer to cushion you, and b) having more time to waste.

I actually don’t think this holds true. It’s possible to make bad decisions BECAUSE you have skin in the game. Would you take a 60% bet if the downside was losing your home? Would you do it if the cost was someone else’s home, that person owned an entire city and they’d given you that home for the express purpose of placing those bets?

I saw something like this when the founders at my work promoted someone else to be CEO and, a little while after, took cash out the business (legally) with the express purpose of derisking themselves. They recognised that they weren’t able to take the necessary risks to push the business forward, so appointed a CEO with less skin in the game and reduced their own exposure.

It paid off.

This is true from my very limited start up experience. Our start up was also self-funded. There were times when there was work left on the table, because we couldn't afford to hire an extra person to do the work, because we didn't have the cashflow to pay them for the first few months while they came up to speed.

In this case the argument is flawed because it is too loose in defining a bunch of words and premises. Eg, you can't argue about "bad decisions" because in this case it is a meaningless term. With the frame in the argument it likely isn't correct to say that "once you have less skin in the game, it is easier to make bad decisions". You are still empowered to make the best decisions you can, having less skin in the game doesn't change that.

The skin-in-game principle is a pithy way of talking about principle-agent risks. That is to say, it is a problem for the people fronting the money, not the people on the receiving end. The people on the receiving end are strictly better off (ignoring that they're going to have to trade away control to get the money, obviously - they have strictly more options in the short term). And the people giving the money will still invest despite that, because they need to take risks to earn money - their strategy is to take risks to earn a premium, so they're looking for sensible risks to take.

The Startups shouldn't raise money link is dead. Here's the archived version: https://web.archive.org/web/20230102110907/https://ensorial....

Once you have less skin in the game, it is easier to make bad decisions.

I beg to differ. I think _this_ article is incorrect because it assumes that above is true. The money that you raised from venture capital is literally oxygen for your company. It is _your_ lifeline as much as it is the VC's skin.

Great article, shared with my team. Nick Kokonas mentioned is also the founder of the booking app Tock.

The flaw is unwritten step 0: The goal is to make money not run a startup.

A startup is a means to an end.

Borrowed money gets you there faster with less risk to self.

Once you have less skin in the game, it is easier to make bad decisions. The author argues this is due to a) having a capital buffer to cushion you, and b) having more time to waste.

It’s not wrong per se but worded to hide the benefit. Having less skin makes it easier to take higher risk. Which means more “bad” decisions but also with higher potential.

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While the prepayment strategy described here is interesting, I'm skeptical about some of the claims and implications. Here's why:

So how much should they discount it? So let's say we're going to buy steaks. We're going to pay $34 a pound wholesale for dry aged rib-eye, we get net-120 (normally). So I call the guy and say "I'm going to use 400 pounds of your beef a week for the next 4 months, for our menu, which is about about $300,000 of beef, what (would) we get, if we prepay you?" And he was like "what do you mean?" I'm like "I want to write you a cheque tomorrow for all of it, for four months." And he was like, "Well, no one has ever said that." So he called me the next day, he said "$18 a pound" … so … half. Half price.

1. The 50% discount seems implausibly high. Even considering the benefits of prepayment and volume commitment, typical early payment discounts in most industries range from 1-5%, rarely exceeding 10%.

2. The story implies this strategy reduces waste, but the restaurant's beef consumption remains unchanged. The butcher isn't selling more beef overall, just securing a guaranteed sale for a portion of their product.

3. While prepayment does reduce risk for the supplier and improve their cash flow (which justifies some discount), it doesn't fundamentally alter the supply-demand dynamics or the perishable nature of the product.

4. If such extreme discounts were readily available, it suggests either highly inflated initial prices or an incredibly inefficient market. In reality, these price disparities would likely be arbitraged away quickly.

5. The net-120 terms do carry risks (default risk, cash flow pressure, inventory carrying costs), but it's unlikely these factors account for such a large portion of the price.

The principle of prepayment providing mutual benefits is sound, but the magnitude described here is likely overstated or oversimplified. A more realistic scenario might involve a combined discount of 20-25% at most, factoring in prepayment, volume commitment, and possible seasonal factors.

This story, while engaging, highlights the importance of critically evaluating business anecdotes, even from seemingly authoritative sources. The restaurant industry certainly has room for innovation in supply chain and financial practices, but the impacts and benefits may be more nuanced than presented here.

From my perspective it is neither wrong nor right. Articles are supposed to be written for a target audience, and I think the only issue is that the original article didn't mention the target audience is people who don't want to aim for the moon, but would be satisfied with just having a stable life where they're in control of their own decisions; in the vein of an indie hacker, a family business or other sustainable ways of doing small to medium business.

This is hackernews, and we, as an audience live in a little bubble where the only right way to do business is by disrupting a market and becoming the next Google, Microsoft or Apple. Just like some of the contemporaries that originated from this subculture here like; Stripe, Reddit and openAI.

There are many ways of doing business. The original article had a sound strategy for one particular way of business. This article by common cog has another sound strategy for doing business.

Different target audiences, different games.

Friendly note to folks building unusual businesses.

Much of the received wisdom of Silicon Valley startup culture is centered on developing new markets that do not currently exist. This activity has a very specific set of risks and rewards and for that profile, the advice is generally sound.

If your business is attacking an existing market with entrenched players, more than half the advice is wrong.

Cedric does a great job navigating these differences IMO.

Love the article!