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A bi-weekly column with timely, relevant and possibly irreverent insight into the BC technology industry.

Something Ventured:
February 9th, 2007

By Brent Holliday
Greenstone Venture Partners

Holliday’s Uncertainty Principle

“Working hard to get my fill,
Everybody wants a thrill.
Payin' anything to roll the dice,
Just one more time.
Some will win, some will lose…” – Journey, Don’t Stop Believin’

Venture capital, in its purest form… the form that can make investors in the fund very rich, is about taking big bets on ground breaking ideas.  Another form of venture capital is more about reducing risk in early stage company investment by betting more on the management team.  This form of venture capital doesn’t make one really rich, but it is not nearly as risky as the aforementioned “purest” form.  After 10 years making early stage investments I have come to realize this dichotomy of venture capital.  I have invested a lot on the latter form.  This is partly because there are not many ground breaking ideas (as always noticed in hindsight, by the way) around here and partly because I sought lower risk when choosing between deals to fund.

The problem with ground breaking ideas is threefold:

  1. It is very hard to recognize a truly ground breaking idea because at the earliest stage, they often look absurd.
  2. They often come from people who are not “proven”.  Complete newbies to the world of company creation are usually the harbingers of ground breaking ideas.
  3. Investing in these ideas is not a sound strategy due to the risk, if they are all you look for.

Let’s explore these problems in a little more detail.  There are many ground breaking ideas that are not worth starting companies over.  They would serve too small a market or be better launched to the public as a free good.  Also, a ground breaking idea is much bigger than a great idea.  Great ideas can make successful companies.  Indeed, I have invested in companies with great ideas… it’s kind of a minimum criteria.  But really ground breaking is the “disruptive technology” or the “game changing” technology that serves a potentially huge market.  Once in a while you recognize a ground breaking idea immediately.  Some times you don’t.  And often times you laugh at inventions or ideas as being impractical or so out of left field that you come up with one of the VC 1001 euphemisms for the word “no” and get rid of the quack presenting it.  Some of the stuff is truly wacky and impractical.  But filtering out all wacky ideas has led to missing a few ground breaking ones.

Which leads to problem two… the presenter of the ground breaking idea is hard to validate.  Huge ideas from people that have never a) raised a nickel of capital before or b) never started a company or c) have Cry Wolf syndrome (seem to have a ground breaking idea once every few months) are hard to take seriously.  As we all know, even ground breaking ideas can be totally screwed up and never reach the market or their market potential without strong management.  Investing in newbies has often led to failure with less risky “great” ideas, so logic dictates that increasing an already risky proposition with unproven founders and management is even harder.

As an investor of Other People’s Money (OPM), which every venture capital fund is, managing risk is at the top of the list of priorities and it always is the ying to the hit-it-out-of-the-ballpark, risk taking yang.  The constant struggle of “this could be huge” and “this could be a fast zero” happens weekly in venture capital partner’s meetings. So the third problem with ground breaking ideas is that the investors are too chicken to take the risk.  If they should have sufficient capital and well-managed risk, perhaps they place a couple of bets on the really ground breaking ideas.  But I have often seen this approach give too little capital to the huge idea because the investor is “toe dabbling”.  If you are going to add a ground breaker to your portfolio, you better be prepared to fund it big time!

So let’s take a look at BC’s biggest, most ground breaking idea and track the history of this company to date.  Of course I am talking about D-Wave and its quantum computer about to be demonstrated next week in the Silicon Valley.  This is a doozy as ground breaking ideas go.  I first heard about it in early 1999 in Paul Lee’s office at Electronic Arts.  He and Haig Farris (and a few others) were investing in the company’s angel round.  Paul asked me what I knew about quantum physics and I responded that I knew about Schrodinger’s cat and the Heisenberg uncertainty principle, but not much more than that (for a beginner’s guide to quantum physics, sit in a quiet dark room with no disturbances for an hour and read this). He laughed and said he should invest because, as he understood the concept of superposition of possible rest states, you could be in two places at once and that was attractive to a guy as busy as him.  There’s an investment thesis for you.  

Of course Paul was kidding.  He was taking a bet on a huge idea.  The world’s first quantum computer would be an amazing and historic scientific milestone, which is cool enough.  But getting to market with working quantum computers would be worth billions.  You’ve heard the term Quantum leap.  Well, with pun fully intended, a quantum computer is a quantum leap in computational power.  Extremely complex algorithms with many variables that take today’s fastest binary computers months or years to solve, would be solved in seconds with a quantum computer of sufficient size (number of qubits).  This would be fantastic for molecular science, weather prediction and derivative stock market trading, but would be a bitch on security as all of today’s cryptography would be broken in seconds.  Oops.

In 1999, Geordie Rose, the young founder out of UBC, was viewed as a friendly quack by many in the mathematics and physics world and many investors ran screaming from such a young, new kid with a huge idea (see problem two).  Over the first two years after the angel investment, Geordie assembled a worldwide team of believers.  These were credible scientists and very soon the patent stream started for the company.  Rumour was (and still is) that IBM has a skunk works project stealthily building their own quantum computer.  Even with Big Blue and its billions and no tangible computer in 2001, D-Wave raised venture capital from BDC and Growthworks.  Remember my thesis on investing other people’s money?  BDC and Growthworks had enough capital and enough portfolio risk management in place to take a big bet.  Greenstone did not.  The only people we approached to validate the idea laughed it off as a noble try, but a 20 year investment at least.  Ventures West and Greenstone are funds with 10 year lives.  Growthworks and BDC are evergreen.  This ground breaking idea fit their investment mandate and they took the bet… a really, really large bet.

Eight years after that angel round of financing and six years since the original VC round the company has a “computer” at 16 qubits that they will demonstrate next week.  Big betting, Silicon Valley VC fund Draper Fisher Jurvetson came into this investment in 2004 and brought others to the table.  The company has raised over US$20M to date.  Clearly, it will need more money and this milestone is sure to help them do that.  If successful, the demo will garner huge press and the price of the deal is likely to skyrocket.

The company at this stage is still a risky bet.  It has its fair share of detractors.  Someone who humbly calls himself the “Quantum Pontiff”, has posted his issues with their approach and doubts it will actually work.  Have a look yourself, but beware, the Pontiff speaks in the language of quantum physicists and it is brainy stuff.  Nonetheless, he kind of hopes he is wrong and that D-Wave has figured it all out. Even if they do succeed and get to a 100 qubit model in 2008 as Geordie states is possible, the time it will take to get to a sellable device is probably another three to five years after that.  Are you patient enough to wait?  D-Wave in 2001 was probably not a sound investment given the time to potential exit (2011 or later).  Geordie himself has a great post on his blog about D-Wave and why investors and competitors (like HP and Intel) are not making a quantum computer today.  He essentially validates that his company is a very patient investment with potentially massive reward.  He also makes an excellent point about the danger of prognosticating when inventions will become mainstream.  Some thought the human genome wouldn’t be sequenced until the mid 2020’s and along came Craig Vinter and Celera to prove everyone wrong.

Is D-Wave this decade’s Celera?  Time will tell.  A big step will happen next week with this live demo.  Is D-Wave a company that had a ground breaking idea?  You bet. Thanks goodness that Haig, Paul and the VCs at Growthworks and BDC made the leap to invest. Will it make all of its investors obscenely wealthy.  Again, time will tell.

Making a few huge bets in ground breaking ideas is the most exciting form of early stage investment.  A lot of times it does not work out, but when it does, you are set life.  For Geordie and his investors, I hope he has a big “I told you so” for me sometime soon. 

What Do You Think? Talk Back To Brent Holliday

Something Ventured
is a bi-weekly column designed to supplement the T-Net British Columbia web site with some timely, relevant and possibly irreverent insight into the industry. I hope to share some of the perspective and trends that I see in my role as a VC. The column is always followed by feedback (if its positive or constructive. I'll keep the flames to myself, thanks).

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