The Sovereignty Game

The alternative to the venture game

Level Equity & Structured Capital Annual LP Meeting - March 28, 2023

Hi, nice to meet you. My name is Francis. I started one of Level Structured Capital’s portfolio companies, Invisible. I’d like to briefly tell you our story, thank you for your support in helping us buy out passive investors and regain sovereignty, and tell you why I think The Sovereignty Game should become a viable alternative to The Venture Game, which has become the unquestioned, unchallenged, default playbook for the technology industry.

Invisible is a new way to run your business. We call it “ops-as-a-service.”

We’re a tech-enabled services company: counter-positioned against Accenture, and the rest of the business process outsourcing industry, which has failed to innovate. 20th century services companies generate trillions of dollars of annual revenue, and their work is all process driven, but they are not tech companies, so they are struggling to integrate software, automation & AI into their business models. They bill by the hour, so their incentive is to bill as many hours as possible, that is, to be as inefficient as possible, without getting fired. They are Blockbuster, we are Netflix.

We’ve built a Digital Assembly Line that breaks down our clients’ custom processes into standard steps, like legos, which we automate as much as possible using our Process Builder, which integrates 300+ 3rd-party automation & AI tools, and our own automation team, which builds proprietary tools. For the remaining steps, we use our Wizard Builder to build User Interfaces for our agents to run these manually. Our platform coordinates 1800 agents in 77 countries around the world, and pays them based on speed, quality and complexity. Our hiring, training & workforce management scale beautifully: we onboarded 600 agents in Q4 without breaking a sweat. Our capabilities are sci-fi: we have Masters and PhDs doing work on specialized processes.

It’s an end-to-end operations solution that aligns incentives with unit prices. That’s right, we only get paid for results.

Our team becomes your team very quickly, which makes it easy for you to delegate work to us, because we’re so embedded. Once you learn to trust us, the use cases are limitless: we process claims for insurance companies, help real estate companies buy homes, digitize restaurant menus and onboard merchants for DoorDash and GrubHub, and provide reinforcement learning for two AI giants - just to name a few examples. We’ll go person by person, team by team, and department by department to map all of the processes in your company, so that before you know it, we run ops for you and stay aligned with your strategy.

Before we met Level… Every VC we pitched passed on our Series A. They told me services businesses have low margins and don’t scale. They also told me that I should focus on just one vertical and abandon my horizontal platform vision, which they said was way too ambitious. The more advice I got from them on how I should run my business, the more I realized they wanted us to look exactly like every other SaaS company coming out of Y-Combinator. Not that I have anything against SaaS companies or Y-Combinator, I just kept thinking to myself…

The Venture Game goes like this, clockwise… You start a company. You raise money. You run losses on product & growth to generate enterprise value. You raise more money. You run bigger losses to generate more enterprise value. You raise your Series A, spend it; raise your Series B, spend it; raise your Series C… and so on, until you either IPO or M&A. Your time horizon is 5-8 years.

Thus there are three parties which define the industry. Startup parties: “Hey, we’re starting a company, come celebrate!” Round closing parties: “Hey, we raised a round, come celebrate!” And exit parties: “Hey, we IPO’d!” or “Hey, we sold the company, come celebrate!” (Guess which are the hardest to get invited to?!)

Logically, equity turns into money in one of five ways: Dividends, Buybacks, Secondaries, IPOs & Acquisitions. The Venture Game ignores the first two, Dividends & Buybacks, and focuses on the last three: Secondaries, IPOs & Acquisitions.

This means the Venture Game is essentially speculative & mimetic: the risk & reward calculus is based on what you think other people will think about the value of your company, as opposed to what it is intrinsically worth - which explains why VC is especially prone to groupthink and hype cycles. This leads to derivative analysis based on how a given course of action is likely to be perceived by an investor and valued at the next round, as opposed to fundamental strategic thinking based on first-principles analysis of inherent merits and long-term outcomes.

Venture capital buys ownership and control. Because of the game theory, VCs own up to 70% of a company at the time of exit, leaving founders & management with 20%, and the team with 10%. Also because of the game theory, once even a single round of financing is raised, a timer begins to raise the next round, and the measure of success becomes consistently raising larger amounts of capital at higher prices. Boards pressure management to deploy capital at increasingly fast rates, in decreasingly efficient ways.

The Sovereignty Game is the alternative to the venture game.

We play The Sovereignty Game.

The Sovereignty Game goes like this, counterclockwise… You start a company. You raise as little money as possible, maximizing capital efficiency. When you raise capital, you minimize dilution and loss of control. You use equity, not cash, to attract talent. You align everyone’s incentives with the bottom line to get to profitability as soon as possible. Your strategy is to build a profitable, scalable, defensible monopoly built for the long-term. You intend to stay private and independent, not to IPO or sell.

Once you’re profitable, you raise structured capital from Barry Osherow at Level Structured Capital, and you use that capital to buy back your investors on win-win terms. As your profits scale and you build track record, your cost of capital decreases, your capital availability increases, and your borrowing power grows.

You want to prevent your company from becoming a gerontocracy. Who owns the company? People who used to work here 10 years ago? Investors who provided capital 10 years ago? No! You want the cap table to motivate as much present and future value creation as possible. The founding moment is always now.

To maximize alignment, you measure value add per share and prioritize buying back the bottom quartile of passive shareholders. This creates accountability, introduces shareholder discipline and disincentivizes free-riding. As you consolidate shares in the hands of value creators, motivation increases and performance improves.

Sovereignty is a long game. Your time horizon is 20+ years. Success isn’t just success, or Success², but Succession.

Your original team will eventually leave, and want liquidity. In exchange for providing liquidity annually via a tender offer program, your team gives the company a call option to buy back their shares at the latest qualified price after a maximum hold period of 3 years after their departure. This mechanism allows you to keep recycling shares, and prevents gerontocracy.

New team members will join, and want equity. As your valuation grows, you’ll offer smaller %s of equity, shifting your compensation towards bonuses and cash, and risk losing your entrepreneurial culture. To prevent this, you’ll introduce Long-Term Performance-Based Equity Grants, with vesting schedules tied to $2.5B, $10B, $100B and $1T valuation milestones, which guarantee shareholders net accretion, but in exchange, provide a dilution mechanism to make room for new talent.

For capital efficient companies, the majority of the value will be created by labor, not capital. All else being equal, therefore, in a direct competition between two capital efficient companies, the one that will win, is the one with superior incentive alignment with labor, not the company that raises more money.

Let me say that again:

For capital efficient companies, the majority of the value will be created by labor, not capital. All else being equal, therefore, in a direct competition between two capital efficient companies, the one that will win, is the one with superior incentive alignment with labor, not the company that raises more money.

We’ve built a partnership that aligns everyone’s incentives around long-term growth in earnings per share, and we view this as a decisive competitive advantage.

“Show me the incentives, and I’ll show you the outcomes…” — Charlie Munger

A bet on sovereignty is a bet on strategy. Capital efficient companies are primarily operationally constrained, not capital constrained. Adding more capital may actually result in perverse incentives, conventional strategies, suboptimal performance or even preventable failure.

Imagine a VC who invests in Enterprise SaaS companies sitting on a dozen boards. Does this person have the time to formulate an original grand strategy for each company? No. This person feels comfortable following playbooks that have worked before. But the problem with consensus strategies is that they yield consensus outcomes. To generate alpha, one must do one’s own original thinking, generate contrarian strategies, and align everyone around them to execute.

Can you imagine Steve Jobs trying to convince his VCs, “Yes, I know you invested in a computer company, but I want to build portable music players!” And being told “No!”?

I can.

Can you imagine Jeff Bezos, trying to convince his VCs, “Yes, I know you invested in an e-commerce company, but I want to build a web services business unit!” And being told “No!”?

I can. That’s why when I fundraise, I insist on control; and have carefully recruited first-principles thinkers to weigh in on board decisions.

The best strategies compound over long periods of time. Thus The Sovereignty Game is superior to The Venture Game not just because it maximizes incentive alignment, attracts innovators and renews entrepreneurial culture, but because it liberates strategy from artificial constraints imposed by VCs, enabling first-principles thinking and execution.

This isn’t just theory for me, it’s practice. It’s my story.

Because of entrepreneurs like me, investors like you, and partnerships like this.

I started Invisible Technologies nearly 8 years ago, on October 1st, 2015. For the first four years, we wandered in the wilderness, building the platform, iterating on the business model and struggling to find product-market fit.

Then we finally began to grow. From a $1M run rate to a $3M run rate in 2020, from a $3M run rate to a $10M run rate in 2021, from a $10M run rate to a $25M run rate in 2022, and to a $40M run rate today, with a path to an $100M run rate in the near future. We achieved profitability 21 months ago.

We’re generating nearly a million dollars of operating profit per month right now. That number is expected to multiply, as we clear our overhead hurdle, even as we reinvest back into the business. Net Margins should asymptotically approach our ~45% Contribution Margins over the next 4 years.

Shortly after we became profitable, I met Barry Osherow. In the early years of the business, we had raised just over $7M in expensive seed capital from a mix of angels and seed funds, most of whom had become passive. It didn’t make sense to me to raise more primary capital, when the business was profitable and primarily operationally constrained, not capital constrained.

Although I don’t have an MBA or a finance background, I’m capable of doing basic math, like this: if you raise $10M in a Series A round, and sell 10% of your company, and 5 years later your company becomes worth $10B, just like you said in your pitch deck, that equity you sold for $10M is now worth $1B!

But, if you raise $10M with a 20% total cost of capital, including 8% cash interest, it costs a total of $25M over 5 years, at maturity. $25M is 40x cheaper than $1B!

Swapping out unlimited upside equity with limited upside debt made a lot of sense to me, so in the second half of 2021 we raised $5M from Level Structured Capital on these terms to buy back 13.5% of the company, and in 2022, we bought back an additional 10% for $10M.

I’d like to take this opportunity to personally thank you for this alliance. You empowered my partners and I to take back ownership and control. We are now a sovereign company.

History exists, and we’re in it.

The history of The Venture Capital Industry does not go back very far, and yet we assume the game that we’re playing has always been played, and will always be played — exactly as it is now being played, without any changes. This assumption is false. It is a new game, it is changing, and will continue to change.

The Venture Game should not be the only game in town…

The Sovereignty Game is the alternative to the venture game.

Ironically, The Sovereignty Game is as old as time, far older than The Venture Game. The Medicis played The Sovereignty Game. The British Monarchy played The Sovereignty Game. The House of Morgan played The Sovereignty Game. Henry Ford played The Sovereignty Game. I am not the only entrepreneur who cares about Sovereignty, and who wants to break out of The Venture Game. I’m just the one who found a way, in the tech industry, in the early 21st century. So, as Invisible succeeds, I am committed to helping my fellow entrepreneurs win back sovereignty. I intend to build a competitive cultural-industrial complex, to make The Sovereignty Game a viable alternative to The Venture Game, a clear and well lit path, albeit narrow, for others to follow. In other words, I look forward to sending a lot of business your way.

How many companies do you know of that are:

• Building profitable, scalable, defensible monopolies

• Growing rapidly, disrupting multi-trillion dollar markets

• Owned, controlled & run by incentive-aligned partnerships

• Obsessed with governance systems & succession planning with multi-generational design

• Making decisions based on long-term grand strategy & first principles analysis

• Committed to staying private and independent

• ?!?!?!

That number is now at least 1.

That number should be more than 1.