Edited from XVC partner Boyu Hu’s speech at Wharton Center:

Hi, everybody. First of all, I’d like to thank the organizers for giving me this opportunity to share with you, and thank you all for coming to the Wharton Center to listen to my nonsense. First of all, I’d better make a self-introduction. My name is Hu Boyu, a partner of XVC. Before founding XVC, I spent most of my time in entrepreneurship. I co-founded a company in 1999, which is now the largest credit risk management software company in China, ishares Information (300380), which has been listed on gem. I joined the VC industry a few years ago and have invested in more than 10 companies. I will talk to you about some specific cases later.

Before we get to the point, let’s look at this diagram, which is a simple mind game. Imagine that we are all an investment committee and we are discussing A round A project. The project team did A lot of upfront work and came up with the following information:

1) The company has a 10% chance of going public;

2) 30% chance of being acquired;

3) 60% chance of no exit (total loss).

The project team did a lot of work, and the investment committee trusted their judgment. With that in mind, I’m going to ask you to vote. You have to pick one. Raise your hand if you think you should. Raise your hand if you think you shouldn’t. (Hu Boyu counts.)

Okay, looks like most people don’t think they should. All right, I’d like to announce that we have officially rejected the project.

Below, I would like to invite you to look at the data of some of the world’s top VC. These VC are the early investors of Google, Facebook, Uber and many other “super whales”, creating hundreds of billions of dollars in returns for investors. Basically, each phase of the fund has several times to dozens of times of returns.

Sequoia has invested in more than 600 projects in the past 20 years, among which there have been 50 ipos. About 20% of them have been acquired, but most of them are loss-making projects that cannot be exited. Accel’s portfolio accounted for 6% of ipos, 32% of acquisitions and 62% of exits. Benchmark, another great investor, has invested in 10% of its ipos, 35% of its m&a, and 55% of its remaining investments.

The company we just voted on is a typical early-stage project that a top VC would invest in. But why did most of us just vote “no”?

Some of you may have caught me playing a little trick. The information I gave didn’t say “what is the payoff if it works”. No one asked me this question just now, and in real situations, investment committee members often ignore this important information. Most people only use the probability of success to judge, but do not take the “scale” of success into account in the formula.

Human instinct is not good at thinking in terms of probability. Great uncertainty will make you anxious. When the uncertainty exceeds a certain threshold, “what is the expected return of this investment” becomes a difficult question. Your anxiety will replace it with a simpler question: “What are the chances that this investment will turn a profit?” But the answers to these two questions are different.

When a group of people make decisions, they are more likely to imitate instinct and use intuition and emotion to make judgments. The more people, the more.

Let’s see if this is a good VC. He invested in 10 companies, 30% lost money, 30% made money, and 40% made money. Is that a good VC? Of course, based on this information, it’s hard to say whether it’s good or bad, because what really matters is not how many of the projects you invest in make money, but how many of the projects that make money make money.

This is actually my performance. Of the 10 early-stage companies I invested in between 2011 and 2016, six lost money or only made money back. But the 10 companies as a whole have done very well, increasing their combined valuations by an average of 54 times in less than four years, or 35 times after dilution. Of the four that make money, the average valuation is $4 billion. On average, all 10 companies are unicorns, so to speak.

In fact, not only do VC anti-human nature, VC fund is also an anti-human thing. Let’s take a look at some more data.

In the chart on the left, the three lines from deep to shallow are the S&P500, the return of head VC, and the average return of VC industry. VC industry average returns, roughly in line with the S&P500 index, but more volatile. So on average, VCS are better than index funds.

Not only that, most funds in the VC industry are probably unprofitable. Wealthfront, which compiled data from 1,000 VCS, found that only 2% of VC funds earned 95% of their money.

So investing in VC funds, there is no “diversification”, the correct posture is to look at the head of the VC investment. But the head of the VC general people do not cast in, even if you cast in, also have to endure some “anti-human” pain.

The chart below shows that the funds with the highest returns had a higher percentage of losses, as well as a higher percentage of losses, than the “good” funds. I guess my failure rate is still too low [laughs].

So VC LP is also a challenge to human nature. But some set a good example. The Yale Endowment’s website reports that their VC portfolio has an annualized return (IRR) of 77.4% over the past 20 years, which I was also stunned to see. When I checked with them in person, they said that their way of investing in VC is to invest in a very small number of funds at the top, as many as they can, and not diversify.

XVC is a start-up fund, so it has attracted some “entrepreneurial” LP investors to invest in us. In addition to some of the best entrepreneurs, there are some of the top university endowments, family offices, and parent funds in the US and Europe, most of which are the biggest or longest-running LP’s of Sequoia, Benchmark, and Accel. Their investment logic is the same – scour the world for a few good managers and invest intensively and for the long term. Several of them have been investing in VCS for more than 40 years. They tend to be lean, emphasize independent thinking and don’t rely on group decision-making. The “entrepreneurial spirit” of these excellent institutions is also reflected in one detail — basically they approach us through various channels, and very few of them are contacted by us. You might think I’m just showing off, but I’m not. It took me a while to get started, but most of the organizations I reached out to didn’t respond to me, so I had to wait and see. It’ll save us some time to do research and look at projects.

Next, I will talk about how we XVC to face VC this “anti-human” profession.

First, we are an extremely focused “big opportunity” fund, and in order to do so, we have had to voluntarily pass up a lot of “good” looking opportunities. We don’t want every investment to be a success, but we want every success to be a huge success.

The greater the opportunity, the greater the risk, the less the opportunity, the less the risk. It’s almost common sense. This is sometimes true, but not always true, and it is often not true when it matters.

There are some examples that you can think about. Take Taobao for example. Taobao and Eachnet fought a war in the early years, because Eachnet was acquired by eBay, and eBay was weak in execution, taobao did not have much difficulty in fighting this battle. After that battle, Taobao doesn’t have a particularly strong immediate threat. Tencent, too, has historically had very few strong competitors that directly threaten it. Such companies, once they build first-mover advantage, are unstoppable.

At XVC, we focus on the big opportunities and find great entrepreneurs who can win in a big market.

“Diversify against risk” is a very human practice. It’s tempting to think, well, the stakes are so high, you should shoot more, and one or two of them will make it.

But we feel that “diversification” is a dangerous thing and increases risk. When you have a lot of projects, you have to have a lot of people, and when you have a lot of people, it’s inefficient, not just slow, but decision-making. We think it’s more important to focus on early investments, and focus on finding big opportunities and finding great teams. Our team is very small, so everyone is on the front line, doing research by themselves, experiencing products by themselves, studying data, doing customer interviews, and doing post-investment services by themselves. But in this way, there is no “full coverage”, no net investment.

But the good news is that really big opportunities and good teams are rare. We have counted tens of thousands of startups since 2011, but only about 10 of them are valued at more than $2 billion. We say “three thousand weak water, but take a ladle of water” not to comfort ourselves, but because we believe in the power of focus.

The investment industry is also characterised by a hunger for undervalued assets. It’s very human. Who doesn’t like a cheap valuation? I lied when I said I didn’t like it. But when I look back, I find that the companies I invest in are usually slightly higher than the market’s valuation.

For example, when I invested in Meicai, they were number two, only half the size of number one. There were only about 90 orders a day, and we lost money on every one. In the middle of the night, the procurement opened a jinbei car to xinfadi to drag some vegetables back to the warehouse, order sorting is completed on the cement floor, the wall with a note, this stall to be sent to Beiyuan, this stall to be sent to Zhongguancun. For such A company, MY valuation is 3 times that of Didi Dache’s Round A. It only made over 10 million dollars in sales that year, but it made over a billion dollars the next year and several billion dollars the third year. It can be said that most of the valuation at that time comes from the recognition of outstanding entrepreneurs.

Here’s another example. When I found Kuaishou, they had eight employees, no revenue, no real assets, in a very shabby apartment building, and their competitors were adding ten times as many users a day. We invested more than $10 million directly, and most of that came from recognizing the value of being a good entrepreneur.

To be honest, when I invested in these companies, I didn’t think they would do so well. However, we believe that good, leadership entrepreneurs can fully unleash Upside Surprise.

Human nature seeks equality, so people always want their views respected. But if you pursue this, you may be very lost with us.

We have a unique culture that emphasizes independent observation and not being influenced by the opinions of others. If a person always wants to influence others through his opinions, we are discriminated against here. And vice versa. You can have an opinion, but without looking behind it and thinking behind it, your opinion will not be respected. We talk about problems, we ask, “What’s your opinion?” but then we challenge, what’s your observation, what’s your logic.

It is much more tiring to acquire knowledge by observation than by getting it from others. But the truth of the world belongs only to the observer.

The term “collective intelligence” is human. It sounds good, right? But at XVC we’re really scared of this thing. We think, by comparison, that group thinking is the least effective, followed by one person thinking independently, and “a group of people thinking independently” is the most effective.

Some of the things we do are strange to outsiders.

For example, we don’t encourage group discussions. Our weekly meetings are just for sharing knowledge, and discussion projects are generally held offline. Because we find that discussion in a group often turns into a debate. To argue, you need to take a stand. Once you take a stand, your instinct is to put on a pair of glasses and pick out facts to support your point of view, and eventually you will believe it. Only in offline one-on-one discussions can you really “sit down and figure things out.”

For example, we may have several people working on the project together, but they are all looking at each other separately, without division of labor and cooperation. Do their own customer research, do their own analysis, the final investment memo is also written by each person, the conclusion may not be the same.

These practices are, frankly, exhausting and anti-human. But there is no way ah, do VC like entrepreneurship, is an anti-human career. We think of ourselves as entrepreneurs who happened to be in the VC industry. We hope to create long-term value by doing what seems like an anti-human endeavor. If it works, it’ll be worth it.

That’s all FOR me. Thank you!