Investing in Emotion
Sorry about the delay with this post; I know it’s been a while. October was a crazy month for recruiting, but I’m excited to share that I received an offer from an absolutely incredible venture capital firm. I guess the blogging and hard work paid off! With that being said, please feel free to send me a message / comment below if you’re working on a cool company. I’d love to learn more about what you’re working on.
Good news aside, it’s time to start digging into today’s topic: investing in emotion. Time and time again, investors tell founders that they’re looking for a “disruptive technology” that has “product-market fit.” Investors look for exponential growth metrics, customer testimonies, and other indicators that a product or service has earned the interest of its user base.
But what creates interest from a user base? Sometimes it’s enhanced efficiency. Think of Salesforce or LinkedIn’s value proposition to salespeople (from fewer obstacles in the workflow, an increased chance of “success” and monetary reward, etc.). Other times it’s as simple as entertainment. Think of companies like Netflix or Spotify, which offer their users a core element of entertainment (media). Or perhaps most commonly, it’s a sense of community. Facebook, Instagram, Reddit… the list goes on and on.
All of these companies might be different in the value that they deliver to their users, but there is a common thread that weaves these companies, and all successful companies, together:
Underneath every value proposition is an elicited emotion. As described by Robert Plutchik, eight core emotions drive a person’s day-to-day experience, and I would argue that the success of a product / service is strongly correlated with its success in eliciting positive emotion. Here’s a diagram that describes Plutchik’s model:
The middle ring of the diagram (joy, trust, fear, etc.) includes the eight core emotions, as described by Plutchik. As you can see, more intense variants of the emotion reside in the inner ring and less intense variants of the emotion reside in the outer ring.
More often than not, products and services tend to create value through the joy, surprise, and trust verticals. For VCs, these are ethically-sound investments: companies that create value through the elicitation of positive emotions. Need to feel some joy? Find a cute baby video on YouTube. It’s that easy. And without a doubt, users are inclined to stick with products and services that elicit positive emotions. As such, consumers, entrepreneurs, and VCs are all aligned in the growth of these “positive” companies.
Unfortunately, this is not always the case. Some products and services elicit positive emotions (i.e joy or trust) by exploiting human weaknesses (i.e sadness or fear). In other words, instead of trying to create joy and trust from a neutral baseline, these companies target customers that, because of an emotion, have inelastic demand. This can lead to a dynamic that encourages price gouging and addictive behaviors. Think of “happiness apps” that are marketed as a remedy for depression or anxiety but have yet to prove meaningful efficacy. Alternatively, think of the pharmaceutical market, in which price gouging can put lives at stake.
So as a VC, is there an ethically-correct response? If you’re a VC, you’ve chosen to represent LPs, and your fiduciary responsibility is to pursue the best possible returns. Companies that try to capture value from human weaknesses can reap major returns, but is it right to support companies that, in a lot of ways, take advantage of customers? This onus is on every investor, and each VC firm will handle these rare (but meaningful) opportunities differently.
If nothing else, investors should proactively have a conversation with their LPs about how to approach ethically-challenging investment opportunities. This way, everyone will be on the same page as to what is fair game for investment and what is not. M25 Group offers a great example, as they have agreed with their LPs that they will not invest in any “vice” industries (e.g. alcohol, gambling, tobacco, cannabis, etc.).
In the end, an alignment of expectations will protect the respect between investors and their LPs. As such, the real question becomes whether an investment firm should be judged by the way that its portfolio companies capture value. I will leave this question up to you, and I would love to hear your thoughts in the comment section below.