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James Hong

Monday, February 12, 2007

On Having Balls, Part II: Staying Hungry

Today I had coffee with Albert Lai, the founder of a site called bubbleshare. It looks like he sold the company and has repositioned the site to be more like the increasingly dominant service Slide.

Albert mentioned that he gave most of the money he made from selling his first company to his parents.. A noble thing to do, but then he surprised me by adding "I gave them the money because it was of course enough for me to never work again, but you know.. i wanted to stay hungry".

..and that reminded me that I still haven't posted a follow up to a previous blog post I made where I said I'd reveal a bit about what is going on at HOT or NOT.

Albert's words impressed me. A Lot. Few people have the guts and the self awareness needed to manipulate his/her situation like this. It's something that Jim and I realized that we needed to do with HOTorNOT someday, and we actually acted on this year.

Running a cash cow in Silicon Valley is a very hard thing to do. By mid 2003, HOTorNOT was doing about 4 million in revenue, and it was still just the two of us running the site. The problem you run into is that the types of people who build successful cash cows tend to get bored and tired of running their sites after 3-4 years. The best example I have of this is my friend Andrew Conru, who runs the FriendFinder Network. Andrew is rumored to make over 100 Million a year in earnings for himself, and is incorporated as an S corporation (meaning the money is only taxed by the government once, not twice as is the case for the more common C corporation shareholder). Over the course of the past 11 years, he has gone through various managers and taken time off from the company to be an engineering professor.

There are a bunch of other notable S corporation websites out there making money, I've learned over the years.. Weather Underground is one too. I'm sure Markus Frind's Plenty of Fish site would be one too if he were in the US.

So.. what happens is this. At some point, you decide "ok, i need someone else to run this thing, but I don't really trust anyone to do it but people like me."

So you go out and get the smartest guys you can. But because you know these brilliant people are not going to want to stick around (especially because they see how much work they are doing, how much work you are doing, how much money they are making, and how much money you are making..). So you realize that compensation structure becomes a REALLY big issue. Even Andrew has had problems with this issue, despite the fact that he is probably (presumably) able to pay someone millions of dollars per year in cash compensation to do a good job of running his company.

And that is the natural, first-instinct way to address the problem. "Well, maybe we can pay them more to make them happy."

It never works. At least not here in Silicon Valley. Engineers at HOTorNOT last year were making 2-3x normal salaries, yet they were not happy... and we really couldn't expect them to be. After all, the only people we trusted with our baby were people like us.. and god knows I wouldn't have stayed here for a high salary. At their age (23), I wanted risk and potential reward, not a steady job. I make a big deal of telling people that when I finished my MBA at 25, I turned down a job that was gonna pay me about $180k in the first year.. despite the fact that I was $50k in debt.. to instead earn no paycheck and give entrepreneurship a go. These are the type of people you trust to continue running your site in "high profit margin" mode. Big company types won't do.

Simultaneously, watching your company continue as a cash cow can be painful. It was for us, at least. Sure, it was continuing to make a lot of money for Jim and I, but it was stagnant and boring. The downside of running a cashcow is that you don't want to do anything substantially different to make it better. The idea is that you milk the cow until it is dead, and hopefully invest that money into new things. Changing anything could screw the money machine up, so you tend not to take any risks. But it almost physically hurts to see the thing you worked so hard on be put into this mode, because you know that in this mode, death is inevitable. Nothing last forever without changing with the times. (Actually, nothing last forever, period. But doing nothing surely accelerates that process.)

So late last year, Jim and I took a look at our situation:

1. The site had already made tens of millions of dollars. That level of cash should make us more willing to take deeper risks with it now.

2. Rather than continue to milk the cow, we'd both prefer to rejuvenate the brand and do cooler things with it.. for fun, for glory, for reputation.. but mostly, for our employees. Because this time, we would give them a cut.

It seemed obvious what to do.. It's like going to Vegas, putting a dollar on the table, and winning $100. What do you do next? You pocket $80 and let the last $20 ride on another, bigger bet.

But how do we make sure we're hungry enough to give it a good shot? After all, after running a cash cow for 6 years, one gets pretty soft, right?

We did some stuff to make ourselves hard, just as Albert did. We:

1) Converted the company from an S corporation to a C corporation. This is not reversible any time in the near future, and changes the dynamics of how willing we are to spend the money we are making.

2) We stopped all dividending of profits. This money is now better used being reinvested into the company. What this basically means is that my income for the year just dropped from "x million" to "ZERO". Talk about taking a paycut! Additionally, since I am working here again, I took a salary of $24 a year. (I wanted it to be $1, but apparently that created a problem for our payroll vendor, so it became $1 per pay period)

3) We created a stock option plan and have started giving options to employees.. to make THEM hungry too. As part of this, our engineers took a paycut back to market rates. The fascinating thing about this is that THEY ASKED FOR THE PAY CUT. They understood that in order to deserve the reward, and in order for them to feel the need to work smarter/harder, they needed to take some risk. For guys that just turned 23, I found this to be incredibly mature.

Suffice it to say, I am feeling hungrier (and broker) than ever. It's an interesting thing because it's valid to point out that I have some money in the bank. But the truth is, when I first started entrepreneurship, I had nothing to lose. That made being an entrepreneur easier. Now I am gambling the largest asset I have, meaning now I have a LOT to lose. I've never felt this level of pressure before, and I have to say, it can be pretty nervewracking at times.

But we're on a mission. We have something pretty neat that we want to build, and we're willing to risk a lot to get there... and we're hungry as hell. Maybe we'll succeed, and maybe we'll fail, but at least we're going for it.

I'd like to end this post on one of my favorite quotes (and one of the few not by Oscar Wilde :) ).. It's by Pablo Picasso. I think it's fitting:

"Every Act of Creation, Is First an Act of Destruction".

We think it takes a lot of balls to destroy what you have in order to make room for the new. Even if we fail, at least we gave it a shot. But hopefully, we won't.

PS HOTorNOT is hiring!! If you or anyone you know would like to actually have fun at work,see our Jobs page! :)

13 Comments:

Anonymous Martin said...

Absolute respect.

6:08 AM  
Anonymous Mukund Mohan said...

Great work. Go for it. You have me rooting for you. I admire that you want to do it, since I dont have any reason to understand why I should give up my cash cow.

Mukund BTW, I worked with your brother Tony at Ariba for 2 years before his Chemdex gig - he said great things about you - NOT! :)

5:09 PM  
Blogger Adam said...

Thanks for sharing your story so candidly, James. Stay hungry and keep writing.

10:51 AM  
Blogger Dave said...

great stuff james... better start reading your blog more often :)

11:31 AM  
Anonymous Anonymous said...

I don't get it.

If you're so sure you can create this next big thing, then just do it. Keep the cash cow going, but do everything else in a new company.

Isn't it more impressive, if that's what you're going for, to start a new company and make that a success from nothing?

I guess we're supposed to be impressed, but it seems like a really childish decision, borne of ego more than anything.

It's that Valley you're in. You're surrounded by the wrong people, James. For some reason you seem embarassed by Hot Or Not and its success. Whatever, most people would die for a business with that much profitability. So many are out there struggling every day, and yet you're happy to just toss it away. How can this not come across as incredibly arrogant and elitist?

1:19 PM  
Blogger james said...

anonymous,

We're not doing what we want to build in a new company because what we want to build is a completion of our original vision for HOTorNOT. I have been involved in building other companies separately from HOTorNOT, like SaveMyAss.com for instance, but in order to continue working on HOTorNOT (which is what I want to work on), I'm afraid it has to be done from within the company that actually owns it!

In this case, We just want to finish what we started, and that's about the best answer I can give.

-james

6:14 PM  
Anonymous Jason L. Baptiste said...

I'll make this my comment for both articles. Entrepreneurship like capitalism... it is brutally inefficient. Everyone has to fail a first, second, third, and maybe so on time (you never hear about it though). It weeds out those who aren't willing to run the marathon. Reid hoffman said it best: Entrepreneurship is a marathon. I've fallen flat on my ass, lost everything, but I still haven't taken a day off yet. You don't stop. You have to stay hungry and have the same dreams. Whether you've made tens of millions or nothing, the hunger has to stay the same. Without the passion and hunger, you're just a guy with a website. With passion and hunger you're an entrepreneur with a business. Thanks for the great read James, I'm sharing it with a lot of people.

-JLB

9:11 AM  
Blogger Shanti Braford said...

James,

Like several above said, Much Respect.

I hope you consider HOTorNOT a huge "home run" in the typical VC sense of the word, etc.

I don't live in the valley just yet but I've been around people like that all my life and know what that can be like.

It's also amazing to me that you can still be "hungry" even with 5+ million sitting in the bank... unless you invested it poorly or gave most of it away, like your buddy you mentioned there.

One thing I've decided to do if I ever became fabulously wealthy (in the multi-millions) is do a ton of angel investing. Like you guys, I'd never want to create a behemoth company that others would then consider their "9 to 5."

I know sometimes it's inevitable to bring people on board to help run things, who will have a small percentage of stock, and might not be as enthusiastic as the owners (who own 40%+ or 90%+ in single founder situations).

But anyway... I hope you also give back some of that "cash cow reserves" to help other entrepreneurs who really do have $50k in debt and are going for it =)

Oh and good luck w/ the new venture -- you've got a lot of hungry competition out there!

2:08 AM  
Anonymous Anonymous said...


Andrew is rumored to make over 100 Million a year in earnings for himself, and is incorporated as an S corporation (meaning the money is only taxed by the government once, not twice as is the case for the more common C corporation shareholder).


The salary your corporation pays you is an expense for the corporation, so the corporation isn't taxed on it -- thus you are not "taxed twice" on that money.

Where the "double taxation" thing can come into play is if you pay yourself dividends (taxed at a lower rate than income tax) or some other distribution from the profit of the corporation -- since the corporation will, of course, be taxed on its profit. If you, a separate legal entity from the corporation, then take some of that after-tax money you also profit from it, so you are taxed on it as well.

In practice it's a very easy thing to avoid -- by paying yourself a salary, or expenses, or a consulting fee, or whatever you want as an expense of the corporation.

In many cases for a small closely held corporation with one or two owners, you might actually try to keep the corporation's profit at a minimum, by expensing payments to the owners. On the other hand, it's very likely that the corporate tax rate the company will be paying would be lower than your personal tax rate, so it might be advantageous to minimize your personal "profit" -- taxable income -- and retain profit in the corporation.

With those kinds of approaches a "C" corporation can offer great tax benefits to those who are willing to put the time and effort into managing the tax situation -- or to those with active and capable tax accountants.

10:42 PM  
Anonymous Max said...

Picasso was ripping off Mikhail Bakunin who said in 1942 "[t]he urge to destroy is also a creative urge."

5:56 AM  
Blogger Nathaniel McNamara said...

Great post James. Having that hunger is a valuable asset. I liked the steps that you took to retain it in your new venture. I am looking forward to reading more about the new ventures.

7:52 AM  
Anonymous Language Blog said...

Very good post. It's inspiring that hey gave his money to his parents in order to stay hungry.

9:37 AM  
Blogger Miguel said...

Big props to you for your work but I don't know that I agree with the call you made. You're already wealthy so really you are not hungry regardless of what salary you choose for yourself. How are you doing this for respect? dude... respect from who? who really cares?

If you want to finish your work then keep moving forward but this sounds more like you felt like gambling. I think you should title this gambling with your company takes balls not starting a company.

11:45 AM  

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