Is the Silicon Valley Way Sustainable?

Writing about “the ugly unethical underside of Silicon Valley” in Fortune, Griffith suggested that “Silicon Valley has always seen itself as the virtuous outlier, a place where altruistic nerds tolerate capitalism in order to make the world a better place”.  There is no doubt that Silicon Valley companies, and the culture that has developed to surround them, have made significant impact on people’s lives all over the world and that Silicon Valley can and should be held up as the model of Schumpeter’s “creative destruction”.  However, Griffith suggested that perhaps Silicon Valley is not as pristine as it would like everyone to believe that that a “fake it till you make it” mindset is being exposed by a continuous stream of disclosures of fraud and mismanagement like the following:

  • Fall Short of Hype: A relatively mild, yet often quite devastating, problem is slow growth that flies in the face of the initial hype associated with the launch of a new product or service.  In some cases, the company will struggle to defend a lawsuit over labeling or intellectual property rights and even if the claims against it have little merit the distraction of the lawsuit will damage sales and marketing efforts.
  • Dubious Metrics: Companies choose from an almost unlimited universe of metrics to describe the performance of their products and their acceptance and popularity in the marketplace. In many cases, these metrics are difficult to understand and provide a confusing and misleading picture of how well the company is doing with respect to revenues, number of customers, product quality etc.
  • Augmenting Product Demos: Companies like to create impressive “demos” of their products in order to woo potential investors and customers and create a media buzz.  Realizing that many of these demonstrations can and will be strictly controlled by the company, there may be a temptation to augment the presentation with technologies and tools that are not really part of the product (e.g., the virtual reality startup that used animation to augment its stunning demo videos).
  • Manipulating Sales Results: If a company’s products are not gaining traction with customers, it may be tempted to manipulate sales metrics or otherwise cover up problems that it is having with building a following in the marketplace. Few companies go as far as having their employees go out and buy back their products from retailers and then reporting those transactions as actual sales; however, companies have been known to report products shipped to retailers on consignment as completed sales and fail to adequately disclose “return rights” that might result in a flood of products coming back to the company along with refund claims in subsequent periods.
  • Fraudulent Test Results: Companies have soared to staggering valuations based on new technologies that ultimately turn out to be based on fraudulent test data and which do not support products that will actually work. These companies may commission private tests that appear to validate the technologies and the results of which are widely publicized in the media and the founders may engage in aggressive speaking and promotional campaigns to create a sense of legitimacy for the products.  Problems begin to occur when customers start to complain and the push to expand forces the company to expose its products and initial test results to tougher scrutiny.
  • Sidestepping Regulatory Hurdles: One famous episode of nefarious activities to avoid regulatory burdens that could have slowed projected growth was the development of software, directly overseen by one of the founders of the company, which would allow employees to quickly pass tests to obtain licenses required by the state without studying. Coupled with the fact that many employees began work without even trying to obtain their licenses, with the knowledge of senior management, and you quickly had a situation where the company was not only breaking the law but also disseminating advice and services to customers that was ill-informed and likely to cause harm to their businesses and their employees (e.g., a risk to employees of not having the health care insurance benefits they expected).

The illustrations above contain their own lessons and hope most entrepreneurs will see that the companies involved placed themselves and their stakeholders at great risk in engaging in those activities.  However, Griffith argued that founders need to be more attentive to a handful of overriding factors that have been associated with higher instances of workplace fraud and which can also be seen in the way that Silicon Valley seems to conduct business: “pressure” from venture capitalists to generate hyper-growth and immediate growth and the real possibility of funds drying up if the company is not able to cope with intense competition; “opportunity” to fudge numbers and results, if not engage in outright fraud, because private companies are not subject to stringent reporting requirements and members of the tech media, many of whom are blinded by the celebrity status of the founders and have little business and technological experience, are more than happy to take an upbeat story and distribute it without much due diligence;  and “rationalization” in the form of embracing Silicon Valley’s “change the world, move fast and break things, and disrupt” culture to legitimize “ignoring the rules” in the ways described above.  Another factor that emerges from Griffith’s essay is “arrogance” seen among a few of the venture capitalists that loudly dismiss reports of problems and critiques of the Silicon Valley ecosystem and from founders who insulate themselves behind governance structures that allow them to retain control and leave investors with no voice or recourse when trouble brews and the founders are exposed as bad and/or dishonest managers.  Complicating the situation even more is it is not only the founders that are vulnerable to the factors mentioned above but also the venture capitalists themselves.  Under pressure to successfully invest a tsunami of capital, venture capitalists vigorously compete for the “best deals” and are often too willing to look the other way and cave to founder demands for control in exchange for entry into a financing round.  Once a venture capitalist becomes an investor, he or she pushes the companies, in the words of one founder quoted by Griffith, “to pour more gas on the fire” to attract additional investors willing to bid up the value of the company to make the initial investors look good to their limited partners.  The situation gets so frenzied that it has been reported that later round investors in Uber put their money up without getting financial information beyond a set of risk factors—technically “legal” in the case of offerings solely to “accredited investors” but as a practical matter a breach of best practices and fiduciary responsibility to limited partners.

Griffith’s essay, and the comments of several sympathetic Silicon Valley investors and observers included in the piece, can be seen as a plea for integrating certain core principles of sustainable entrepreneurship into a situation that has damaged key stakeholders such as employees who have lost their jobs and been tainted by affiliations to shady businesses and investors who have lost money and confidence and trust in the entire ecosystem.  Sustainable entrepreneurship addresses the factors discussed above head on by establishing clear and objective economic and social goals and transparent metrics to track progress.  Sustainable entrepreneurship also stands for “intelligent disruption”: rules will not be changed without dialog and founders need to understand that while companies like Uber have aggressively challenged the status quo and legal hurdles it did so within the system as it presented itself and through extensive negotiations with regulators and other stakeholders in the communities where it was looking to operate.  Finally, sustainable entrepreneurship is grounded in acting fairly and truthfully, guideposts that are unchallenged conditions to the long-term viability that makes a company sustainable.  Fairness, truthfulness and transparency must be part of the company’s DNA from the very beginning, not things that are brought in later once expediency has been served.

Source: E. Griffith, The Ugly Unethical Underside of Silicon Valley, Fortune (January 1, 2017), 73.  Available online at http://fortune.com/silicon-valley-startups-fraud-venture-capital/ [accessed January 10, 2017].

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