Sep 20, 2023
On September 12, The Capitol Forum hosted a conference call with Associate Professor of Law Matthew Wansley and Professor of Law Samuel Weinstein of Cardoza School of Law for a conversation about what motivates venture predation, how it harms consumers and innovation, and what legal reforms are needed to deter it. The full transcript, which has been modified slightly for accuracy, can be found below. You may also listen to this conversation as a podcast episode.
TEDDY DOWNEY: Good morning, everyone, and welcome to our Antitrust Conference Call. I’m Teddy Downey, Executive Editor here at The Capitol Forum. And today we’re chatting with Associate Professor of Law Matt Wansley and Professor of Law Samuel Weinstein of Cardozo School of Law. Their paper “Venture Predation”, I really think it’s a landmark paper in the antitrust field and I’m super excited to talk to them about it. Sam and Matt, thank you so much for doing this today.
MATTHEW WANSLEY: Thanks for having us.
SAMUEL WEINSTEIN: Good to be here, yeah.
TEDDY DOWNEY: So I think a great way to start with this, we’ll just go through the paper kind of in order and get some highlights from you. The first part is about sort of the economics of predatory pricing and the relevant antitrust law. I think the audience might be pretty familiar that there isn’t very much predatory pricing enforcement now. And I think your introduction to the paper kind of goes through why that is and I would love to hear you both talk about that.
SAMUEL WEINSTEIN: Yeah. I’ll start if that’s okay with you, Matt.
MATTHEW WANSLEY: Yeah.
SAMUEL WEINSTEIN: I think probably many people on the call are familiar with the history here. But when we think about classic predatory pricing, we think probably about a self-funded predator, a big company like Standard Oil. And the idea would be that the Standard Oils of the world would use their cash reserves to fund a price war, right? Price below their own costs for long enough to drive out their rivals and then turn around and try to recoup those losses by raising their prices above a competitive level for long enough, again, to make the money back that they lost in the price war.
And so if you think about the scope of the 20th century—so, through probably the fifties, after passage of Robinson Patman, so through the fifties or sixties, early sixties—clients prevailed in predatory pricing cases on that theory, that these were self-funded predators that, in the price war, would be able to exclude their competitors.
Around the fifties, we start seeing the beginnings of the Chicago School critique of predatory pricing. And I’d say this takes place within the fifties to the seventies. And the Chicago School just sort of, to put it in a nutshell, argues that predatory pricing is an irrational strategy that probably doesn’t happen all that often in the actual marketplace. And there were a few reasons they say it’s irrational.
One is, as the predator succeeds, the strategy becomes more expensive, right? So if the predator started out with a 50 percent share and then went to a 75 percent share, by the time you reach a 75 percent share, for every four sales that are out there, it’s losing three times as much money as the prey. Because it’s losing money on every sale and it’s got more sales to lose on. That’s one reason.
Another reason why it’s irrational is that once the predator succeeds in excluding the prey, if it can do so, the prey can do a couple of things. Like the prey can withdraw from the market and wait around. And once the predator decides it’s time to charge supracompetitive prices, the prey can reenter. That’s one thing that can happen. Or more likely, if the prey’s excluded and the predator tries to raise prices, other companies can come in and undercut the predator. So the Chicago School’s argument is that it doesn’t make any sense for a number of reasons. It’s probably not something that actually happens in the world, predatory pricing.
So, in the mid-seventies, we get this economics literature translated into the law review literature in the Areeda-Turner article, famous Areeda-Turner article, which I think is 1975 where they’re casting doubt on predatory pricing from a legal standpoint and saying, you know, the test should be more rational, more rigorous, than it is right now. And so what we should look at first is, is the alleged predator’s pricing below its cost? And second, can it recoup? And that test gets picked up pretty quickly by the appellate courts and eventually the Supreme Court. In 1986 Matsushita says, hey, we think predatory pricing is rarely tried, rarely successful.
And then in ‘93, we have Brooke Group. And Brooke Group puts in place today’s predatory pricing regime, which is the plaintiff has to show the predator’s pricing is below some measure of its costs and the predator has a dangerous probability of recouping from the price war by being able to supracompetitively price long enough after the prey is excluded to make back all that money. There’s some dispute about this, about how often plaintiffs have won. It’s near zero. Since 1993, plaintiffs have won near zero, if not zero, cases of predatory pricing claims at the federal level.
So this Brooke Group test, which again is based on the idea that predatory pricing is rarely tried, at least in spirit that’s what it’s based on, has been insurmountable for plaintiffs. So we just don’t have predatory pricing as a viable theory anymore. And so, while that’s happening in 1993, the economists, we have this post Chicago School theory. So the economics moves forward after 1993 or after 1977, if you want. And we have these post Chicago School economists saying, hey, there are ways in which predatory pricing might be rational. And a lot of these theoretical papers are based on game theory and argue that in an imperfect marketplace, where there’s asymmetric information, it might make sense for a company to undertake predatory pricing.
And there are some theories about how this might work. The predator, for instance, might use its reputation as a predator to scare off new entrants in other markets or at other times. Or it might try to impress upon the prey’s lenders, using again asymmetric information, to try to convince the prey’s lenders that the predator is more efficient. That’s why it’s dropping its pricing, so that the prey should lose its funding. Things like this, based on asymmetric information.
So the law is stuck in 1993 and the economics has advanced. So the challenge to sort of translate that new economics into law is it’s hard to find or has been hard to find examples of these post Chicago School theories in practice. And so we’re trying in the paper to say, well, you may be looking in the wrong place. You should be looking in Silicon Valley for examples. And we’re arguing that if you look there, with venture backed startups, you can start to see post Chicago School theories in action and that predatory pricing is in fact being tried. And so I’ll pass it onto Matt and he can talk about the middle part of the paper where we discuss our examples.
TEDDY DOWNEY: Yeah, before we get into Silicon Valley, Uber, WeWork and Bird, I wanted to pause for a second. Because in your paper, you discuss some of the Chicago School arguments. One of them being you don’t see this very much in the world. And you make the point, well, maybe that’s because it’s actually illegal or it was illegal. Now, I mean, I see it everywhere. I mean, you can’t go outside—I mean, Amazon, Uber, Lyft, WeWork, Bird. I mean, there are countless examples where you go this can’t possibly be economic for this company every day.
And so before we get into the Silicon Valley, this idea that the economists can’t prove that it makes sense, this whole Supreme Court theory that this doesn’t happen is a completely different world where business didn’t do it, maybe because it was illegal. And now that it’s not illegal, it happens all the time. I mean, that’s my kind of impression. I’m wondering how you guys think about that in the course of writing the paper.
SAMUEL WEINSTEIN: So I think that even the Chicago School economists make that critique themselves a little bit. They say, like we understand some of the early work in Chicago School in the fifties and sixties, the author said we understand that one reason why we may not be seeing this is because it’s enforced. And so I buy that.. So now you’re in a world where, post 93, it’s very difficult to win these cases. So you’re potentially more likely to see it, right? It’s coming out from under the rocks.
So I think that’s definitely true. I do think, though—and I think that Matt will pick up this theme—there’s something special about venture financing and about platform companies that lends itself to below-cost pricing. And I think a challenge that Matt and I have is there’s a lot of below-cost pricing that we think is perfectly lawful. And the difficulty is teasing out that below-cost pricing from what we think is unlawful. And that’s something we really work with in the paper. And I think that Matt will talk about that.
TEDDY DOWNEY: Okay, perfect. And Matt, you guys have some really interesting case studies here on Silicon Valley venture predation. We’d love to get your take on that.
MATTHEW WANSLEY: Yeah. So, in case it’s interesting to the audience, part of the reason that we’re collaborating on this paper, Sam and I, is we have very different backgrounds. Sam was a career antitrust lawyer at the DOJ and I was the GC of a venture-backed startup. And so in the startup world, people don’t think about antitrust law too much. And I think that’s part of why behavior that people in the antitrust world might see as predatory pricing, to people at startups, that concept just seems foreign and unfamiliar because it seems so far removed from their daily experience.
What VCs understand is that they need to grow the valuation of their businesses within a five-to-seven-year time horizon. So the way venture capitalists work is they take money from institutional investors. They invest it in a portfolio of startups. And five to seven years later, they get out through exit. That’s often through an acquisition. Sometimes—though less so these days—through an IPO or maybe a secondary sale to later investors.
So because VCs have this very specific time horizon, they don’t really care ten or twenty years out where this company is going. What they want is a valuation that will allow them to exit their investment. We think that what they’ve discovered is that predatory pricing is a great way to get a high valuation. And the reason is it’s a great way to grab market share really quickly. And you, as the VC, don’t need to stay around in the company during the recoupment stage. You just have to convince subsequent investors that there is a real possibility of recoupment.
So, when you look at a company like Uber, we talk a lot about their being a Series A investor benchmark capital. So, benchmark puts in, depending on which source you look at, somewhere between $11 and $12 million. And they get out something north of $5 billion in that investment. This is one of the best investments in venture capital history. And it was only in the last quarter that Uber even has an arguable profit. And even there, I think a lot of observers are skeptical how much of it is accounting gimmicks and short-term trends as opposed to profitability in their core business?
The point we’re making is that Benchmark was out years ago. Benchmark got in when Uber was really small, was a Series A. Uber grew rapidly through below-cost pricing. It pushed a lot of taxi companies out of the market. It possibly would have totally dominated the market were it not for the fact that they had some self-inflicted wounds from Travis Kalanick and Lyft grabbed some market share with them. But in a lot of cities, the ride hailing market looks something like an oligopoly, a duopoly, between these two companies, where Uber’s got a pretty constant 70 percent share and Lyft’s got a 30 percent share.
We’re agnostic on whether Uber is ever going to be able to recoup the cost of predation. In terms of the Brooke Group test, it’s not obvious that you would have a successful claim against Uber. But our whole point is we need to start asking a different question. For the venture capitalists like Benchmark, Uber was a super profitable bet, even if it never recoups. And the way that Uber got its market share was by knocking out other competitors who could have brought other innovations to the market and distorting the economy in all sorts of subtle ways.
So we give the example in the paper, what if you are a taxi driver who, in the early days of Uber, saw how attractive the driver pay was? You might have gotten rid of the taxi that you were leasing from the taxi company and bought your own vehicle because you thought being an Uber driver was going to bring you more income. The problem is those weren’t market prices. And when the subsidies stopped, a lot of drivers found themselves stranded with assets they can’t afford. So we think there are real harms to venture predations that just are hard to capture under the existing law, and we want to draw attention to that.
TEDDY DOWNEY: And you have a couple of other examples in there, WeWork and Bird. We’ve already gone through Uber a little bit. Can you maybe talk about one or both of those as well? Just because I think the stories are all good on the companies that you looked into.
MATTHEW WANSLEY: WeWork is an interesting case. Because like Uber, they put themselves in a cloak of technology, right? The words technology and software and machine learning are all over their prospectus for their failed IPO at WeWork. But, as a lot of analysts have said now, in retrospect, WeWork was essentially real estate. It was a commercial real estate play where they were leasing real estate from building owners and then leasing the smaller portions of that real estate on shorter term bases to startups and individual entrepreneurs who wanted to work at a WeWork. Did they think that that market was going to be all that lucrative? Because commercial real estate is a pretty low margin business. It’s pretty fragmented. But because WeWork was able to price at such a low level, it was able to grab market share incredibly quickly.
There are some amazing quotes in a great New Yorker article about the competitors to WeWork, so other co‑working spaces. Most of them we’d never even heard of because WeWork crushed them very quickly. And they would say things like, well, WeWork would come and open a co-working space right next to our co‑working space, and then send an email to all of our clients that would say, we’re going to give you a year free if you commit to us. And these other co-working spaces, that were not backed by venture capitalists, could not possibly compete with that. And WeWork, of course, wasn’t making a profit on those deals either. But it didn’t care because it was raising so much money.
Now, figuring out who won and who didn’t win in WeWork is a little complicated because everything kind of fell apart when they tried to do the IPO. Once they put the prospectus out, got a lot of sophisticated analysts looking at their finances, everyone said there’s no there there and the IPO imploded. They eventually later did go public through an SPAC. But I think in the past year, they got a warning from the exchange that they’re at risk of being delisted.
So WeWork as a business never really made sense. But for early investors in WeWork, not quite as outrageous as Benchmark, but they made a killing. And for Adam Neumann himself, it was extremely lucrative. Why? Because the predatory pricing was able to give them this increasing treadmill of higher and higher valuations. And if you’re able to cash out before the whole thing collapses, like WeWork did, you can do pretty well. Now, SoftBank, the late-stage investor there, did not do so well.
I’ll speak briefly about Bird. Now, Bird, I think, is best understood as a failed case of venture predation. I mean, these VCs wanted to turn that into another predatory pricing scheme. And how do we know that? Well, first of all, the CEO, Travis VanderZanden, had headed up growth at Lyft and Uber. So he played the book very well from the ride hail industry. And there’s some amazing on-the-record quotes in the media that we put into our article where it’s clear the investors at Bird thought what they could do is just flood the market with their scooters, become the dominant platform and push everyone out and then raise their prices.
And Bird’s real innovation was not so much prices that were really low, but just being totally indifferent to cost. So they would put far more vehicles on the street than the market could possibly bear. The theory behind that was wherever you are in the City of Santa Monica—that’s their first market—the closest scooter to you is going to be a Bird scooter. Now, most companies couldn’t afford to do that because they want to generate a profit. And so you can’t be totally indifferent to costs. But that was Bird’s theory. The problem is it just never really got off the ground. Because the market was quickly filled with venture backed startups that were all trying to do the same thing. And so what we got was like a lot of clutter in these cities that were taken over by the scooter companies, but not a lot of profitability.
So maybe, maybe, some early-stage investors made some money in Bird, but I think most of them probably regard it as a failure. But, I mean, these were blue chip VC funds that were making these investments. And it’s hard to imagine how Bird could have gotten a large market share without predation, because they were basically using commodity scooters from the Chinese.
Probably the most interesting fact about Bird is that there’s this amazing investor deck that Bird put out where they say we know that some investors are concerned that Uber and Lyft are going to get into the scooter market, and that might create some real competition for us. But Uber and Lyft are preparing for IPOs. And because they’re preparing for IPOs, they’re going to have to have some financial discipline. So they just can’t afford to hemorrhage cash and penetrate places like we can. And as a result, we don’t see them as real competitors. And that to me just shows that people have internalized this logic, that once you’re VC backed and you have a ton of cash, you can be insensitive to costs and price and just compete because of your cash. But once you have to be a public company where you’ve got public investors looking at you and scrutinizing your finances, it’s harder to get away with that strategy.
TEDDY DOWNEY: Yeah, it’s interesting because in some respects it’s harder, but in some respects the institutional investors expect to recoup later. They give you a high valuation. Then you have more capital to work with, which is like what you get from Amazon and what you ultimately got from Uber and Lyft. They just used that money to continue to, I think for a while at least, different from WeWork, their IPOs worked. And so they were flush with cash to kind of keep doing what they were doing.
So it is interesting. And I want to get into the harms, the legal harms, as we say, the real-world harms, from this type of conduct. But you mentioned the DEC. One of the things I think is interesting is you mentioned that Silicon Valley doesn’t really think anything is wrong. Like predatory pricing is like their business model in some respects. Like that’s kind of what they were trying to do. Let’s just think of a world where the FTC and DOJ, totally, and state AGs, they buy into it. They read your paper. They love it. They go issue CIDs to a bunch of these VC firms and the companies. I imagine they get pretty good documents showing the business plan. Like, they don’t hide it. It’s not like anyone’s ashamed that they’re doing predatory pricing or below-cost pricing and trying to get share. I’m interested to get your response to that.
MATTHEW WANSLEY: Yeah, I think, to be clear, like I don’t want to overstate our case. I think predatory pricing is a very important phenomenon in Silicon Valley today. But I think the vast majority of startups are trying to produce a real product and trying to deliver some real innovation. In many ways, we see venture predation working sometimes as a fallback strategy. I don’t think it was a fallback strategy with Bird. But I think some companies might think, all right, let’s try and develop some innovation. And if that doesn’t kind of work out, well, we can just get by on cash.
Let me give you an alternative history of Uber. I have no reason to believe this is true. But we’ll just develop better algorithms, routing algorithms, than our competitors and beat them on the merits. And that never really happened. And so they had the cash and the cash seemed to keep working. That’s probably not true of Uber. Because it turns out like they didn’t create their own app. They outsourced it to contractors. So, I’m not sure if they were really even invested in the idea of innovation from the beginning. But we can easily see with some startups a genuine attempt at innovation that goes nowhere. And then a realization, hey, man, this cash is really a great way to compete.
To your point, I do think VCs have not been afraid of antitrust authorities. And I do think that might be changing. I mean, you probably know a lot more about it than we do. The email that Zuckerberg sent his GC about the Instagram acquisition, right? I mean, you know, any lawyer in America is looking at that and being like, how can you say that, you know? How can you say that? Yeah, Instagram growth looks really competitively threatening. We need to take them out.
But I think there was just kind of this blasé attitude towards antitrust enforcement. And I guarantee you Mark Zuckerberg is not sending that kind of email today. So I think one reason that Sam and I wrote this article is to make the point that for deterrence, you don’t necessarily need to bring a ton of cases. You just need to bring a case that sends a message and shows that antitrust authorities are going to take this seriously. Because every decision that VCs make is based on the anticipation of what’s going to happen when they’re exiting their investment. And if they start to doubt whether they’re going to be able to exit these investments if they use predatory pricing, because the subsequent investors are going to be worried about antitrust enforcement, then it just might make the strategy look less attractive. So we do think there’s a real potential for deterrence here.
TEDDY DOWNEY: Yeah, California also has an interesting statute, antitrust statute. We had AG Bonta on this exact podcast a few months ago and talked about their special law. I don’t know how well it matches up with what you all are saying. But that’s kind of another interesting avenue, just given that the federal law has been unenforced for so long. And I’ll tell a really quick story. I actually was a seed investor in Lyft. I can tell you that originally their business model, they were called Zim Ride. I don’t know if you guys know the history.
MATTHEW WANSLEY: Yes, John Zimmer.
TEDDY DOWNEY: But when I invested in them, they had a ride share where what they did was they facilitated carpooling over Facebook.
MATTHEW WANSLEY: Right.
TEDDY DOWNEY: And that was like getting cars off the road, which was like an environmentally good, sort of concept, right? It was like we’re going to help universities and companies have their workers and students carpool to get to work and school. And they had these subscriptions with Walmart and Cornell and all these institutions to kind of get cars off the road and facilitate carpooling. And that was kind of the concept.
Then they got seed funding. I never pressured them. That was kind of what I was buying into. But the VC people were like, Hey, you know, so we want you to change. You know, this is a nice little business, whatever, subscriptions. It’s not going anywhere. It’s not growing fast enough. What if you changed to the eBay of empty space in your car?
So they called me up. They bring me in and they say, Look, we’re changing the business model to be the eBay for empty space in your car. And I was like, oh, you mean like you’re going to rent out the trunk? I don’t understand. And they’re like, no, no, no. The empty seats in your car. So I was like, oh, like a taxi. And they go, no, no, no, you don’t understand. They’re going to be donations. I was like, oh, like a gypsy cab. And they’re like, no, you just don’t get it. And I was basically like, look, I think you’re going to need a really good lawyer—a really good lawyer and a really good lobbyist. That’s like my little history of my interaction with Lyft.
But to your point about like they didn’t always have this plan. And actually, I think that one, the VCs, you could literally go back and probably look into it and be like, Hey, what did the VCs suggest to you? I think there’s just a lot of interesting history here of like when does the company actually become focused on engaging in this like predatory pricing, venture backed scheme?
But, Sam, I did want to get into the legal harms and the real-world harms as well. I think kind of implicit in what Matt was talking about is some of like, well, this doesn’t seem like a very good place for this money to be going. But you list a lot of good, interesting harms as a result of all this work that you’ve done. I’d love to hear your thoughts on consumer welfare and outside the consumer welfare kind of standards
SAMUEL WEINSTEIN: Yeah, that’s great. So, we try to divide the world up into three possible cases. So if you think about this strategy, just take Uber for a second. Let’s just assume that Uber succeeds in recouping. So let’s say Uber becomes the classic predatory pricer. Actually, the scheme works. They price below net cost. They chase the cabs out. They enter into a stable duopoly, as Matt was saying, with Lyft, and they’re all able to raise their prices above the competitive level for long enough that they make their money back.
So that just falls within Brooke Group. So, you rarely, if ever, see a successful Brooke Group case, but that would be an example. That would be a successful Brooke Group case. And the idea would be that folks are paying so much more now for these rides above the competitive level that it more than compensates for all the losses and the low-cost rides before the recoupment started, right? So that’s just unlawful under Section 2 currently. But I think the damage is obvious. It’s harm under the consumer welfare standard.
And then you might have a state of the world with failed domination. So that’s Bird maybe, as Matt was saying. And we talk a little— well, we didn’t put it in the paper, but we talked about like ClassPass. I’m thinking about other failed startups. ClassPass, the sort of below-cost pricing that goes nowhere. And basically, the recipients are just excited, right? It’s the millennial lifestyle subsidy. MoviePass is another one. They get cheap goods and there’s a transfer of wealth from VCs and from founders to consumers, right? And we have no problem with that. If you want to take the risk and lose your money and give away free movie tickets, go forth.
The case that’s difficult, the one that we focus on a lot, is this situation with uncertain recoupment. That’s the Uber case. Because we just don’t know if Uber’s ever going to recoup. And because we don’t know if Uber’s ever going to recoup, it’s possible that a plaintiff, or maybe likely a plaintiff, would lose under Brooke Group, right? Because it would be potentially difficult for the plaintiff to show how Uber’s going to make its money back and therefore satisfy the Brooke Group standard.
And so what we’re arguing in the paper is even if you think there’s no consumer harmed, you know, consumer welfare harm is hard to show, there are all these other harms. But, of course, we think—well, maybe not of course—but we think there’s consumer welfare harm and our legal solution, our first best legal solution, is, hey, let’s change the Brooke Group standard so that we get rid of the recoupment requirement. And that’s not new. Many legal scholars have argued that, that if you can show sustainable, below-cost pricing, that ought to be enough for the fact finding decisionmaker to decide there’s predatory intent here. Because otherwise, why would they be doing it over a long period?
So that’s our first best solution. We have some other antitrust solutions which I can talk about in a second. But these other harms, I mean, Matt talked about some of them already, but one is what we call the tragic misallocation of venture capital resources. So, as I think Matt made the point earlier, venture capital does a lot of good. Some of our greatest inventions, innovations made in the last 50 years or so, come out of venture capital. And we want money going to that and not to below-cost pricing for some product that’s not any better than the competitors.
That’s basically what Uber is. Uber never had a better product. It never had any advantage. It never had a moat. And so it’s just pouring money, $26 billion, into below-cost pricing. We think that’s, again, a tragic misallocation of resources. That money, and all the money that people who copy Uber are spending on predatory prices, should go elsewhere, like to vaccines or whatever, you know, actual quality products.
So that’s the tragic misallocation of resources. Matt talked about the distortion of the price signal with the Uber driver. If you can’t tell what the price is because the price of the ride is being subsidized and the driver’s salaries are being subsidized, it’s hard to make decisions, not just for Uber drivers but for communities. So in our paper, we talk about the communities that might decide not to build transit because in 2014 they looked at Uber and thought, oh, look how cheap this is. Let’s just stick with that. But it was not sustainable. Those weren’t real market prices.
So everyone around the transport business, the drivers, the communities, the riders are making decisions based on a false price signal, which we think is bad and causes all sorts of harms. So, we have our standard consumer welfare harms above cost pricing. That might be happening now, by the way. I mean, if you’re where we are in Brooklyn or if you’re in San Francisco, you might think like these Uber rides are extremely expensive and you might be right. It might be above the competitive level right now because you really only have one other competitor, which is Lyft, which is probably also pricing above level. So there’s that harm. But then there are societal harms that are not captured by antitrust or by the consumer welfare standard, this misallocation of resources, distortion of prices as well.
TEDDY DOWNEY: Yeah. I mean, you mentioned the small businesses that got crushed by WeWork. I have a friend who had a really nice WeWork competitor in Manhattan. They’re still around. But back then WeWork bought all the other floors in the building. They saw that they were doing well and bought all the other floors in the building. So, that’s someone who had a high-end product. And that small businessperson and the people who are supporting it got harmed, I would argue. And then you have that in all the different markets that you’re talking about that otherwise might be competitive or be invested in, in a sustainable way potentially.
And then, what about for Bird? I mean, like one of the things that’s interesting about that is they just took up the sidewalk and just littered the sidewalk of every city with their trash basically, like those broken things everywhere. I mean, I don’t know. We talked about Uber. But for the other two, WeWork and Bird, did you have any other thoughts about the unique harms that were coming from doing that? I’m just kind of curious to get any additional thoughts on the harms.
MATTHEW WANSLEY: I worked in a self-driving car company. I was the GC. So I remember this phase where everyone was all excited about Micro-mobility, that it was going to revolutionize transportation. And I was at least open to it, right? It was getting people out of internal combustion in cars. But the valuations it turned out were based on prices that were unsustainable.
You can read lots of op-eds decrying the tech pros in Silicon Valley and be like, look, Bird is littering their scooters all over the streets. Like, look at the disrespectful attitude they take towards city regulators. And what we’re trying to say is we think the conversation should focus more on the underlying economics of these businesses. Because the clutter, you know, it wasn’t just carelessness. It was part of the deliberate strategy to take market share. And I think that’s sometimes what’s missing in the popular press coverage. The academic literature is a little more careful about that. And that’s something that that we want to draw attention to, to ask what are these businesses doing and why?
SAMUEL WEINSTEIN: Yeah, I’d pick up on one other point you made today, too, which is we think there are harms here, not just in terms of classic price harms, but in terms of loss of choice, loss of innovation. So you’re talking about WeWork pricing out its competitors. And you lose those competitors. And WeWork’s probably not able to raise its prices because it doesn’t really have a moat around it. It doesn’t have network effects or anything to protect it. But you lose the innovation and you lose the choice that consumers might otherwise have. We think that’s bad too. I mean, it’s the loss of choice, loss of innovation, based on just VC funded predatory pricing is a harm for sure.
TEDDY DOWNEY: I think we’ve gone through all the harms and I want to get to the audience questions really quickly. But first, what are your solutions? We’ve gone through them a little bit. But if you could run through an ideal solution and then sort of a pragmatic solution, that would be great.
SAMUEL WEINSTEIN: Yeah, I’ll take the first crack. I just want to sort of paint a picture of the challenge for a plaintiff. And we think this is a real issue, which is it’s going to be difficult, probably difficult, for a plaintiff to show the difference between what we would think of as pro-competitive, below-cost pricing—which I’ll talk about in a second—and anti-competitive below-cost pricing.
So there is pro-competitive below-cost pricing, which is if you want to start a new network, a two-sided platform like Uber, Airbnb or what have you, you’re going to have to subsidize to begin with. To get people on the network, to get drivers on the network, you’re going to need to have riders. And to get riders in the network, you need drivers. You need to subsidize both sides of that platform to get people starting to trust your business, to be interested in it. We think that kind of subsidy is fine.
The problem is if you never stop. And that’s what Uber did. They never stopped because they were never able to make it efficient. But the plaintiff is going to have to show, hey, this below-cost pricing is not pro-competitive. You know, pricing of the sort that gets platforms up and running. It is now predatory pricing.
Okay, and the way we would say, you know, we could get rid of the recoupment requirement altogether. But if you can’t do that, you probably can’t because of Brooke Group. We would say, well, it ought to be enough for a plaintiff to be able to satisfy the recoupment prong of the Brooke Group test to show that the investors in the company, either the initial investors or the late-stage investors, believe that recoupment was possible. Because if that’s true, then it becomes pretty clear, if they’re acting rationally, that they’re predatory pricing. That’s what they’re trying to do. They’re trying to drive their rivals out of the market and they believe they can recoup. That ought to be enough, we think, for plaintffs to prevail. We think it’s a way to live with Brooke Group and its restrictive test. And then we talk about securities regulation too, which I think is important. So Matt, why don’t you talk about that.
MATTHEW WANSLEY: Yeah. So, we think it is not a coincidence that when these companies were at the heart of their predatory pricing campaign, their finances were not publicly available. They were private companies. And so there’s this debate in securities regulation right now about whether large private companies should disclose their finances—this is often called the unicorn debate. The large private companies that are at least a billion dollars in valuation should be required to make some disclosure. The traditional view in securities regulation has been prior disclosures of public companies. Private companies may have to make some disclosures under some circumstances to their investors, but they don’t have to make disclosures to the public.
We want to raise questions about that. If making these disclosures makes it easier for people to realize that predatory pricing is going on, if just releasing your financial statements would cause your business model to unravel, why are we waiting for the IPO for this to happen? I mean, think of all the capital that was squandered at WeWork on a business model that would have totally fallen apart once people saw the financials. And we know that because when they did see the financials, they did fall apart, right? It’s complicated. Because as someone who was a startup GC, I’m sensitive to the burdens on small private companies. And securities compliance in public companies is always controversial. But we think there’s at least an argument for considering some sort of limited disclosure mandate of basic financial statements onto a large private company.
TEDDY DOWNEY: We have a question from the audience along these lines of transparency. So the question is: this problem is becoming entirely too common. I would love advice on how to recognize this sooner. Besides the transparency, are there any other ways to kind of monitor this type of thing going on in Silicon Valley? Or is it really kind of a case-‑by-‑case basis where you just have to wait and see? How is this playing out from looking at the valuations and business strategy on an individual basis?
MATTHEW WANSLEY: I think short of changing the law, I think journalists need to start asking better questions. So one reason that that we were able to build a strong case against Uber is there’s this great independent journalist Hubert Horan out there—I’m sure some folks on the call have seen his work—who took what were leaked financial statements from Uber and just started to do the analysis that an analyst would do and ask the right questions.
So this is kind of what I was getting at earlier when I was talking about people criticizing Bird with these broad-brush complaints about tech growth. I think journalists need to start asking what is the core value proposition of these businesses? Are they making revenue that paths to profitability, given their costs? Or is something else going on there?
You know, I think the world is changing. But take Mike Isaac’s book Super Pumped about Uber. It’s a great book. We cite it a lot. You know, he did a lot of good work as a journalist. But I criticize him too. Because given the amount of access that he had to Uber, why wasn’t there more conversation about not just subsidizing people to get them on the platform–as Sam was saying, the pro-competitive low-cost pricing–but about what we now know was happening, which was anti-competitive, low-cost pricing that lasted for years?
So, we as academics, we don’t really write in the time when things are happening. We look after the fact and try and explain what was going on. But I think journalists in Silicon Valley could do a better job of being more sophisticated about the underlying economics of these businesses. And I think that would have brought some of these cases to light. I think it’s more likely to happen in the future now that we have all these examples.
SAMUEL WEINSTEIN: I just want to follow up on what Matt said. That was a great answer and a great question. So Matt and I, we didn’t end up doing this because we don’t have enough information. But we were looking at the instant delivery of groceries in New York, which looks like what happened with Bird and some of these other industries’ absurd pricing. It’s almost as though, if you’re a consumer, at least in a big metropolitan area, you can start to sense it. You look at the pricing on instant grocery delivery, like Getta or Gorillas, I forget the other names. You can look at that pricing and see it doesn’t seem right.
And then it’s up to analysts, journalists, to start to ask questions about it. And I’m aware that academic papers don’t have the kind of impact that like a book can have, say, a popular book. But yeah, we’re trying to get the message out that this is a business strategy that’s happening and people should be looking at it.
And Matt’s right, then the next step is to carefully analyze what’s happening with these companies? Why are they doing this? What are their costs? What’s the plan? And with instant grocery delivery, to me that looks like, I don’t know, like Lyme and Bird, right? It doesn’t seem like there’s an end game that would make any sense. I don’t know. You know, maybe there is. Maybe if you get your distribution network in place, you can start to dominate that sector. But that’s one to us that looks like it stinks a little bit.
TEDDY DOWNEY: Yeah, I mean, that’s another one where a lot of people have gotten really rich off Instacart and things like that. The investors, I should say, the early stage investors, Grubhub. I have, not a devil’s advocate question, but kind of put another way, which is like this predatory pricing, instead of thinking about the Silicon Valley executives as these aloof people, that they actually kind of like intentionally engage in a lot of regulatory arbitrage and that really the business model is effectively regulatory arbitrage. Because in a lot of these models, you also see very aggressive behavior around defining who is an employee versus an independent contractor. Obviously, Uber got around taxi licensing laws everywhere by just flagrantly violating the law that was in place.
You can go on and on about, you know, like I mentioned, littering on the sidewalk. I mean, you know just like dump your stuff on the sidewalk and ask for a license later. I mean, it’s just so absurd on one level to just brazenly break the law like that. But that’s what’s going on in a lot of these cases. I mean, they’re sort of intentionally just pushing the envelope when it comes to law and regulation. And I’m curious what your response is to that. And also, does solving this actually mean that you need to go beyond just predatory pricing? Like this is one tool in the toolbox and you kind of have to do a little bit of everything to make sure that these are like sustainable businesses that don’t harm the citizenry?
MATTHEW WANSLEY: So I’ll start an answer to that. There’s a fantastic article, which I also recommend everyone in the audience take a look at, called “Regulatory Entrepreneurship” by Elizabeth Coleman who’s at Penn and Jordan Barry who I think is at USC now. And they look at Uber, Airbnb and also DraftKings and FanDuel as businesses that were essentially built on the premise that the law needed to change. And the way the law was going to change is that they were going to operate either in a legal business or in a legal gray area and hope that they could create a groundswell of public opinion that would force the law to change.
I think the unifying thread between Coleman and Barry’s regulatory entrepreneurship paper and our venture predation paper is The Power Law: Venture Capital and the Making of the New Future. It’s a great book that I recommend to everyone in the audience by Sebastian Mallaby, The Council of Foreign Relations, about Silicon Valley, and he crystallizes well what scholars who looked at VC have known for years, which is that the way that venture investing works is that you invest in a portfolio on the assumption that most of your companies are going to fail. So let’s say you invest in 20 startups in your portfolio, 18 of them go nowhere, one of them does okay. And then the 20th one is Facebook, right? It’s the exponential returns, the 30X returns or better, that come from one outlier company that offset the losses from all your other companies.
Once you start thinking about businesses that way, it changes your attitude towards the law, right? Because if you try some risky legal strategy in one of your startups and it doesn’t work and the startup implodes, well, you’re just down to zero. And guess what? You were only expecting to be down to zero anyway in that company, right? There’s no real difference between a company imploding in scandal and a company just never getting a product that works.
But if one of those 20 bets is Uber and you get more than $5 billion back from Uber, that justifies every mistake that you made. So I think it is inherent in venture capital that we’re always going to see venture backed startups pushing the envelope because they’re chasing exponential returns and willing to take high risk strategies to get there.
I don’t think that’s all bad. Because sometimes it is those high risk strategies that create really socially valuable businesses. But I do think regulators need to be conscious of the ways in which startups are prone to push the envelope and they need to push back when the laws are worth defending and enforcing.
SAMUEL WEINSTEIN: It’s a really good question. You know, this is a little bit beyond my expertise. But you read about the relationship between Space X and the federal government on a bigger stage. That there is this tension that we’re seeing in a lot of sectors between regulators and startups or Silicon Valley, however you want to put it, that regulators, at least in recent years in some famous cases, have been sort of persuaded to back off and to accede to the demands of these companies.
I don’t know enough of our history over time to say this is different, but it certainly seems to be happening now. And that’s, like Matt correctly drew attention to this regulatory entrepreneurship paper, which is excellent. You know, companies making these bets, some of them have paid off in a way that I’m sure encourages other companies to try it, to sort of like litter the sidewalks with scooters. And Matt’s right. The structure of VC investing, I think, lies behind all this. But it is an interesting sociological, sociopolitical phenomenon that there’s this tension between regulators. And sometimes regulators are giving way.
TEDDY DOWNEY: I just want to change the lens a little bit and ask this question a different way. So in a regulated market where the product is pretty clearly regulated and you can’t push the envelope, let’s just say no one’s willing to flout FDA law. And so you have a drug and the VCs in pharma are actually trying to solve, you know, like cure stuff. Or maybe they don’t want to cure it exactly. Because that’s not going to be as lucrative as treating it in an ongoing way. But let’s just say they’re trying to better people’s lives.
Now, there are some. I’m not saying that you can’t push the envelope. There are definitely ways where you could define the drug in the market as an orphan drug. So this isn’t a perfect example. But you’re actually trying to have an innovative pharmaceutical product to heal people, cure people, or help them with their disease. And what you all have done, I think, that’s kind of interesting—if the VC model in that sense was to actually—if you take this to its logical extreme and were to say, look, let’s come up with a medical device that like, yeah, fine, it kills a few people. But let’s just forget about the FDA and let’s keep just pushing out the product and hope that it sells. You know, that’s like a clearly dangerous thing. And the reason people don’t do that is because there are really strict penalties and really strong enforcement – usually—if you’re violating those laws.
So, I have two questions related to this. Would actual better law enforcement around the laws deter this type of like, you know, I think there is a pretty good argument that actually there’s a lot of harm that goes on when you’re violating these laws. These laws were there on purpose. Society put the law there for a reason. People may disagree, but it’s there. That community put that law there.
And then separately, as part of that question, you have created a very creative path to hold accountable the real power that is in the relationship in these companies, which is the financier. And you’ve seen in other markets like the CFPB has pulled in third-party providers into its enforcement of banks so that you can’t just kind of have the illegal conduct be like one step removed from the core company. You know, you’re liable if you’re employing—if you’re having a relationship with a third-party that is breaking the law. What’s your response to that frame?
But also, would you encourage other lawyers and VCs to be more thoughtful about, you know, here’s one area where ostensibly they’re violating predatory pricing law, but other anti-competitive conduct or, like we said, the other regulatory arbitrage. Would it make sense to be a little bit more creative about pulling the VCs into that framework of law enforcement and regulation?
MATTHEW WANSLEY: So I think this is a really deep issue. I had a conversation with Sam about this recently, that the world of consumer protection regulation is very much a patchwork of different regulatory agencies and it’s very specific to market. So, for example, you mentioned FDA regulation. FDA’s kind of unusual in that it has premarket approval authority. And I do think you’re right that it has kind of a disciplining effect on biotech VCs. Everyone knows what the FDA is looking for in a clinical trial. Everyone knows what the FDA’s rules are. And they know that they can only build a product that’s going to fit within those constraints. The FDA is probably the exception that proves the rule in that, in most areas, the products don’t have pre‑market approval.
I think it’s not a coincidence that startups have gotten very good at finding the edges of these regulatory categories or loopholes around them, like in regulatory entrepreneurship, Uber avoiding taxi regulations. Airbnb avoiding hotel regulations. You know, Theranos, well, lots of things were going on at Theranos. But one interesting angle in Theranos is you essentially had a medical device that wasn’t quite a medical device in the law and allowed them to get under the radar for a bit.
So, I think this is like an inherent problem in the way that our economy is set up. We want to make it so innovative that businesses don’t have to get the government’s approval before they put a business idea out there. But on the other hand, there’s a danger that there’s a lack for regulators where when a startup is being clever in how it’s categorizing its products to get around regulatory categories, like drugs or medical devices, there’s a real risk of consumer harm from regulators acting too slowly. I’m not sure that there’s a great theoretical solution to that. Or at least I haven’t come up with it yet. But I do think regulators need to be conscious of the fact that, you know, startups are not dumb. They’re going to have to figure out how to get around existing regulatory categories. And enforcement needs to consider the edge cases.
TEDDY DOWNEY: Sam, any thoughts there particularly about what you all have done in terms of shifting the focus away from the core company onto the VCs for antitrust law?
SAMUEL WEINSTEIN: Yeah, I mean, I think the question you pose is great. Matt’s answer was excellent. It’s a very difficult and nuanced area. I mean, we hope there’s some value in our proposal in that it does shift attention onto the VC and their incentives to look sort of behind the curtain at what they’re thinking of. And their incentives are different. They don’t care about long-term recoupment. And we think, as Matt said earlier, you can unravel this scheme through antitrust enforcement.
So you can have the government come in and say, we’re going to win a case—or even a private claim—we’re going to win a case and unravel it. Because then VCs won’t be willing to take the risk. Late stage investors will be skittish. So we think that’s important. I like the idea of thinking about these in this larger sense of changing their incentives or bringing regulatory action against them. But where to do that is a difficult question I think.
TEDDY DOWNEY: Yeah, I think what you have done is really fascinating and I’m excited to see what the government response is. I think it’s a landmark paper. I think it’s a fascinating area of law. And thank you so much for doing the paper and for talking to us about it. I mean, I learned a ton reading it and talking to you. And I hope the audience did as well. Thank you so much for doing this.
MATTHEW WANSLEY: Thank you for your questions.
SAMUEL WEINSTEIN: Yeah, it was a very interesting talk.
TEDDY DOWNEY: Yeah, and thanks to everyone for joining us today. This concludes the call. Bye‑bye.