Stated vs Revealed Preferences

In the world of creating, building, and financing startups, people do a lot of talking. A lot. We know this all too well on the investor side, with all the blogs, tweets, and panels. Especially now, now that most of our working lives are happening online – on Zoom, via text, etc. — we all “say” a lot of things. When asked, we state our preferences. We’d like to invest in this specific company. We’d like to raise a round of financing. We are really focused on being the earliest investors and building the company alongside the founders. We are really looking for a board member to join up with us to move forward. And so on…

The lines we all say all day long, it’s almost like breathing. We may not really be thinking about what we are saying. Our friends and advisors guide us to safety or to optimize our situations. We can read countless tweets or blogs (like this one) about how to prepare and handle a situation, and we take that knowledge as ammunition into the marketplace to help guide is, to protect us from a bad trade and/or to squeeze out every bit of value toward the end of the trade. We constantly state and market our preferences to get to the solution that’s best for us. All of that is natural and fair.

A funny thing often happens along the way, though… our stated preferences end up getting tested by our revealed preferences. The market, gathering information, and the passage of time have the power to slowly shape, contort, and eventual reveal our preferences. Revealed preferences are what we reveal when our stated preferences are met with reality. That reality can be negative, constraining our choices; or, that reality can be expansive in nature, forcing us to rethink our priors, collect even better offers, and reshape our own actual preferences. Where our revealed preferences at t=0 may have been one way, after some time and market feedback, those revealed preferences could morph quite a bit.

Bringing this back to how startups are formed, built, and financed — it’s incredible how many micro-decision and micro-negotiations we encounter, so many we may not even realize how much we can fool ourselves in the process. How do founders decide how to split equity, especially in the very early days when it’s not cool to disrupt the good vibes of the creation process? How do investors decide to invest in a company, potentially over-capitalizing it to make sure to win the deal? How to fund managers say they want to keep things small and early, but end up expanding their fund size or the stages they invest? We say a lot of things we think we want, or what sounds reasonable, but often our revealed preferences surface, oozing out.

In the world of startup formation and investing — the world I know — we encounter this quite often. I view it as a key part of the game is to listen really carefully to what people say, but also what preferences they reveal along the way in the process. The revealed preferences are the highest signal information to identify. People say a lot of things, but they may in reality want something else, or be open to a new idea, and that creates an opportunity to share ideas, debate, and move quickly. And that is the fun part of this job and why it’s truly a people-flow business.