Vertical maturity in investments

by Edward Robertson [revised 24 April 2017]

It is axiomatic that investors will demand higher return on investment in exchange for accepting a higher degree of risk. In the blog post “Redefining risk…”, I drew a distinction between that axiom and the reflexive, unthinking attitude that high returns themselves necessarily signify high risk. I also rejected the traditional idea of risk as volatility. Risk is the uncertainty associated with planned goals and objectives. My hypothesis is that uncertainty is reduced by what we could call vertical maturity in the investment.

The term “maturity” is familiar as the end-of-term date, or the stage of completion of a project. These could be thought of as horizontal maturity. A FinTech start-up or a real estate construction project has a general pattern of high risk in earlier phases and declining risk as fundamental aspects of the business become manifest and proven. I propose that vertical maturity of an investment is a measure of its quality -- at any given stage.

When choosing between two similar projects in the same phase of construction or business development, we should compare their respective levels of vertical maturity. I argue that, outliers and flukes discounted, the preponderance of success will go to the more vertically mature projects; i.e., the ones with:
 

FIRM

  • effective governance, succession, mentorship and access to expertise in the board;
  • financial strength;
  • risk management practices and risk mitigations in place;

MANAGEMENT TEAM

  • first class management profiles;
  • consistent track records in execution of similar business activity;

DEAL STRUCTURE

  • investor-management interest alignment, including management equity participation;
  • capital and/or cash flow safeguard provisions;

BUSINESS MODEL

  • robust business conception supported by economic analysis.

 

These features (of course, not an exhaustive list) have nothing to do with horizontal progression. Rather, they are objective criteria for selecting among comparable investment candidates which, at first glance, might seem equally risky simply because they are at the same stage of project development.

If there were no such criteria to guide our decision, then accredited investors would not, by and large, exist as an entire class. To put it another way: on balance and over time, rich investors don’t make bad bets.

Vertical maturity applies in the field of personal leadership: “transformations of human consciousness or changes in our view of reality are more powerful than any amount of horizontal growth” [1] – in other words, a qualitative (vertical) change at any given moment is more significant than serial progression. If the analogy holds, then the features of an investment driving its vertical maturity must confer a definite advantage.
 

Notes
[1] http://www.verticaldevelopment.com/main.html#vertical-development