It Is All Psychology - and People Aren't Rational

Steve Blank has a very funny story posted on his blog, about when he was raising a round of money for E.piphany from Infinity Capital. He wanted a $10MM valuation, they insisted it was too high and everyone would laugh at them. In the end, they came back with... $9.99MM. The rest of the story - dust, walls and pictures - is quite entertaining, but the interesting lesson is about the difference between $9.99MM and $10MM.

At first blush, there isn't any real difference. $10,000 on a $10MM deal is 0.1%, less than either side's legal fees likely were, and nothing significant. That is true for a classic economics, "rational" perspective. However, in life, in business, in financing, in sales, in marketing, the emotional often outweighs the rational. That is especially true here on several fronts:

• Getting something off of Steve, however small, had emotional meaning for the VC. Sometimes you need to give in a bit just to make someone feel like they have "gotten some love."
• Whole numbers are a barrier. Remember when people wondered if the Dow would ever cross 10,000? Going on either side of $10MM has psychological impact.
• Some numbers have almost magical properties. For reasons unknown, the numbers 9 and 7 get deals done faster. This has been proven in study after study. It is not for naught that that candy was $1.99 and not $2.00.

A whole field of economics, called "behavioural economics," has arisen to study these "irrational" behaviours. A professor at my MBA school of Duke, Dan Ariely, has written a very entertaining book on the subject, "Predictably Irrational," which I recommend.

From a business perspective, it is important to recognize and understand these emotional/irrational drivers of behaviour. S/he who recognizes them and remains rational can use them to his/her advantage.