I read an article by Bill Gurley (a General Partner at Benchmark Capital, a firm I respect for certain investments) about IPO anxiety in Fortune Magazine from November 16th which instantly reminded me of a great video by acclaimed journalist, author and political activist Barbara Ehrenreich who explores the darker side of positive thinking in this fantastic video.
The dark side of positive VC thinking
The key to assessing the viability and future of Venture is to determine how it can scale and thus deserves the attention from Limited Partners (LPs) who represent public money, and lots of it. An 80% technology adoption greenfield certainly suggests there is plenty of opportunity for more money to be put to work. Just not in the way it has been deployed in the last 20 years, as on average Venture has produced deplorable performance, despite previous IPOs. According to PEHub, $300B in VC investments has yielded only about $66B in IPOs in the last 10 years.
So, Gurley’s attempt to correlate the return of IPOs with the health of Venture is therefore a dangerous and presumptuous one. The mere existence of IPOs is no testament that Venture can scale, at best it proves that the overwhelming noise produced by subprime VC has not killed a few prime VCs. But to the vast majority of LPs not attached to the few prime VCs that is hardly a compelling message.
So, let’s diagnose the disease in Venture a bit.
Inexcusable Venture performance
First off, it is inexcusable that over the last ten years Venture has produced a negative return of 4.2% to Limited Partners (source: NVCA/Cambridge Associates), despite truckloads of money from LPs, more entrepreneurial capacity than ever before and a technology adoption greenfield of 80%. Juxtapose that with the performance of certain technology corporations (such as Apple, Google), that not only prove to be better custodians of innovation but also prove that none of the excuses uttered from the VC protectionist playbook hold any water.
And it gets worse, average technology adoption (7% market pull) over the last ten years has outgrown ten-year Venture performance. The fluffy Private Placement Memorandums (business plan of VCs) atop a broad VC diversification strategy should have offered plenty of opportunity and course correction for the collective wisdom of its General Partners to outgrow baseline market pull and come to fruition in one 10-year vintage.
But of course, if you are part of the current crop of VCs you will pull out all the stops and excuses to highlight why despite excessive diversification depressing Venture performance is really not your fault, and to reel in another 10 year of comfortable living from unsuspecting Limited Partners.
Check out more excuses on our VC roast.
Don’t take medicine before an expert diagnoses the disease
When corporate innovation continues to beat Venture performance, not the influence of external factors (both types of innovation face) but the workings of Venture Capital arbitrage (the intrinsic composition and value of innovation they select) should be held under the microscope.
So, it pays to take the many arguments as to why Venture has not performed with a grain of salt and become therefore very critical about the reasoning from those same people for its supposed positive outlook. Last thing we want to do is sell another set of empty promises to LPs some of whom genuinely believe in the underlying asset in the sector, the value and capacity of groundbreaking innovation.
Only 45 of 790 U.S. VCs make any consistent money for LPs (according to a reputable Silicon Valley money manager). So, Venture as a scalable asset class has failed completely, with debilitating impact to the many false-negative entrepreneurs who were discarded by the improper compass deployed by 95% of the “posing” VCs.
Is there a real doctor in the house?
So, only the correct diagnosis triggered by the now publicly available hard evidence can effectively cure the disease that plagues Venture Capital. And it does the patient no good to diagnose it with a cold and treat it with aspirin, when it really has cancer and requires chemotherapy.
Ten levels of bottom-heavy diversification (see The State of Venture Capital) by an impromptu investment cartel that underperforms over a ten-year period (and weighted twenty year) and in which it is outperformed by corporate innovation it is supposed to feed, is a solid indication that Venture suffers from a severe and systemic disease.
A diagnosis of a cold derived from the symptoms above will ensure the opportunity for scalable performance dies, and leaves a massive greenfield unexplored and untapped. That same incorrect diagnosis has also been responsible for the implosion of entrepreneurialism in this country, as picking so many false-positives takes precious money away from the false-negatives. Innovation intake by virtue of a defunct VC arbitrage has turned Venture Capital subprime. And the dark side of positive thinking continues the deployment of subprime investment risk and has turned away the real entrepreneurs who don’t come cheap, nor easy.
The resurgence of IPOs is crucial to boost the performance of Venture Capital, but only when they produce Social Economic Value, their cost to produce secures LP returns, and VC funds across the board perform in line with the massive opportunity that remains in technology adoption. Any other interpretation of the value of IPOs is a delusion of positivity. IPOs without some sustainable value beyond the lockup are worthless to the public, and will erode their confidence of technology innovation as a viable investment strategy (AOL anyone?). Already 20 years of technology valuations without real value has made the public distrust the sector.
The cure for Venture Capital is to reinvent it. To re-assess from the top what a scalable financial instrument should look like that can tap into its massive greenfield opportunity.
Any sound mind will understand that such an economic system will not consist of an old-boys investment cartel, without any relevant transparency, that shuns real competition and revolves around a tight-knit geographic location, with excessive diversification of risk and dollars that exists today.
So, save the positivity in Venture for when the average performance of VCs is in line with the massive opportunity that still lies ahead. Because the best of the worst is not a medal of honor, nor a parade anybody wants to watch.
Innovation first needs to be untangled from a defunct deployment of risk before it can produce the real socioeconomic value that the public (both LPs and public shareholders) can trust again. That is the cancer that is raging inside the body of innovation and only those who don’t care about the future of innovation will take aspirin in the hopes to prolong a most comfortable existence in it.
In memory of a dear friend and a gentle aunt who both lost their battle with cancer last month.
- Price loses its value when money loses its trust. — Georges van Hoegaerden - February 20, 2015
- How to build a sustainable company - February 10, 2015
- Economics: A system designed to maximize personal freedom protected by the paradoxical rules of collective freedom. — Georges van Hoegaerden - February 2, 2015
- Capitalism without the deployment of operating principles that secure a meritocracy is an oligarchic system in violation of the most rudimentary definition of freedom we owe ourselves. — Georges van Hoegaerden - February 1, 2015
- Equality is a fantasy of extraordinary proportion. — Georges van Hoegaerden - January 21, 2015
- If no man is created equal, why then do we debate equal pay? — Georges van Hoegaerden - January 21, 2015
- CalPERS pre-empts asset allocation - January 21, 2015
- Homogenization of people is a bad idea, we ought to focus on the value of our differences, not on the rut of our commonalities. — Georges van Hoegaerden - January 14, 2015
- Only realism can breed justifiable optimism. — Georges van Hoegaerden - January 14, 2015
- The fix to improving asset management’s effectiveness lies in its reinvention, not in the optimization of its bloated past. — Georges van Hoegaerden - January 13, 2015