By Georges van Hoegaerden



To complete my affectionate series of "idiot" articles (idiot CEOs and idiot Limited Partners) I am adding idiot entrepreneurs to the list.

Idiots

Idiots are those people who continue to participate in a marketplace that was designed to marry the two most important assets in Venture, Limited Partners with money and entrepreneurs with ideas, governed by Venture Capitalists (VCs) to the dissatisfaction and under-performance of them both. Not even the public is interested (and certainly not for the right reasons, short sellers are not too picky and may artificially boost its initial IPO value).

We know that the real problems in Venture stem from how risk is applied to the creation of early stage companies, and that more discipline deployed by Limited Partners (the investors in Venture Capital) to a new Venture model will fundamentally improve the governance of innovation in the Venture marketplace.

Until then the only constituent in the Venture marketplace who cannot be called an idiot is the Venture Capitalist who without any personal downside can continue to apply the power of someone else's money to define what innovation is and continues to get away with feeble attempts to convince the public of their value for more than ten years.

Perhaps now you understand how the adjective "idiot" is a compliment of sorts. Rest assured, the behavior of and attraction to idiots can easily be fixed.

Life is hard when you follow

Life is tough for entrepreneurs, especially for those who continue to listen to the compass of Venture Capitalists, ignoring the miserable performance of that compass for the sake getting a little bit of money. With a continued dysfunctional deployment of Venture Capital many entrepreneurs continue to succumb to an arbitrage of innovation that, by default, will never lead to achieving groundbreaking upside. Even when the idea holds merit, the flawed deployment of risk by VCs is sure to suck the life out of it.

So, here is a list of attributes by which you do not want to be recognized as an entrepreneur. An idiot entrepreneur is someone:

• Who believes that technology creates markets, rather than facilitates an electronic distribution mechanism to serve existing macro-economic marketplaces and behavior.
• Who believes and accepts money to build a gating technology proposition in search of a marketplace or without a clearly defined attachment to macro-economic behavior and upside.
• Who believes that they or VCs can actually derive foresight from studying statistics and hindsight intensively, forgetting that unique foresight is the only differential and investible attribute to successful companies.
• Who believes that capital efficiency is a unique business or investment strategy available only to them or the VC and therefor delivers any differential business or investment value.
• Who believes that market execution makes up for a dysfunctional "driving experience" and takes little streams of money to keep trying.
• Who blindly believes that raising money is the first step to acceptance of his idea. Not realizing that the compass of most VCs (95%) does not lead to the creation of value to their investors nor the public, and therefor their willingness to provide money is likely to mean absolutely nothing (or quite the opposite).
• Who calls himself an entrepreneur simply because he follows VC governance of what a hot innovation wave is.
• Who thinks that raising money makes him an entrepreneur, not realizing that raising money is not a vote of confidence from the public.
• Who thinks that raising money is an asset, yet with defunct investor performance across the board and in no less than 95% of cases turns out to yield a significant deficit.
• Who takes money from a VC, without getting to know the investment partner (General Partner at the VC firm) personally.
• Who takes money from a VC, without knowing the vintage and performance of their current or stacked funds. Ignoring blissfully any irrational behavior and panic that is about to come their way soon.
• Who engages with an investor who communicates through the valuation and cap table that majority ownership by the investor is ever a good thing in an early stage company.
• Who engages in fundraising efforts without a good understanding of the product conversion rates and operating credentials, offering many opportunities to VC of shooting holes in the proposition, to say no to the deal or drop the valuation just so you lose control of the company the moment one of your predictions do not pan out.
• Who partners with a first venture investor who cannot lead the complete funding runway, setting himself up for excessive segmentation of rounds, fragmentation of ownership and increased dilution.
• Who believes that authentic IPO value can be built for less than $25M, and dicks around with micro-VCs and well meaning Angels.
• Who does not know the difference between micro private equity and Venture, praying to beat the simple economics of input and output.
• Who takes money to drive Venture growth, but has no $1B upside strategy defined.
• Who attempts to raise money from a VC without a real CEO, leaving the inmates to run the asylum and turning the company over to the VCs at the quickest pace possible.
• Who prefers to take $250K of subprime VC money in return for 30% of the company, instead of getting a line of credit on your $1.4M house in Palo Alto (with a median house price $750K in the bay area). By the way, neither one is a good idea.
• Who creates an iPhone application using Venture money, not realizing iPhone apps do not create venture returns and the top 1,000 applications on the AppleStore make no more than $350K average per year. You and your Venture investor deserve each other, including the idiot adjective.
• Who raises money from a (government) small business fund, not realizing that a venture trajectory is incompatible with small business funding.

What to do?

Truly groundbreaking innovation is no longer recognized by the majority of Silicon Valley investors. The Venture business has turned subprime more than 20 years ago and only the delayed response by Limited Partners makes it seem like it has some of its former gusto left.

Entrepreneurs are relegated to the investment thesis emitted by overwhelmingly subprime VCs (some refer to using the oxymoron: micro-VC, which in actuality is not Venture but micro Private Equity) and Angels who, each with their own performance issues, have turned innovation into a commodities business.

Groundbreaking innovation that taps into attachment of existing macro-economic behavior does not evaporate easily and has plenty of time to wait until a new Venture model capable of attracting prime risk (and rewards) is up and running again. That type of innovation can simply not be discovered by subprime VC (let alone Angels), plenty of examples in the past have proven that out. So, unless you know how to get to the 35 out of 790 VC firms that do know how to deploy risk and produce returns, of which we estimate 3/4 do so by deploying diversification, alternative investment strategies or similarly subprime gating tactics, you should keep your job until this subprime VC maelstrom has lost its strength -- or until our systemic fix to Venture is in place.

For those people who aim to follow the investment waves of the current investors, by all means keep trying. Maybe, just maybe your pot of gold will be at the end of a rainbow.

Tags: Entrepreneurs, IPhone, Innovation, Valuation, Angels, Subprime, VC, Venture, CEO

By Georges van Hoegaerden



Some people do not understand why I do what I do and why I bother, and underestimate my determination to fix Venture Capital. Certainly there are much easier ways to make money than to pursue the obliteration of an investment cartel, in which seemingly everyone belongs to the club. And some people's actions are distorted by my critical views of what goes on in Silicon Valley, and the increasing popularity of my views may slow down the chase for money that is dished out often so irresponsibly.

My story

Let me tell you who you are talking to when you ask me to give up. My story may also answer the irritable question "who is this guy" I overheard recently. I do want you to know who I am, and how I care about this country. My story is more than just a bunch of business titles slapped together. Ready?

I was born in The Netherlands, the youngest of three boys in a family with a lifelong teacher as a dad, and a gentler mother working to place elderly people in geriatric facilities built by the government. With our parents coming home late from work us three boys literally fought it out everyday. To get to or from school first after a one hour bike ride every day (rain or shine, in Holland that meant rain more often than shine), playing in tennis (while co-founding our new club) and basketball leagues, finishing our dinners first every evening or claiming the window seat in the back of the family car. Everything back then was a competition, and as the youngest I got the brunt of the attempted suppression. Silly stuff, but it honed our skills to compete and I became very good at it.

My Dad was an educated man without much empathy, as most men born his age were (see the Mad Men TV series on AMC). I got my interest in science from him, but not much else. His vast knowledge never seemed to extrapolate to reality and he made his frustrations trickle down to everyone around him. At age seven I realized my life with him was going to be short lived. I never wanted to become him or be around him. I learned from him an important lesson I am sure he did not intend to instill; how to ignore negative pressure. I left the house at around eighteen, the first of the three boys and never looked back. After a shaky start I blossomed.

My Mom was quite the opposite. Friendly, outgoing and always ready to support her children in whatever way she could. I remember vividly the many conversations we had as she put me to bed and we covered the important topics of the day. My love and respect for women grew out of that experience. My Mom's weakness was to let my Dad get away with too much, and nurtured her "blind" devotion often to the detriment of herself.

The most positive influence in my life was the patriarch of the family, my grandfather (my Mom's Dad). A self-made man he became a majestic business figure as one of the co-founders of "van Melle", the company that made the ever so popular Mentos candy (sold a couple of years ago to an italian confectionary) and the generous man who gave us, what we as children then thought of as worthless pieces of paper, real shares in "van Melle" and "Royal Dutch Shell" for our milestone birthdays. He had clear opinions and voiced them when provoked, but he was humble at the same time, always asking the factory workers for permission to test the candy from one of "their" machines. He could laugh at himself, remained a rebel and kept everyone in the family in check. Nobody knew how much money he had until he died. The merit of his actions stayed with us much longer than his few words.

I came to the U.S. on my own with some hard earned chunk of change in my pocket, invited by Marc Benioff (now Salesforce.com CEO, then Oracle VP) and Larry Ellison (Oracle's CEO) who wondered why I was able to sell their (then) emerging products while they couldn't. The difference between my approach and theirs was the business model, to which the new managers I was asked to report to had no clue, let alone respect. I left Oracle with fond memories as soon as my green-card was approved and jumped in Silicon Valley hoping to find more intelligence there. My first startup was a group of consultants with a horrible business plan, and I told them about my opinions in a way only I can. Instead of fleeing, they came back and asked for guidance (management incubation). We turned the company into a product company and raised a double digit series-A post 9/11. The company was sold in 2006 for triple digits. As a board member my encounters with Venture Capitalists quickly made me question their catalytic value. I went on to build a few other successful companies and had a brief part-time stint on the "dark side". A clear pattern of defunct VC governance and execution started to emerge.

To sum it up, I was brought up with an understanding of how to compete, how to separate rhetoric from reality, how to ignore distortion fields, how to be devoted to a cause, how to be clear in your convictions, how to do what you say, how to relentlessly pursue your goals, and how to do what is right even in the face of opposing popularity and extreme controversy. But most of all, I never bought into nonsense, not even when that nonsense is supported by the masses.

I put in my time to get to know every business I was in, and earned my way into becoming a systems manager, computer programmer, IT director, pre-sales engineer, marketeer, entrepreneur, serial CEO, Venture Catalyst and Venture Capitalist along the way. Nothing was handed to me (my parents decided to use my shares to pay for the private education they felt I needed), and my real world experience continues to be a priceless "bull shit" detector in every new endeavor I engaged in. After thirty years in technology (ignited by my addiction for the HP-41C) of which fifteen years in Venture, I have witnessed the workings of the Venture business like no other.

The importance of this story is not to emphasize a purported "micro celebrity status" but to highlight my convictions, as convictions drive consistent and persistent behavior. Everyone has a story like this and staying true to the convictions that are shaped by the past makes for more authentic human beings, and a more natural fit to our contributions in society.

Perhaps my story will help you understand why the odds of building great performance in Venture that will save entrepreneurialism are in my favor. My background including fifteen years of first hand Venture experience in Silicon Valley begs me to unleash the financial choke-chain around the innovator's neck.

Silicon Valley needs help from above

The startling revelation, as proven out by the empirical evidence I have delivered for quite some time now is that according to a renowned money manager 95% of Venture Capital (VC) firms are not making any consistent money for their investors (Limited Partners). And that means Silicon Valley is at the brink of a serious implosion. Imagine what would happen if only about 35 of 790 VC firms were to survive in ten years from now.

Alarm bells should be going off by now, but few appear to be paying attention. Why not, you say?

Well, much of the money pumped into VC firms comes from Institutional Investors (pension funds, endowments, insurance companies etc.) with bulk loads of cash reserves they want to put to work. They dedicate a predetermined amount (usually by board consent), between 10% and 15% of those reserves to alternative investments of which a portion is then allocated to Venture Capital. To make a long story short, a tiny portion of assets from Limited Partners (even the non-institutional ones) is devoted specifically to Venture and a loss or break-even of less than 5% of total assets does not evoke a lot of emotion. Hence optimization discussions with Limited Partners about Venture turn with the agility of a big freight ship.

The alarm bells are getting muffled even more. Institutional Investors have built majestic constructs supporting the deployment of their Venture Capital assets. Many invest in Venture Capital through fund-of-funds with a "specialization" in alternative assets, a fuzzy term for anything that is not mainstream. And thus the actual performance of Venture is hidden behind the performance of the grab-bag of other financial instruments that resides in those fund-of-funds.

And it gets worse, VC firms themselves have been allowed to diversify their risk by embedding alternative investment strategies within the firm, and in worst cases even within the same fund. In short, Institutional Investors have stacked derivative, upon derivative, upon derivative (with of course zero marketplace transparency) and appear surprised performance of Venture Capital has lost the fantastic upside that made them all want to get in some 20 years ago.

And the mess does not end there. The mushy multi-tier asset allocation constructs allowed many General Partners entry to the Venture Capital business who have no credentials of being there. Their lack of experience and foresight has turned into fear and with it the implementation of Venture Capital risk has turned predominantly subprime. As a result Venture Capital risk has produced over the last ten years no more than micro Private Equity returns (less than 10% IRR), squandered about $1.7 Trillion in funds and eroded public trust in companies that never had any social economic value to begin with.

That fear from inexperienced General Partners in VC firms further exhibits itself by the deployment of 10 levels of diversification of risk when a VC firm makes an investment into a startup. Extreme fragmentation of assets and risk protects VC downside (making good money off management fees for 12 years) more than it protects upside, and thus Limited Partners are poised to lose out again, regardless of the economic circumstances. Improper deployment of risk cannot be mitigated by economic recovery.

Venture needs a reinvention from the top. But who cares?

Who cares?

Everyone in or around Venture should. The worst thing that can happen to a sector is that investors stop caring, and many have. Many Limited Partners will not renew their commitments and simply get out, and allocate their 5% of Venture Capital elsewhere. A speaker at a recent conference claimed the demise in VC firms to be as large as 30% over the last 10 years, with as much as 50% of venture folks already affected. New Limited Partners to the sector I speak with simply see no reason for getting in, given its deplorable performance.

And Venture Capitalists don't seem to care too much because ten years of a cushy management fee from a sizable fund with no way for the public to establish their merit gets them setup for life quite comfortably. Under the cloud of economic insecurity and with micro private equity returns in hand, it is still easier to raise another fund (and thus another ten years of fees) than to admit that not the economy is at fault, but their deployment of risk in it. Many idiot Limited Partners have fallen for their arguments again and Venture continues to spiral further down the slippery subprime slope it has been on for a while. To VC, survival of the fittest has turned into survival of the shrewdest. Or as a General Partner from Sequoia Capital allegedly stated: "We used to have a club, now we just club each other".

But the real impact of all this ignorance has already affected entrepreneurialism. Defunct VC governance has led to a dumbed down investment thesis that will only attract entrepreneurs that submit to that thesis. Hence the quality of innovation that surfaces is limited by the quality of the thesis that is projected. Subprime entrepreneurs, willing to be enslaved by subprime VC governance continue to tear down the potential of social economic value groundbreaking innovation is supposed to ignite.

Today, glorified programmers and VCs are the inexperienced partners in a dance that only a small audience (not the public) wants to attend.

Opportunity cares

With 80% of the world's population still not having access to meaningful technology applications, the opportunity to spawn new groundbreaking innovations remains enormous. Technology adoption keeps growing, even when Venture Capital declines in its ability to govern worthy innovation. So, the opportunity dictates that there is much more room for Venture Capital firms to grow, just not for ones that cannot establish a proper investment thesis of innovation.

Governance of innovation is improperly aligned with the opportunity of innovation, and thus any calculation of the size or number of VC firms based on its current workings is witchcraft, irrelevant and inaccurate (up or down) by default.

There is no valid reason why 100 VC firms with a single $100M fund cannot generate a six times return each, except for the improper deployment of risk. Certainly the gaping opportunity in technology dictates that there is also no reason why the total number of Venture firms in the U.S. could not reach 1,000.

The grim impact of doing nothing

The most powerful assets in the Venture ecosystem (see our Venture Primer) are the many entrepreneurs with groundbreaking ideas we have bred in this country. Yet, those outliers of innovation have systemically been ignored by a dumb financial system that favors those willing to be enslaved by subprime risk. Groundbreaking entrepreneurs have already left the party and quickly become extinct. Lured by lucrative offers they chose to find solace with better custodians of innovation, larger yet agile companies that simply took better care. Many returned home to their country of origin with an Ivy League diploma in their pockets. Silicon Valley, for what it once represented, has begun to implode.

With more than 50% of moneys spent in certain areas of Silicon Valley dedicated to startups, a 90% erosion of that money (from cutting down the systemic underperformance of 95% of VC firms and retrenching of disappointed Limited Parters) leads to an estimated 45% decline in overall jobs. That in turn creates massive economic deflation to the region and exemplifies why governmental intervention without fundamental reform (the current band-aids will be circumvented quickly) of financial systems in Venture does nothing to prevent the slide it is on. Our local and federal governments should be all over this case, to prevent a further systemic slide that could turn California into a grave-yard for what has been, and our country from becoming the lost leader of innovation.

Our government has simply not connected the dots between systemic failure in Venture and systemic failures in the economy, just yet. The pain and destruction probably need to become more obvious first.

U.S. Commerce Secretary Gary Locke did the usual politically correct thing by inviting members to his National Advisory Council on Innovation and Entrepreneurship with large statures in the old system, yet none in the new. The outcome of that exercise will be as expected, more of the same (yet no one will be able to politically accuse him). More importantly, Locke's agenda is flawed. The problems in Venture are not with the method of innovation, but with those who govern it.

Venture is the poster child for financial reform

As a reader of my blog, you may not be surprised to learn that the problems in Venture have nothing to do with some deep rooted and mysterious "Voodoo" of technology or innovation. We have an outdated financial system that does not need more regulations of its complexity, but a dramatic simplification and flattening of its marketplace behavior. The Venture business is the poster child for creating such a new financial system, as its current performance can nothing but improved on.

Innovation can only be saved by a financial system that is truly a free-market system, away from the existing cartel that offers no marketplace (transactional) transparency and is void of real competition that lies at the capitalistic fundamentals this country was founded on. Merit attached to money changes the bold lie capitalism is without.

So, my self-imposed journey to save America from itself continues, for I have seen its potential.

We can save the fantastic innovative capacity in this country and elsewhere when we apply the same intelligence of the way entrepreneurs build innovation to the way we fund it. Without a new free-market financial system in Venture be sure to strap in for a massive implosion in Venture that will take ten years for many to discover had been predicted by this annoying whistle blower all along.

At least now you know who he is.

Tags: Subprime, Limited Partners, Entrepreneurs, VC, Innovation, Integrity, Investment, Government, Growth, Arbitration, Capitalism, Cartel, Diversification, Economy, Experience, Free-market, Funds, HP, LP, Organic growth, Private Equity, Risk, SalesForce.com, Silicon Valley, SocialEconomicValue, Transparency, Venture, Oracle

By Georges van Hoegaerden



As I explained in "2010: The State of Venture Capital", our Venture primer and "How to fix VC once and for all", Venture Capitalists are the derivative between the assets of the Limited Partner (money) and the assets of the entrepreneurs (ideas).

Venture Capitalists, because they are equipped with the keys to the kingdom by Limited Partners (LPs) therefor claim they must know what is best for the marketplace to function properly, and deploy their best practices (read regulations) to identify investable innovation. And money hungry entrepreneurs bow down to learn from VCs how to build companies, approach investors, time the market, build scale etc.

In absolute terms Venture underperforms

The only problem is, very little of that has paid off. With fully loaded commitments from LPs, more highly skilled entrepreneurs than ever, an 80% technology greenfield with 7% growth in even the worst of economic developments, Venture Capitalists managed to perform below the technology sector it rides on. None of the financial relativity theories (such as IRRs, financial sector comparisons etc.) can debunk that Venture should have out performed the organic growth in technology and they should have tapped deeper into its virtually unlimited greenfield.

LPs are getting more frustrated by an exploding technology sector with imploding Venture returns and one recently communicated on PEHub what I have heard many times now in private:

The correlation between “well-regarded firm” and actually profitable (for its investors) firm is close to zero. I’ve spent the last five years meeting with “well-regarded” firms and it's the rare exception that has actually delivered returns.

Clearly the Venture Capital arbitrage, deployed as a demi-cartel in Silicon Valley and feverishly and foolishly copied around the globe, can no longer be trusted. It is time to renew the marketplace and reset the compass of innovation.

The public buys stock

As depicted on the included chart, the role of the public is crucial in establishing a healthy Venture ecosystem. If for nothing else, the most explosive Venture returns are realized in the process from turning a private company public (IPO = Initial Public Offering), and the threat of that investor independence can boost the company's merger and acquisition value. So, a solid understanding of the value of an early stage venture by the public (which we describe as Social Economic Value) is crucial in establishing authentic public stock value.

The public buys product

The best way to have the public understand the value of innovation is to have them use it. Without many people understanding the intricacies of social networking, it does not take a lot of imagination that Facebook would be a valuable public investment solely based on its user growth. Facebook tapped into an existing macro-economic need to reconnect with people who were too busy or too remote to stay in touch with otherwise, and now reaps the reward of deploying new monetization schemes to a large installed based with no lead generation cost.

Crucial for entrepreneurs is to realize that in building a product (product in the economic sense, so could be service) for the public, "capital efficiency" is not only a blatant lie, it is the opposite of what creates public trust.

The public needs technology that offers significant attachment to large macroeconomic value, a complete offering (spanning multiple technology silos) and a robust product experience. All the ingredients that are not dished up by the strategies deployed by so many of the subprime VCs who proudly plaster the blogosphere and technology "flea-markets" (you know which technology trade-shows I am talking about) with their spoon fed investment tactics and meaningless advice.

The public buys into Venture

Not only does the public purchase stock from companies that turn public, it also feeds the funds of Limited Partners who deploy a portion of those funds to Venture.

Pension funds, endowment, insurance companies etc. put their reserves from public cash to work to deal with fluctuations in their businesses. So, a Venture business that does not perform well, will not only put pressure on the output of Venture, but will have devastating impact on its input. LPs as the guardians of that money now increasingly are instructed (by their often public boards) to lay off on venture capital.

The highly inefficient financial instrument in Venture severely erodes the potential and trust in the future of innovation.

Treat the public well

The Venture business does not and will not perform significantly better if it, or our government, does not change the market model it deploys (we have an answer for that). As an LP, investing in Venture unchanged is the definition of insanity. Marketplace transparency (to all marketplace participants), that opens up private companies for public review (not investment) is paramount to establish public trust before the company is put on the public auction block by investment bankers.

Entrepreneurs should partner only with Venture investors who understand that Venture Capital is designed to protect upside, not downside. That corners cannot be cut in addressing the needs of those people who are expected to buy your public (or indirectly private) stock later on.

Treat the public how you want to be treated. After all, we are the public.

Tags: Limited Partners, VC, Entrepreneurs, Private Equity, Marketplace, Innovation, Investment Banks, Investment, Integrity

By Georges van Hoegaerden

[This article is a further expansion on the subject of Capital Efficiency of our article from one year ago, named "The trap of Capital Efficiency"]

I cannot tell you how many times I still hear Venture Capitalists (VCs) mention how they look for and "create" capital efficient companies, and how masterfully they continue to sell that "strategy" to their Limited Partners (LPs) as a viable investment thesis.

Those LPs subsequently must believe that they are now investing in a unique class of companies only they have access to (otherwise why is the mention of the specific denomination relevant), and instead of clambering to the old world of capital-inefficient companies, now have the opportunity to prance around in the formation of new, and sexy capital-efficient companies.

Sounds good, doesn't it? Perhaps for those not seeing through the tactics of the spin-doctors.

Let's dissect "capital efficiency" as deployed by most VCs:

First, putting less money into companies, or selecting innovation that supposedly needs less money is a strategy deployed in the last 10 years that has proven not to work. 790 VC firm investors who make - say - two investments per year on average (low ball), produced no more than a handful of IPOs and no more than 10% IRR over the last ten years, is no testament that an attachment to the "capital efficiency" category carries any special value. With our economy now also in dire straits, the chances of capital efficiency bearing fruit has diminished even further.

Second, with a fully loaded commitment from LPs the last ten years, VCs who look for capital efficient deals are dramatically fragmenting investment commitments by having to invest in more companies (to put the full capacity of the fund to work), and conversely increase the investment risk at a time when performance of the sector is already shaky. So the supposed capital efficiency of a startup, with uncalibrated VC fund sizing is actually capital inefficient to LPs.

Third, the cost of acquiring a customer on the Internet has not dramatically changed over the years (if not increased), and so to lower the input into early stage technology companies disproportionate to the dynamics of their output does not only make no economical sense, it again increases the risk of success, opposite of what capital efficiency attempts to promise.

Fourth, Internet technology companies deploy the same rudimentary economics to their customers as old-school companies, they are just using a low threshold (often immature) and a more immediate distribution channel (the Internet). But that immediacy combined with a little bit of money needed to enter into distribution significantly increases competition that in the end favors only those companies that provide relevant social economic value to its customers. And so not the lowest cost-to-entry defines the value of the company, but the quality of service it delivers to its customers. And quality of service is adversely affected by the improper implementation of capital efficiency and thus the reason why the current implementation of capital efficiency in venture capital is incompatible with building real value and public market trust (and therefor reliable IPOs).

Fifth, capital efficiency as deployed by many VCs today, forces startup companies to build technology first. Yet the gating technology proposition offers no indication that the company will ever achieve macro-economic value that has the potential to outshine competition for the next seven years or more. For example, building winner-takes-all marketplaces (such as iTunes, eBay etc.) requires a minimal investment incompatible with the capital efficient VC model, and as such we have not seen any since the popularity of the flawed implementation of that model.

Sixth, technology development is not the risk of a technology company, the application of the appropriate technology to a marketplace is. So, while it may have become slightly cheaper to develop a single line of code these days (I would argue that too), the amount of code needed to make a difference in a highly competitive market, forces companies to make more meaningful and robust products, which requires the deployment of a larger workforce with a cost that hasn't seen any significant reduction. So, just like in any production business, the people-cost is the most predominant factor of the success of the company, not the expense of technology it deploys.

So, yes, capital efficiency the way it is deployed by the demi-cartel of VCs is a big fat lie, that has not and will not deliver.

The ultimate subprime VC lie

Don't get me wrong, capital efficiency is a prudent way to build any company. But the way most VCs confuse capital efficiency lies in the difference between inexpensive and cheap. The way most VCs implement capital efficiency is cheap and lowers a company's ability to grow up, and makes it more difficult for the company to move from the left side of the chasm (Geoffrey Moore) to the right side, where massive user adoption awaits.

The currently popular deployment of capital efficiency spoon-feeds money to startups, which in most cases means the company cannot hire the much needed specialized expertise to turn it from a technology play into a real company early. Many startups can simply not hire a visionary CEO who protects their macro-economic agenda (and returns), and ensures the company remains owner-run (also favored by Warren Buffet) rather than investor-run. That means technology developers without sufficient business experience now run the asylum as inmates of the "investor prison", doomed to make the early mistakes that dilutes founding ownership and therefor - again - increases risk.

So, capital efficiency deployed by subprime VCs is a foolish prophecy. Any VC who uses the phrase capital efficiency as a sector differentiation has no clue what he is talking about. For me, having seen all sides of the venture equation, capital efficiency is the ultimate VC bullshit detector; it communicates they understand nothing about economics, investment risk, innovation, the workings of the technology sector, and business in general.

Capital efficiency today is implemented as downside protection by subprime VCs who look at venture investing as a commodity, and signals how they themselves therefor have become a commodity (and do not belong to operate in Venture Capital).

Capital efficiency should drive upside

Real capital efficiency in venture capital is defined by the cost to produce upside, as opposed to the cost to protect downside. Most companies become extremely capital efficient once they establish beforehand what the operating plan of the business looks like in detail, and as such plausibly define how they need to be "lubed up" to run as efficiently as possible to achieve upside early.

Contrary to popular Silicon Valley belief, technology does not create markets but has - at best - proven to support macro-economic and marketplace behavior that existed for many years. And real capital efficiency is easily achieved by identifying the behaviors that can be more efficiently supported or displaced with the help of technology as content and the internet as distribution. The selection of which marketplace (that is in timely need of efficiency) you pick as an investor determines how capital efficient an individual investment can be.

Capital efficiency, therefor is not a sector strategy, but a way of picking individual companies that have the potential to create extreme and timely upside.

So, from now on dear LP and entrepreneur, when you hear a VC mention capital efficiency, run the other way.

Tags: Subprime, Private Equity, Venture, Limited Partners, Entrepreneurs, VC, Fundraising, Funds

By Georges van Hoegaerden

The Venture business has got the world upside-down, is what I wrote in a recent comment to a VC and I meant it.

Just as upside-down as many people who buy a house and get a mortgage confuse a liability with an asset. A great example I heard Robert Kiyosaki (from Rich Dad, Poor Dad) refer to in an infomercial in the background while I was doing work on a quiet sunday.

Venture should perform much better

From many discussions, publications, public statements and strategies discussed in new Venture videos it is clear how a large part of the Venture community struggles and puts up relative performance metrics (such as meaningless top-quartile definitions), and pad themselves on the back that Venture is still outperforming public markets. All while technology Venture performance should have blown other asset classes and public markets away, by virtue of its massive greenfield (5/6 of the worlds consumers) and continued growth in technology adoption (even through the worst of our recent economic downturn).

But Venture is looking at the wrong metric of success.

Focus on upside

The real issue in Venture is that the innovations Venture Capitalists select, barely have any Social Economic Value (SEV) and therefor by definition have severely limited upside potential. On a scale from Technology to Market, to Execution, to M&A, to IPO, to SEV (as depicted in the enclosed chart), most venture investors today look for technologies and apply their risk thesis to the lefthand-side, or downside of the scale, hoping and praying to ever reach the righthand-side.

Frankly, most investors have upside and downside confused, which is the source of their deplorable performance. Technology development is not a testament to ever reaching Social Economic Value. And to demand from entrepreneurs that they build technology is a sign of how they further defer the majority of even downside investment risk to entrepreneurs ("show me what you have built") as a prerequisite to investing (as we explained in the reference to Vinod Khosla's perspective in 2010: The State of Venture Capital).



What we have lost over many years of irrational exuberance in Venture is our ability to spot and target large Social Economic Value. Social Economic Value defined by the trust of the public as a customer, not to be confused with an IPO, which is defined by trust of the public as an investor (preempted by an investment bank).

In the 90s venture investors pushed valuations without value through the IPO funnel, which led to a loss of faith and a retraction of IPOs post 9/11. The way to regain trust with the public is not to sell them another lie, that is based on nothing but the hope and rise of the economy that is supposed to float all boats again, but to have the public use the product as a customer, and let them make up their own mind about its value as an investor. Hence the definition of upside in Venture defined as the creation of Social Economic Value as opposed to an IPO. IPOs will flourish once that public trust from consumers is achieved.

Reverse engineering upside

A fundamental difference in the investment thesis is that as a Venture Investor, instead of looking at the gating technology proposition, you assess an innovation based on the merit of its ability to change the world (where it is likely that no prior implementation exists). But you as the investor can align with the entrepreneur based on a shared vision, compass and the likelihood that the support of that Social Economic Value will feasibly occur within the next five years.

And that means that both the entrepreneur and investor share the predictions of the trajectory that builds Social Economic Value, a much better equilibrium between entrepreneur and investor. One in which according to Warren Buffet, the “owner oriented attitude far outweighs the periodic downside". No longer are entrepreneurs pestered with demotivating rounds of ownership dilution based on unpredictable microeconomic aberrations and, no longer do investors waste time worrying about the minutiae that do not affect the Social Economic outcome.

Rather than forward planning from a technology starting point, Social Economic Value is created by back-planning or reverse engineering upside. Meaning, in order to create large SEV a certain IPO range needs to be achieved, which can be swayed by M&A interest, which is created by great execution, which stems from understanding the behavior of marketplaces, which can be served by technology. Technology is the derivative, not the goal.



The distinction between prime and subprime innovation is simple. Prime innovation is attached to existing macro-economic behavior (and usually the absence of technology previously) and relatively easy to predict (I would be happy to share examples), while subprime innovation is attached to a technology wave with a short expiration date and little macro-economic value (a main reason why many acquisitions perform so poorly) that has a minute chance of ever producing viable returns.

Investing different leads to different entrepreneurs

Upside investing applies the proper risk to an early stage Venture, it applies it to the assessment of anything else but technology. Because, as technologists the creation of technology is the least of our risks. But it requires a VC fund that can carry most of the $25M runway needed to create the success of any disruptive Venture today (yes, "capital efficiency" is a lie). The small funds can continue to deploy their subprime risks, while the larger funds have the opportunity to separate themselves macro-economically, by spawning real innovation.

The minute you as an investor set a different compass and focus on the creation of Social Economic Value, different entrepreneurs come out of the woodworks that subscribe to that investment thesis. Suddenly you will meet the entrepreneurs that through years of experiencing macro-economic deficiencies, have a vision of how to change the world for the better and as a result generate the large outlier fund returns Limited Partners need to see to stay confident.

Change is inevitable

We may see a slight upswing in IPOs this year, as the economy recovers, micro-PE deals are the best game in town, and those with money to play regain some confidence. But if we as investors do not change our investor tactics and produce real Social Economic Value, it is inevitable that Venture will descent even further to micro-PE than it already has, and continues to suck the risk and returns out of performance.

And that would be the kiss of death to Venture and to the wide-open opportunities in innovation that still lie ahead.

Tags: Innovation, Fundraising, SocialEconomicValue, Macro-economics, VC, Entrepreneurs, Limited Partners, Marketplace

By Georges van Hoegaerden

I keep hammering on the systemic dysfunction of our financial system in Venture that sits atop the massive entrepreneurial capacity of this country, that is crushing it slowly to death (having done so for some 20 years already).

And frankly, I start getting a little tired of having to repeat myself, over and over again, spawned by misleading articles from VC bloggers and their cohorts and being surrounded by a halo of negativity (albeit deserved). I prefer to spend my time on fixing and building things.

"Be the change you want to see in the world..." Gandhi

Fix 1 of 3: a top-down fix for Limited Partners. Check!

To combat that dysfunction I took action, analyzed the Venture ecosystem from the outside-in and covered in my presentation "2010: The State of Venture Capital" how Limited Partners (LPs) with $1B in assets under management dedicated to Venture can instantly correct its malaise from here-on out.

Intrigued, many of the LPs in Venture I spoke with now need to go back to their management and essentially confess how inadvertently they allowed Venture Capitalists so much slack in "playing" with the money they committed, that caused the descent to a predominantly subprime sector in the first place. Some big-boat LPs will find it hard to make the turn and simply leave the sector. In light of the massive opportunity in technology venture that will prove to be a very foolish choice, because unlike in any other committed asset class or sector, ahead in technology venture lies a massive greenfield ready for the taking.

Many entrepreneurs will keep pressing forward no matter what financial system they encounter and their need to make lemonade out of lemons will force them to submit to subprime terms and conditions that are so prevalent in Silicon Valley today.

Fix 2 of 3: a fix for groundbreaking entrepreneurs. Check!

Yet I run into entrepreneurs all the time (or rather, they run into my philosophies on my website), who have laid the foundation of some groundbreaking innovation that does not fit the mold of subprime investors and are poised to die a sudden death if not helped along. After all, not the false positives are the biggest source of failure in Venture, but the inability to attract real outliers who refuse to be the pimp's ho.

If I only had the time to dedicate more time to them:

One of those companies was a company with great technology, a much better immersive gaming experience than the Nintendo Wii (available before the Wii), that would dramatically broaden the bell curve of adoption of gaming and, because of the subprime nature of Venture, is now relegated to a less optimal strategy of becoming a technology services company and a PE deal at best.

Another company tapped into a lack of free-market principles in digital photography in which supply and demand transact in artificially arbitrated manners, much like music before iTunes where the Internet could provide instant disruptive value to assets sold today. That is if investors would understand that macro-economic value supersedes pure technology plays.

Another company had developed a small part of a new way to find things on the internet that had the ability, with some significant elevation of its macro-economic benefit, to become a much more intelligent operating system than what is currently available on the iPhone or the iPad. Again and again, the stale investment thesis of many investors in Silicon Valley fails to recognize the potential of big ideas that has proven to yield big returns.

Examples abound. But investors with a dumbed down investment thesis and limited scope will never get to see or hear from these innovations:

"Whether you can observe a thing or not depends on the theory which you use. It is the theory which decides what can be observed". - Albert Einstein

So, what I decided on is to take action again and capture, nurture and proliferate the creation of groundbreaking innovation by having entrepreneurs not foolishly follow the investor compass, but follow their own - with a little help from us - in identifying large social economic value, and help deliver that proposition to prime investors all while making Limited Partners aware of the vast opportunities that still lie ahead.

It is time we treat Venture like the real marketplace we defined it in our Venture primer.

Welcome to The Venture Company Network.

The Venture Company Network ("The Network") will operate not under the structure we proposed in a fix for LPs just yet, but will follow the free-market principles that ignite the natural evolution of competition and meritocracy of all participants in the Venture ecosystem. That means that entrepreneurs (and subsequently investors) regardless of their descent, location or brand, and only defined by their unique and verifiable merit will be given premium attention into making investment marriages happen.



We focus only on ideas that can lead to sizable returns for LPs by producing social economic value that can generate the public trust needed to re-ignite IPOs and therefor big ideas need to gravitate towards the following:

• $1B single-trigger revenue opportunity
• Macro-economic relevance and impact
• ~$25M venture risk
• $300M+ venture exit in 7 years

Remember, capital efficiency is a loanshark's trap, especially when you consider what that popular phrase has produced in the last 10 years.

The Venture Company network is like TED for technology innovation, but for Ideas worth Building. Its current incarnation is just a start where we begin to "separate the boys from the men". We completely ignore the way subprime VC works today and focus solely on the creation of large social economic value, regardless of cost (as cost is somewhat irrelevant to the size of upside).

Entrepreneurs can get more information about The Network here, where they can review its terms and conditions and join. Your involvement and contribution as a groundbreaking entrepreneur will help get the best innovation in front of prime investors, improve your chances of succeeding and get the sector back on its feet. I am committed to making that happen if you are.

Let's raise the bar together and provide proof to show that under a heavy (and incompatible) financial system remains a vibrant entrepreneurial capacity and inventory.

Tags: Macro-economics, Meritocracy, Marketplace, Limited Partners

By Georges van Hoegaerden

I think it is quite hilarious to see so many Venture Capitalists (VCs) tell entrepreneurs everyday how to build a successful business, given that they have no political leg to stand on to offer such advice. The advice offered ranges from how-to-build a company (many have never) to how-to-talk to an investor (to submit to subprime?), to how-to-deal with their downside protection.

The merit of the VC compass

The reality is that in the marriage between the assets of the Limited Partner (money) and the assets of the entrepreneur (idea), VC has proven to be a miserable match-maker by virtue of its empirical and statistical performance (see here).

So in essence it is the VC who needs help in finding more disruptive innovation, not the entrepreneur providing it.

We covered at length how few VCs actually have had the relevant personal experience of guiding an early stage company as CEO from the left side of the chasm to the right side (where massive adoption awaits) and why few of them actually have the merit to judge innovation to begin with. But even if some GPs did have the personal experience, the model by which many deployed risk is simply incompatible with finding the outliers of innovation to which none of their innovation "scripts" applies. With an overall success rate in the last 10 years by VCs of less than 3%, simply raising a first round from any investor has statistically become the entrepreneur's highway to hell.

And VCs openly and proudly admit to their demi-cartel (confusing a strength with a weakness). Here is some evidence I picked up from the Twitter hemisphere recently that describes that abuse of power, the lack of investor competition and the dysfunction of the Venture market model so well:

If U (that is "you" in text-speak) say to investor A that investor B wants to invest, expect A to immediately ping B. And if B says no, kiss goodbye to A.

Now I have spoken with the investor in the past who said this, and know some of the portfolio companies from his first-time lower-teens "play" fund, and can imagine how he depends on the consensus from his peers to make investment decisions. He cannot invest using a truly unique thesis, as he simply cannot support the runway of any of his companies monolithically with such a tiny fund and I feel sorry for the stance he has to take. But the commoditized investment thesis (alluded to in the Tweet), stuffed with syndication makes for a cess pool of subprime deals that is so indicative and prevalent in Silicon Valley.

So entrepreneurs should not get derailed by the general VC compass, as it:

• Generated no more than 3% public value over the last 10 years (below 1% if you take the Google IPO out of the mix)
• Lost about $1.7 Trillion in funds
• Eroded public market trust with short term gains

For twenty years real entrepreneurs have been abused by a financial system that first threw money at anything moving and ten years later retrenched and still imposes the fear stemming from the minute social economic value those opportunities created.

The entrepreneur's conundrum

But that leaves entrepreneurs with an interesting conundrum, of who to listen to. If the compass of the VC that may give the entrepreneurs their first money to start building their company cannot be trusted, where else do they go to get their idea funded? VCs exploit this problem by basking in the glory of no real deal competition (they prefer to syndicate) and no other financial instrument that can compete in providing full runway support for early stage innovation. Meanwhile entrepreneurs get more desperate and bow down to the will-power of the VC cartel, and submit to its terms.

That deadlock caused the smart entrepreneurs to leave the "dating scene" altogether (and find better custodians for their intellectual brainpower) and leaves a maelstrom of subprime VCs actively telling hopeless entrepreneurs how to build greater returns using subprime deployment of risk and terms. And we still have 10-years of past subprime deals clogging up the pipes of venture firms to look out for and ready to pop soon.

The answer, my friends

Instead of listening to the opinion from many VCs (whose merit is impossible to assess, but based on average sector performance generally deplorable) drawn out in the blogosphere, entrepreneurs should simply follow the compass of success.

So I hear: define success.

Success in early stage technology innovation is highly dependent on the creation of authentic social economic value and public trust (and attachment to existing macro-economic behavior), that creates valuable IPOs, that can be courted by M&A, that is supported by high-growth venture investments, that is spawned by the proper deployment of investment risk.

Venture investors need to step up to combat the lack of trust our public market has in technology companies. Since many venture investors pissed away public trust in the 90s with their choices of new public companies that suggested massive valuations but proved to contain only nominal value, investors now need to be extra diligent in producing authentic value the public market can trust again.

But entrepreneurs need to learn that the real value of the idea is not described by populist investor buy-in, but is defined by how unique and how well the company can build that social economic value. And that means instead of forward planning from a first round of funding, entrepreneurs need to set their compass to point to a social economic endpoint, get agreement with investors on the objective and then back-plan to what steps and investments are needed to achieve that public trust.

Social economic value is not proven by first building technology (the least of our venture risks) and will not evaporate anytime soon, so entrepreneurs should not leave their jobs just yet, before they are adequately able to sell the viability of reaching the end-point to a prime investor.

Groundbreaking entrepreneurs follow their own compass

The definition of the compass, the pin-pointing of social economic value can best be established by the entrepreneur (not investor) with the unique vision for a better world. By the groundbreaking entrepreneur who by definition does not subscribe to the populist view, who has the vision and ability to enable change, and an unwavering passion to improve the way the world works (as Craig Furgeson says "reminds you of anyone?").

All Venture investors need to do is assess whether the vision and ability to execute of the company, started by the entrepreneur is plausible in generating the large social economic value that was promised. Cost is highly relevant only to those investors who have nothing to hang on to but downside protection. The opportunity for creating large social economic upside in technology remains priceless.

When life gives you lemons

Raising money is just like dating, those who pretend to be someone they are not will find themselves inevitably failing, and unhappy with what they submitted to. So, they key to raising money is to keep looking for an investor who has the merit and money, and can subscribe to what the entrepreneur is selling (by virtue of its goal). If none do, and one has clearly defined the path to large social economic value, stay firm and keep at it.

Only groundbreaking entrepreneurs make orange juice when life gave them lemons.

Tags: Macro-economics, Experience, Demi-cartel, VC, Entrepreneurs, Marketplace

By Georges van Hoegaerden

Without being brutally honest I believe it is difficult to build a great company or a sector (that creates sustainable jobs and value), and now with artificial borders collapsing everywhere around us, only a high degree of authenticity can prevail. No longer can people, tucked in institutions continue to make false promises or hide behind the skills of others. The merit of the individual will soon start to prevail over the bravado of institutions.

Sex, lies and videotape

The lies are everywhere in an industry as young and as quickly emerging as technology. Just like the infamous rush for gold during the Wild West, technology has become the breeding ground for more pandemonium than value. On the buy-side and sell-side of technology.

Honesty is a hard nut to crack in California, where the authenticity of silicone boobs is as vigorously defended as the authenticity of silicon valuations. Years of people making good money on riding "the system" yields a formidable defense for its impending change.

Yet the result of the lies in Venture are starting to surface, directly by virtue of its performance and indirectly by smart people leaving the "marketplace" and turning the remainder sub-prime. And just like in any eroding segment a surge of bottom-feeders takes care of the many scraps, making money off of anything that has the hope and desperation to stay alive. With the overhang of a wonderful past, those still in it keep holding on to what once was.

Fuel to the fire

I have been in Venture for more than 15 years (and technology for 30) and personally witnessed from my backyard in Palo Alto how it has destroyed itself, by not being honest, greedy, a lack of discipline or simply by not demanding the best. A mediocrity we aim to fix, systemically.

Here is a small collection of what I perceived, based on multiple observations described in one example, as adding fuel to the fire of an already troublesome Venture sector that is in need of a major overhaul:

Valuations without value

I witnessed a large company acquire a startup for more than $500M and after doing a post-close deep dive into its financials (ignoring strong political discourse) its actual acquisition value should have been around $100M (at best, using the same multiple). What is disturbing about this is that the mis-formed exit valuation creates the perception that the initial VC investment in the startup had merit. Its shareholders profited handsomely, have gotten themselves positioned for life, and Venture Capitalists tout their horn - all because the corporate development overlords have not been paying really close attention. A good reason why private companies should not be private in terms of how they report earnings. Private should refer only to what type of investors can participate, not its lack of transparency. Examples abound.

Desperation

I heard from a very reliable source in a company I know well that an acquisition of a $100M-plus startup occurred because the VCs in the deal got nervous, one of the executives at the company described it as "if our last two quarterly numbers were simply flipped, we would not have been forced to sell". With heavy dilution for the entrepreneurs (not smart enough to protect their own turf) and the external board members (with some "top brand" VCs) owning the company, sub-optimal exits are common to save already fragile VC portfolio returns. Even if it means selling for less than 2x. This is clear indication of how even the "best" VCs have become subprime.

Price-setting

I also heard from a very reliable source how two large Silicon Valley acquirers called each other and discussed that they did not want to compete with each other on the proposed acquisition price, and one really wanted it more than the other. So, they settled on a price (without the appropriate auction battle) together, informing the entrepreneurs at which price and by who the company was going to get acquired. Not only does this process not provide the best value for entrepreneurs, it produces a deflated return for Limited Partners (LPs) who rely on great returns to re-commit to Venture.

Spinning wheels with no traction

Many entrepreneurs confuse the pulse of Silicon Valley with what creates value. While it is noteworthy for publications like VentureBeat to record all the innovation and deals that are being done, we need to remember more than 97% of all investments in the last 10 years have not led to producing any lasting public value. That in turn means that more than 97% of what is described as "hot" is really not. And thus new entrepreneurs should not base and bias their ideas on what is described in such publications. They are much better off in following their own compass and experience. Statistically entrepreneurs are better off doing the opposite of what is in those publications.

Group-think

Hundreds of Technology trade-shows like DEMO and the AlwaysOn series (I have been to both once) amplify the problem of institutional VC and "entrepreneurial" group thinking even more. They harvest so-called innovation by technology segment, mimicking the intake criteria of many sub-prime investors. It is exactly for the reason Chris Anderson of TED describes in his introduction video why filling a magazine like Business 2.0 to the size of a telephone book is in no indication of the prosperity or capacity of the industry. TED is so different from the previous conferences because it highlights the outliers of innovation, without categorization, and amplifies its macro-economic impact and value.

False hope

As can be surmised from my blog I am a steadfast critic of the role of Venture Capital, having turned predominantly subprime. So, it would be easy for me to align with The Funded in its attempts to rate VCs. And while The Funded is an interesting attempt to start making VCs a little bit more accountable and it has succeeded in erasing the worst of blatant VC misconduct, The Funded is really like a photography site where the ratings of who likes a photograph is in no way in correlation to how well a photograph sells. So, the portrayed VC transparency (to unsuspecting onlookers and participants) and rating is not just a little more transparent; it is wrong. Even more wrong because deal performance is no indication of the viability of producing real success down the road (see how dating doesn't produce a healthy child) or the health of the sector, especially not when the majority of VCs have become sub-prime and so have the entrepreneurs who glowingly fall into their trap.

Venture Capitalists that are not

I have written about the lack of relevant entrepreneurial experience of VCs, many of whom have never crossed any chasm in their own lives to be in a position to help their portfolio companies calculate the risk of doing the same. While the previous is debilitating in its own right, many VCs are also poor economists who cannot even articulate the basic fundamentals of free-market principles. That matters because it means VCs cannot see and evaluate macro-economics adequately (which supplies most of its disruptive value), nor establish the proper funding requirements of a company that depends on it, as the funding requirements of a startup company driving a free-market model is so fundamentally different from those pursuing a proprietary market strategy. So, again, to quote Einstein, "the quality of your theorem defines what you observe", and what VCs have observed and produced the last 10 years is therefor challenging their theorem.

Angels that are not

I have done angel deals (as well as VC) and applaud them for taking the extraordinary risk of not only being an active investor but being their own LP at the same time. It gives them more credence but not necessarily more merit. Many of them made their money when turkeys could fly or side winds blew in their favor. Very few earned their money the way a startup intends to, by having an outlandish vision and doing all the hard work yourself to turn it into success. Groups of angels are springing up every quarter now, nobly compensating for the lack-luster investment pace of VC, yet turning technology Venture even faster in a more fragmented sub-prime business than it already has become. Because of the lack of seamless runway support and deflation and fragmentation of risk, more technologies will be built that yield even fewer companies with even less macro-economic relevance.

The experts that are not

Better hindsight does not translate to better foresight. Especially not in disruptive innovation, where hindsight is considered toxic waste. Time and time again do I see the people with a crafty description of how the world works today, quickly become the heralded experts of how it should work. Forgetting that a better understanding of the way the world works today, especially in Venture, is no indication how it should and actually eroding the opportunity for groundbreaking innovation. That valuations are no indication of the health of our sector, and that the number of deals done are not, nor the number of VCs, nor the number of startups. The only thing that matters is a fruitful alpha (portfolio return) for LPs, who supply their asset (money) to the VC. A journalist who takes the reports from Thomson and dissects it earlier than others, is not an expert in Venture because of it. A General Partner who is part of a brand name VC firm, and created the problem in VC to begin with, hanging on to a rambling attachment of external factors should not be crowned the expert in fixing it. With the sector in the dump, it is time to look for solutions elsewhere.

The need for alpha to produce alpha

Now all these aspects seem as impossible to overcome as a dog biting and barking at everyone and everything, but it is not. A dog needs an alpha-model to submit to, in the same way Venture needs the discipline of a new financial system to keep sane. For the last 20 years LPs have let VCs run around like wild dogs, and their performance now dictates that they need to be reigned in.

The existing improprieties in Venture only exist because we have deployed a piecemeal market model, reminiscent of the aforementioned Wild West. Most problems in Venture will be resolved by curing its systemic disease, and by implementing a new free-market system that does not exist in Venture today.

The financial system we propose implements free-market principles that facilitates the removal of bottom-level diversification, the deployment of responsible risk and the reliance on marketplace transparency to all marketplace participants to (re)define merit of innovation (as defined in our primer).

Only alpha-model discipline can produce the alphas LPs are looking to generate. Venture is not too big to fail, and without that new discipline it will, to the detriment of us all.

Tags: Macro-economics, Valuation

By Georges van Hoegaerden

Today's Venture Capitalists (VCs) have often qualified innovation as a buyer's or a seller's market (in publicly discussing valuation trends) and that communicates so well how they view innovation; as a commodity.

No wonder they fail miserably in generating meaningful alpha (portfolio returns for Limited Partners, or LPs). It is impossible to find and attract outliers of innovation by comparing and compressing valuations. And commodities never outgrow their peers.

Disruptive innovation is never a commodity and is always a seller's market (with the company selling its stock to investors). So, the minute innovation becomes a buyer's market, that innovation has just been "crowned" a sub-prime entity and so have both buyer and seller.

Finding the perfect date

As a VC, finding the right type of innovation to monetize is like finding the perfect date, they are few and far between. And to a founder of a startup finding the right General Partner (at a VC firm) is similarly daunting.

A unique match between two people (the General Partner and the CEO) is something that takes more than glowing at the prospect of having a baby together (i.e. build a new prosperous company) and discussing the financial projections and terms of the deal.

Most of us can dream, but can we make it happen together is the real question.

Higher standards

The reason why many people are such bad daters is because they do not hold on to their own standards, those that make them happy and those that make them strong. They confuse money, power and perks with merit and hope sheer proximity will someday rub some off to them. But it never does, you need to do the hard work yourself to reap its precious reward. You get what you put in.

I do not consider myself a pretty boy, yet never had a problem dating because I know what I want and especially stand firm on what I do not. Standing firm allows you to stay true to yourself and often has the additional benefit of weeding out sub-prime parties quickly and thus avoid unmanageable disaster further down the road. (That is my happy date-turned-wife in the picture.)

Stay authentic

I cannot tell you how many times I have spoken to entrepreneurs that have banged their heads against the doors of VCs, and selectively served as their dutiful psychologist to help them not to bow down to sub-prime standards.

Most entrepreneurs become nervous and afraid to negotiate, because this VC may just be the only interested party they have, and if you are a tough negotiator those investors may frighten others that you are "hard to work with". But a choice of one investor is not a choice.

Even before any commitment to invest is reached, entrepreneurs frequently let VC change their business model, use-of-proceeds, valuation and everything else, in the hopes of landing a round of funding. Not realizing that this VC can have whatever opinions it wants, but as an entrepreneur you are the only one responsible for making it happen. Do not accept an infinite monkey theorem, that you then need to turn into a work of Shakespeare in your startup.

So, don't be afraid to lose. Because losing from a sub-prime VC really is a win.

Marriage does not make a person

Getting laid is not a recipe to produce a happy child, a healthy marriage is. So, even if an entrepreneur lands an investment, raising Venture Capital alone does not make a successful company. With so many sub-prime VCs, statistically and empirically the odds are still not in your favor.

Success, in the latter case, is defined by the company's ability to produce public value, either by serving the public directly or indirectly by getting them to invest by way of IPO (or acquisition).

So, both parties need to demonstrate that they are experienced, skilled, agree and contribute to achieving that (early) public value for the company. In other words, a marriage needs to be consummated in which the assets, principles and goals of raising a happy child (the company) is shared. And that means that while both parties supply different assets, one cannot overpower the other (like Pimps and Hoes) and force its agenda.

A priori, an equilibrium needs to be established that is healthy and promises minimal friction down the road.

Bad starts make for bad endings

Without an organic fit and chemistry, a venture deal that starts off wrong usually ends wrong. For the VC that damage is diversified, for the entrepreneur it is often crushing. So, the dating process is not just a way for the VC to check the entrepreneur out, but for the entrepreneur to gauge if the proposed equilibrium (mentality, experience, skills, term-sheet, vision) is authentic, attainable and healthy.

Here is how many VCs set themselves up wrong for the dating game and why entrepreneurs deserve better (in this context "the date" is the VC, and "you" is the entrepreneur):

The date wants to know everything about you but won't tell much about himself.

VCs demand to know a lot about the entrepreneur, but what does an entrepreneur really know about the VC's merit? GP merit hides behind ten levels of diversification and a fuzzy Private Placement Memorandum (PPM, the business plan for LPs) that leaves plenty of room for "creative" post close re-interpretation. Whether the GP is a great gambler or skillful is impossible to assert. What we do know is that many GPs have never themselves crossed the chasm, a trait that makes them almost certain a bad dating partner.

The date wants to date other people at the same time.

VCs diversify their risk by investing in other (hopefully not competitive) companies at the same time and hedge their bets, they do not often hedge their often ill-informed opinions upon the entrepreneur. Expect many to do a John Edwards on you when your future suddenly looks like cancer.

The date does not want you to date someone else too.

VCs diversify their risk, but watch their reaction when you do the same. They'll get mad, because you have just told them that VC money is a commodity (and disruptive innovation is not) and now they need to step it up and prove their value-add. Right where you want them.

The date wants to have a threesome, and takes his pick.

VCs are more worried about downside risk than upside risk and try to find an accomplice, and syndicate early to avoid risk. They often finagle a sweet syndication deal with a partner under the table that is unlikely to be in your advantage. VC is a demi-cartel.

The date thinks that his money compensates for lack of empathy.

Many VCs lack entrepreneurial experience, which according to a Dutch saying means "they've heard the church bell ring, but they don't know where the sound came from". Money does not make up for in-experience and lack of skills, especially not in the boardroom of an early stage company.

The date wants you to tell him exactly what you are bringing to the table, without him doing the same.

Entrepreneurs are asked to make elaborate predictions about growth trajectories, and stick to them. But have you asked the VC to provide full runway support in return?

The date discusses divorce before you even start dating.

You want to change the world, the VC wants to target exits. Foolishly the sub-prime VC does not realize that changing the world creates a much more reliable exit than an early "delivery" could ever promise.

The date wants to know whether you want children, but withholds his wishes.

Real entrepreneurs want to change the world, not just to exit. VCs however will change their mind depending on how the rest of their portfolio is doing and whether at that time they can get themselves in the top-quartile. I know many companies that have been pushed to early "delivery", to the chagrin of their founders.

The date never really commits and keep all options open.

Entrepreneurs are forced to submit to funding rounds that are designed purely to minimize downside risk for VCs. While you commit to the marriage all the way, a VC can decide to bail out at any time, leaving you hanging (with a strategy that may not be yours, a cap-table that is destroyed and a runway that may no longer be viable).

The date needs the approval of all his cousins before he can get married.

Seldom can the opinion of one GP secure the deal. He has to push an outlier proposition through an elaborate socialist process with other GPs in the firm to close. Simply an incompatible process that should be banned.

The date requires a prenuptial to engage.

VCs structure elaborate ownership agreements, by way of voting rights, valuations, bylaws - you name it. Forgetting that rudimentary control plus the ability for the company to develop itself gives it the highest probability of succeeding. If as a VC you don't believe that, you should not engage in the deal to begin with. Elaborate downside protection means you simply do not believe in the upside.

The date wants full control over your purse.

Excessive controls on money means there is no trust between VC and entrepreneur. It is necessary to verify trust, but not giving it in advance means the entrepreneur is not giving the VC his trust either. A CEO needs to be able to run the company and not be bogged down by distracting and bureaucratic spending rules as long as he stays within the use-of-proceeds.

The VC institution needs to be fixed first

Now, I can make a similar list about people that chase sub-prime investments. More than 10 years of sub-prime investments has attracted a lot of people to that sub-prime thesis, the majority without the attributes needed to become a successful entrepreneur. With a still growing number of sub-prime VCs at play, certain corporations have become better custodians of disruptive innovation, able to stimulate entrepreneurs more effectively.

The only way, in my view, we can fix Venture is to change the model by which we deploy the matchmaking services between the assets of the LPs (money) and the assets of the entrepreneurs (ideas). With a more discretionary VC intermediary we will automatically attract more disruptive ideas (by stimulating entrepreneurs to look at Venture as a prime venue for innovation again) and create more meaningful value.

By the way, I do not dislike many VCs personally, I just despise the institution they represent - because it performs so poorly. That hurts LPs and their dissatisfaction will have a devastating effect to the innovation in this country.

I am working feverishly on getting VC fixed by changing the economic model that allows LPs to be taken for a ride. Disruptive innovation can wait until they start implementing my economic system. And in the meantime, dear entrepreneur, if you think you have what it takes now, keep your foot down and your head up and keep looking for that discretionary VC in the haystack.

Happy dating! Je maintiendrai!

Tags: Fundraising, Entrepreneurs, VC, Valuation, Venture

By Georges van Hoegaerden

Part of the discovery of coming up with a permanent fix to Venture came not from an endless debate about what happened to Venture (although I am more than willing to do so on occasion) but to envision what should happen to Venture if one were to erect the sector now (something emerging economies are actively pondering).

That is perhaps the reason why the only one who could come up with a permanent fix to Venture is an entrepreneur. Because as an entrepreneur you are born with the gift not to analyze existing market deficiencies (with loads of statistics) until you are blue in the face, but to reconstruct and imagine a new and much bigger opportunity from your (perhaps idealistic) view of how the world should work. And then to develop such a robust new system so the bad things from the past find automatic resistance (not manual labor or government regulation).

And boy, do I believe in a big opportunity in Technology Venture. I even believe it scales.

Is this working for you?

I use the previous phrase from Oprah a lot as it communicates so well that regardless of anyone's rational for the prospects of innovation, the current system under which we deploy it simply does not work. And I pity the LPs who with blinders on, continue down this road expecting a different result. Good luck!

To reiterate again, over the last 10 years (some technology celebrities say longer) we, as participants in the sector have generated less than 10% IRR to Limited Partners (LPs, who disseminate their money through VC), wasted about $1.9 Trillion in funds that never produced any public value and have left LPs and entrepreneurs severely disillusioned about the value, viability and path of innovation.

All the while, many Venture Capitalists, as the derivatives (without assets) in this marketplace pride themselves being in the top quartile (a meaningless definition in its own right), or the survivor of "the fittest" of an underperforming sector with little value. They continue to stuff their pockets with a fat-and-happy management fee that allows them to retire for life (sometimes after just one 10-year try and vintage), publicly comforting themselves that the world has changed so much that it is now time for new investors to step in. Thanks a lot, after having taken Venture for a very comfortable ride without producing real returns, and worse, soiling the pool for the rest of us.

The real asset holders in Venture, LPs with money and entrepreneurs with ideas have been fooled (many times over). But by who really?

Who's bubble is it?

As you can tell from the last paragraph I am often irritated by the lack of integrity of many human beings, especially of those who do anything to make a buck. Because VCs with integrity could solve their own issues in Venture without the need for a complete Venture overhaul. But that would require their ability to be self critical (they have done nothing but blame external factors) and people who are confident enough to cannibalize their own position for the greater good. Too idealistic perhaps. And so a new system in Venture needs to include not just measures to provide better upside but a concerted and immediate eradication of those intermediaries that do not perform.

But we need to fix the disease not merely fix the symptoms and the following quote from Einstein comes to mind:

"Mistrust of every kind of authority grew out of this experience, a skeptical attitude toward the convictions that were alive in any specific social environment — an attitude that has never again left me, even though, later on, it has been tempered by a better insight into the causal connections." - Albert Einstein

Which I parlay in Venture to:

"I mistrust many venture capitalists for good reason (their lack of merit), but have learned that the casual connection is the dysfunctional financial system that allows them to take it for a ride." - Georges van Hoegaerden

Just like the behavior of a dog is the responsibility of its owner, so is the performance of the VC the responsibility of the Limited Partner. And VC does not perform (and unchanged will not) because it selects companies that are sub-prime innovations that do not have a strong potential to yield public value. And that is because many VCs themselves are sub-prime and therefor unable to spot disruptive innovation to begin with. On top of that we have an in-transparent financial system that allows for bottom-heavy diversification of more than ten layers deep (see "2010: The State of Venture Capital"), that is far removed from an efficient marketplace in which LPs and entrepreneurs can verify the merit of the ideal VC matchmakers.

Blame where blame is due

And so the real owner of the bubble is (again) our financial system that allows sub-prime operators (VCs without entrepreneurial merit) to slip in and mess up the initial success of the venture sector that was so beautifully crafted by Bill Draper and the likes.

So, the 2001 implosion was not a tech bubble, but a finance bubble and a clear warning of what is to come to other sectors that deploy the same economic model to their respective domains (I have spotted the pattern).

We need entrepreneurs to think bigger (not more restricted) and unabashed to find the next innovation that can change the world. But only an economic system that deploys prime matchmakers will be able to cherry-pick those prospects. So, in the end we cannot really blame the current crop of sub-prime VCs for getting picked, and they will continue to sit on their throne (a ten year vintage) until time runs out anyway, but we need to change our economic system so we prevent them from entering in the first place. And changing management fees (that some focus on) alone does not turn a sub-prime VC into prime.

With our financial system eleven times the size of production, it is time for the foundation of our economic system to get an overhaul. And Venture would be a great place to start.

Tags: Limited Partners, Venture, Entrepreneurs, Subprime, VC, Economy

By Georges van Hoegaerden

Last week, through a long string of conversations with a CalPERS board member and some trusted peers, I ended up speaking with Joe Dear (Chief Investment Officer) and other members of his Venture team at CalPERS in Sacramento, the largest pension fund in the United States with $200 Billion in total Assets Under Management and single largest investor in the Venture sector (as a Limited Partner, or LP), with an allocation of around $20 Billion in direct and indirect (fund-of-funds) alternative investments (which includes venture).

Joe expressed specific concern about the ailing Venture sector, a message we as participants in the Venture ecosystem should all take very seriously. I do, because I hear it all the time, and it worries me how devastating a withdrawal of CalPERS (10% or so of all U.S. Venture and the consequent ripple) from Venture would be to Silicon Valley and to our country.

Such withdrawal would be devastating to our entrepreneurial capacity and drive to which we owe our statue in the world. We still have many parasites (some quite well known, and not too anxious to be found out) who are too busy deploying ingenious methods to suck this ecosystem dry while it lasts, unable and unwilling to see the dark clouds forming above their heads.

Yet, we all need to pay attention to the discomfort of LPs, and resolve those - not with a new set of lies and promises - but with a breakthrough systemic solution to improve the performance of Venture Capital.

Late to the table in 1988 as portfolio manager Jesús Argüelles explains, CalPERS made up for it in the 90s followed by disappointing performance today. Joe questioned the sector's viability as a whole, by rhetorically asking me (amongst other topics):

Does Venture Scale?

Before I answer that question it is important to note how ignorant the many players in Venture are to the impending threat this question poses.

1. At this public event, I recognized only two Venture Capital (VC) firms that where present. If as a VC I really wanted to make money for my LP in these turbulent times, I would show up to offer whatever support I can muster. I did: to represent the unwavering value of disruptive innovation.
2. No-one of note from the National Venture Capital Association (NVCA) was present according to the attendee listing handed out at the event. Rather than to focus on helping CalPERS generate upside, I guess it prefers to spend its time protecting its members' downside to lawmakers. The VC lobbyist needs to rethink its leadership focus.
3. The dismay of LPs in the Venture sector is in sharp contrast to the incessant, blind, self-serving and false optimism of many Venture participants, journalists and investors who continue to suck entrepreneurs dry and leave a subprime Venture pool behind that clouds the opportunity for serious investors and serious entrepreneurs.
4. No-one (except we) in the Venture community is truly acknowledging, with a plan of change, how the performance in Venture can systemically be improved. Better times, with more of the same is what many wait for, but hope is not a plan.
5. If we do not take the subtle message from CalPERS serious, more than 10% of Venture investments in the United States could suddenly disappear, with many other LPs quickly following suit. And that means that (once again) the deployment of an incompatible financial system destroys the innovative capacity of those that deserve better.

My answer

So, my short answer to Joe's loaded question was:

"Sub-prime Venture does not scale, but Prime Venture does".

The currently deployed economic model of Venture will never scale, and here is why:

1. Ten levels of diversification with multiple (hybrid) relationships from LP to startup investment makes it impossible to identify the real merit and performance of VCs and the validity of their investment thesis.
2. A (loosely coupled) commoditized investment thesis can never outgrow its peers, and thus is incapable of generate meaningful alpha.
3. Sub-prime VC systemically destroys the trust of Public Markets by pushing so-called innovations through the funnel, soiling the opportunity for more discretionary value.

The necessity to produce public value

It is a bad idea to ignore the public's perception of Venture Capital. With a large sum of Venture money (roughly $1.9 Trillion) over the last 10 years producing no substantial public value by way of IPO, sub-prime VC has lost the confidence of the public that does not only supply the money to VC (indirectly through the public pension funds, endowments etc.) but is also expected to buy post-IPO stock on the public stock market.

So, rather than to continue with "the models for success that have worked for our industry in past decades" as many of the NVCA cohorts continue to preach, we need to rely on a new economic model that fundamentally changes Venture Capital to its core.

Our proposal in the presentation "2010: The State of Venture Capital" will do so and it scales because:

1. Our Venture model removes the diversification at the bottom of the Venture equation, exposing VC matchmaker merit and accountability.
2. Our Venture model employes dynamic marketplace merit, not static institutional merit.
3. Our Venture model attracts unique investment theses that have the ability to find the outliers of innovation.

Incompatible financial systems

The problem with Venture is that traditional financial systems (stemming from more conservative asset classes and times) are incompatible with the risk and returns that early stage Venture has to offer. Over time the old financial system has steadily suffocated, and worse alienated disruptive innovation, by forcing sub-prime innovation through an exit funnel that as a result left a trail of eroded trust.

Venture has lost trust with public markets, but even more so with the outlier entrepreneur. Truly disruptive ideas do not even show up at the doorsteps of many VCs any more, because certain corporations have become better custodians of innovation than venture capital (remember those ludicrous buyers/sellers-market arguments of VCs).

Change the dating service

But just because VC is broken does not mean innovation is. We need to re-establish the merit and definition of disruptive innovation and stimulate the creative and intelligent minds that can spawn it. The Internet provides a massive opportunity to tap into the buying power of 5/6th of the world population that is still technologically disenfranchised.

But if we leave the Venture Marketplace functioning the way it does today, less money-in will not change the alpha (portfolio returns) for Limited Partners. Survival of the fittest in a dysfunctional market is a worthless asset.

Superior Economics

Smart Limited Partners stay committed and realize that Technology Venture has superior economics, that with the right economic construct has the ability to outperform any other asset class.

Technology feeds the brain in the same way water feeds the body. Technology can be served up in many ways to produce, share and monetize knowledge, just like water can be used to produce soup, coffee, tea or anything else you can think of. We have all the ingredients in this country to make lovely dishes, all we need is a better economic system to attract the right chefs with scrumptious recipes.

The new size of Venture Capital

So, stop making statements about whether Venture Capital should be smaller or larger. It's a futile discussion. The size of an inefficient marketplace is irrelevant and thus by definition wrong. First we need to deploy an efficient marketplace (that is designed to find the real merit of innovation), before we can make educated guesses about how to best support it with a proper financial system and size. Lowering the commitment to Venture Capital does not create more efficiency, changing the marketplace does.

So, LPs need to deploy a new economic system that systemically roots out sub-prime. The solution that scales to its authentic potential is here today.

Tags: Limited Partners, VC, Subprime, Meritocracy, NVCA, Marketplace, CalPERS

By Georges van Hoegaerden

I think about the future of Venture Capital a lot (day and night, can you tell?) and how we can continue to drive and fund innovation. And I have said many times that "the quality of the deal intake is only as good as the quality of the investor", which specifically in venture means that an investor needs to have the experience and foresight of an entrepreneur to support others.

Raise the (public) value of innovation

Clearly with truckloads of money from Limited Partners over the last ten years, more highly skilled global entrepreneurs than ever, and 5/6th of the world population still void of essential technology applications, VC has done a deplorable job in the matchmaking process between the assets of the Limited Partner (money) and the assets of entrepreneurs (ideas), which should have tapped into that massive greenfield more aggressively.

Less than 10% IRR for more than 10 years, or to use another worrisome statistic: less than 3% of dollars invested in VC over the last ten years leads to the production of any public value by way of IPO (Initial Public Offering), as 10 years of VC investing at $200B/year (give or take) x 10 generated $66B in IPOs (per Dan Primack, PEHub). No wonder the Limited Partners who fund VCs scratch their heads at what just happened to their money.

It's all about the Benjamins (and the quality of people behind the money)

I referred to Albert Einstein before (way back in 2006) and an amuzing article from Dave B Lerner turning Sherlock Holmes into a VC reminded me how the principles of Einstein should be held against the selection process for General Partners (GPs) at a VC fund.

Quotes from the Genius

So, with Einstein's Wikipedia encyclopedia at hand let's roll out some of his famous quotes and see how the current state of venture stacks up:

"Imagination is more important than knowledge. Knowledge is limited. Imagination encircles the world".

So why do GPs demand to see a product demo before they can decide to invest, is it because they have no imagination? Perhaps we should encircle a world of innovation that is bigger than Silicon Valley?

"For knowledge is limited, whereas imagination embraces the entire world, stimulating progress, giving birth to evolution. It is, strictly speaking, a real factor in scientific research".

Why a SuperBowl ring is so much more valuable than an Ivy League ring, in any job in the venture business.

"A new idea comes suddenly and in a rather intuitive way. But intuition is nothing but the outcome of earlier intellectual experience".

Why relevant entrepreneurial experience is such an important attribute to a VC investor, intuition not analysis drives the selection of rewarding investment decisions.

"Whether you can observe a thing or not depends on the theory which you use. It is the theory which decides what can be observed".

Silicon Valley has commoditized the investment thesis (or what we refer to as the-same-difference investment thesis), no surprise that it cannot detect disruptive innovation even if it would show up at their doorstep.

"Falling in love is not at all the most stupid thing that people do — but gravitation cannot be held responsible for it".

GP should not be afraid to feel passionate about their companies and make independent investment decisions (that may not find other syndicates), but the gravity of investment commoditization can not be held responsible if they do not.

"It can scarcely be denied that the supreme goal of all theory is to make the irreducible basic elements as simple and as few as possible without having to surrender the adequate representation of a single datum of experience".

Customers need simpler technology solutions, not more complex. As investors that means we should not invest in technology, but the application of technology to meet customer needs. But not so simple that it has no macro-economic and public relevance (IPO).

"Humanity has every reason to place the proclaimers of high moral standards and values above the discoverers of objective truth".

A higher moral standard in the venture business would ensure that we deploy free-market principles to the support for innovation. We are far removed from deploying transparency to the venture business that would expose the true merit of investors with the true merit of entrepreneurs. Only then will the truth reveal itself.

"A happy man is too satisfied with the present to dwell too much on the future".

GPs locked up into 10-year fund vintages are fat and happy, too happy to dwell to much on the malaise in venture.

"The state of mind which enables a man to do work of this kind is akin to that of the religious worshiper or the lover; the daily effort comes from no deliberate intention or program, but straight from the heart".

Great convictions from the heart lead to great investments and financial returns in venture. The investor who is content with the current investment program will soon meet his maker.

"I am by heritage a Jew, by citizenship a Swiss, and by makeup a human being, and only a human being, without any special attachment to any state or national entity whatsoever".

We are citizens of our world, so perhaps we should start investing that way. We need to get away from Sand Hill Road more often and tap into global resources, not just to fund entrepreneurs but also to experience and understand what drives global marketplaces.

"Concepts that have proven useful in ordering things easily achieve such authority over us that we forget their earthly origins and accept them as unalterable givens. Their excessive authority will be broken".

Just because we have constructed the relationships between Limited Partners and VCs in a certain organized fashion does not mean we should accept them. Especially not when performance proves the vast majority of those relationships do not work out to satisfaction.

"Great spirits have always encountered violent opposition from mediocre minds. The mediocre mind is incapable of understanding the man who refuses to bow blindly to conventional prejudices and chooses instead to express his opinions courageously and honestly".

Entrepreneurs should expect to receive violent opposition from mediocre VCs (who focus on technology builds), but entrepreneurs should remain courageous and honest. Courageous in their entrepreneurial ideas and honest about their ability to build them.

"The important thing is not to stop questioning; curiosity has its own reason for existing".

Many people take for granted what has been imprinted in their brains from childhood, but you would be surprised to learn how many of those things are actually false. Not by design, but by interpretation. Drill deep in what you have been told as the truth and you will find new opportunities for innovation.

"Nature shows us only the tail of the lion. But I do not doubt that the lion belongs to it even though he cannot at once reveal himself because of his enormous size".

A Long Tail without a Torso is meaningless.

"What is thought to be a "system" is after all, just conventional, and I do not see how one is supposed to divide up the world objectively so that one can make statements about parts".

Markets do not exist, as I have stated many times before. Only marketplaces do, in which the choices of individual participants with unique ideas are married.

"Few people are capable of expressing with equanimity opinions which differ from the prejudices of their social environment. Most people are even incapable of forming such opinions".

The social environment on Sand Hill Road that has perpetuated the mediocrity in venture is preventing GPs from expressing opinions about how it should change. In fact, none of the Limited Partners I spoke to have received a viable plan from VC as to how to combat the venture malaise we are in.

"My political ideal is democracy. Let every man be respected as an individual and no man idolized".

When you do not belong to the (subprime) "venture club" or play their game, you are not let in and respected. So why should we repay that homage back with idolization?

"The really valuable thing in the pageant of human life seems to me not the State but the creative, sentient individual, the personality; it alone creates the noble and the sublime, while the herd as such remains dull in thought and dull in feeling".

Meritocracies are created by transparency, and we have none in venture. No surprise it is dull in thought and dull in feeling.

"My passion for social justice has often brought me into conflict with people, as did my aversion to any obligation and dependence I do not regard as absolutely necessary".

Free-markets are created by meritocracies that rely on transparency. The social justice of a meritocracy is hard to grasp for those who hide behind walled gardens to protect their own insecurities.

"Mistrust of every kind of authority grew out of this experience, a skeptical attitude toward the convictions that were alive in any specific social environment — an attitude that has never again left me, even though, later on, it has been tempered by a better insight into the causal connections".

I mistrust many venture investors for good reason (their lack of merit), but have learned that the casual connection is the dysfunctional financial system that allows VCs to take it for a ride.

"Everyone is aware of the difficult and menacing situation in which human society -- shrunk into one community with a common fate — now finds itself, but only a few act accordingly".

Waiting, talking and reporting about the malaise in venture is one thing, offering solutions to it is another.

"The economic anarchy of capitalist society as it exists today is, in my opinion, the real source of the evil".

That is of course because the only form of capitalism we practice today is far from a meritocracy. Capitalism spawned by meritocracy is a wonderful thing and builds opportunity for all people with merit (within the Long Tail and the Torso).

No need to be Einstein to become a VC

Einstein himself did not think he was special and neither should a VC. All you need to become one is solid early stage experience and a vivid imagination of how the world should work.

Yet to make venture work, Limited Partners need to start by deploying money to GPs who themselves have proven how those crucial attributes helped them cross the chasm, before those GPs are allowed to tell other entrepreneurs how to do the same.

My investment and drive is for democracy, meritocracy and capitalism to work hand-in-hand to produce the powerful innovation that enhances the lives of people around the world. Until that happens, I leave you with a last quote from the Genius himself: "To punish me for my contempt of authority, Fate has made me an authority myself".

Happy New Year!

Tags: Marketplace, Meritocracy, Einstein, Capitalism, Long Tail, Democracy

By Georges van Hoegaerden

As an investor, and especially a venture capital investor you need to have the ability to predict the future within an acceptable degree of accuracy. And that is exactly a skill many venture capitalists (VCs) so miss out on and generate such mediocre returns. The value of their innovation is simply not meaningful enough.

Venture Capital differs fundamentally from (other forms of) Private Equity in that it requires an extraordinary level of foresight and prescience. After all, one needs to believe in something that does not already exist and little proof exist it ever will - or is there?

It is impossible to predict what technology will prevail

VCs today are still too focused on technology, even though many proclaim to understand markets (more on that later). The reality is that rarely any business without a technology demo gets funded these days. Yet popular technology flavors change frequently (every three years or so) and betting on technology is a foolish game. We should know by now.

Driven by the urge to produce results within ten year vintages and complicated by the (we claim, self induced) lack of IPOs and M&A, the majority of VCs have retracted to a short term investment focus, massive diversification and fragmentation of investment dollars. Quite the opposite of what should have happened to the venture business.

But how do you tell someone to step into the circus ring to tame a tiger, without having had the confidence and prior experience to do so. It is just not going to happen. Change in the venture business needs to come from the top.

Limited Partners who do not refresh their VC commitments and requirements now, are bound to lose big-time on venture pipelines stuffed with sub-prime investments with no place to go.

It is easy to predict what macro-economics will prevail

Warren Buffett said it right in a recent interview with Charlie Rose in that the future long term is a lot easier to predict than the short term. Or the way I tell my wife; I don't know where I'll be during the day, but you can count on me coming home for dinner.

In business, long term value does not discount the need for short term planning, but short term without long term (or macro) is a loosing gambit. Here are some examples of the lack of macro-economics and its failures :

- The venture ecosystem

The venture capital ecosystem consists of ten(!) layers of diversification before the dollars from a Limited Partner lands into the bank account of the company of an entrepreneur. No matter what your views on the venture business, but anyone who has attended business school should know that this kind of over-diversification leads to a morass of accountability and in-transparency of results. Without fundamental change to the way venture works today, venture is poised to become more mediocre than its today. Venture is macro-economically broken. The reason why we provide a solution for Limited Partners here.

- The VC intake model

Most venture capitalists sit impatiently through an entrepreneur pitch, checking their blackberry's until the product demo. Not only does this communicate the VC has no empathy for the macro-economics, it also communicates that technology risk is the only risk they think they can assess. Per previous analogy, those VCs are the wives who call their husbands twenty times per day, just to know where you are. They demonstrate a lack of understanding and lack of faith in macro-economics and an improper assessment of investment risk.

- Entrepreneur pitches

Perhaps dumbed down by the only pitch process that leads to getting money from (sub-prime) VCs, many entrepreneurs pitch technology without understanding the macro-economic forces at work that prevent a pure technology play (albeit perhaps better) from having access to paying customers. When a large incumbent owns the access to the majority of customers through perception, a proprietary business model or otherwise, technology innovation without a fundamental disruption of the business model is worth very little. Entrepreneurs need to think business and include macro-economics.

- Marketing experts

Markets do not exist. Yep, I said it (and yes, I have worked in "marketing" too). Market definitions are stale and artificially extrapolate people that once exhibited a common purchasing decision into individuals that from then on behave the same way going forward. They don't.

We all know instinctively that every individual is different (even when that individual represents a company), that none of us like to be put in a box and that our reason for purchasing is unique and more than simply price/performance ratios. In addition we participate in multiple competitive and complimentary marketplaces in whatever order we deem appropriate. And any attempt to put marketplace participants in a fixed market bracket is therefor hopelessly self-serving.

Markets do not exist, but marketplaces do. The impetus to participate is extremely complex, complex to quantify yet not complex to qualify. A simple need for improved relevance and better value - based on individual needs and objectives. Marketplaces are no longer one-to-many, but have become many-to-many, with social networks emphasizing and echoing those individual requirements. The long tail of supply is met with a long tail of demand.

So, macro-economically the basis of marketing is flawed. Product success is not driven by marketing, but rather by how true the product is to its promise. And that means marketers who make product decisions based on market numbers are wrong and so are the investment decisions derived from market analyses.

Be ready for the swing test

Macro-economics really matter as it defines whether you have a chance of making it big, but not without careful micro-economic fulfillment. As an entrepreneur "dating" the right investor you need to be prepared for the swing test that goes roughly as follows:

Explain the vision, explain the product experience, explain the business model, explain the technology, explain the scalability, explain the product requirements, etc. etc. going back and forth between macro and micro until the swing comes to a halt with no questions left unanswered. Now, investor and entrepreneur have a common understanding of the risks involved for the road ahead.

A new investment focus

As experienced technologists we know we have many technology options to support a macro-economic need, and technology development is the least of our risks. The real question is whether the application of technology makes acute macro-economic sense. And surprisingly enough and again in agreement with Buffett, macro-economically we are not much different from a hundred years ago.

We like to play music, iTunes anyone? We like to stay connected, Facebook anyone? We enjoy free-trade, eBay anyone? Many other macro-economic desires remain unfulfilled with technology. Opportunity abound.

Fulfilling support for that macro-economic need is what Venture Capital should be all about. And it will again when we as Limited Partners tell the referees (the VCs) that the rules for investing have changed. That our expectations for VC are to chase macro-economic impact, rather than to allow the mindless technology herding to continue.

Endless opportunity for great returns

Supporting existing macro-economics with a more meaningful technology experience that meets the needs of 5/6th of the worlds population, that still does not use a meaningful internet application, makes for a fantastic and highly scalable investment thesis. One that we should allocate more-not-less money to as Limited Partners.

But we need to change our tune, now, before it all comes crashing down on us.

Tags: VC, Innovation, Marketing, Marketplace, Business Model, Investment

By Georges van Hoegaerden

Even though Venture Capital has produced no more than 10% IRR for the last 10 years and has lost the confidence of the public markets (lack of IPOs) and public companies (lack of M&A, except for a few "garage" sales), many entrepreneurs keep chasing the mighty dollar from VCs who will not let entrepreneurs challenge their merit, at all or ever.

Even the top VC brands appear not what they look like on the outside.

Tags: Entrepreneurs, Innovation, NVCA, VC

By Georges van Hoegaerden

I keep getting questions from Limited Partners (LPs) and Journalists all over the world as to why and what relevant operating experience is needed to become a successful early stage investor or Venture Capitalists (VCs).

The easy answer is: well, if you are building a house you better know something about architecture, design and construction.

But the reason for the return of those questions is probably because I covered this topic before (see: "Why VCs need relevant operating experience") and left the door open to less operationally savvy investors in a new world of investing. After all in a new free-market of innovation (see: "How to fix VC once and for all") the merit of the investor, whatever that merit is composed of, defines the reputation of an effective marketplace participant.

If only we had arrived at that glorious point already.

Since we do not have a free-market of innovation today and Limited Partners are asking me for new fund selection criteria now, I give them the following reason as to why technology Venture Capital's General Partners need relevant operational experience:

1) Venture investing requires different skills than Private Equity

Investing in early stage companies requires a solid understanding of how to turn a vision into a thriving business. As Geoffrey Moore pointed out in his book Crossing the Chasm, successful innovation requires from entrepreneurs an understanding of how to cross the chasm and I demand from VC an understanding of when and how to help entrepreneurs make them do so.

VC should make the appropriate assessments alongside the entrepreneur and support the transitions with appropriate funding levels in which selling to early adopters and visionaries turns into selling to much larger demographic on the other side.



That means Venture Capitalists who claim value-add in their Private Placement Memorandum (PPM: the business-plan from VC to LP), better demonstrate that they know how to cross that chasm and better yet, can prove to Limited Partners that they themselves have done so successfully. Not at a time when turkeys could fly, but when the wind was blowing in the wrong direction.

VCs with only impressive corporate backgrounds very often fail to be aware and understand what it takes to cross the chasm. It is easier to have earned stripes on the right side of the chasm, than it is to have earned them from the left-to-right.

Private Equity investors spend their time on the right, successful Venture investing requires an understanding and experience from the left-to-right of the chasm.

2) Ecosystem performance defines company success

In a perfect world a startup would build a perfect product with support from the perfect investor that relies on the enthusiasm from satisfied users and their word-to-mouth to become successful.

The reality is that tip-toe funding combined with downside investment strategies the success of a company is dependent on many more attributes than merely product development, especially in subprime VC.

Limited funding forces companies to push out product early (many times too early) and relies on "decibel" marketing, business development, and customer support to compensate for product deficiencies in-market.

A great CEO is the ultimate orchestrator of the unique ecosystem of his company, one that requires continuous tuning to run like a well-oiled money-making machine. A Venture investor who drills deep into the performance of a company and make judgements on ecosystem parameters, should have knowledge of and experience in each of those ecosystem parameters and better, have been a CEO at an early stage companies having made such an ecosystem work against-all-odds.

Separate relevant from irrelevant experience

Thanks to the Internet, anyone can do the following exercise: go to a VC website and look at the relevant experience of the General Partners and hold them against the two criteria described above. The outcome will not surprise their performance.

A product manager at the GAP, a financial analyst in Hong Kong, a VP of Marketing in a large hardware company, a CEO at an IT consulting company, a large-cap consultant at Bain - all combined with impressive ivy league education makes for nice resumes in a PPM, but delivers no relevant credentials to lead the early stage innovation that our country depends on.

My advice

Limited Partners should stop doing business with people who have never crossed the chasm and never operated as the CEO of an early stage companies having successfully managed its ecosystem. And entrepreneurs should thoroughly review the relevant operating experience of its prospective board member, before they take their money.

If we do not pay attention to these things, the technology sector is poised to become the next auto-industry: a business we invented but lose in the end. The time for change is now, if we want the technology sector to be in a better position in five years from now.

Tags: PPM, Limited Partners, VC, Entrepreneurs, Eco-systems

By Georges van Hoegaerden

It baffles me how the representatives in Congress keep listening to, and some media stay enthralled with the self-serving circumstantial excuses of Venture Capitalists (VCs) that also still manages to keep some Limited Partners (LPs, their bosses) tuned in. I predicted five years ago, with my declaration of sub-prime VC that Venture Capital was at the brink of disaster, so what is the hot news now?

VCs continue to demonstrate their lack of foresight as they only now, when the statistics of their performance are rolling in, seem able to "predict" their demise with remarkable accuracy. And that while foresight should be one of the most important traits of early stage investors. They still do not understand that an underperforming artificial market leads to one of two outcomes: cannibalization or replacement.

The VC benchmark

News to me is that one of Silicon Valley's most renowned VC funds; Benchmark Capital is rumored to be the first and only VC firm scrambling to produce at least a 1x return on all of its funds. Is such best-of-the-worst really a crowning achievement to be proud of and listened to? Such top-quartile performance is not going to save the reputation of venture sector (even if it does Benchmark's), which relies on the deployment high risk to promise high rewards.

Let me juxtapose why VC should have performed much better than any other time in history:

• Technology has moved from hardware, to software, to software services with immediate market recognition and impact, allowing for simple business models and reduced risk with regard to customer adoption.
• The Internet with its ever increasing penetration provides a boundless addressable market for technology that a successful proposition can tap into at almost no additional expense.
• Until this year (thankfully LPs are now waking up) there have been truckloads of support from Limited Partners to the Venture sector, allowing VCs to pick their preferred fund size and implement their ideal diversification strategy.
• We produce more highly skilled local students and have access to a much larger petri-dish of (global) entrepreneurs than every before, that should account for a much larger supply of disruptive ideas and development resources.
• The penetration of applications to vertical markets (healthcare, oil and gas, real estate, etc.) remains pretty much untapped, leaving low hanging fruit investment opportunities unserved.
• The deployment of macro-economic principles with the application of technology to drive more efficient marketplaces remains untapped, leaving winner-takes-all investment opportunities unserved.

So no, I do not buy into the excuses from the current VCs who point to irrelevant market indices or anything else they can hang their hat on to justify why they should be allowed to deploy a fundamentally flawed risk profile for another 10 years.

The Venture business should continue to outperform other asset classes by a long shot, by virtue of

• its long-term commitments from LPs, and
• its never ending (long-tail) supply of entrepreneurs, and
• its resistance to economic aberrations (as monetization of disruptive monetization happens typically at the end of the funding runway)

And VCs who do not, should be ashamed of themselves and be pushed out of the business. LPs should no longer accept anything but bottom-line results, regardless of the state of the economy. Playing with someone else's money requires merit, just as much merit as we demand from entrepreneurs to help their companies grow. It is time we hold VC to higher standards and make them accountable.

Free this marketplace

VCs spin their rhetoric and mask that for too long they have deployed not Venture Capital but micro-PE (Private Equity) to innovation, a fundamentally flawed risk/reward investment thesis applied to the early stage sector. And they continue to do so under the cover of darkness (to the marketplace participants).

No improvement in the economy, except for the implementation of free-market principles (see "How to fix VC once and for all") will change the outcome of the Venture Capital sector.

Congress and government should worry less about the symptoms of its considerable systemic risk and stop applying useless post-mortem regulatory checks to the Security and Exchange Commission (SEC), but instead deploy macro-economic principles so the "disease" will not continue to percolate and the marketplace of innovation will self-regulate based on transparency and merit.

It is time to demand from VC not relative, but absolute performance. And stop listening to those who are going to be cannibalized or replaced. All the ingredients for an efficient marketplace for innovation are here, and with newly established free-market principles at its foundation we can finally let the real cooks emerge.

Tags: Macro-economics, VC, Private Equity, Congress, Marketplace, Innovation, Limited Partners

By Georges van Hoegaerden

The currently running TV show The Shark Tank on ABC produced by Mark Burnett is an amuzing, dare I say reality show in which five investors confront entrepreneurs with direct investment decisions into fledgling startup companies.

What the investors on the Shark Tank have in common with Silicon Valley is that their seed funding rounds range from $50,000 to $1M, yet often in more than pure technology plays.

While the title of the show sounds harsh, and some of its investors are, its actual workings is much better and more sincere than that of Silicon Valley:

Investors with relevant operating experience

Kevin O'Leary, Barbara Corcoran, Robert Herjavec, Daymond John and least impressive Kevin Harrington have earned their stripes in running very successful businesses with exits to boot. They demonstrate their knowledge and experience in making impromptu investment decisions and their ability to deliver their value-add to entrepreneur. So unlike Silicon Valley.

Transparency of decision making

Not only is the investment decision occurring almost immediately (or declined at the same pace), the reasoning of such decisions is happening right in front of the entrepreneur. The entrepreneur is able to respond, interject and argue a refusal to invest if he believes the arguments are invalid, and worth rebutting. Transparancy of decision making allows for a better alignment between entrepreneur and investor. So unlike Silicon Valley.

Open competition between investors

Once the interest in a startup has been established, the key investors Kevin, Barbara and Robert publicly fight over the deal like lions devouring a kill. Kevin cannot help but expose his unruly personality and because of it never gets his way, which reminds me of many Sand Hill Road investors. Robert is the more level headed investor who keeps his cool and his smarts at every turn, and Barbara perhaps the shrewdest of them all, waits silently until the boys have finished argueing and often walks away with the grand prize. All while the entrepreneur enjoys a steady increase in valuations and moneys invested. So unlike Silicon Valley.

There are many aspects of the show that are compelling and an interesting watch for entrepreneurs. The Shark Tank demonstrates why Silicon Valley needs the transparancy, that leads to a meritocracy that leads to the discovery of truly disruptive innovation (as described in "How to fix VC once and for all"). The show also points out how badly Venture Capital treats entrepreneurs and how it has stooped below the tactics of the Sharks in Nature's pyramid of investing.

Bottom feeding comes to mind.

Tags: Meritocracy, VC, Entrepreneurs, Silicon Valley, Transparency

By Georges van Hoegaerden

I have had several discussions and e-mail conversations with entrepreneurs, journalists and venture capitalists (VC) about the free-market principles described in my blog "How to fix VC once and for all". In that blog I propose to apply free-market principles to the marketplace of innovation, in connecting the assets of the Limited Partner (LPs): money, with the assets of the entrepreneur: ideas.

What struck me most is how few people are familiar with those macro-economic principles that beyond consumer benefits have a significant impact on how an entrepreneur goes to market and how VCs fund them.

VC feedback

Especially eerie, short and dismissive was the interaction with one of the most well-known VC czars of Silicon Valley, who publicly proclaims to be a proponent of free-markets (that is exactly why I contacted him) yet does not seem to understand their basic premise. He brushed off my marketplace-for-innovation plan as just more creeping Socialism.

I am of course the fool, for telling the old-boys club to now support a meritocracy, and dump the walled gardens that made it fat-and-happy in the first place.

I knew that switching to free-markets will unleash the protectionist stance in many VCs. But what worries me more is that the opinions and decisions made by this General Partner (GP) impact startups whose successes are predicated on a firm understanding of macro-economics. His responses mean that this GP would simply brush off platform investments that embody free-market principles (eBay and the Apple AppStore for example) as socialistic movements. History proves that is not a good idea.

And that dear reader, is what the rest of the world (and the majority of Silicon Valley) looks up to. We blindly copy methodologies that no longer work in the hopes that 20-years of underperforming past behavior is not indicative of future behavior. It is all someone else's fault.

Start praying.

Debunking free-market myths

But where there is smoke there is fire (aptly considering the many other fires in California) and it is important for the marketplace participants, LPs (money) and entrepreneurs (ideas) who bring real assets to the table, to get a good understanding of free-market benefits. So, let me debunk some free-market myths:

Myth #1: free-markets are socialistic movements

A free-market is a self-regulatory instrument that ensures that a true meritocracy prevails, destroying artificial walled gardens such as geography, demography, old-boy status, first-mover advantage etc. A free-market ensures that the quality of the authentic value-add by each participant is evaluated based on its independent merit. A free-market therefor is the ultimate in capitalism, those who build earnest value will prevail.

Myth #2: free-markets require a lot of governance

More and different regulation than none, for sure. But the regulation will not come from government but from the marketplace participants (see my blog "Why innovation needs regulation"). When transparancy to all participants (a requirement of free-markets) is implemented, all participants benefit from the exposure and individual merit becomes the governor.

Myth #3: free-market transparency is unwanted

Transparency promotes competition, and competition based on merit is good for LPs, VCs and entrepreneurs. Merit yields better value to the detection of outlyers who lay at the foundation of disruptive innovation. LPs will benefit because in the formation of new funds, they can proactively bid to get in on a VC fund they previously only had access to when approached. New LPs can enter the fray and compete at an equal level. Small LPs can bid alongside large LPs. Entrepreneurs gain precious time in dealing with VC that have proven merit, and achieve more attractive valuations and secure better runway support - reducing the infant death syndrome as a result of investor lock-ins. VCs who are comfortable that money is not the only value they offer should feel confident their role is secured by the merit of their value-add.

But even if you are not convinced that the current VC performance is a systemic risk, a move to a free-market mechanism that (if nothing else) offers the transparency to all participants, is the fastest way to prove the other side of the argument wrong.

My hope is that we, in the venture business, establish these free-market principles voluntarily and without intervention from the government. But the feedback to my query as witnessed by the protectionist answers from VCs does not hold a lot of promise.

With a systemic risk of $2.9 trillion of innovation-spin-out revenues quickly deflating, we face a similar overruling by the government as healthcare, where rather than a voluntary free-market, a free-market with arbitrage from the government will be forced upon us.

Take your pick.

Tags: Meritocracy, Marketplace, Silicon Valley, Innovation, VC, Entrepreneurs, Limited Partners

By Georges van Hoegaerden

The venture business needs an overhaul, and below is my low-burden / high-impact plan for change.

Problem

Venture Capital (VC) is a systemic risk to our innovative culture, to $200B in direct asset allocations and to $2.9 trillion in spawned revenues (since 1970, per IHS Global Insight report). Yet VC has produced less than 10% IRR for the last ten years promoting a fear/flight response by Limited Partners (LPs), on the verge of pulling their money out of the sector and investing it elsewhere.

Top technology and investment experts, like Larry Ellison, Vinod Khosla, Greg Lamond and many other illuminaries now subscribe to the mediocrity of the current state of venture, with Mike Moritz (GP Sequioa) stating venture has been underperforming for 20 years. I agree.

Direct and circumstantial evidence suggests that the venture business needs a major overhaul, to ensure that the assets of the Limited Partners (money) are effectively lined up with the unwavering assets of the entrepreneur (innovation). Just because the intermediary "dating" service (VC) is broken does not mean we should lead to conclude supply (LP) and demand (entrepreneur) side participants are.

LPs are still looking to deploy high-risk/high-yield commitments and entrepreneurs are still coming up with highly disruptive ideas. The economic marketplace where those transactions occur is simply structurally ineffective.

Opportunity

Technology venture should be producing premium returns because of:

• Its infancy, 5/6 of the worlds population is not connected via broadband, exposing a massive greenfield of new unexplored market opportunities.
• Relatively (compared to other sectors) low cost of production, software applications and services require no physical manufacturing.
• Low cost of distribution, the internet distribution is effective and low cost (as long as the product is good enough).
• Immediacy of customer fulfillment, the impact of internet applications is instant.
• Independent ownership of the complete value-chain from idea-to-customer means the risk to success is highly predictable.

I cannot think of a better asset class or sector where the development of an idea can lead so quickly to immediate and widespread customer impact. Unlike biotech or greentech, the attributes of technology venture are such that they will produce returns compatible with the 5-10 year lifecycle of those funds. That is if the market intermediary makes the right choices, guided by relevant experience.

Solution

We can all argue until we are blue in the face as to what is a great venture investment strategy, and I certainly have my opinions. But none of that matters. What matters is to create success for those that put assets to work, financial success to the LP and entrepreneurial success to the inventor. What matters is merit not rethoric.

Venture investing needs to move from an artificially restricted market to a free-market in which the transparency of, and to all participants identifies and perpetuates the ever changing meritocracy of innovation.

That means all participants need to adopt free-market principles so that the merit of their work, not an artificially privileged status distinquishes them from others. Such is the necessary, sustainable and thriving foundation for innovation and capitalism.

No one will be able to hide, and the marketplace as a whole will automatically give preference to those participants and their transactions that build real success. Only capitalism based on merit is sustainable long-term.



Above is a simplified chart that depicts the venture marketplace. For those unfamiliar: LPs invest in VC funds who, by virtue of a lead GP invests in the startup of an entrepreneur. LPs set aside a predetermined commitment to the VC fund and GPs make capital calls when required by their investments into startups. GPs allocate a certain runway for startups and at funding time stage their investment in investment rounds to mitigate risk. At M&A or IPO cash is returned to the VC in exchange for the equity position and VC returns a part of those funds (minus management fees and other reserves) back to the LPs.

Transparency leads to meritocracy

To enable a meritocracy the marketplace needs to enforce full transparency to all of its participants. At the transaction level by GP, not by VC firm. More important than to feed the Security and Exchange Commission (SEC), the marketplace itself (not a government agency) will then govern its own success:

1. LPs need to disclose their commitments, how much is drawn, when, running returns and include the fund maturation date
2. GPs need to disclose which companies they invest in, how much and at what valuation
3. Entrepreneurs need to disclose what exit returns they produce

I realize that type of transparency will get VCs all riled up, they recently testified to congress as such. As protectionists of their current walled-gardens they fear that such disclosure would challenge their competitive stance. Exactly, and that is what we want.

Because today the cartel VCs have formed around their collective wisdom, outdated execution and dismal returns prevent really smart entrepreneurs from participating in venture transactions to begin with. If VCs believe so firmly in the proprietary value-add of their services to the investment process, why would they be afraid to disclose everything but their secret sauce. Investment dollars into a company can be derived from other sources, but is very cumbersome if not impossible to retrofit to the exact origination and source in the marketplace model.

LPs would have less of a problem disclosing such information and many, like pension funds, already do. But they will need to firm up that reporting to the standards of the marketplace, not an incomplete disclosure that does not match up with that of its peers.

Not public is not private

Economically and to minimize abuse, all companies should be transparent to some extent, including private companies at least to meet the above described marketplace requirements.

Not all transparency is created equal, in a marketplace the transparency needs to be provided to all participants; LPs, VCs and entrepreneurs in the same fashion. Not just in case of suspected abuse and post-mortem to the SEC, since that kind of transparency does little to promote marketplace merit.

In the same way banks are supposed to report certain transactions above $5,000 should we disclose the investments in private companies above a certain threshold. In other places outside the U.S. (such as Europe) private companies already need to abide to certain disclosures, paving the way for meritocracy.

Entrepreneurs are often proud to disclose how much money their idea generated were it not for acquirers, who afraid of competition often press for non-disclosure. Yet those numbers will now come out of the new marketplace, and competition as a vital ingredient for exits is re-established as well.

Once we have the fundamental transparency of the marketplace in place, the following benefits will surface almost immediately (especially when we apply this transparency retroactively):

• We will know which VC actually has money to deploy, and entrepreneurs will not be wasting precious cycles
• We will know which VC actually has a reputation of building successful companies
• We will know which GP actually has earned the reputation to sit on a board
• We will know which GP actually has the foresight and credentials to invest in upside rather than downside
• We will know the merit of GP vision, specialties and domain experience
• The meritocracy of investments will support the long-tail of ideas rather than regurgitate its commodization

The merit of all participants will be disclosed, by virtue of their investment in success.

Low burden change, immediate impact

The goal of this plan is to serve the risk/reward needs of LPs and connect that with highly disruptive innovation from great entrepreneurs. No drastic changes need to be made to the current investment model. No drastic change in the investment pace needs to take place until the meritocracy demonstrates otherwise.

Transparency to all participants will act as the dynamic referee in an ever changing venture business. Compared to the past, merit will now closely follow and support the change of innovation, rather than remain stale and outdated. And the meritocracy of the marketplace will also determine whether or not the venture business is too large, too small, or just right. But it would be highly inaccurate and irresponsible to make those decisions based on the workings of the venture business today.

How you can help

I am already working with individual LPs to familiarize them with the specific rollout of this plan, and I invite others to participate (contact us here). I also extend a hand to VCs, some of whom have responded, to become be part of the solution. I would like nothing more for us, as participants to the venture business to solve our own problems, without the need for government intervention.

The venture business is too important to our economy (for the reasons mentioned above) and we owe it to the entrepreneurs (across the world) to build a financial system that supports the merits of their intellectual brainpower.

Join me in this effort and feel free to spread the word, syndicate this blog (with proper attribution and link-back) and retweet. Let's make positive change happen.

Tags: Meritocracy, Macro-economics, Government, Marketplace, VC, Limited Partners, Entrepreneurs, Transparency

By Georges van Hoegaerden

One of the most important traits of a great person, great CEO and great investor is the unrelenting pursuit of the truth and a firm ignorance for anything else. The truth in a world that is full of smoke and mirrors, stemming from an unconnected era in which the creation of heaps of walled gardens would go unnoticed to unsuspecting participants.

Even though we don't like to admit it, we as grownups still play the telephone game frequently, in which a chain of derivatives regularly degrades the truth.

But those days are slowly coming to an end, as the internet with the free-market principles it aims to deploy, and social networking as its unforgiving arbitor is steadily eroding misplaced authenticity and trust (see Trust is the currency of success).

Most people reading this blog will think of derivatives as a financial instrument first, but our world is chockfull of others that invade our lives from every corner. The dictionary definition holds a clue:

• adjective : imitative of the work of another person, and usually disapproved of for that reason
• noun: something that is based on another source, an arrangement or instrument (such as a future, option, or warrant) whose value derives from and is dependent on the value of an underlying asset

Sound decision-making comes from a clear understanding of the difference between fact and derivative. Below are examples of everyday derivatives and the impact they have on their surroundings. Some may be shocking, but I promise will yield incredible new focus and progress if simply ignored.

Markets

Markets don't exist, we covered a whole blog about it. Read it please. Customers do not buy products because they associate or belong to a derivative descriptor of a market. They buy because the marketplace (a mechanism to buy) offers the best opportunity to serve their (often complex) individual needs. So, go ahead and thrown away your industry and market segmentation or market-share leapfrog strategies. They are worthless.

Venture Capitalists

In the investment equation between the assets of a Limited Partner (money) and the assets of the entrepreneur (idea), venture capital is merely a dating service (with no assets to speak of) that establishes the transaction of the marketplace, a financing round. While Venture Capital (VC) behaves as if it is the originator of assets and the creator of value, LPs are actually the ones that deploy the commitments to the creation of value by the entrepreneur. Contrary to their testimony to congress, VCs did not create millions of jobs, LPs did by deploying their monetary assets. While VCs force entrepreneurs to buy into their (steadily commoditizing) investment wisdom, more than 90% of those wisdoms do not pan out. An entrepreneur is better off to ignore VC advice altogether and pursue the creation of real value to its customers. Fundraising is a lot easier that way.

Psychologists

Many people seek solace in the interaction with a psychologist to solve relationship problems or otherwise. While an outside perspective may be liberating at times, a sustainable solution based on a derivative opinion is highly unlikely. Spend more time with the people you have relationship problems with, than your psychologist. Because the stories you tell him are themselves derivatives.

TV Journalists

CNN today is a prime example of a network that has gone from reporting the news (expensive) to regurgitating the news with hordes of consultants (inexpensive), delivering derivatives of the news rather than the news itself. CNN has moved from a real new source to a commodity entertainment channel, eroding and consistently being beaten at its home turf. Ignore the regurgitation by derivatives and you'll save precious time of your day.

The Stock Market

The stock market is an exchange but not a marketplace in the free-market definition of it. As if the performance, long and short, of a company can be derived from something as simple as price-to-earnings ratios. Public CEOs know how to dance the dance, market to those numbers and become short term focused to meet Wall Street expectations. Yet long term and macro-economic differentiation that requires investments (expense) is arguably more important than meeting the quarterly drill of meaningless earnings reports. The performance of stock is a derivative of the short-sellers view of the performance of the company, and by definition inaccurate. And so are the investment decisions derived from them.

Money

The dollar is not worth the paper it is written on. It merely communicates the value of trust attached to that piece of paper. And even though that money can buy you great things, it matters whether it is acquired from a foundation of trust. Cash is not king, trust is. Easy money has a way of punishing its acquirers in un-expecting and fleeting ways, hard earned money amplifies itself consistently. So, money is a derivative of trust, and someone with a lot should not automatically be confused with authenticity and trustworthiness. Earn money the hard way and you'll be rewarded for life. Money can be a derivative of trust, but with financial derivatives eleven times the size of production should not be confused with trust itself.

There are many more derivatives I can talk about. But the purpose of this blog is to make you think. Hopefully the next time you spend time with someone, you will ask yourself the following question: is that person claiming to be the authority of derivatives or the authority of truth. The answer will define your success.

Tags: Commodity, Free-market, StockMarket, CEO, VC, Limited Partners, CNN

By Georges van Hoegaerden

I could not help but chuckle (again) when Oracle's 30-year-running CEO, Larry Ellison (full disclosure) fiercely yelled out the words from the title of this blog, referring to the artificial arbitration of innovation applied by Venture Capitalists (VCs) we talk about in this blog so often.

Sand Hill Road, for those unfamiliar is the street in Menlo Park, California where the majority of Silicon Valley VC enjoy some of the most expensive office rent in the country and invite their often starving entrepreneurs to "beg" for money. The area is considered the birthplace of Venture Capital.

Larry goes on to say that Venture Capitalists think that innovation is like coming up with a new technology buzzword, expressing his specific dismay with the term cloud computing (watch the Churchill Club interview on YouTube, skip to 47:53 min if you don't like boating).

The reason why I bring that up is four-fold:

1. Entrepreneurs are subject to this artificial arbitration (that is applied with the seasonality and commonality of fashion) as the primary method to get their high growth company funded. Entrepreneurs think that "wisdom" leads to success, yet deplorable VC returns prove otherwise.
2. Limited Partners (LPs) seem to respond commensurate with their limited allocation in venture (usually less than 15% of total allocation) and their natural inclination is to rest with the excuses (we debunked) from VCs, who never fail to reiterate that cyclical behavior of the financial markets and the economy are to blame for the deplorable returns in venture.
3. VCs are downplaying the systemic risk of this artificial arbitration (applied by the venture investor cartel) to our government, stating that $200B of venture investments pose less systemic risk than other asset classes, while completely ignoring that their behavior kills the meritocracy and innovative culture our country was founded upon.
4. Other VCs in the country (and around the world) copy the tactics of Silicon Valley investors, with similar results awaiting them.

But feel free not take my word for it. Agreeing with Larry Ellison, Mike Moritz, one of Silicon Valley's most lauded VCs was recently heard saying the Venture Capital business has been broken for twenty years. So do similarly successful venture peers Vinod Khosla and Greg Lamond, who believe - like we do - that when the risk is sucked out of investing, one should not expect great returns.

Still not listening? Stanford, Yale, Harvard and Princeton universities all appear to be suffering from significant losses to their endowment as a result of investments in "alternative" assets, which includes venture capital. To combat, according to PE Hub, Stanford has just raised a $1 billion in a bond offering last April in case of a “true emergency".

By the way: with those Ivy League universities having bred the most renowned economists and professors in entrepreneurship does anyone question whether their expertise is worth the tuition? Are the experts really what they claim?

How much exactly of that depressing news can be contributed to the performance of Venture Capital is not clear to me today (Hedge funds and Private Equity are the most common other assets) yet reports from both CalPERS and CalSTRS pension funds suggest a lackluster contribution of VC across the venture spectrum.

Deaf? Many of my peers in executive positions at Apple, Cisco, Oracle, HP, eBay refuse to enter the venture fray in which the equilibrium of entrepreneur and investor is completely out of whack. The cyclical nature of the downward sub-prime spiral continues to rear its ugly head. The only entrepreneurs that submit to sub-prime investments today are as sub-prime as their investors, incapable of building great fund performance.

The alarm bells are ringing. Limited Partners need to wake up, simply because of the loud reverberation of a vast preponderance of circumstantial evidence. It is time for LPs to listen, not to popular opinion from the people who got them in this financial debacle in the first place, but to people who offer ideas that simply serve entrepreneurs better. The time for change is now.

Passively waiting for consensus on data driven views is guaranteed to lead us to what Larry referred to as an L-shape recovery in the venture business.

Tags: Oracle, VC, Silicon Valley, Innovation, Limited Partners, Subprime

By Georges van Hoegaerden

I decided to do a little deep dive after I reviewed the CalPERS alternative assets performance posted by PEHub's Dan Primack, to help entrepreneurs get a better understanding of who they may be talking to when raising their next round of funding. While in the relationship between entrepreneur and VC the utmost transparency of the entrepreneur is demanded, VCs often bask in the glory of darkness.



For those who do not know, CalPERS is one of the largest state pension funds in the United States with a large alternative asset allocation (north of $53B over the last twenty years), the majority of it dedicated to venture investing, both directly into VC funds and indirectly through fund-of-funds.

Why half transparent is in-transparent

The CalPERS performance report may comply to the government's mandate for transparency, but still lacks the full transparency needed to understand whether or not CalPERS is making real money in the venture sector.

Here is why the numbers cannot be used to represent CalPERS performance:

• Size of commitments may be larger due to exclusion of terminated relationships (no reason specified)
• Actual yield may be inaccurate due to lack of standardized VC performance metrics
• Actual yield may be inaccurate due to J-Curve and varying fund vintages
• Actual yield may be inaccurate due to difference between commitments, cash-in and cash deployed
• Actual yield may be inaccurate due to varying definition and timing of remaining value per fund
• Actual yield may be inaccurate due to the exclusion of terminated commitments

What we can surmize is that the total size of commitments to the alternative assets as of March 31st, 2009 is at least the size depicted in the chart, and the yield percentage in my chart is a simple calculation based on the actual amount of cash put into the VC fund (unbiased by the remainder of commitments from CalPERS to the fund). Only the most "meaningful" returns, the returns from pre-2005 vintages have been included in this analysis.

So, while we cannot discern from the report how CalPERS is managing the alternative assets, we can get an overview of how CalPERS evaluates the performance of the commitments it has on the books.

Individual VC performance(*)

The simplest way to evaluate any financial performance is to calculate the difference of money-in versus money-out. We then calculate a yield as the difference between money-out and money-in as a percentage of money-in.

A positive yield means the fund is on track to return all of the money it has drawn, plus that percentage above zero. A negative yield means the fund is losing that percentage of the money drawn (yet depending on vintage it may still have enough capital commitment or return value left to recover from those losses).

The point I am making here is simple, just like VCs want entrepreneurs to explain their ups and downs in their career, it make sense that based on the reporting provided by CalPERS, entrepreneurs start asking questions about the ups and downs of VC as well. Bad money is rampant in the venture business and knowing who sits across the table is pertinent to the chances of success for an entrepreneur.

Furthermore, funds that remain under 10 or even 20% at the end of their vintage are subject to increased scrutinity by Limited Partners (LPs) as they do not outperform the other asset classes LPs can deploy money to. LPs do not need to take risk that is out of sync with the rewards or worse, they do not need to deploy money at all in certain cases. Apart from performance, entrepreneurs should also be aware of the fund vintage a VC General Partner is investing out of, to ensure an exit is not solely driven by the unilateral urge to produce desperate VC returns.

Entrepreneur, consider yourself informed:
































(*) Performance numbers listed here are subject to change, depending on fund type, vintage and many other cash-flow reporting factors.

Tags: Performance, VC

By Georges van Hoegaerden

Everytime I see the quarterly reports from Fenwick & West on Silicon Valley valuations I cringe. Not because the report is wrong, but because I know how entrepreneurs and Venture Capitalists (VC) use the valuation medians (that have gone down again) in the report to establish their starting, or worse their ending negotiation positions. And they are both so wrong.

First off, valuations are never to be discussed by entrepreneurs before an alignment of the grand vision with the VC is established. Whether or not the VC is the right partner has everything to do with a shared vision of the upside potential of the company, at the outset excluding the potential of the newfound company's ability to execute on that promise.

No precedent

In many ways VCs discussing their allegiance to Silicon Valley medians is a testament of what a cookie-cutter business early-stage venture investing has become. Great investments (in truly disruptive innovations) have no precedents and neither do their valuations. Compliance to median valuations is an early detection of a sub-prime investor juggling with an equally sub-prime and subordinate entrepreneur.

Don't step up

Years of sub-prime investing (that has yielded equally sub-prime Limited Partner returns), by inexperienced technology investors have dumbed down the investment thesis to incremental rather than disruptive innovations. That is perhaps the biggest problem venture-investing faces today. The "step-up" approach to investing yields insufficient exit values and allows technology prospects (and acquirers) in less attractive economic circumstances (personal, local or global) to wait until the dust settles and delay their buying decisions for the next step of that incremental development.

As Ray Lane, former COO of Oracle and now partner at VC fund KPCB in remarkable honesty once declared: "[Oracle] customers would have been better of skipping client/server altogether" describing posthumously the problem of "step-up" innovations best.

Step-up innovations are highly unlikely to generate the $300M+ exits needed to build a decent VC fund return and leaves the VC after the "honeymoon" with a majority stake in the company, unwilling to wait for further miracles and because of the urge to produce cumulative vintage-fund-returns for LPs, to sell out at any price. Many subprime VCs hope that the sum of all tiny subprime returns still yields something of value, rather than chase the best outcome for each portfolio company independently. With a lack of exits (of their own making) those same VCs now use cumulative portfolio company revenue reporting to demonstrate to LPs that they are building value, and deserve another chance when "exit-markets" miracularly recover. Cumulative portfolio revenues is a poor man's defense of venture capital.

Think big, or go home

So, the first step to setting a great valuation for an entrepreneur is to ensure the idea is truly disruptive. Disruptive not from a relative perspective (compared to existing competitors) but an absolute perspective. Absolute disruption does not care about competitors, because there are none.

Absolute innovation relies on a greenfield of 5/6th of the worlds population that is not (efficiently) served with technology products today, but should. Low hanging fruit is the application of technology where a need is already defined, just not with the implementation of technology. Many ideas come to mind and marketplaces are fundamental, and I would love to hear about your ideas.

The unfortunate aspect of today's early-stage venture investment climate is that investors who recognize disruptive innovation are hard to find, not in the least because few fund structures are designed to chase them.

Glass half-empty valuations

Many venture investors (I should know, I lived in Palo Alto amongst them for 15 years) cannot detect innovation until they spot it in their rearview mirrors. Replicas or step-ups of a handful of sector investment success still creates an ocean of delayed me-too investments with mediocre exits, steadily decreasing the confidence in venture investing as a high yield asset sector for Limited Partners.

Smaller funds, lower valuations and risk averse investments have led to VCs and their syndicates huddling together in what I would classify as an informal investor cartel. An investment cartel that uses (the inappropriate) technology segmentation as an artificial standard for the lowest valution they can get away with. Hence the reason why entrepreneurs should not expect or shop around for higher valuations; you will be snitched on.

I refer to those investments as downside valuations, since they are based on the average choices and (lackluster) performance of past investments by all investors, not the unique marriage between the individual investor and entrepreneur. It is also a downside valuation because it is based on the lowest cost-to-entry, rather than geared towards the highest chance of success.

Downside valuations are easy to spot. Regardless of the problem the entrepreneur aims to solve, his company value is improperly correlated to the underlying technology architecture or technology categorization.

Glass half-full valuations

Truly disruptive innovation however, is priceless. If as an investor I believe an entrepreneurial idea can feasibly claim access to a monolithic $1B+ revenue opportunity, the difference between putting $10M, $20M or $50M in the runway and therefor the valuation is somewhat irrelevant (assuming the fund is big enough). The confidence required from both entrepreneur and VC comes from the words of Albert Einstein: "Imagination is more important than knowledge." Imagination, just like in Einstein's case, ofcourse guided by experience.

So when, and only when, the grand vision of the entrepreneur fits the imagination of the investor should further discussion take place around upside valuations. In our book not many of today's VC investments would fit the profile of disruptive innovation and so upside valuation calculations would not apply. Upside valuations differ in granularity and exact makeup for every investment opportunity but goes roughly like this:

Upside valuation = 30% of total-addressable-market divided by investment risk to get there.

Total-addressable-market is a subject I can write a book about. Most technology companies are embroiled in a short term rat-race (to feed quarterly earnings hunger to Wallstreet) and spend very little time on the wide open greenfield opportunities that take a little longer to plan. Lets take computer security software as an example.

Symantec and McAfee attempt to leapfrog each other in this space, with Symantec for now taking the top spot (primarily due to a plethora of acquisitions) from a revenue perspective. Yet by our latest estimate more than 40 spam and virus vendors exists, and on top of that, the majority of computer users do not use any security software at all. So the pursuit of delivering a truly effective product in a highly inefficient market makes a ton of sense, even though most investors would qualify the security market as saturated. Clearly it is not.

There are many examples of ineffectively served segments, many which current investors are unable to attract, by virtue of their structure, lack of relevant experience and operating credentials. The definition of investment risk in the aformentioned equation is multi faceted. Investment risk consists of the following broad stroke categories, in no particular order:

• Inroads
• Patents
• Management team
• Runway required
• Business roadmap
• Business model
• Dependencies
• Timing
• Flex power
• Customer experience
• Product evolution

Without going into detail about each category (beyond the scope of this blog), the report card on those issues determines the amount of discount applied to the total-addressable-market. It simply discounts the probability of reaching market leadership (losely defined as 30% ownership), by the proprietary risk assessment of the investor.

Counter to the glass-half-empty valuations, the glass-half-full valuation method does not challenge the absolute value of the idea, it merely discounts the value with the work that needs to be done to build a real business out of it. In many cases, again assuming the idea is truly innovative, even an aggressively applied discount does not lead to a majority stake in the portfolio company, as it shouldn't.

In a modern world a great marriage means you do not own your wife, just like in a great investment you do not own the business. Neither of them work very well when exorbitant pressure is applied.

Upside valuations are applied to take calculated risk, the risk that makes Venture Capital as an asset class segment so different yet so much more rewarding than traditional Private Equity. Disruptive innovation is priceless and nowadays may consist of many other attributes that just a piece of code. Yet to achieve upside valuations entrepreneurs need to prove that the value of their idea is not the technology itself but the application of technology to a marketplace.

Ask, never give a valuation first

When an investor likes an entrepreneurial proposition they will invariably ask for a valuation, unless the pitch did not strike a chord. Under no circumstances should an entrepreneur mention a valuation first, as this is the entrepreneur's most powerful instrument to verify the authentic alignment with the assets, skills and imagination of the investor. Money talks.

Asking the investor for a valuation is like asking a customer to buy, crucial to the closing process. If the investor's valuation is out of sync (most commonly negatively) with the realistic, yet unspoken expectation from the entrepreneur it is time to walk away. The alignment on valuation speaks volumes about the entrepreneur's future and the equilibrium of entrepreneur and investor on a deal moving forward. It means that just like in marriage both parties are in it for the right reasons.

So, an investor who does not want to talk about the value of the upside is an investor from which you should expect nothing but a downside valuation, similar to the many others in his portfolio. Entrepreneurs should avoid getting stung by sub-prime VC at any cost (including shelving the idea for better times), because money from the wrong investor is a dead-end street anyway.

Valuations are fantastic instruments to gauge (from the beginning) if the entrepreneur and investor are meant for each other. The outcome should be like the innovation; priceless or else both parties are just wasting their time.

Tags: Security, Valuation, Innovation, VC, Markets, Entrepreneurs, Limited Partners, Oracle

By Georges van Hoegaerden

A ban on advertisement of healthcare drugs on national television in The Netherlands. Free public phone calls in Singapore, just a one-time 10 cent connection charge. Mandatory health inspections in restaurants in North Carolina, with regularly updated door-posted scorings. Those are great examples of how government regulations provides better quality of life to its citizens.

But in the United States we generally balk at any form of government regulation as if it is poised to erode the freedom we set out to create. It makes for good press to publicly support a free world and anarchy rather than the opposite. Being a freedom fighter is good karma.

Regulation is not an option, but a requirement

But regardless of government involvement our world is riddled with self imposed regulations. We stop when pedestrians cross the road (regardless of whether they should), and show more respect to elderly than we are often given. We raise kids as best as we know how, and send them to the best schools we can afford. Most of us are decent people who respectfully comply to our individual interpretation of the definition of decency; a set of self-imposed regulations.

Regulations, self-imposed or governed, are the foundation of free-market principles (see our extensive coverage on free-market principles in our blog entry Marketplace Rules). And free-markets only function well when they stimulate or enforce behavior that builds transparency and trust, pulling in new participants and thereby allowing the marketplace to grow itself.

Everything in life is a marketplace (in the macro-economic sense of the word). And we have the option to growth those marketplaces based on a meritocracy, or create excessive walled gardens that, when the impact on our economy becomes too big, risks the enforcement of regulations by our government.

Innovation is a marketplace

In large part early-stage innovation in The United States is fueled by the investment dollars from Limited Partners (LPs), allocating their money to invest in the ideas of the entrepreneurs, using Venture Capitalist (VC) as their conduit and decision maker. In the marketplace of innovation the LP and the entrepreneur represent supply and demand with the VC acting as the arbitrator of the marketplace.

The preponderance of evidence makes for a lousy marketplace in which the VC acts as the Emperor with no clothes:

• Less than 10% IRR of the venture sector in the last ten years
• Few truly disruptive innovations are born
• The number of entrepreneurs are declining (according to Kauffman, see attached chart)
• The number of LPs and investment dollars are declining

The VC as the systemic risk to innovation

It is ironic that so many VCs who are vehemently against government regulation (and put their efforts at attempting to stave it off) actually are themselves the ones that aggressively use arbitration to regulate (with their peers) the restrictions that are put upon the entrepreneurs. They collectively set standards on deal intake, technology focus, valuations, syndications, geographical proximity etc., and allow for very little deviation that is inherent to a marketplace meritocracy.

Simply put, VCs are the ones that violate many of the free-marketplace rules (stay tuned for a detailed deep-dive) and prevent the innovation marketplace from prospering, thereby inhibiting the creation of disruptive innovation.

Why we need new regulations

Frankly, we messed up and we should be ashamed of ourselves.

Innovation is a crucial ingredient to our economy, as explained in my previous blog entry The Systemic Risk of Venture Capital. We need to remain at the forefront of innovation for our immediate benefit and how we set an example for (not arbitrate) the rest of the world. Innovation has a big impact on GDP growth and spirit.

We, marketplace participants and government should do our part in fixing the innovation marketplace that is so sorely broken. Our government should force VCs to exhibit transparency (one aspect of marketplace rules). LPs should do a better job of hiring VCs with relevant early-stage operating experience to create more trust. The integrity of the new marketplace we create together will improve the integrity and quality of entrepreneurs it attracts.

We are responsible

The point I am making is that every marketplace requires pretty much the same amount of rules and regulations to instill transparency and trust, no matter where you apply that marketplace. The owners of the marketplace, by virtue of their performance, get to decide how much of those regulations they can deploy themselves. Bad performance with big economic stakes is punished by government intervention.

So, rather than to discourage and blame the government, we as marketplace participants should instead re-install the support for free-market principles in innovation that promotes the meritocracy, spirit and entrepreneurial capacity that this country was founded upon.

Stop blaming someone else and join me in this effort for the sake of our global competitiveness.

Tags: Innovation, Macro-economics, Marketplace, Meritocracy, VC, Limited Partners, Entrepreneurs

By Georges van Hoegaerden

The biggest complaint I hear and agree with is that Venture Capitalists (VCs) just don't get it and in the words of a VP at Apple, VCs simply don't line up with the needs of entrepreneurs.

Real innovation has no precedent and leaves many VCs, with their platitudes and an army of analytics in the dark in coming up with a reliable reason to invest. I personally had a VC become teary-eyed about the prospect of having to convince the rest of his team about an investment I presented, and I subsequently got it funded elsewhere.

With monetary assets being equal, it takes a visionary or a black swan (whichever classification floats your boat) to separate the good investor from the bad. Great investors have a strong belief that finds solace in an internal compass that is fine-tuned by years of risk-taking. Risk-taking in entrepreneurship or personal life, whichever one shaped that core competency. We have many VCs with strong beliefs, but few of those beliefs are founded on relevant experience.

So, entrepreneurs (and LPs) take note of what is the most important ingredient to look for in the bios of General Partners (GPs). With few exceptions, a GP (General Partner) that has never been a CEO at a startup, responsible for developing and executing its unique ecosystem, is not a great candidate to become a VC. Neither is the GP who has never challenged him/herself personally.

Venture Capital is government

But not only are those investors hard to find, the physical makeup and workings of the current VC construct is diametrically contradicting the decision-making for groundbreaking innovation. As long as the meritocracy at the VC level of the investment pyramid that started Venture Capital is not restored, the artificial arbitration of the current aristocratic model will continue to erode high yield returns.

Here is how VC acts like government:

1/ You (still) need to be in Silicon Valley

Just like you need to be in DC to make an impact on politics, do you need to be within 20 minutes of Sand Hill Road in Menlo Park to be on the radar of investors.

2/ You need an intro to the VC

In DC you need lobbyists to get anywhere, in Silicon Valley you need to find similar lobbyists that can introduce you to the investor you want to talk to. Most GPs simply refuse to talk with entrepreneurs they have not met before. Entrepreneurs who contact VCs directly will find themselves debating the vision with an academic white swan, dramatically improving their chance to get rejected.

3/ Investment decisions require internal consensus

Politics is based on consensus. Likewise, if the entrepreneur is lucky to convince one GP of their proposition, the next monday morning meeting at the VC firm is spent on getting other GPs to agree (except if the first GP is of John Doerr stature). In essence it means a unique invention is shoved through a democratic (government) filter to be validated with chances of a majority vote rapidly approaching zero.

4/ Deal syndication requires external consensus

Many VCs don't have the balls (excusé les mots) to make independent contributions to companies and look for syndication to mitigate the risk. Just like in DC where politicians look for peers to join their charter, before they stick their necks out.

5/ Lack of accountability

VCs can hide behind the size of the portfolio to select one or two successes to brag about. Just like politicians that hide behind a party and associate themselves with many initiatives and get credit for the few that worked. Quite opposite to the devotion of an entrepreneur.

6/ Lack of transparency

To understand politics you need a graduate degree in the subject matter, to understand VC you need to be (or have been) one. Just because the type of businesses VC invests in are private, that doesn't mean VC needs to be.

7/ Far removed from its constituents

Not only physically but spiritually many politicians are far removed from their constituents when they enter into office. So are the VCs who prefer to congregate more with each other than with entrepreneurs to develop unique support for disruptive innovation. VCs are oblivious to the many "false negatives" (as described in my previous blog) they don't even get to see, just as many politicians forget that many americans don't vote at all.

8/ Fewer real innovations are born here

DC (at least before Barack) is not the place to get anything done, and Silicon Valley choking on a vast supply of sub-prime VC is not the place to get anything really disruptive done. The real world is the market, not the current VC interpretation of it.

9/ Long incubation periods

Just like in politics, once the GP secures a fund with the LP the performance of the fund is in limbo for 5-10 years. That is a more secure job than the presidency of the United States. Many GPs stack funds or jump ship before it is about to go under, picking up new management fees under a different fund and LP structure. Another 5-10 years of GP safety lies ahead.

10/ External circumstances

Just like in politics, VCs blame their underperformance on anything else but their own decision making. The state of the economy is their welcome excuse, even though startup economics are quite resilient to macro economic aberrations.

So, the point of this blog is to emphasize that in order to get VC to create high yield returns we not only need to take a close look at the GPs that take the risk but change the mechanics of VC from a "government" based system to a meritocracy at the VC level of the investment pyramid. That is the message I will develop further (and more constructively, I've hammered on VC enough) in helping individual LPs develop new relationships with VC firms.

Tags: VC, Limited Partners, Risk, Funds, CEO, Entrepreneurs, Subprime

By Georges van Hoegaerden

That's how one of the many CEOs that contact me recently described his colleagues who submit to Venture Capital (VC).

This alternatively funded CEO describes other CEO’s that seek VC funding as idiots – with a 1 in a 1000 shot at a lousy valuation (52% Round A, 25% Round B and 15% Round C). He continues that many of the serial entrepreneurs trumpeted by VC’s have no money themselves despite “successful” previous exits.

He is not alone about the ineffectiveness of Venture Capital, I frequently hear from other successful entrepreneurs about it. And the situation may get worse before it gets better. The economy is offering VCs even more excuses to turn the screws, and control of companies is gained in more ways than a simple equity stake.

I believe technology investing today is largely a sub-prime asset class as described in a plethora of sub-prime articles in this blog, and find many entrepreneurs discouraged by both the process as well as the outcome of fundraising, even when that yielded a round.

Because of the ineffectiveness of VC and the rampant false positives and false negatives I refuse to believe VCs (and the NVCA collectively), who suggest that the sum of Venture Capital equals the sum of technology innovation. We see great entrepreneurs actively pursuing more creative investment vehicles (high-net-worth individuals, private equity firms, investment bankers, sovereign funds...anyone with money), and rightfully so.

In the meantime, oblivious to recognizing their own flaws, VCs are further descending down the sub-prime spiral by restricting investments to compliant entrepreneurs, evidence that they remain clueless about the fundamental risk management of high yield returns.

Smart CEOs should simply refuse to work with many technology investors for the following reasons:

- Exorbitant loss of upside
Great entrepreneurs are known for their passion to pursue their dreams at virtually any cost, and sub-prime VCs smell their blood and desperation. Those companies become owned by VCs quickly and because of the investors' lack of relevant operating experience yields a further deflation of the valuation of the company. We've seen many companies with end-game founder stock way below 5%, which is unlikely to become life-changing. So, why would you take the scrutiny of the CEO job with that outcome in mind?

- Indirect loss of control
Voting rights as well as other fine print in the termsheet severely impact your ability as a CEO to disrupt a market. While in the beginning the founders may still own the majority of the shares, the dependance on further runway support gives VCs the ammo to press their preferred operational trajectory and leaves operational decisions at the mercy of its first investors.

- Restrictive expenditures
The powers of the CEO are further restricted by clauses on expenditures in either the articles of incorporation, termsheets, voting rights or other legal documents. We've seen restrictions requiring board approval for expenditures as little as $5,000. That means a CEO can't make pressing decisions until a next board meeting or when there is an ability to call an impromptu session. These restrictions are further evidence that a CEO does not have the trust of the board.

- Insufficient ecosystem control
Investors typify investments in technology waves (witnessed by their mindless herding at technology focused events) and blindly allocate certain expenditure expectations to R&D, marketing, business development and sales divisions. But the ecosystem of every company, regardless of segment, is unique to that company. CEOs who let VCs determine or validate the ecosystem expenditures will spend the subsequent board meetings explaining why they deviated from that, a waste of precious time.

- Deal with undeserved authority
Many VCs do not have the credentials and relevant operating experience to lead an experienced CEO. Yet it behooves the CEO to listen to the idiosyncrasies of the VC in order for them to endorse a CEO's leadership. Nothing is worse for a company's future than having to wait for the investor to validate every step along the way.

- Micro-economically sandwiched
Technology founders and VCs are often focused on building technology, very few investors pay close attention to the macro-economic differentiation (and valuation), leaving intelligent CEO left to drive a more sustainable big picture strategy with limited board and back-end support.

- Forced syndicates
Investors with early stakes can essentially force the company to engage with other VCs in subsequent rounds that favor the initial investor, rather than the entrepreneur. Many VCs huddle together in like-minded "vulture" strategies in the hopes of maximizing their often ill-performing portfolio.

- Damaging to reputation
The valley is so small and ignoring the advice from an investor can have detrimental effect on a CEO's future career. The "you will never work in this town again" syndrome is not unique to Hollywood, it is alive and well in Silicon Valley. The word spreads quickly when you challenge VCs and don't accept their terms, a reason why they tell you not to shop valuations around - it will actually hurt you.

- Sticky lawyers
We've inherited bad ones in companies we ran and found some good ones. But in many cases lawyers in Silicon Valley pretend they actually created the companies, simply because they filed their incorporation paperwork or attended board meetings. They mingle with the money sources and make the introduction to VCs that secure their billing runway. They end up getting cosy with the major shareholders and tilting the balance even further away from the CEO who signs their checks. Another entity to keep in check as a CEO.

- Low salary
Opportunity rather than salary is top of mind to entrepreneurs, but that changes quickly when they struggle to support their families and pay mortgages. $175K is not a salary that leaves much on the table, especially not when you live in the expensive area around Sandhill Road. And VCs are challenging those salaries even more while they are raking in astronomical fees associated with their large funds and sitting pretty for the next ten years. The risk/reward equation between VC and entrepreneur is completely out of whack.

- Poor severances
Board-run companies leave CEOs in a vulnerable state once its collective wisdom does not pan out. The blame for that failure is usually generously applied to the CEO, while the decision making power was not. An early stage CEO should consider himself lucky if the company can still honor its pre-negotiated severance obligation.

Pimps and Hoes

The current venture climate reminds me of the fascinating HBO documentary Pimps Up, Hoes Down in which the undeserved authority of Pimps is applied to the Hoes who do all the (dirty) work.

No self respecting CEO should accept the constriction deployed by sub-prime Venture Capital as described above. The outcome of the current entrepreneurial restrictions is not only highly predictable but has thankfully reached the balance sheets of fund-managers and Limited Partners, who fund the VCs and are starting to question the role of the VC as the intermediary.

The downturn in the economy masks the unrelated impending implosion of Venture Capital. No VC should use the economy as the excuse for the restrictions above and as a CEO you should read its deployment for what it is; a diminished faith in you and the company.

So, unless you can reach a great VC independently or with help from others quickly, my suggestion is to wait with testing your CEO skills until Venture Capital, not the economy recovers. If you can.

In the meantime I'll do my best to help fund-managers revive Venture Capital. It is about time the fund-managers hear the entrepreneur's point of view. That has become my new mission.

Tags: NVCA, CEO, VC, Valuation, Limited Partners, Economy, Subprime, Macro-economics

By Georges van Hoegaerden

More than 10 years ago I read an article in the San Jose Mercury News in which many complained that Venture Capital (VC) funded companies rarely produce viable and sustainable businesses. To no real surprise we find ten years later that the public markets have no appetite for technology companies and the majority of its VC firms are under water, soon to drown.

With angel investments (left to support the idea-stage of company formation) severely depressed by economic downturn, new VC funds (from an ex-Googler, Marc Adreessen, Manu Kumar etc.) spring up to fund the early stages of technology innovation with $250K injections and fill the gap.

Capital Efficiency is the popular buzzword some of these new investors claim as the new investment category (after outsourcing has failed to live up to similar promises). Sounds promising doesn't it?

It is not. "Capital Efficiency" is a trap.

1/ Companies are not significantly cheaper to build these days
The macro-economics of bringing products to market have not changed at all, mainly because customer behavior has not fundamentally changed.

While new marketing and distribution channels such as social networking promise to provide more effective ways to reach targeted customers, the high noise-level in those channels erases the temporal benefits gained from its early adopter stage. What remains as an advantage is "merely" the quality of the technology proposition in the eye of the beholder, regardless of how that proposition reached its prospective buyer.

So, rather than spending lots of money on old-school decibel marketing, technology companies now need to spend more money on building products that have fundamental macro-economic differentiation and a customer experience that delivers real (disruptive) value. As a result, and I know from experience, it is actually more expensive to build a successful technology company today, because no company can make the false promises it could get away with in the past. Social networking kills false promises really quickly.

2/ Tippy-toe loans yield investor lock-in
A $250K loan (convertible note, usually with restrictions) is an investment that provides no ability to hire professional management that has the experience and ability to turn technology into a macro-economic game-changer early on - or better yet - manage an effective company ecosystem through its life-cycle.

Now the unsuspecting technology entrepreneurs, proud of their newly acquired capital infusion, are dependent on the investor and his pool of syndicates (necessary to provide sufficient runway) to determine when and how that critical conversion (from technology to a business) occurs.

That determination is not the expertise of an investor but worse, has moved the control of a company's business strategy from the entrepreneur to the investor. Relinquishing that kind of control is counter to the fiduciary responsibility in developing a company's independent and most valuable future.

3/ Investors should not run companies
The majority of Silicon Valley investors have never personally ran a company, or if they did, grew up in strong winds that made even turkeys fly. Great investors invest in companies, not in technologies. They are known for their ability to spot the combination of a unique idea, the right timing and an experienced management team to allow that company to operate on its own accord.

In the end, few investors have the time or experience to manage anything beyond milestones established through board control. As a famous investor once said: "I am a better investor than an operator, otherwise I would have become one - you can make more money that way."

Building technology proves nothing

Don't get me wrong, I am excited that new investors with a better pedigree enter the investment fray. I just wished that instead of creating small fragmented funds, they had formed a larger early-stage investment fund with like-minded peers through which they could deliver on the original promise of Venture Capital, and that is: generate big returns from taking big risks.

An investment strategy that keeps entrepreneurs on a leash with micro-investments looks an awful lot like loan-sharking to me. To those who take it, don't be surprised if the bite is deep and quality of life will be severely diminished.

Consider yourself warned.

Tags: VC, Experience, Investment, Funds, Fundraising

By Georges van Hoegaerden

As I was about to write about one of the many deceptions in the technology industry, such as the creation and herding behind hollow acronyms like CRM (Customer Relationship Management), SalesForce.com appears to have beaten me to a much more holistic implementation of that definition.

Many times in this blog have I written about the notion that companies are actually selling a customer experience, rather than a product. Needless to repeat here that most are not.

But Salesforce.com CEO Marc Benioff, (in full disclosure, was one of the Oracle executives who wrote an e-mail to Larry Ellison inviting me to come work at Oracle headquarters some 14 years ago) perhaps realized (or read here) his short-sighted attachment to CRM by which he implied that sales would actually create a lasting relationship with a customer after the deal is closed. We know better from our Oracle days.

But great entrepreneurs out-innovate themselves and Salesforce.com recently stitched together a comprehensive proposition (on their beta website) designed to pay close attention to whether in essence, a sales promise - in actuality - is met in a satisfactory manner.

Now, I have not reviewed SalesForce.com's specific technology proposition, but merely their entry in the market is a big deal and here is why:

1. This SaaS (software-as-a-service) strategy will enable the meritocracy of customer satisfaction and create better value for consumers, directly or indirectly.
2. Not all companies rely on a sales force, but all companies rely on managing the experience related to their brand.
3. Companies with new products should probe their conversion rates through this new service, before turning on the marketing floodgates. Marketing a product that has unacceptable user satisfaction, spurred by the negative power of social networking, has the potential to damage its reputation forever.
4. High conversion rates from trial-to-buy (especially in this economy) are key to lowering the cost-of-sale and dramatically improves operational efficiency.
5. Many companies rely on happy return customers to grow at a sustainable rate. Companies that don't keep their customers happy will not be able to sustain the cumulative growth its investors and shareholders are banking on.
6. The satisfactory customer experience is the real market differentiator of any product or service in a competitive industry, products with great service win over products with bad service anytime.
7. The investment in call-center equipment finally makes sense now. Companies now have access to a killer application (and platform) that runs on the telephone hardware that moves support from an afterthought to an integral part of the brand experience.

I advise any company, and especially cash conscious startups, to verify SalesForce's new proposition in this space and gain immediate clarity of their product-promise early on. I bet that the way developers look at a product will dramatically differ from how consumers perceive it. Now is the time to cost-effectively validate product assumptions and use marketing and sales to extrapolate the successful validation of your promise.

I get excited by the surprising discovery of a technology proposition that can actually make this world a better place.

BTW: I have no relationship with SalesForce.com that prompts me to write this. As most of you know, I only write what I truly believe in.

Tags: SalesForce.com, Oracle, Experience, Consumer, Startup, Marketing

By Georges van Hoegaerden

I am fervent proponent of transparency in the Venture Capital business which before TheFunded (a website that rates Venture Capitalist firms) did not exist. And I admit that I peruse the site on occasion to see how well my network of VCs stacks up against the interpretations of individual entrepreneurs.

But apart from the publicity prank they pulled for April Fools Day, I am as much against any system (subprime investing) that treats entrepreneurs unfairly as I am against a system that treats VCs unfairly. The latter, in my view, is what TheFunded represents, and here is why:

1/ Lack of transparency
The premium market model that describes the VC community accurately (supply-side) is inversed at TheFunded, and only the demand-side of the fundraising equation has an opportunity to vent their opinion. That can never yield to an objective view of venture behavior and economics, in a similar way just the opinions of VCs cannot.

2/ Lack of trust
Who are these entrepreneurs, are they disgruntled copycats of investment waves that have just passed them by? I don't know, but I do not recommend blindly trusting the opinions from people we don't know. I would not recommend eating at Zagat rated restaurants for the same reason. Simply put: if the trust of the source cannot be established, the trust of the opinion cannot be established.

3/ Statistically irrelevant
Something in the order of less than 1% of the business plans get funded, and therefor is the representation on TheFunded really relevant? It is human nature to emphasize the dismay rather than the success of a fundraising experience (which may only prove to be really successful years later at exit time).

TheFunded should be a marketplace as outlined in our marketplace rules and definitions, and representing the VC and entrepreneur side with equal opportunity. And since it does not, the contents of the site are highly questionable and provides additional distraction, both in terms of false positives and false negatives, to an already in-transparent fundraising process.

Tags: VC, Marketplace, Fundraising, Startup

By Georges van Hoegaerden

We write frequently about sub-prime investors who delay and suppress the risk associated with technology investments, which in-turn only attract entrepreneurs that are willing to submit themselves to those sub-prime tactics.

Today sub-prime investments occur primarily because of underfunding, but the opposite - overfunding - happened in the bubble days. Here are two real world examples of how both types of investments deflate returns for entrepreneurs (and indirectly all parties involved):

OuterBay Technologies raised too much money.

The company was acquired by HP for triple digits in 2006, but the deal was not as good for the entrepreneurs as it appeared to be for the investors, as we predicted back then.

In the words of its then CTO; OuterBay Technologies would not have existed without the strategic vision, direction and execution of The Venture Company. We tell our story here for the first time:

During christmas in 1999 I ran, through a friend, into four developers from OuterBay Technologies with a horrible business plan. I gave them the bad news but to my pleasant surprise, they responded with open ears. I incubated the management team, refocused the company on a single product and led the company to launch and initial market traction. We secured many early stage customers at around $160K a pop to which no self-respecting investor could say no. Even though many analysts still did, we un-wavingly continued to brake new ground.

Success has many fathers, and I smirked after reading this "fathers" proclamation of his role.

Because of the early success we created as a team and swayed by the ample amount of money available to startups in the late 90s, early 2000s, OuterBay Technologies raised an $11M series A in 2001. About $6M too much in my humble opinion. As a board member I approved the deal (I did not want to hold the founders' dream hostage), but not before warning them of the consequences of such a large round (at double digit pre-money), selling my founder shares (at a discount) back to the company and relinquishing my board seat.

The net of this story is that with more than $48M in, and such a large series A the company was quickly being "run" by the investors who put in a CEO we would not have picked, and expected revenue run rates way above the organic growth of the enterprise space that this invention relied on. As a result and after almost 6 years of hard work, the entrepreneurs did not walk away with the life-changing money they deserved. They should have continued to listen to my advice and they would have walked away with more.

No company should be majority owned by non-founding investors, it is simply not the investors expertise to run companies, directly or indirectly. So, do not raise the money that relinquishes control to investors.

SoftKinetic raised too little money.

SoftKinetic, a company that developed 3D gestural recognition software, contacted us in 2006 (from Belgium) to build a US business and raise money in the Valley. Within 6 months I validated the proposition against the laboratory developments at Sony, Microsoft, HP and others and assessed its technological leadership - before Nintendo launched the Wii.

I invited 20 well known VCs one-by-one over to downtown Palo Alto, demonstrated Quake driven by marker-less full-body movement, still leaving the majority of investors clueless about how the "input device" in the gaming industry fundamentally changes the adoption to the platform. Nintendo sure proved them wrong only a few months later.

I lined up two angels (including many other friends who wanted to participate in any financial way possible) ready to wire a double digit pre-money $2.5M pre-revenue round, only to kill the deal because of growing conflicts with one of the original board members (who has since been removed).

I moved on and the company emerged one year later with a new CEO and a licensing strategy that, in our view, is the wrong business model for the company. As the new CEO explained it, "at this point we are not able to raise more money to deploy a different strategy."

The real solution to the success of SoftKinetic may have faded, but I believe the company could have deployed a premium game station PC platform strategy (not unlike Voodoo, with one of the independent PC OEMs and part of the 40% of the fragmentation in that market) and deployed a growing number of existing 3D enabled games on that platform initially. Since the majority of new games are deployed on PCs first to test their viability, the premium gaming experience by SoftKinetic could have provided a much better immersive experience than the Wii - immediately - and as 3D cameras further commoditize, the software that drives the experience would amplify the core competency of SoftKinetic and be deployed at very low cost, with hundreds of game titles.

But the latter strategy requires big thinkers at both the company (the board) and the investor side. Years of complacent investing by VCs (thank God for Angels) who can't see the forest through the trees sucks the gusto out of disruptive business strategies.

Now, the company is forced to tip-toe into the market and adopt a licensing strategy similar to GestureTek and shuttered Reactrix and yield to suboptimal traction that can be expected from niche game-play and home entertainment interaction. That is a pity for the entrepreneurs and me (as I am still a shareholder of the company).

So, raising too little money is forcing many companies to phase-in disruption, and presents many new obstacles at a higher overall cost to gain significant market-share, and at the immediate expense of its founders.

Get help

The point I am making with these two examples is that entrepreneurs who model their business after the direction of the investors are almost certain to lose out, spiritually and financially, on the level of disruption they aimed to ignite. These examples are representative of an alarming Silicon Valley trend, one we wish we did not need to counter. But we care too much about groundbreaking innovation to let it slide.

It is for reasons like these that entrepreneurs partner with experienced venture catalysts (like us) who raise the disruptive bar on both sides, put the investor's feet to the fire and raise the right amount of money at the right terms and with the real passion to support disruptive innovation.

Both parties, the entrepreneur and the investor will benefit from our game-changing attitude.

Entrepreneurs will retain more equity and investors are exposed to deals that actually have the potential to single-handedly impact fund performance.

Tags: VC, Gaming, Enterprise, Nintendo, Outerbay Technologies, Startup, SoftKinetic, Fundraising

By Georges van Hoegaerden

Pierre Lamond, a Silicon Valley legend who has been a Sequoia partner at the Menlo Park, Calif.-based Venture Capital (VC) firm since 1981 has decided to join Khosla Ventures, primarily to do what Venture Capital was designed to do, take risks again.

Having hit on subprime VC for a few years now, his reasoning resonated with me and I looked back at Vinod Khosla's "New old-fashioned" model for Venture Capital, he describes in his 2002 presentation as "Funding to Milestones", as depicted below:



Now compare the above chart with the one right below, the VC model practiced by the majority of current Venture Capitalists today, which I refer to as subprime VC:



What quickly becomes apparent from the latter chart (derived from actual pitches between entrepreneurs and VC) is that supported by the excuse of lower development costs related to web2.0 technologies, the investors have pushed down the majority of the risk onto the entrepreneur.

We all know by know that Web2.0 is not a business and still requires the definition of a disruptive business that does not fundamentally yield lower operating cost, but much more disturbing is how investors have reduced their risk and delayed their active participation with a company that, in the end, actually produces lower exits (investors are now satisfied with a 2x rather than 10x return) and no IPOs. We explained in our previous blog how that strategy cannot save Venture Capital funds.

While statistically we can time-shift the sub-prime chart to the left and assume nothing has changed by holding up the Moneytree reports, anyone who has walked around in Silicon Valley as long as I have, knows what is really going on under the hood.

Unlike people like Vinod Khosla who can assess technology risk before it is build, the majority of investors can't envision an opportunity until they spot it in their rearview mirror. Today, investors demonstrate by their actions (or lack thereof) what is fundamentally flawed in Venture Capital; the lack of people that can accurately assess risk. In 5-years our economy will be in better shape than it has been, leaner and meaner. Technology opportunities are and will be abound, as it is in the early stages of penetration. This is indeed a time for aggressive investing, rather than a time for crawl-back we see some VCs do.

The sub-prime VC problem will remain when the economy recovers, if it is not aggressively perforated by people with real early-stage operating experience who understand that risk is the lifeline of Venture Capital - and join the investment fray.

Stop blaming the economy and take a risk, everyday. Only then will you get better at it.

(I will explain the sub-prime chart in more detail later)

Tags: Subprime, VC, Valuation, Risk, Startup

By Georges van Hoegaerden

Sub-prime Venture Capital is akin to the sub-prime lending market and we predict the bottom will soon fall out of sub-prime VC too, spurred by the fear of economic pressure and the depressing returns of expiring post 911 venture funds.

Just like working for Carnival Cruise looks glamorous but is not the way to explore the world, unsuspecting young entrepreneurs who fall for sub-prime investors will soon find out that building those technologies has all the glamour but few of the rewards associated with innovation. Regardless, many chasing the mighty dollar will fall for it.

Here is how entrepreneurs can recognize a sting from subprime VC:
Step 1: We like the idea, but before we invest please finish the product some more, then come back
Step 2: 6 Months later, you finished the product. Great, now prove it works by getting 100,000 daily users, then come back
Step 3: Fantastic, now we'll take 60% of your company for $1M

Ouch, that hurts.

Here is why sub-prime tactics hurt our innovative ecosystem, just like sub-prime lendings have a negative effect on the housing market as a whole.

ad 1/ Technology development is the investment risk we understand quite well, timely applicability to a market is the real issue. So, proving that the entrepreneur can build a product can easily be derived from the entrepreneur's vision, knowledge and credentials in that space, juiced up with some kitchen-sink prototyping. On top of that a 6-month self-funded development timeframe with 2-3 developers can hardly yield a sustainable competitive advantage anyway, so R&D development proves nothing.

ad 2/ In many cases it is impossible to land 100,000 users before you have a critical mass of product capabilities. That critical mass comes from an R&D investment that generates substantial differentiation, and rarely from tip-toeing into the marketplace. Marketplaces, for example, only grow when a critical mass of both supply and demand are lured in and participate, which often requires a bolstering of technology to support all constituents, rather than minimizing it. Already, too many technology products enter the market unfinished as a result of underfunding and yield false negatives.

ad 3/ Control and valuation of the company are a direct indication of the future success of an early-stage company. The vast majority of technology success stories are derived from retained majority control by its founders and CEO (Facebook, Google, Twitter, eBay etc). Investors are terrible operators (no surprise given their background and experience) and should not want to own a majority stake in their companies, simply out of self-preservation.

Additionally, the danger of these tactics deployed by sub-prime investors (many of the large venture funds deploy fashionable sub-prime tactics too) is that it marginalizes technology innovation and provides a very unstable breeding ground for the fund performance as well:

a/ Venture Capital is meant to stimulate the high-risk / high-yield asset class as defined by its Limited Partners, the sub-prime strategy described here (anecdotally) serves nothing more than low-risk / low-yield segment of the technology asset class.

b/ No fund larger than $100 Million can support the management attention needed to spur these tiny injections along. As a result sub-prime investors just constricted what they thought of interesting innovation with too little time and too little money to provide critical market entry.

c/ Very few low cost entry deals yield the disruption that prices out favorably to makes any dent in the return of the fund as a whole. Venture funds need few big returns to keep LPs coming back for more.

The only early-stage investors who may be able to turn sub-prime deals into prime are the investors who:
- have proven to be successful operators themselves
- support the vision before the product is there
- have great syndicates to support the full runway of a disruptive market entry going forward.

Investors that can turn sub-prime into prime can be counted on one, maybe two hands. People like Marc Andreessen with his new AZ (Andreessen-Horowitz) fund come to mind. But entrepreneurs who are not stung by these visionary investors may just as well hop on that cruise ship and enjoy life some more.

The economics of big technology plays have not suddenly changed, the cost of developing technology may have declined slightly but simultaneously competition has increased exponentially. So, we prefer to focus on plays that are high-risk and high-yield simply because only they create the disruptive innovation that can keep VC firms in business.

The challenge for early-stage entrepreneurs remains the same, to create unbridled and disruptive innovation that finds only one investor that believes in it. If many more do, believe me, the technology is just not disruptive enough. So, be ready for some controversy.

Finding the right investor, amongst 700+ firms in the U.S. requires that entrepreneurs understand and can read the dating game. If they don't, we'll be happy to help. But get to us before you've been stung 217 times.

Tags: Subprime, VC, Innovation, FaceBook, Google, Twitter, Startup, Investment Banks, EBay, Revenues, Valuation, Disruption, LP, Funds

By Georges van Hoegaerden

Retail store decorations reminded me that easter is approaching and that set off the memory of an easter egg chart (on the right) I received from an early stage entrepreneur who had been trying to raise money over the past 12 months. In many ways the chart indicates how the Venture Capital (VC) world is filled with the wrong operators (not a lack of money), incapable of assessing risk; I will clarify later.

The enclosed chart includes the names of every investor (VC and Angels) the entrepreneur has spoken to face-to-face (in dark green), conversed through e-mail (in light green) and is scheduled to connect with (in orange).

Needless to say the 217 investors (whom I will not disclose yet, to protect the entrepreneur) that bothered to meet face-to-face include pretty much anyone who means anything in the VC business.

Helped by a tiny amount of seed money and introductions from a well known and respected investor, most investors responded enthusiastically (according to the entrepreneur), yet virtually none have bothered to provide the valuable feedback (or responded back with a decent no) that could lead to a line-of-sight of a term-sheet.

So, we conclude from this painstaking process the entrepreneur went through the following:

- Fundraising takes time, a lot of time
Even with the introduction from a well known VC, carve out one year of your life to raise virtually nothing (a million or so). Most entrepreneurs chase a dream that is chiseled from years of experience dealing with inefficiencies, only to discover that at fundraising time they don't understand (and don't want to understand) the VC microcosm that holds "innovations" hostage. We recommend entrepreneurs to start socializing the idea with VCs the minute they start writing code, to establish a clear target list of investors that can and should do the deal 9 months to a year later. One year ago I would have recommended the entrepreneur to sell his house and raise money that way, easier and better retention of control in the company.

- Investors don't treat entrepreneurs with the respect they deserve
Not responding to the entrepreneur (even when they share valuable connections together) as the majority of the investors on the enclosed chart did is the lowest form of disrespect imaginable. I have written about obnoxious VCs in this blog many times before (reinventing VC, subprime VC, LPs fooled, curse of subprime VC, investors to avoid) and would tell you that those over-inflated personalities contribute that I have no interest to belong to the current VC club (I have been asked). Clearly not everyone was raised by a grandfather (and co-founder of the Mentos candy) who taught us early on that you can be hard-nosed, respectful and successful all at the same time.

- The current crop of early-stage investors are numb
As you notice from the linkages in the chart (hard to see at 6% of original size), many investors have provided referrals to others. But referrals only happen when investors believe "there is something there" (one of their favorite phrases) and pass it along to another investor who may better understand the proposition. In an effective investor ecosystem and regardless of their belief in the proposition, the chart would never grow to be as large as it is. When investors don't like the proposition they will not pass it on, and when they do they will keep it to themselves and work out a deal. So, the sheer size of this chart communicates really well how clueless our current VC microcosm is.

- The current crop of early-stage investors simply don't understand the technology business
The fact that this entrepreneur is thrown around like a rag-doll by some of the biggest "experts" in the VC business says it all. The investor's indecisiveness is an indication of their lack of knowledge and vision that has earned them such a prominent role in the innovation of our industry. But, the best investors weigh risk, they do not need to deliver vision. Experienced entrepreneurs do not need investors to hold their hands in understanding the technology business and just need their investors to get out of the way.

- The current crop of early-stage investors are cowards
There is nothing, I repeat, nothing wrong with a VC saying no, whatever the investor's rational. But this chart shows how none of them can decide on their own - either way. These investor cannot stand to lose a deal they may miss out on (and not saying no will keep that door open), and don't have the guts to take the risk if they thought otherwise. It takes a strong character to be a VC, not an insecure and arrogant one.

- The current crop of early-stage investors are lemmings in rudeness
We knew that they were lemmings already, but now we know they will not only decide to jump off the cliff together but also share incredible rudeness. A sad state of being. No entrepreneur should sign any of these people on to their boards, because if they were not rude to them yet, that behavior will undoubtedly pop up when they least expect it.

- Entrepreneurs need a professional agent
Talking to this many investors and not yielding any takers is creating the smell of a dead fish in the venture community. While great successes like Skype required talks with reportedly about 40 investors and I did 20 on one of mine, the entrepreneur should have forced an early feedback loop with some investors before proceeding to talk to any more. The entrepreneur should pick an advisor or agent that does not allow this to go on for so long. It is sad that we are beginning to look an awful lot like Hollywood to become effective.

Now, notice that I have not discussed the specific proposition of the entrepreneur here and we may actually side with the VCs unable to extract razor-sharp focus from this entrepreneur's broad tale (but we will have the courtesy to tell him that directly). But the validity of the proposition is beside the point made here. Entrepreneurs, while they eat away their family's life savings and make considerable personal sacrifices, deserve the straight talk to help them plan their resources.

It is even more appalling that without any serious feedback the only response from a few VCs is to come back later, build the base technology first (which the entrepreneur has done) and get a critical number of customers. As if at that time the entrepreneur is in need of any fair-weather friends. The true character of the sub-prime VC is shining through again, but I am surprised it includes so many investors I thought better of. No wonder people like Umair Haque become even more enraged, describing VCs asleep at the wheel of creative destruction.

I would suggest the LPs (Limited Partners) to pull back from 80% of their current VC commitment (that are not producing returns anyway) and re-allocate the majority of that money to the creation of new VC firms that target more fundamental diversification in the technology asset class. I hereby offer my services to the LPs that want to take a hard look at that. And I would love to see the remainder of the current "prime VCs" be forced to re-invent themselves by this new influx in the same way entrepreneurs are all the time.

The only way to grow technology innovation is to force the VC business out of its current sub-prime mode and challenge the behavior of the crypt-keepers by making them highly accountable for their performance.

In the words of Ron Conway (a prominent angel investor) who recently stated "it is time for a new crop of entrepreneurs", we surmise "it is time for a new crop of investors" that attracts better innovation.

Tags: Fundraising, Disruption, Entrepreneurs, Subprime, Innovation, Investment, Digital Asset Management, Transparency, VC, Startup

By Georges van Hoegaerden

As the creator of my own personal photography and blog website for over ten years that publishes new photographs on a weekly basis, I have experimented with many tools, none of which serve my purpose with ease.

Opportunity
Roughly 50 million semipro camera users (including dSLR and semipro hybrids, growing at a rapid pace) are just like me and cherish no less than 25 Billion photographs per year that they seek to publish and share. A nice big opportunity of which Fotonauts (now fotopedia) aims to capture a piece.

Complicated independent workflows
As one of those semipro users I keep my photographs in my file-system (where no vendor can lock my thousands of photographs in), use LightZone to edit, Rapidweaver for web authoring with embedded HTML photo libraries created by JetPhoto Studio. That whole process takes quite a few steps and is not for the faint at heart. Rapidweaver is not great at managing lots of photographs and JetPhoto lacks the web authoring capabilities to become more than a companion to a photographic workflow. That seems to be indicative of many of the technology solutions in the digital photography arena, that is littered with hundreds of fragmented software and services tools in which none provide full support for the complete photography workflow.

Smooth operator
Fotonauts is an improvement in terms of its ability to create an instant (while you work) and good looking web site with some powerful social media capabilities that promise to increase traffic to your photographs. It blends offline and online capabilities (in which it cleverly avoids recreating the strategically flawed asset management repositories of both Apple, Adobe and others) and live-to-the-web authoring with superb smoothness, even in this beta version.

Web pages created by fotonauts can incorporate photographs from offline repositories such as the file-system and proprietary iPhoto, Aperture and Lightroom photo databases, and fotonauts can also tap directly into online photo libraries at Yahoo! FlickR, Facebook and Google's Picasa. The technology promise is sound, as can be expected from former Apple developers.

More fragmentation
But Fotonauts does not erase the complicated digital photography puzzle that aims to reduce complexity for the semipros or professionals, nor does it seem to target amateurs that care less about optimizing traffic through viral capabilities. For semipros it does not contain any white-labeing options nor a way to make images available for sale. The uniform layout applied to all albums is slick but off-putting to photographers who want to create their own brand and separate themselves from the pack.

The fragmented state of the current photography technology reminds me of the state of MP3 music before Apple introduced a better player (mobile and desktop), a store and the availability of premium content all wrapped in a single compelling user experience. In photography that is an opportunity too large and too complicated for VCs to understand and can only be captured by an established company with the vision and the financial wherewithal to wrap its arms around the complete photography experience. It is time for the photography puzzle to become whole.

Until then, Fotonauts is a smooth and beautiful new piece.

Tags: LightZone, Aperture, Lightroom, Adobe, Apple, Rapidweaver, JetPhoto, Photography, Flickr, Picasa, FaceBook

By Georges van Hoegaerden

I wrote about the death of mobile application investments a while back and the recently leaked e-mail (posted by Tech Crunch) from Tapulous shines more light on those unattractive economics for investors. Investing in the Long Tail of content (the games category) is not a good idea.

Now I want to preface that selling 100,000 copies of a game is a great accomplishment (good job Bart and thank you Apple), but the $1M or so this very popular game generated can hardly be called a venture funded business that is going to emerge with a billion dollar market cap anytime soon.

Here is what needs to be accomplished to generate a little over $1M:

• #1 most popular game for iPhone & iPod touch for 2008
• #3 most popular app overall for the US
• 5 million unique installs on Tap Tap Revenge! (that doesn’t double-count when a user upgrades TTR)
• 100,000 paying customers

So, if being the #1 most popular game on iPhone means you make $1M, I can’t see how:
1/ This initial success is going to continue with an avalanche of other attractive games entering the market
2/ The company is going to be able to produce a consistent stream of similar “winners”

And so here is another example if subprime investing, this time provided by a long tail of angels.

Tap Tap Tap.

Tags: Gaming, Investment, Long Tail, Apple, Mobile

By Georges van Hoegaerden

Subprime VC, as described in a previous blog is easily recognizable, here are some of my metrics. Run for the hills when the investor...:

1/ ...seems more interested in how it is built rather than what the disruptive business proposition is.
Innovation becomes successful when it marries macro-economic value with micro-economic (technology) execution. Technology risk is the least of our worries in Silicon Valley, yet fundamental disruption is crucial and should take up the majority of the discussion.

2/ ...seems more worried about cost of development than cost of greenfield customer acquisition.
Capital efficiency is a buzz-word investors love to throw around. In most cases they want you to be as cheap as possible. But capital efficiency is relative to the cost and value of customer acquisition. Not all venture capital deals start with a seed round below $250K, more disruptive innovation usually costs more to build well (think iPod, iPhone, iTunes, eBay, etc).

3/ ...talks about valuations before you’ve explained the value of becoming the market leader.
A favorite trick of investors is to value the company based on its present accomplishments and many entrepreneurs fall for it. Their companies become undervalued and underpriced which leads to early loss of control to investors. And when investors run a company, statistically the chances of success have diminished significantly. Early stage companies should be priced based on the value of the idea and accomplishments along the trajectory of market leadership. Your glass should be seen as half-full not half-empty.

4/ ...seems more occupied with categorizing the investment than understanding its unique business value.
When investors start categorizing investments in technology categories and subsequently base their investment decisions on them, that means they clearly missed the fact that you business proposition could have value regardless. Again, technologies are not the business, application of technology to a market segment is.

5/ ...talks about capital efficiency without probing market inefficiency.
Again, capital efficiency is a relative term. When a large market is extremely inefficient it probably means that the absolute cost to enter is high (otherwise someone else would have entered it before you). So, the cost to enter the market is a function of its current inefficiency. Many investors are less versed in inefficiencies than you and therefor misjudge the price it takes to enter. As the entrepreneur you will be faced with the inequitable consequences if you decide to bow down and take the investors’ word for it.

6/ ...doesn’t question market entry risk, but focuses on cost.
Investment risk is what should be top of mind to investors, but many of them think they have the operational experience to challenge the assumptions of the entrepreneurs. In many scenarios market entry risk can be mitigated by developing a better product, but a better product costs more money to build. At any time would I rather spend a dollar on R&D to make the product better, than spend a dollar on marketing expenses to try and make a “cheap” product land better. So, the right amount of money (not cost) is imperative to disrupt a market.

7/ ...doesn’t ask about the runway to profitability, but the initial round to get in.
Most companies require multiple rounds of funding. Those rounds are not there for you as the entrepreneur, but for the investor to establish milestones to make him more comfortable. An investor that does not allocate sufficient runway, is effectively selling short on the promise of your company and will cost you months of fundraising efforts at every round.

8/ ...asks you which other investors you’ve spoken to.
Investors are lemmings, and so you should not disclose who you talk to until you have all their term-sheet on the table. Force them to make their assessment of your company independently. Usually each investor has a different risk analysis of your company and last thing you want to do is add up all the negatives before there is a buying signal on all sides. Herd the positives.

9/ ...asks you to talk with his associates first.
As discussed in this blog many times over, associates are graduates that should be used to perform due diligence, not to discover a black swan. Many investors will use associates as a way to offload the workload created by the noise inherent to our industry. The minute you get the associate, you have become noise.

10/ ...asks you more about your education than your work experience.
Building innovation that is truly unique requires an analytical mind and ignorance to anything else but bottom-line results. Education teaches you how to respond to prescribed scenarios, innovation requires the opposite; an ability to respond adequately to a myriad of circumstances that have never presented itself to you, in that composition before. Any investor that focuses on your (or his) business school accomplishments has a warped view of what innovation really is.

Never forget that a great entrepreneurial idea sponsored by the wrong investor yields nothing but failure. Keep searching for the right partner and don’t bow down to subprime investment tactics.

Tags: VC, EBay, IPhone, Growth, Capitalism, Subprime, Startup

By Georges van Hoegaerden

It continues to amaze me how VCs point to the economic downturn as a reason for sluggish investing. We all know that at this point they should do exactly the opposite (and a few good ones do).

Information Technology is here to stay as we clearly have not reached the saturation point of its practical implementation, even though short-term M&A and IPO windows have pretty much closed - for now.

But I am especially dismayed by the fact that VCs seem to completely ignore responsibility for the fact that their investments strategies can’t seem to weather the storm and how they continue to hide behind the economic downturn to avoid the disclosure of their bad choices. Reminds you of anyone?

I don’t believe the VC model is broken, in the same way I don’t believe mortgage lending is broken. We will continue to buy new houses - and technologies. Both represent sizable investment returns for years to come. But the risk profile associated with lending money for a home has been miscalculated and I contend the majority of VCs are fundamentally miscalculating the risk of early-stage investing. Birds of a feather.

Here are some of the similarities:

1/ The sheer number of lenders entering the mortgage arena forced an artificial expansion into the low-end. In the technology industry about 790 US investors force a similar artificial expansion down into the low-end. Most entrepreneurs are forced to comply to the “capital efficiency” rule-book or, as I call it, subprime VC.

2/ The majority of people working at the mortgage bank cannot accurately assess the risk profile, neither can the majority of people working at a VC firm. The associate in a VC firm (or worse the General Partner), fresh out of school is simply not able to detect disruption. Schools are, by design, setup to teach students about white-swans, not the black swan that usually spawns real innovation.

3/ The lenders took advantage of uneducated buyers, without sufficiently reminding them that buying a house yields a debt, not an asset. Similarly, entrepreneurs are often made to believe they are successful when they land a round of funding, mistaking that for an asset (instead of a liability) and subsequently not paying enough attention to the acquisition of its real assets; new paying customers.

4/ The majority of home-buyers should not have qualified. Similarly, most technology ideas should not. Innovation is only meaningful when it monetizes ideas. So investing based on technology classifications is the wrong qualification of innovation.

As the included chart attempts to depict, the investment strategies in the 1990s and even the exuberance in 2000 produced better variance and returns than the atrophy created by the current VC rule-book. Now, too many investors herd (syndicate) around the same investment strategy, diminishing its returns and making it increasingly less attractive for smart entrepreneurs who refuse to submit themselves to subprime investment rules.

An artificial VC rule-book, subprime valuations, lower founder salaries, fewer M&A and zero IPO makes for a very unattractive entrepreneurial playground. If we don’t throw the VC rule-book out of the window, we should expect nothing more than sub-prime M&A and subprime IPOs, even when the economy recovers.

The concern is that we are creating fewer companies that someday have the financial wherewithal to acquire its smaller innovative brethren and like the lending market, are stuck with “innovation” that no-one wants to buy. I wrote about that starting more than 3 years back (here, here, here). We need VCs with the ability to spot disruptive business opportunities rather than perpetuate technology gimmickery.

Perhaps we can put the National Venture Capital Association (NVCA) to work on something better than mindless self congratulating statistics of the past and misleading videos of the actual workings of venture capital today. It could instead create more transparency of its members, to stave off tougher selection and regulation from the Limited Partners (pension funds etc.) that are otherwise unavoidable.

We, as collective contributors to the technology ecosystem - not the elusive economy - are responsible for the performance of our industry and our ability to produce real value that can weather any storm, and that means we need to get out of subprime VC quickly.

Tags: VC, Investment, NVCA, Integrity, Innovation, Risk, Limited Partners, Startup, Subprime