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"If that objective (above market returns) is persistently left unaccomplished, investors will allocate their capital elsewhere." And that could well be the end

"If that objective (above market returns) is persistently left unaccomplished, investors will allocate their capital elsewhere." And that could well be the end of the article folks. VC as an industry has too much money so it doesn't generate good returns. This shouldn't be shocking to anyone. If say GE generates $8.8b in dividends ($0.22 per share per quarter and 10b shares) and it's priced at $10 a share that's an 8.8% yearly return! But if the stock price is $50 a share it's only 1.76% return which isn't as impressive. The only difference in those two scenarios is how much money is chasing GE's dividends. The returns to VC are too small because the pool of talented, motivated individuals to start companies isn't getting bigger anywhere near as fast as the cost to do so has fallen. That means that VCs are over-paying for the companies that they can buy into (because they have to do SOMETHING with the money) and because they buy into more companies that won't necessarily be successful. VCs (the human beings) don't scale the same way the companies they're investing in do. The whole idea of VC was that money was scarce and a person could only make a few bets so they could afford to spend a lot of time with each of their portfolio companies. As the amount of money needed has crept down I suspect that the number of investments has crept up and that means less time to go around and probably less good outcomes. When it "only" takes $500k to take a swing with a company a VC can afford to look at it as a calculated bet that might pay off rather than an investment which needs care & feeding to be successful. tl;dr the landscape shifted under VCs with the dropping price of starting a company and not all of them know how to successfully operate in this new world. Just in case this comes across overly negative I don't hate VCs at all. I think that VC as a whole is great. I'm sure some of the individuals aren't all that great but as an industry I think its fantastic. But as an industry it might end up shrinking, too.

msandford 12y ago
Further I don't think that making it easier to get involved is helping. The ideas of incubators and demo days and all that kind of stuff means really well. But it's along a faulty line of thinking IMO. It goes like this: making it easier to start a company will get more people involved and increase dealflow and that'll increase successful outcomes. The problem is that as many people have said, tenacity or stubbornness or gumption are highly valued for founding a company. There's the assumption that bringing more people into the startup ecosystem won't substantially change the demographics and thus the statistically likely outcomes. Making it easier doesn't cause everyone to have less gumption but it does lower the bar which allows people with less in and that lowers it on average. Changing the demographics like that seems to be somewhat self-defeating in a way. It just increases the pool of candidates from which the VC has to successfully winnow down to the ones he/she thinks have the best odds of going ballistic. The game is harder, not easier. I think a large part of the problem is that the country/world as a whole doesn't change fast enough. In order for a VC to bag a 1000x return it's got to be a national or global scale company. For that to happen the whole world or a substantial fraction thereof must learn about the company and want to avail themselves of the products or services. That's a few billion people you've got to convince; these companies are largely consumer-oriented as of late. But human beings only spend so much leisure time learning about new things to do or buy or what-have-you. It's very, very difficult to convince the whole friggin world to change within the roughly 10 year timeframe of a particular VC fund. Investing in companies which need more money to have a reasonable chance at success sounds really dumb until you analyze the situation a bit. In those cases, money might well be the real limitation rather than the entire world. As such a VC might have a little more control over the outcome and that's an edge.
baddox 12y ago
That all makes sense, but you didn't propose an explanation for why people are choosing to put their money into VC rather than an apparently better-performing investment.
- Russell91 12y ago
  Because they speculate that they will make more money there...
- dagw 12y ago
  People like to gamble. GE will never return 5-10x your money over two years, a VC investment just might.
- msandford 12y ago
  Other responses are "people like to gamble" and "they THINK they'll make more money in VC" and both of those are really good explanations. I think there are other explanations too. I'm sure there's a lot of prestige that goes with being an LP in a VC fund. It's a diversified investment that isn't going to be as correlated with the market as say GE will be. If the VC fund you invest in under-performs there's really no way out except to wait it out and not invest in the next fund they raise. That sounds like a bug but it might be a feature since money managers are often under pressure to perform and putting money into a VC basically locks it up. That means decisions about what to do with that money don't have to be made regularly which could be a nice little bonus. > why people are choosing to put their money into VC rather than an apparently better-performing investment. Basically because the future is unknowable and there are plenty of VCs who do well. I saw some chart where the top x% (I can't remember nor can I find it) of VC get basically all the returns. Because VC is so unevenly distributed there's a small chance that the probably under-performing fund you invest in MIGHT be one of the break-out VCs that'll end up capturing a large portion of industry returns rather than being paid well to lose money. And if your job is to manage money that might be an attractive proposition; prestige, excitement, diversification, a 10 year set-it-and-forget-it investment, and a small chance of making a big return.

msandford 12y ago

Further I don't think that making it easier to get involved is helping. The ideas of incubators and demo days and all that kind of stuff means really well. But it's along a faulty line of thinking IMO. It goes like this: making it easier to start a company will get more people involved and increase dealflow and that'll increase successful outcomes. The problem is that as many people have said, tenacity or stubbornness or gumption are highly valued for founding a company. There's the assumption that bringing more people into the startup ecosystem won't substantially change the demographics and thus the statistically likely outcomes. Making it easier doesn't cause everyone to have less gumption but it does lower the bar which allows people with less in and that lowers it on average. Changing the demographics like that seems to be somewhat self-defeating in a way. It just increases the pool of candidates from which the VC has to successfully winnow down to the ones he/she thinks have the best odds of going ballistic. The game is harder, not easier. I think a large part of the problem is that the country/world as a whole doesn't change fast enough. In order for a VC to bag a 1000x return it's got to be a national or global scale company. For that to happen the whole world or a substantial fraction thereof must learn about the company and want to avail themselves of the products or services. That's a few billion people you've got to convince; these companies are largely consumer-oriented as of late. But human beings only spend so much leisure time learning about new things to do or buy or what-have-you. It's very, very difficult to convince the whole friggin world to change within the roughly 10 year timeframe of a particular VC fund. Investing in companies which need more money to have a reasonable chance at success sounds really dumb until you analyze the situation a bit. In those cases, money might well be the real limitation rather than the entire world. As such a VC might have a little more control over the outcome and that's an edge.

baddox 12y ago

That all makes sense, but you didn't propose an explanation for why people are choosing to put their money into VC rather than an apparently better-performing investment.

Russell91 12y ago
Because they speculate that they will make more money there...
dagw 12y ago
People like to gamble. GE will never return 5-10x your money over two years, a VC investment just might.
msandford 12y ago
Other responses are "people like to gamble" and "they THINK they'll make more money in VC" and both of those are really good explanations. I think there are other explanations too. I'm sure there's a lot of prestige that goes with being an LP in a VC fund. It's a diversified investment that isn't going to be as correlated with the market as say GE will be. If the VC fund you invest in under-performs there's really no way out except to wait it out and not invest in the next fund they raise. That sounds like a bug but it might be a feature since money managers are often under pressure to perform and putting money into a VC basically locks it up. That means decisions about what to do with that money don't have to be made regularly which could be a nice little bonus. > why people are choosing to put their money into VC rather than an apparently better-performing investment. Basically because the future is unknowable and there are plenty of VCs who do well. I saw some chart where the top x% (I can't remember nor can I find it) of VC get basically all the returns. Because VC is so unevenly distributed there's a small chance that the probably under-performing fund you invest in MIGHT be one of the break-out VCs that'll end up capturing a large portion of industry returns rather than being paid well to lose money. And if your job is to manage money that might be an attractive proposition; prestige, excitement, diversification, a 10 year set-it-and-forget-it investment, and a small chance of making a big return.