The destruction of innovation is the outcome of the economic model under which venture operates today. Let me elaborate.
I believe no General Partner at any Venture Capital (VC) firm I know intentionally sets out to destroy innovation. Yet, the destruction of innovation is the outcome of the economic model under which Venture operates today. Let me elaborate.
First, the proof is in the pudding
First, Venture with it’s highly intertwined and syndicated ecosystem has produced negative 4.2% ten-year returns for Limited Partners (the investors in Venture Capital firms). With only 35 of 790 (or so) VC firms making any consistent money for Limited Partners (according to a prominent Silicon Valley money-manager), more than 95% of VC firms are therefore posers who deploy the incorrect arbitrage to what constitutes innovation and what produces (any kind of) value. As such, most VCs’ compass in Silicon Valley has proven to be incorrect and attracts hordes of wannabe entrepreneurs who eagerly submit to their pretenses to raise money for their cool startups.
Whether you believe in my analysis of the economic model that lies at the foundation of this problem is irrelevant. Whatever the model, the evidence demonstrates Silicon Valley’s self-made version of the Venture Capital model does not work (save for a few firms with investment networks so entrenched, large, diversified, and greased with newly introduced evergreen horizons offering many opportunities to hide).
Venture Capital itself is responsible for the massive noise of false-positives that makes many General Partners not see the forest through the trees anymore and forces them to revert to blaming the government, the economy, or anything else they can hang their hat on, dutifully supported by their NVCA lobbying organization.
Negative VC returns severely hurt the reputation of innovation and the opportunities for the next generation.
Second, no cartel scales
While a cartel can prove to be a valuable singular investment opportunity for investors, Limited Partners (such as Institutional Investors) rely on a sector or asset class’s performance to produce consistent out-weighted returns. Therefore, limited Partners can not rely on an underlying investment cartel but need to build an economic model that consistently attracts the outliers of innovation and adapts progressively over time.
Hence the impromptu investment cartel deployed by Silicon Valley VCs chasing the same kinds of companies and dominated by syndicates, collusion, and complete transactional in-transparency to all of its marketplace participants, is economically incapable of producing meaningful returns for Limited Partners.
The flight response of Limited Partners leaving the asset class due to the underperformance of the investment cartel kills opportunities for the outliers of innovation the cartel is economically equipped to ignore.
Third, improper deployment of risk
One can argue about the validity of the fuzzy Private Placement Memorandums (PPM) of VCs, with many copied directly from the PPM of a prominent VC firm in Silicon Valley (and therefore in direct support of my second argument) that have successfully raised $250M or more substantial Venture funds. Or the many VC firms with General Partners that lack relevant entrepreneurial experience themselves.
Be that as it may, any deployment of monetary resources that siphons through ten levels of diversification is economically doomed to fail.
Ten levels of diversification of investment risk are how Venture money from Limited Partners through Venture Capital is deployed to a startup, indicating not only an extreme fragmentation of risk and dollars but a lack of investment discipline and a lack of confidence in the stated investment thesis. That fragmentation of risk has resulted in fragmentation of investment rounds needed to support a company’s runway, so much so that raising money has become a more significant distraction to many startup CEOs than running the business.
Investor-owned companies with overpowering board control, disjointed interests, and fear-driven exit requirements hurt entrepreneurs who strive to create meaningful socioeconomic upside.
Fourth, one can’t keep fooling the public
The public plays a crucial role in Venture many VCs have forgotten about. The public is not only an investor (and board member of the investment committee) in many Institutional Investor (and other Limited Partner) vehicles but is also a buyer/user of early-stage technology products. And if all goes well, it provides the cash infusion for a healthy Initial Public Offering (IPO) of the startup company in the stock market, thus providing an investment return.
With the public having been fooled in the late 90s by bursting an investment bubble in technology companies, their vote of confidence in IPOs with artificial valuations and little Social Economic Value remains justifiably low ten years later.
Today the public still votes with its wallet.
Rather than adapting their pursuit of companies that drive real socioeconomic value, many VCs still passively rely on the acquisition hunger of public companies who, in the race for market share dominance, can even be fooled to believe that buy is better than build.
A VC investment thesis predicated on predicting the holes in a public company’s convoluted business strategy is a dangerous proposition in which no wisdom prevails. Innovation becomes an utter gamble rather than an intentional deployment of vision. Good luck getting rich in Vegas.
Fifth, bad custodians of innovation
In the matchmaking between the assets from Limited Partners (money) and the assets of entrepreneurs (ideas), the VC as the arbitrage has proven to be an uncaring custodian of innovation. Limited Partners for years have not gotten the returns they were “promised,” and entrepreneurs are subject to fragmentation of risk and dollars that distracts them from creating real socioeconomic value the public wants or needs. A VC’s role is to stimulate each constituent to provide extreme upside, all most VCs managed to do was protect their own (often personal) downside.
Corporate innovation proves many VC excuses (cyclically, economy, consumer spending) flat-out wrong and manages to produce impressive numbers with a more effective breeding ground for entrepreneurial ideas. Its dysfunctional economic model has eroded the fundamental premise of Venture Capital as the best-suited vehicle to produce monetizable innovation.
Alas, currently, the best place to innovate is from the confines of a visionary corporation.
Kick in the butt
Venture Capital is just as dead as American rapper Nas proclaimed the death of hip-hop with his song in 2006. According to rapper and self-made business mogul Jay-Z (Shawn Corey Carter), all that song did, in a recent double whammy interview on Charlie Rose and on Oprah’s OWN Network, is induce a much-needed change in the musical genre. That same change is required in Venture Capital.
The vast unrestricted greenfield opportunity in technology innovation dictates there are many more opportunities to be had, just not driven by a Venture Capital model that is economically unsound.
Entrepreneurs will evolve; the real question is: can Venture Capitalists?