Thursday, November 3, 2011

VC, Like Every Other Industry, Gets Disrupted but Survives

I don't usually like to repost whole articles, but sometimes something comes along that I like enough to do so anyways. I remember the "conventional wisdom" Pascal writes about as being like gospel from 2007-2009, when I was in business school, yet the startup world keeps evolving in ways that even the "professional" visionaries never quite see coming. It should be interesting to see how long the current "barbell" model lasts.
"For a while, the conventional wisdom on venture capital was fairly straightforward: because of the dotcom bubble, VCs had grown too fat and raised too much money. This wasn't apparent because funds are typically raised for 10 years, but now was the time of reckoning, when VCs would start dropping like flies and even the top of the industry would have to slim down.
Then, two funny things happened:
  • Plenty of small funds ($20-$50 million) started popping up,
  • in Silicon Valley and elsewhere;
  • Some funds have taken to raising huge funds, sometimes in the billions of dollars.
What's going on? 
VC is not just slimming down (though it is, as the chart above shows), it is completely reconfiguring. 
On the side of the small VC funds (the so-called "superangels"), they are largely happening for two reasons:
  • Web businesses are incredibly capital efficient and so smaller fund sizes make sense (the demand side);
  • Through sheer math, smaller funds have a better time delivering ROI to their investors (the supply side). 
On the side of the mega funds, here's what's going on: there is a "flight to quality" for LPs (Limited Partners, the institutional investors who invest in venture firms) who have gotten battered by low VC returns over the past decade (not just in tech--biotech and cleantech have been disappointments as well). Even though they are cutting their allocation for venture firms overall, that's still a very large pie, and more of that remaining pie is going to the very top funds.  
So instead of getting a VC industry that looks much the same except a lot smaller, we're getting a VC industry that's smaller but also very different, with a bunch of very small funds on one hand, and a handful of very, very large funds on the other hand.
Stuck in the middle with them, some VC funds that are sticking to the traditional model, like Union Square Ventures and Sequoia Capital, are thriving. (And others dying.)
From The Way Companies Are Getting Financed Is Completely Changing
Pascal-Emmanuel Gobry

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