When I published the book which is the “raison d’être” of this blog, I had shortly analyzed the correlations between venture capital level in the USA, the Nasdaq index and their relationship to “crises”. Each peak and bottom level could be easily explained. I updated it to today levels with idea of revisiting when we zill be out of the Covid19 crisis. Comments welcome!
I just learnt the death of Don Valentine, the founder of Sequoia. For those of you who may not know him, you could visit my previous posts that mentions him, either through tag #sequoia or even better search Valentine. Just be aware he invested in Atari, Apple, Oracle, Cisco, Electronic Arts…
Or you may just read some of my favorite quotes of him:
“There are only two true visionaries in the history of Silicon Valley. Jobs and Noyce. Their vision was to build great companies … Steve was twenty, un-degreed, some people said unwashed, and he looked like Ho Chi Minh. But he was a bright person then, and is a brighter man now … Phenomenal achievement done by somebody in his very early twenties … Bob was one of those people who could maintain perspective because he was inordinately bright. Steve could not. He was very, very passionate, highly competitive.”
“Well, look, we’ll put up all the money, you put up all the blood, sweat and tears and we’ll split the company”, this with the founders. Then if we have to hire more people, we’ll all come down evenly, it will be kind of a 50/50 arrangement. Well, as this bubble got bigger and bigger, you know, they were coming and saying, “Well, you know, we’ll give you, for all the money, 5 percent, 10 percent of the deal.” And, you know, that it’s a supply and demand thing. It’s gone back the other way now. But, in starting with a team, it’s a typical thing to say, well, somewhere 40 to 60 percent, to divide it now. If they’ve got the best thing since sliced bread and you think they have it and they think they have it, you know, then you’ll probably lose the deal because one of these guys will grab it.”
I just read about Sebastian Quintero’s data analyses on start-ups on his web site Towards Data Science. Thanks Martin H. 🙂 I was really fascinated about his original way of looking at them, their failure rate, the valuation prediction, their runway between rounds, and his Capital Concentration Index or Investor Cluster Score. You should read them.
Of course, it rang strong bells with all the data analyses I have done in the recent past 8see end of the post if you wish)
So as an appetizer to Quintero‘s work, here are a couple of figures taken from his site…
Introducing the Capital Concentration Index™
Where c is the percentage capital share held by the i-th startup, and N is the total number of startups in the defined set. In general, the CCI approaches zero when a sector consists of a large number of startups with relatively equal levels of capital, and reaches a maximum of 10,000 when a sector’s total invested capital is consolidated in a single company. The CCI increases both as the number of startups in the sector decreases and as the disparity in capital traction between those startups increases.
As of my own analysis, here are a couple of links…
My papers on arxiv:
– Are Biotechnology Startups Different? https://arxiv.org/abs/1805.12108
– Equity in Startups https://arxiv.org/abs/1711.00661
– Startups and Stanford University https://arxiv.org/abs/1711.00644
or on SSRN
– Age and Experience of High-tech Entrepreneurs http://dx.doi.org/10.2139/ssrn.2416888
– Serial Entrepreneurs: Are They Better? – A View from Stanford University Alumni http://dx.doi.org/10.2139/ssrn.2416888
– Start-Ups at EPFL. An Analysis of EPFL’s Spin-Offs and Its Entrepreneurial Ecosystems Over 30 Years https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3317131
Yesterday, in Do Ex-Startup Founders Make The Best Venture Capitalists? I mentioned CB Insights analysis about the background of the top VCs, and expressed my doubts about comparing founders vs. non founders. So I used the Top100 list and had a different look: what about the background in high-tech or not? Here are some charts. Quick and dirty so do not take it as a scientific analysis. Still…
First a point of caution. This list is a little strange and the authors know better than me, but I am sure this list is not highly subjective… Now it seems founders were never a majority and VCs with no high-tech experience always a majority. Now what is puzzling is that these VCs are rather young and that a high majority of them having been in the business for less the 20 years… interesting. What would have been the results of the VCs active in the 70s and 80s? Not sure…
Also the change in the last 15 years is not the ratio with a tech background, but the ones who are founders has increased and the ones with no tech background has decreased…
Interesting question as I have often claimed that there was a difference between US and European venture capitalist (VC), which had been also illustrated in the past by Tim Cruttenden (see below).
CB Insights, a leading firm analyzing data about start-ups, looked at the experience of VCs: Do Ex-Startup Founders Make The Best Venture Capitalists? The next figure illustrates their results and they additionally claim: “Of the 100 VCs, 38 founded or co-founded a company before becoming venture investors, while 62 did not. Six of CB Insights’ top 10 investors haven’t founded a company. That includes the top two: Benchmark’s Bill Gurley and the recently retired Chris Sacca.”
However interesting, I would have preferred a different analysis: how many had a direct experience in technology firms, whether in product / technology development or on the business sides such as sales or marketing compared to teh ones who were “only” consultants or bankers. This would be highly important as the value you bring t the board level may be entirely different. Look at what Tim Cruttenden explained in 2006.
Indeed Cruttenden says “entrepreneurs” too, but if we remember that Kleiner Perkins and Sequoia had a lot of managers more than entrepreneurs then, we might have obtained another measure of what makes a good VC…
After my initial notes (part I), the importance of culture (part II), the recipe (
The subtitle of the chapter is “Big V, Little C” and their quote to begin the chapter is “if you want to make money, do private equity. If you want to have fun, do venture capital”. They then borrow to AnnaLee Saxenian: “In Boston it was the entrepreneurs who dressed nicely and showed up on time to impress the investors. In Silicon Valley it was the opposite.” […] “In other words, the venture – that is the startup – is always more important than the capital, with a Big V and a Little C.” [Pages 218-21]
They explain why investing in the seed and early stage is costly for venture capitalists. “It’s better to buy a wonderful company at a fair price than a fair company at a wonderful price. […] Investing earlier in a deal must be counter-balanced by a strong potential of a massively disproportionate payout at the end. Otherwise, it is simply not worth the risk. […] Lowered transaction costs due to trust and social norms make high-risk seed-stage and early-stage venture capital more profitable [in Silicon Valley].” [Pages 228-29]
In other areas, subsidized capital plays a role. But it does not mean VC should not be understood: “There are two ways to build a venture fund. One takes as little as thirty minutes to learn. The other can take twenty years or more. The short course is to learn the formal legal structuring and financial processes of a typical venture fund. […] the more difficult and time-consuming course is to learn the human behavioral dynamics that happen in and around venture funds. […] Questions such as:
– how do you treat others in situations where mistakes and failures happen almost daily?
– how to build a reputation for trust, candor and integrity when millions of dollars are at stake?
– what type of value can you provide an entrepreneur who probably knows far more about the business than you do?
– how do you actively listen to an entrepreneur, and then see beyond their words to the true prospects of a company?
– how do you know when a CEO is not fit to run a company anymore?
– how do you help a tiny company build life-or-death relationships with huge, powerful customers or strategic partners?”
It reminds me what I learnt 20 years ago: it takes 5 years and $10M to make an investor.
The authors conclude their chapter with marvelous documentary SomethingVentured: “[VCs]’re working really hard, they’re very bright, they’re working together, and they’re collaborating. And there’s a lot of fun involved in achieving things together as a group. So I don’t think you can underestimate how much fun the people… had doing what they did. I think they’re extremely proud, but when they talk about these stories, they’re laughing, they’re smiling. There’s just this excitement and energy about building something.” [Page 242]
Again and again, I am asked how VCs make money, or more precisely what is their success and failure rate. A typical answer is they fail with 90% of their investments which is balanced by the remaining 10%…
I had also looked at Kleiner Perkins 1st fund in 1972: About Kleiner Perkins first fund. In that fund of $7M, Tandem and Genentech generated >100x returns and 90% of the fund returns. Six of the 17 investments did not make a positive return.
Now Horsley Bridge, a famous fund of funds, shared data on 7’000 investments made by VC funds between 1985 and 2014. This was shown in two blogs articles (In praise of failure & the ‘Babe Ruth’ Effect in Venture Capital) and the overall result is
• Around half of all investments returned less than the original investment,
• 6% of deals produced at least a 10x return, and those made up 60% of total returns,
to the point that the second article claims “Venture capital is not even a home run business. It’s a grand slam business.” Basically venture capital is not about portfolio diversification, it is about Black Swans. I add here two charts coming from the 1st article and which are particularly striking:
There is (sometimes) a love-hate relationship between entrepreneurs and investors. In fact there is a recurring message that Venture Capital (VC) does not provide an answer to the needs of many young start-ups. I will not enter that debate here as I do not have the answer. But as I recently read four different articles / reports where the current situation of venture capital is analyzed, I hope this post will be helpful to understand why VC is debated so much. These reports are:
– Lessons from Twenty Years of the Kauffman Foundation’s Investments in Venture Capital Funds (published in May 2012)
– Emergent models of financial intermediation for innovative companies : from venture capital to crowdinvesting platforms (publised in 2014)
– Venture Capital Disrupts Itself: Breaking the Concentration Curse (published in November 2015)
– Why the Unicorn Financing Market Just Became Dangerous…For All Involved, published in April 2016.
The Kauffman report
The Kauffman foundation explained in 2012 that the returns of venture capital have not been as good in the last 10 years as they were in the 80s and 90s. The reports also shows something which is quite well-known I think: the VC “industry” is much bigger than in the 90s, but with fewer funds. The explanation is simple: individual funds have grown from $100M to $1B+… The conclusion of the Kauffman foundation is that funds of funds, pension funds, limited partners (LPs) should be careful about where and how they invest in venture capital. Here are some graphs provided in the study.
In particular, you may see that IRR is a tricky measure as it changes over time (from peak value to final value) during the fund life. The Kauffamn suggests the following:
– Invest in VC funds of less than $400 million with a history of consistently high public market equivalent (PME) performance, and in which GPs commit at least 5 percent of capital;
– Invest directly in a small portfolio of new companies, without being saddled by high fees and carry;
– Co-invest in later-round deals side-by-side with seasoned investors;
– Move a portion of capital invested in VC into the public markets. There are not enough strong VC investors with above-market returns to absorb even our limited investment capital.
The Cambridge Associates report
Cambridge Associates (CA) does not show a very different situation, i.e. there are indeed more bigger funds and a slightly global degraded performance. But CA also claims that the VC performance is not concentrated in a small number of high profile winners. Some elements of information first:
Cambridge Associates is not saying the VC world is doing OK, but that the increase in fund size has an impact on the investment dynamics. On the performance, the next figure (from another report) illustrates again the fact that performance may indeed be an issue…
Bill Curley about unicorns
Bill Gurley is one of the top Silicon Valley VCs. So if he has something to say about the VC crisis, we should listen! No graph in his analysis, but a scary conclusion:
The reason we are all in this mess is because of the excessive amounts of capital that have poured into the VC-backed startup market. This glut of capital has led to (1) record high burn rates, likely 5-10x those of the 1999 timeframe, (2) most companies operating far, far away from profitability, (3) excessively intense competition driven by access to said capital, (4) delayed or non-existent liquidity for employees and investors, and (5) the aforementioned solicitous fundraising practices. More money will not solve any of these problems — it will only contribute to them. The healthiest thing that could possibly happen is a dramatic increase in the real cost of capital and a return to an appreciation for sound business execution.
The crowdinvesting report
So when I read Victoriya Salomon’s report about new financing platforms, I was intrigued. What does she say? “The global venture capital market suffers from unfavourable exit conditions reflected in a drop in the number of VC-backed IPOs and M&As. This trend affects all markets across all regions. In Europe, VC funds have shown less risk appetite by realigning their investment choices on later-stage companies and those already generating revenue. Furthermore, because of the poor performance of many VC funds during the six last years, they struggle to raise new funds, as institutional investors, disappointed by low returns, show a preference for the most successful large funds with a perfect track record. This slowdown particularly affects traditional venture capital investments, while, at the same time, the share of corporate venture capital has significantly increased, exceeding 15% of all venture capital investments by the end of 2012. In Switzerland, the venture capital market has also entered into a phase of decline and is losing ground in the financing of innovation. In fact, Swiss VC companies are suffering from a lack of investment capital and struggle to raise new funds. According to the Swiss Commission for Technology and Innovation, the amount of venture capital invested in Switzerland has shown a disturbing decline of about 40% during the last five years. [Also] venture capital investments in early stage start-ups fell by more than 50% from €161 billion in 2011 to €73 billion in 2012. In contrast, “later stage” participations grew by more than 50% in 2012 reaching €77 billion compared with €34 billion in 2011. While the number of early stage transactions is falling, investment periods are tending to become longer (7 years instead of 4-5) and the capital gain smaller.”
So the analysis is very similar. The VC world has experienced major transformations. The author believes that one solution might be the emergence of new platforms, such as crowdinvesting, which can be described as equity crowdfunding for start-ups. This is indeed an interesting argument. It is a way to scale and extend geographically the business angel activity. Now it could be also that we just need to go back to basics, i.e. less money with smaller funds, investing again like in the 80s and early 90s in less cash spending companies… Whatever the answer, the analysis seems consistent: the VC world has moved in a direction (fewer but bigger funds, in the USA mostly) which may not be good for a world where many more start-ups appear all over the world, not only in Silicon Valley, with relatively modest needs…
First if all this looked elliptic, not to say cryptic, you should read the reports and articles. They are excellent. Then, in a recent interview; I explained that money is needed, but (too much) money can be dangerous. That is I think the main message… you may read below if you want to have my views…
“A Good but Potentially Dangerous Idea”
Former venture capitalist, Hervé Lebret is now responsible for Innogrants (seed money) at EPFL.
What do you think of the proposal to create a future Swiss Fund?
This may be a good idea, but only under certain conditions. It must be able to hire talented managers because it is an extremely complex business. This is what Israel did when it established its venture capital funds, it brought in experienced American managers. Without the right people, it’s a recipe for disaster. And the fund must have the freedom to invest anywhere, not only in Switzerland. If you want a fund that only invests in Swiss start-ups, we may only create mediocrity.
Because no European fund can prosper by investing only in its own country. It’s a matter of scale. Only Silicon Valley has sufficient critical mass. The Californian model of venture capital is to lose money in most investments and make a few homeruns such as Google or Airbnb. So you need to have ten thousand ideas to create a thousand companies, then one hundred will grow, ten will be successful and one become Google or Airbnb. You must be able to create such a success every five years, and Switzerland just does not have the critical mass. And it is dangerous to focus too much on money.
Yes. Money is a necessary, but not sufficient for success. It requires funds, but also talent, a market, a product and ambition. It is not because we make money available to start-ups that success will come – the other ingredients should also be present. It is true that Switzerland lacks venture capital, but this is not what explains that Google, Apple and Amazon were not born here. This is in my opinion rather a cultural question. We lack ambition and rebellion. And this is the only factor that cannot be decreed by the authorities. Entrepreneurs are satisfied to aim at the creation of a viable firm of modest size, in which they retain control. In Switzerland, the start-ups create fewer jobs than McDonalds. Neil Rimer (note: co-founder of venture capital firm Index Ventures) wrote two years ago: “We and other European investors constantly are looking for world-class projects from Switzerland. I think there are too many projects lacking in ambition and supported artificially by organs – which also lack ambition – that give the feeling that there is sufficient entrepreneurial activity in Switzerland.” I have to agree with him.
I have already mentioned Andreessen Horowitz (a16z for its friends) in previous posts. First I have been very impressed by Horowitz’s book, The Hard Thing about Hard Things and second, the VC firm is close to Peter Thiel (check When Peter Thiel talks about Start-ups – part 4: it’s customer, stupid!). I also published data about Netscape.
I have also mentioned how impressed I have been by a few articles published by The New Yorker, I wonder why I have not subscribed yet. I just finished reading Tomorrow’s Advance Man – Marc Andreessen’s plan to win the future by Tad Friend. Again this is a long, deep and fascinating analysis. When I printed it, I had a 25-page document. But it is worth reading, I promise.
I also read another article about Andresseen Horowitz, which is also interesting even if less profound: Andreessen Horowitz, Deal Maker to the Stars of Silicon Valley from the New York Times. Both articles try to show that a16z might be changing Silicon Valley and the venture capital world (or they are creating another bubble and will disappear when it bursts)
I really encourage you to read the 25 pages, but here are some short excerpts:
Venture capital became a profession here when an investor named Arthur Rock bankrolled Intel, in 1968. Intel’s co-founder Gordon Moore coined the phrase “vulture capital,” because V.C.s could pick you clean. Semiretired millionaires who routinely arrived late for pitch meetings, they’d take half your company and replace you with a C.E.O. of their choosing—if you were lucky. But V.C.s can also anoint you. The imprimatur of a top firm’s investment is so powerful that entrepreneurs routinely accept a twenty-five per cent lower valuation to get it. Patrick Collison, a co-founder of the online-payment company Stripe, says that landing Sequoia, Peter Thiel, and a16z as seed investors “was a signal that was not lost on the banks we wanted to work with.” Laughing, he noted that the valuation in the next round of funding — “for a pre-launch company from very untested entrepreneurs who had very few customers” — was a hundred million dollars. Stewart Butterfield, a co-founder of the office-messaging app Slack, told me, “It’s hard to overestimate how much the perception of the quality of the V.C. firm you’re with matters—the signal it sends to other V.C.s, to potential employees, to customers, to the tech press. It’s like where you went to college.”
[…] The game in Silicon Valley, while it remains part of California, is not ferocious intelligence or a contrarian investment thesis: everyone has that. It’s not even wealth: anyone can become a billionaire just by rooming with Mark Zuckerberg. It’s prescience. And then it’s removing every obstacle to the ferocious clarity of your vision: incumbents, regulations, folkways, people. Can you not just see the future but summon it?
[…] Most venture firms operate as a guild; each partner works with his own companies, and a small shared staff helps with business development and recruiting. A16z introduced a new model: the venture company. Its general partners make about three hundred thousand dollars a year, far less than the industry standard of at least a million dollars, and the savings pays for sixty-five specialists in executive talent, tech talent, market development, corporate development, and marketing. A16z maintains a network of twenty thousand contacts and brings two thousand established companies a year to its executive briefing center to meet its startups (which has produced a pipeline of deals worth three billion dollars). Andreessen told me, “We give our founders the networking superpower, hyper-accelerating someone into a fully functional C.E.O. in five years.”
[…] A16z was designed not merely to succeed but also to deliver payback: it would right the wrongs that Andreessen and Horowitz had suffered as entrepreneurs. Most of those, in their telling, came from Benchmark Capital, the firm that funded Loudcloud, and recently led the A rounds of Uber and Snapchat—a five-partner boutique with no back-office specialists to provide the services they’d craved. “We were always the anti-Benchmark,” Horowitz told me. “Our design was to not do what they did.” Horowitz is still mad that one Benchmark partner asked him, in front of his co-founders, “When are you going to get a real C.E.O.?” And that Benchmark’s best-known V.C., the six-feet-eight Bill Gurley, another outspoken giant with a large Twitter following, advised Horowitz to cut Andreessen and his six-million-dollar investment out of the company. Andreessen said, “I can’t stand him. If you’ve seen ‘Seinfeld,’ Bill Gurley is my Newman”—Jerry’s bête noire.
Time to read more, right?
“You have money goal you-have little capital.” This is essentially the phrase that the US ambassador in Switzerland, Ms. Suzie Levine, delivered at a ceremony in honor of the ventureleaders alumni – a group of young Swiss entrepreneurs – last November 15 in Bern. She said she remembered it after hearing it from one of her recent contacts. I also quote her from memory and since then, I thought about it many times, trying to understand it.
“You”, of course, is Switzerland. We have money, for sure. Switzerland is rich. It is doing well socially, economically and financially. And Swiss companies invest wisely. It would not be fair to take “little capital” at face value, if one defines the capital by what is invested. I feel compelled to repeat “You have money, but you have little capital. »
The first explanation, the most obvious probably is due to the factual finding of the weakness of the Swiss venture capital. The figures vary from 200 million to 400 million per year, depending on whether one defines venture capital as the money invested in Swiss companies (regardless of the origin of the capital) or capital invested by Swiss financial institutions (regardless of the geography of the companies). For comparison, venture capital in Europe is of the order of 5 billion and in the US of 30 billion, or 75 times less in Switzerland than in the US, while the population is 40 times smaller.
A second explanation, perhaps less known, is related to the relative lack of “business angels” (BAs). While Switzerland has the highest density of “super-rich” and one of the highest living standards in the world , investments by individuals in Swiss start-ups are limited. Swiss startups unfortunately do not benefit from this potential windfall: the amounts invested by BAs are around 50 million per year and 30 billion in the US. And the situation is even worse: most of the US investment is made in two regions (Silicon Valley and Boston), which does not allow anymore to poner the figures in relation to the population size.
Some players such as SECA, the Swiss association of private investors, or the Réseau through its “manifesto for Swiss start-up”  are conscious of the deficit. They lobby to create new venture capital funds of funds and favor private investment in start-ups with lower taxation.
Finally, but this in itself would be the subject of another article, the transition from business angels who provide the first funds (up to a million in general) and venture capitalists who are involved from 5 to 10 million is much less natural than in the US because of a lack of trust and mutual understanding.
However, I fear that the citation / title of this article can not be explained solely by the finding of simple numbers. The third explanation, I should say interpretation of the word capital is that of human or cultural capital. The strength of the US investment in innovation was not financial only. It requires individual attitudes more than economic reasonings.
One note: it may be useful to recall that institutional venture capital – funds from pension funds and corporations – was born out of the vision of a few individuals who believed in the potential of innovation in entrepreneurship; it is the business angels who created the venture capital (not the reverse). This vision comes from a typical American optimism and also more prosaically from the fact that these first business angels had made money by betting on innovation.
The Swiss money is less adventurous and above all – this is often said to me – from a capital creation of more traditional and maybe less innovative economic value. It is also transmitted by inheritance. As it is more hard-won, the fear is stronger of losing it and the confidence lower to make it grow again. Risk taking and lack of stigma associated with failure are typical features of American entrepreneurship, this is well known. We can better understand the (good) reasons for this larger Swiss (and European) conservatism.
Worse: because the financial capital travels easily and many Swiss start-up entrepreneurs look for their investors in London, Boston and San Francisco, this cultural capital is lacking in Switzerland. I do not speak of the quality of the executives in the large companies and SMEs, who perfectly manage their businesses and rarely leave them (rightfully maybe!) to create their businesses. I speak of the non-existence of men and women who have succeeded in the world of startups. One could become tired of always refering to Daniel Borel as the “role model” of Swiss high-tech entrepreneur. Silicon Valley has created in the same period thousands of millionaires in technology, wealthy individuals who systematically reinvest their money, and their time most importantly, in new adventures.
I had found the quote a little unfair, when I first heard it, because I had misunderstood it and at worst easy to fix if it referred to a lack of financial capital. I realize it refers to an even more serious situation as it takes time if we want to change a culture.
 Le Matin (May 2012): http://www.lematin.ch/economie/suisse-affiche-forte-densite-superriches/story/25762272
 Bilan (June 2014) http://www.bilan.ch/node/1015095
PS: the following table was not in the article but I had included in my book to explain the “cultural” differences between American and European venture capital.