Venture Capitalism - Indispensable

Venture Capital has played such a key role in the wildfire spread of Web 2.0 startups and innovations this last year. As writers we often report on funding for this company or that, but I think we seldom think of what this money goes for, how it is offered or what a big role it plays in the technologies we find so useful and fascinating.

I have touched on the nature of VC in many posts and most recently cast a little shadow on these crucial investors at Powerset . In fairness, we should realy examine more closely the extreme risk and entrepreneurial spirit that applies to much of this investment.

Risking Much

I was reading a post by Erick Schonfeld on TC today that gave some insight into the work of venture capitalists. According to Fred Wilson of Union Square Ventures - his failure rate over 32 investments stands at about 20 percent. Actually, this is a great number taking into consideration the extreme risk involved. An excerpt from Eric's (Wilson) article is perhaps the best way to express what VC and startups are all about - I paraphrase:

"Of 26 companies I consider realized in my personal track record, 17 made complete or partial transformations of their business between the time we invested and the time they sold. So, that is a 2/3 chance that businesses will have to reinvent themselves between the time they accept VC and when they exit the business."

ROI
I think this "rule of VC" is reflected significantly in many of the startups we have seen this year. Given the extreme risk to the investors, it is probably natural for them to take increasingly dynamic and visible roles in their subject investments. According to Wilson, a 5x return on investment is considered good, when numbers as high as 10x have crossed my path. I used to think this was ridiculously high, but people -any people, do not risk so much for little.

Beware the Startup Graveyard
Regardless of how we may feel about investors - they are the lifeblood of the startup community. Some are patient and in it for the long term - which is fantastic, while others are expecting a much faster turnover for their money. We should not judge too harshly the whole spectrum of investors because of a few overly aggressive ones. From a personal perspective - it appears to me (unofficially) that fully 60 percent of all startups I have tested this last year are either dead or dying a slow death. The money invested has for all intents and purposes evaporated and someone was left with a very bitter taste in their mouth.

Conclusion
It could be concluded that there are no bad companies or investors, but that there are only bad "pairings" where modalities and rigidity conflict to the point where the business is strangled effectively. Of course there are just ridiculous ideas that are funded, bad timing, business plans and a host of other variables. Even the combination of VC firms funding a particular entity could cause big problems for a fledgling company. I really believe that all ventures are successful because of the combinations of people involved and the dynamics of interaction between the respective roles. So, linking up the right partners may be the final equation for success, just as it is for pickup game at the gym. Fascinating stuff!