[Updated 9:20pm]
After many years as a boutique investment class dominated by well-known names, the venture capital business is hitting some turbulence.
Average returns for the past decade-plus have been lackluster, and there have been consequences—notable investors pulling back their checkbooks, and firms that can’t make the grade shrinking or disappearing entirely.
At the same time, upstarts from overseas and the entrepreneur ranks have begun busting into the traditionally clubby VC establishment. And then there’s AngelList, the Web-based investment marketplace that could pose a major threat to the old-school model of guarding a firm’s access to the best entrepreneurs and new company ideas, otherwise known as the firm’s “deal flow.”
Gaurav Jain, a Boston-based principal at Founder Collective, studied this upheaval at Harvard Business School and came away with a pretty interesting comparison: VCs could learn a thing or two from the smartphone revolution.
“I’m a mobile guy. This is what I understand,” said Jain, a veteran of BlackBerry and Android. “But I actually think it’s a pretty apt analogy too, when you think about it in terms of how the platforms are panning out.”
APPLE
So what’s the world’s biggest tech company have to do with venture investing? Following that path means doing something counterintuitive that can create a new niche in an established industry.
“When the iPad came out, I was sure it was going to fail. There’s no way people want a larger iPhone,” he said. “I have a Macbook. I have an iPhone. Why do I need something in the middle?”
The best example of following the Apple approach in VC has been Andreessen Horowitz, Jain said—the firm came from outside the traditional venture circles, founded by former entrepreneurs. It chased the PR spotlight, something rarely done by old-school VCs.
The result? The young firm has gotten into coveted deals around Silicon Valley, and subsequently raised huge funds from limited partners who may not have looked twice the first time around.
“For them to go from zero to where they are in that short amount of time is unheard of,” Jain said.
An important footnote, though—this hasn’t proven to be successful over the long haul yet. Getting venture-style returns on huge funds like those controlled by Andreessen Horowitz has proven to be very difficult for VCs in the past. Simple math says it’s easier to double or triple your money on a $100 million fund than it is on a $500 million or $1 billion fund.
SAMSUNG
The South Korean smartphone manufacturer has come to challenge Apple by throwing its lot in with Android, the relatively open operating system owned by Google. [Updated to correct country.]
In the VC world, Jain said, AngelList is shaping up to be the equivalent of Android—a platform for investment deals that virtually anyone can plug into, rather than spending time trying to build their own special sources of deals.
“An online platform is the best shot everybody else has in competing,” Jain said. “If I’m a new guy on the block, it’s a futile exercise for me to try to build my own deal flow. I think I’m much better off leveraging a platform like AngelList, to be able to use that as a starting point and then try to find my special sauce.”
The potential for AngelList to become a powerful source of deals has even ratcheted up in recent weeks, with the company’s announcement that it would allow investors to form syndicates, essentially behaving like their own mini-VC firms—right down to the carried interest payday if the startup is a success.
BLACKBERRY
If there’s a busted-up business model, there’s going to be some losers, just like the hapless former smartphone titan based in Ontario.
This is essentially the “don’t change a thing” model, where a VC firm would plow ahead with what it’s always done, perhaps with some changes around the edges. Jain said he found plenty of these in his HBS research, and believes it will end badly.
“I think a lot of the VC firms are stuck there, which is business as usual,” he said. “And look, they might be OK for another five or 10 years—who knows? Maybe longer. But I just think the storm is coming.”
“Frankly, based on my research, I found that most of these guys in the middle have no product,” he added. “You might be focusing on a certain geography an investor—that’s fine, but that’s a strategy, not a product. The entrepreneur doesn’t benefit from that.”
As investors, there’s nothing VCs love more than an industry ripe for disruption. Over the next few years, we’ll get to see how they handle their own dance with upheaval.
