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Kinks in VC Industry October 9, 2006

Posted by rajAT in entrepreneur, startup, vc, venture capital.

The high-risk, high-return venture capital business may have turned into all risk and no return.

“The traditional venture model seems to us to be broken,” Steve Dow, a general partner at Sevin Rosen Funds, said in an interview.

Sevin Rosen, a 25-year-old firm that is among the most respected in the industry, was in the process of closing its 10th fund and had received commitments from investors for $250 million to $300 million, Mr. Dow said. But in a letter sent to those investors yesterday, Sevin Rosen said it had decided to abort that process.

Explaining its decision, Sevin Rosen, which has offices in Dallas and Silicon Valley, said that too much money had flooded the venture business and too many companies were being given financing in every conceivable sector.

But excess of capital is only part of the problem, the firm said. In its letter, it bemoaned what it described as “a terribly weak exit environment,” a reference to the dearth of initial public offerings and to a market for acquisitions at valuations that it considers too low to deliver the kind of returns that venture investors expect.

Fred Wilson at A VC says that all this doesn’t mean that the “venture capital model” is broken. It means that we have to adapt to the changing nature of the technology business.

The big trends they saw when they raised the money for Union Square Ventures are following –

1 – commodization of the core infrastructure of the technology business
2 – community powered development environments – ie open source
3 – software delivered as a service over the internet
4 – a movement toward lightweight web services – ie web 2.0
5 – the globalization of technology development and consumption.

He suggested changes that VC model should be tweaked in the following ways.

  1. We’ve got to raise smaller funds.
  2. We’ve got to do less “hard tech” and more “soft tech”
  3. We’ve got to figure out how to make great returns on $100mm to $250mm exits
  4. We’ve got to limit our IPOs to our very best companies.

I actually think that many firms have already made many of these changes as part of the brutal restructuring of the venture capital business in the 2001-2003 time period and are much better off because of it.

I am not sure that model has already got tweaked becasue old VC ways are still continuing.

  • VCs still raise big funds. Couple of VC have raised billion dollar funds.
  • Pure idea plays get copied very fast. Look at the video uploading websites that have cropped up. And VCs are not very comfortable with this.
  • Exit strategy is M&A. IPOs are a pipe dream.

And all this is so true if we see in Indian context. Here entrepreneurs doesn’t need big money to start and that put them out of the radar of all the VCs.

Good news is that now lot more people are talking about the change in VC industry and so lets hope it will happen soon.

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1. Prashant - October 9, 2006

>>“a terribly weak exit environment,”
LOL you know something have you heard of Greater fool Theory (http://en.wikipedia.org/wiki/Theory_of_the_greater_fool) .
with all the due respect to out going veteran i would like to say that one reason for this over heating is the Trend of Exit by sell of not by revenue or IPO and reliability on advertisement as a de facto revenue stream .

it seems World has run out of Enough fools . having an unregulated institution only Equity Exchange for pre IPO company can be a solution : )
essentially thats what being done here only under the veil

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