The virtues of small investments into small and early platforms notwithstanding – in contrast with large investments into small and early platforms – there still remains an inordinate level of inefficiency at the small and early stage of the investment market.
In my prior post I argued, albeit circuitously, about the need to hold both entrepreneurs and VCs accountable for the glory as well as the blunders, the thrill as well as the discontent, that is born from their association. In so doing, I was defending venture capitalists, at least relatively speaking, given how fashionable VC criticism has become. They really have no choice, I say, but to be just the way their critics see them – controlling, difficult, often impatient, seemingly capricious, and the list goes on – when these fund managers are asked to buy into a little bit of substance (at best) with a very large amount of capital.
Smaller bites, more reasonable bites, commensurate with the smallness of the reality on the plate, as it were, would be a step in the right direction for investors and entrepreneurs, both. And while many entrepreneurs are indeed beginning to think along these lines, particularly as the costs of doing business on the web and in the cloud are falling all the time, there still remains the capital challenge. The big money. And this is no minor challenge at all, because the big money needs to be put to work… and we see the extent of the big money and its need for work in glaring evidence each day as stock-market indices rise (to the tune of some 50% in the last 6 months), while the economy continues to hobble its way through misery and puts a charming face on it.
In terms of private capital, in the meantime, this means that firms such as TA Associates, formerly known as VC, are able to raise a $zillion fund for “growth” investing, because even the few remaining LPs (limited partners in such funds, typically insurers, banks, pension and sovereign funds, etc.) who are still open to “alternative” classes, (a designation that makes venture capital seem rather punk), find comfort in largeness. And where this leaves the entrepreneur who is seeking a mere $300k, and venture professionals who would love nothing better than to underwrite such a deal, is essentially nowhere.
The entrepreneur is forced into the realm of individual investors (angels), the needle in the haystack of which would be one or several who truly understand the risk and opportunity. The venture professionals are forced into the script of telling said entrepreneur to accept more like $1 million (plus or minus) and think of it as almost like $300k, because venture funds can’t dilute their management resources on tiny positions. (There are also other conflicts, incidentally, which arise from seed capital obtained from a fund with $100-$1000 million under management, as described in this earlier post.)
One potential solution to the quagmire would be designated capital pools, made available by federal or local agencies to independent fund managers, in support of entrepreneurship and in keeping with political chatter associated thereto. Such pools and agencies are in fact beginning to emerge, but, like all matters in the public sector, there is bureaucracy and slowness and levels of process and so on.
A better solution, but this would require some structural change to industry practice, would be for fund partnership terms to allow venture firms to make sub-investments in other (smaller) venture funds, providing the established venture firms with “fund of funds” capabilities. As long as the resulting “seed funds” are not captive vehicles of a single venture group, potential conflicts alluded to previously would be mitigated. From the source VC’s perspective, the opportunity to make such investments into smaller diversified pools would present a compelling adjunct to its core business and investment return parameters.
It will be an interesting test of the veracity of “efficient market” theories to see if such private sector solutions begin to take root, and if capital does indeed flow to its most efficient use. Bigness and efficiency do not necessarily equate. It would not be a good thing if our capital markets have reached a point where these are just plain big, and not much more than that.
