To hear venture capitalists tell it, they aren’t too different from entrepreneurs. They build great companies. They create jobs. In short, they feel the entrepreneur’s pain. But for an entrepreneur to build a decent relationship with a VC, they need to understand just how different the two of them really are.
It is a fact of business life that compared to entrepreneurs, VCs have different loyalties, sometimes diametrically opposed interests, and a lot less at stake.
Experienced VCs know that less than 1 percent of venture-backed technology start-ups will ever achieve a $1billion market capitalization. So they seek category potential, not current company performance, meaning they look for companies leveraging technology to build and dominate new market categories. If the category is big enough and the category king is dominant enough, current valuation is almost irrelevant.
As a result, legendary VCs study category potential, not current total available market and ask the question: Can this become a giant new space? Can this founding team summon the balls, brains, and bucks to become the company that dominates this giant new category? If the answer to both is yes, they start drafting term sheets. If the answer is no, you are dead in the water
For as much as venture capital is in the news, you’d think these high-end investors had funded half the successful businesses in the country and beyond. But the reality is much narrower. In the United States, which is the most active VC market in the world, only about one thousand businesses get new financing per year. That’s .025 percent of the approximate four million businesses started in the United States each year.
There’s actually a lot more money to be found in family offices and the pockets of high-net-worth individuals. But venture capitalists won’t advertise that. They want to perpetuate its huge mindshare and mythology.
At the end of the day what is killing companies today is the demand for continued growth. VCs are bound by their contracts to return the stock to their limited partners. One might think the VCs have no choice and their hands are tied. Or one might see it for what it is: they’re not very bright, and instead of taking better care of the start-up and nurturing it to become something incredible over the course of the fund’s life, they suck the life and potential out of it.
My take for smart financiers is to wait until the “aha moment” before they climb aboard the bandwagon. Entrepreneurs need to bridge the capital gap from “idea to aha” with expertise, not capital or sophisticated market research
Maybe if VCs started to focus on meaningful exits rather than fast ones, we’d see more innovation thrive and stop seeing the demise of otherwise brilliant start-ups that were just a means to an end