VC to the social media stars, Fred Wilson responds brilliantly to a New York Times column by Tom Friedman in which Friedman suggests the best way to create jobs grow the economy while saving the environment is to let the top 20 Venture Funds dole out billions of tax payer dollars.
The venture capital business is an asset class where the top 10-20 percent of the firms make 80%+ of the returns. That’s how its always been and that’s how it will likely always be. It’s because the best entrepreneurs want to work with firms with reputations for making money, making connections, recruting top talent, and getting the right exit at the right time. And those are the top 10-20 percent of the firms.
So Tom’s idea, while it looks good on paper, is a dream. The top venture firms don’t want, don’t need, and are never going to take government money. The same is true of the top entrepreneurs.
I respect and agree with the goal and some of the logic in what Friedman writes. But on his conclusion, I agree completely with Fred. The top 20 Venture Capital firms in America are the last on a list of institutions I’d hand over government money for “stimulation” purposes. (If you want to see private jets descending on DC, wait until the first hearing on the Top 20 VC “bailout” is held.)
On December 6, I half-way jokingly suggested something similar to what Friedman is writing without irony. However my target of stimulus dollars was a specific company: Google. I wrote then, that the government should “bail-out” Google. While the title was absurd, some things I suggested were serious enough that a couple Googlers (friends) emailed me saying it had made the rounds there.
My point in that post and in agreeing with Fred today is a desire to add a note of reality to the perception that “investing in innovation” is what venture capitalists do. They’re in the business of generating a high rate of return on money they invest. I’m sure there are many VCs like Fred who live among those who are innovative, but I’d venture to say he’s the exception, rather than the rule. But I’m not writing here to blast VCs, but to correct the notion that companies backed by VCs are the ones that create jobs and grow the economy and solve society’s problems. (Fred’s opposition is from a different direction and I highly recommend you read it, as nothing from here on is related to Fred’s argument.)
Here’s the reality: The job creation, innovation and economic engine of America are not the companies that are funded by the top 20 venture funds, but the 99.999% of businesses who are run by people who could never get inside the door of one of the top 20 venture firms until long after they didn’t need money from them.
To those who want to debate this, I suggest that rather than depending on personal experience, anecdotes, or my ramblings, they first read what is perhaps the most exhaustive and scholarly examination of entrepreneurship, the dense (this is not a how-to book) but enlightening tome, The Origin and Evolution of New Businesses, by Amar V. Bhide, who is now a chaired professor at Columbia University Business School (formerly on the faculties of Harvard Business School and University of Chicago’s Graduate Business School).
The book, while now a bit dated, is still one of the few I’ve read that does not depend on opinions, theories or perceptions of how successful and fast-growing businesses get started. Rather it is based on research of a pool of individuals who started and grew companies that made it onto a specific year’s Inc. 500 list. That list, among other things, is based on the rate of revenue and profit growth over a period of five years. In other words, he focused on those who run real companies that had, among other criteria, the highest rate of revenue and profit growth over a period of five years. The companies he selected were not chosen because they had the most news clippings (today, I would say, “mentions of TechCrunch”).
The findings in the book (and again, I’m not recommending it for anyone but Tom Friedman or others who might care to slog through lots of data) reveal that ONLY 5% (that’s FIVE percent) of the companies that ultimately made it onto the Inc. 500 list of fastest-growing companies were funded by venture capitalists. Bhide didn’t explore the size of the venture companies backing the companies, but I will be bold and speculate that only a small percentage of that 5% were among Friedman’s Top 20 list.
While I’m sure that over the past ten or so years since the book came out, the data may have changed and today, a higher percentage of companies on the Inc. 500 list may have received funding when they started out. But I doubt the big-picture has changed much. (In part, because the reasons why successful companies start, as determined by Bhide, rarely give the founders time to “pitch” their ideas to VCs as they are busy scrambling to meet the demand for a need they discovered at their last job.)
So what does this mean?
Again, I agree with Friedman’s premise that we should get money into the hands of those who know how to innovate and grow businesses that will not only create jobs, but make us less dependent on fossil fuel. I just disagree vehemently with who those hands belong to.