The Venture Capital Inversion

There used to a be time in Silicon Valley when a startup created a strategy, made a business plan to go execute it, and then raised the amount of money required to execute the business plan.

That seems pretty  quaint these days.  Because today, many companies have this upside-down.  Instead of making a plan and raising funds to execute it, they raise a pile of money and then go figure out how to spend it.

This is happening largely because of the frothy, particularly mid- to late-stage financing environment that exists today.  More and more money is going into later-stage VC and PE growth funds, funds get bigger, minimum check sizes get bigger, and all of sudden you have a bunch of investors who each need to write checks of $50M to $100m to make their funds work and those check sizes start dominating round sizes in Silicon Valley.

But it’s all upside down.  Companies shouldn’t raise more money because investors want to write bigger checks.  Companies should only raise more money if they need it to fund their plan.

A key part of building a startup is focus.  Flooding companies with money works against focus.  Remember the startup epitaph:

Capture

When startups “just do both” they fail to choose — in so doing, often choose to fail.  When you flood a startup with money, it tends not just to do both, but perhaps all 4 or 5, of the ideas that were in discussion.

When a company gets caught in the VC inversion bad things happen.  For details, see this post I wrote entitled Curse of the Megaround, but the short summary is that startups with too much cash make too many questionable investments that defocus the company and don’t provide returns, ultimately resulting in the termination of the CEO and usually a chunk of the executive team along with him/her.  In short, turmoil.

Remember this tweet from Marc Andreessen:

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So the next time you hear a company celebrating a $100M round ask yourself these questions:

  • Can they actually put the money to productive use?
  • What distractions will they start or continue to invest in?
  • How much longer will the CEO and executive team last given the new, heavy pressure put on the valuation?

Startups should be about entrepreneurs driving a vision for customers that benefits the founders and employees, with the VCs along for the ride.  Let’s not get that inverted and end up with startups being run for the late-stage investors with the customers, employees, and founders along for the ride.

5 responses to “The Venture Capital Inversion

  1. David, great piece.
    Made me wonder. If VC’s are pushing more $ at the investment targets are they doing that at the same % stake – I guess they are. And if so, their investment risks artificially inflating the value of the business, making it hard to get the exit multiple they need to get a return. Are they creating a VC bubble thats going to catch a lot of business in the shockwaves?

  2. Excellent perceptions. And yes, a VC Bubble is pending with such actions.

  3. I’m curious, are there any specific examples of this actually occurring or is this conjecture on the writers part?

    • I’m not exactly sure what “this” refers to, but people don’t want to line up to go on the record saying “I raised more money than I know what to do with, but I’m trying to figure it out how to spend it productively.” So while I’d call it opinion (as opposed to speculation or conjecture), I’m not providing an list of CEOs who are going to say “yes, that’s us.”

  4. Pingback: Curse of the Megaround: Expectations and Power | Kellblog

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