Time for VCs to Get Their Act Together

I believe that the purpose of venture investment is to serve entrepreneurs.  Many of us, however, seem to regard investing as some kind of dodge or hustle. We have theories that are the worst kind of popular tripe, our methods are sloppy and our returns are highly questionable.
Many of us, fellow VCs, are a poor investors.

That is why some entrepreneurs have turned towards an alternative to getting investment from us...

Going into business for themselves...  

In the past week, both AngelList and FundersClub got SEC "No action" letters--notices that their crowdfunding platforms were going to be allowed to keep operating without fear of getting run over by the government.

Call it fate, call it luck... call it karma...

A lot of people have asked me over the last year what I think of crowdfunding.  I'm of two minds about it, to be honest.

In the short term, I think it will be kind of a mess.  A lot of companies that probably shouldn't get funding will get it, because of the novelty of the platform and the momentum investing that tends to characterize individual investors.

That will cause some VCs to try and outbid them, causing more and more hype for mediocre deals.  At the same time, the good deals that hit the traditional markets will also be overfunded--because VCs will fear companies getting financed by other means.

At the same time, the talent market will heat up even more.  These crowdfunded companies will pour a lot of new money into the market for human capital, driving salaries up.  It will be harder and harder to get quality hires for the rest of the companies.

Then, reality will set in.

I don't really think a bunch of individuals with little to no experience are suddenly going to "beat the market" when compared to people who do this for a living fulltime.  Plus, I've heard, and can anecdotally corroborate, that most angel investors put 70% of all the money they will ever put into startups to work in their very first year of angel investing.  Why?  Because they realize it's super hard, a lot of work, and dealing with the companies then they need more financing and start hitting a wall is much more difficult than just writing checks.  For many investors, its a pretty sobering experience.  It's going to be no different in the crowdfunding world.  Moneyflows will come pouring in at once, and when returns aren't there, they'll dry up quickly.  

Just like in the stockmarket, some individuals will thrive as direct investors, but they'll do so by focusing on it fulltime, investing in the right infrastructure and research, and coming up with an investment process and philosophy.  Most won't do better than average, and so they'll turn to professional managers.

This is where I'm optimistic.  My hope is that funds, too, will access this crowdsourcing market.  They'll be more transparent about their returns, and what they do to add value.  Track records and PPMs will be public, and individual investors will pool their knowledge and research to start investing in funds.  

The best funds will not only rise to the top, but they'll be free from catering to institutional thinking.  For years, VCs have been pitching and getting funded by the most conservative investors on the face of the earth--pension funds and endowments.  When you have to defend deals you did to a pension board, you inevitably take less risk.  I think going direct to the public will make fundraising easier for VCs and allow a much wider variety of strategies and types of investments.  This will be a good thing for everyone.

What will also be a good thing is that the competition will force VCs to be better actors in the ecosystem.  Gone will be the days of meeting with a company seven times only to turn them down based on something you knew during the first meeting.  Gone will be the mindless intros of "other people we like to invest with" where no VC is willing to stick their flag in the sand and to be the first one in.  Gone will be the days where VCs can just hang around the rim for weeks and weeks, even months, on deals without ever saying yes or no--letting entrepreneurs just hang out to dry while the risk is taken off the table.  Early conviction and real value-add will count for more now than it ever has before.  

So while I look forward to the challenge and feel well prepared against the quick, inexperienced dollar--something most NYC VCs have always dealt with--I think we're going to see a lot of noise about companies raising crowdfunded dollars.  I'll say this:

Nothing beats an active, thoughtful, experienced, and in-person investor who can see you for coffee in just an hour or two.  That's not happening in many cases where VCs and "professional" angels are making companies jump through lots of hoops to no avail.  If many VCs don't up their game in terms of being decisive, helpful, and respectful of an entrepreneur's time, the VCs on the bottom are going to fall seriously behind in a world of increasing alternative options for capital.