This is great. I'd love to see more on how the basic VC model, described admirably here, contributes to the weird dynamics of the startup ecosystem.
E.g. if the fund size is large enough, VC partners can do very well ($ millions a year) purely from the fee. So they are incentivised to close large funds, and for that they need to demonstrate potential, which is easiest to achieve through huge valuations on paper for their portfolio rather than actual exits.
Like, I'd love to see some relatively impartial analysis of stuff like that, because mostly the only people who talk about it are ranting.
Hey, thanks! I am the author of this.
I am certainly thinking of writing about such dynamics. Also want to cover how lead investor dynamic plays out which leads to due diligence being passed on/skipped and other signalling stuff. Still struggling with the structuring of the piece though
Not really. A major difference is an Angel invests his own money, not someone else's like a VC does. So the incentives are different. The angel also sources deals differently and invests only in very early-stage companies (mostly at idea stage), so the risk-return picture is even more skewed.
I hate it when blogs do this. Does it hurt to put the full word in the title (or at least first paragraph) instead of the initials? It took me a relatively long time to understand what the article is about when I was reading it.
I don't know about you, but Venture Capital is not the first term I think of when I hear VC.
Your comment is like walking into a computer shop and getting angry when the store asks you what PC you want. The article even mentions venture capital at the top of the article BEFORE the first paragraph - no reason to get angry from your lack of knowledge.
What is the first thing you think of? The only other thing I can think of is Viet Cong, and it seems pretty obvious from the title it’s not about them.
Due to the quarantine and the current crisis, VC is wired to Video Conference or Voice Chat in my brain. The title gives no clue whatsoever. How does X works can have any word in place of X and it would still make sense.
Nice explanation. The LP and GP parts feel a little wonky though
>they don't run the VC firm (hence the term 'limited').
It’s from the concept of limited legal liability more than who runs it.
Same for GP - generally just a legal shell. practically it doesn’t really do the stuff the article implies. The actual running of it is usually in a third entity (again to separate legal liability). And the carry sometimes goes to a fourth.
I think the distinctions the author tries to use are generally wonky, but otherwise, I think you are trying to take the pedantic legal view of the entities. Semantics here are important.
> Same for GP - generally just a legal shell.
Legally sure. In fact you might find all sorts of legal structures about how GPs and LPs operate ("Fund I LLC", etc). Colloquially, however, GP means "the party who actually run the fund day to day" and LP means "party who puts money into a specific fund".
> But what he won't tell you is much much harder to be a founder/engineer who actually does stuff.
No idea how hard VCs work, but I suspect this isn't a fair comment. Sounds strikingly similar to engineers' opinions of salespeople - "their job isn't so hard, my job is much harder because I actually have to build something".
To me, dealing with people is a lot more difficult than dealing with machines. I think I would bomb spectacularly if my job was mostly wining, dining and cajoling investors.
being a VC is hard, but the surprising part is how and where. it's not in picking investments, as we might imagine at first blush, but in constantly securing funding, accessing good deal flow, building relationships, making connections/deals (partners, companies, customers, employees, etc.), gathering (private) information, etc.
once you do all that hard stuff, picking the investments is relatively easy, and mostly a numbers game, because any (large enough, ~60+) portfolio of not-unviable investments will perform reasonably, assuming you do, and keep doing, all the hard things noted above.
it's mostly tending to people and being proximate to both talent and wealth. only a small slice of the job is picking investments.
>It's not clear how different this is from say hedge fund? I would imagine it's the same set of people
Although a hedge fund and a venture capital fund look superficially the same, they attract very different types of people because they specialize in different aspects of finance. I wrote a previous comment on this.[0]
Many folks who start hedge funds or join hedge funds come from traditional banking sectors like ex-Goldman Sachs, ex-Citi, ex-MorganStanley, etc. Their mental model is arbitrage and finding inefficiencies in financial markets.
In contrast, the type of people who start VC funds often come from the tech industry. E.g. ex-Intel, ex-Google, ex-Netscape etc. Their dominant perspective is growing new startups that beat the competition. E.g. The VC Marc Andreessen was not an ex-banker. He was the Netscape wunderkind programmer. Yes, sometimes some lower-level VC partners come from Wall Street (e.g. KPCB partner Mary Meeker was analyst at Morgan Stanley) but the prominent names in VC came from the technology sector. Likewise, the next generation of VCs will come from employees of today's tech unicorns.
The disposition and personality of a venture capitalist is closer to an angel investor rather than a hedge fund partner. The angel is just investing his own money to grow a hot new company whereas the VC is investing others' money.
I think the word "hard" is a bit overloaded in this thread.
Yes, I'm sure VCs "work hard" in the sense of putting in lots of hours or doing demanding work, but really, who cares about that. Lots of people, up and down the socio-economic spectrum work hard in this sense. It's not a helpful distinction. And I'm not impressed by hard work in this sense.
I have often wondered what it is, exactly, that VCs and executives and SVPs and bankers do that makes their services so valuable and so venerated. As I already mentioned, it's obviously not just because they are physically "working so hard." To me it's equally obvious that it's not because they are incredibly smart or wise. I assert with great confidence that (as a general rule) truly smart people are not wasting their time with work that is in any way associated with the movements of small green pieces of paper.
I believe that what is meant by "working hard" in the context of this set is a certain willingness to make deals or sales at all costs. By wisdom is meant intuition and connections or a rolodex (ie. the ability to get certain people on the phone).
But I know this for sure: something isn't hard if there aren't any real consequences for failing. And in the United States, if you are lucky enough to clear certain bars, you are exempt from failure. "Failure" and "hard" in this post means not closing a certain deal, but it doesn't mean anything like financial ruin. It means a minor roadbump, perhaps some professional embarrassment, and then onto the next money thing.
This is why I think these people are so utterly unworthy of the fawning adulation paid to them by SV folks desperately wanting to be rich, suckling at the teat, fantasizing about someday standing on that shiny stage with the little yellow ball mic, arms outstretched, telling everyone about their fantastic vision in broken sentences.
> truly smart people are not wasting their time with work that is in any way associated with the movements of small green pieces of paper.
What you call "movement of small green pieces of paper", others might call "resource allocation", which is a pivotal function in civilization-building.
I don't disagree, but I maintain that it isn't something that most of the best and brightest spend a lot of time thinking about.
The fact that the acquisition of lots of money is an end in and of itself pursued by a class of skilled "elite" white collar workers (like VCs) is basically a side effect of the "resource allocation" you mention run amok coupled with faulty wiring in our monkey brains.
Acquisition of lots of money is not the same as moving money around, which was your original point.
Acquisition of lots of money is also a proxy for impact — if you provide just $3 of value to every American, ONE TIME, congrats, you're a billionaire.
Hell, there are 7.8 billion people in the world. If you can get 1% of them to pay you a penny once a year, you're making $780k/year.
Most smart people spend a lot of time thinking about building empires. Making money is just a really nice side effect of building the empires.
In this world, there are 2 endeavors that make a LOT of money: empire building and macro resource allocation. The majority of the best and brightest will spend a lot of time thinking about those two endeavors no matter what the underlying system is. In a parallel universe where all resource allocation and production is driven by the government — your elite class will simply be in the officer ranks of those bureaucracies. It's no different from the military where the elite West Point graduates enjoy greater status than the enlisted rank-and-file.
And if you haven't noticed, the climate crisis and the sixth mass extinction happening now signals a complete miss allocation of resources. Will we fall as fast as we rose?
You could certainly argue that there is a mis-allocation of resources towards the kinds of energy we need to be using.
I don't think you can look to the climate crises, and then conclude that there is a compete mis-allocation of resources, across ALL industries. That's plainly absurd. We don't have a mis-allocation of resources in the production of food, clothing, appliances, electronics.
Insofar as we have a mis-allocation of resources towards energy sources, it's because externalities are not included in the price of the thing. There is a pretty straightforward way to fix this that does not involve totally shifting the way we allocate all of our other resources...
What is NOT a challenging business? If you can name 3 or 4 easy ones I will change professions!
I hear being a dermatologist is easy if you can get thru med school, and get the specialty. But for that you only need to spend 15 years working really hard!
> VCs are expected to generate a 25-35% annualized return compared to the 12-15% that public equity markets generate and much higher than the 8-10% return that debt markets give.
What does "expected to generate a 25-35% annualized return" mean here? Is that the mean/average annualized return of a VC fund? Or the "wished for" annualized return?
It's a very aspirational target. 25% annualized return (after fees) is a top decile fund. I've heard that number as a target before, but rarely and from investors that weren't used to the market. 12-15% from public markets is a top quartile hedge fund, still a great return but a little less aggressive than the VC number.
Under this definition, it would seem as if Andreesen Horowitz is not anywhere close to a top decile fund[1]. Does anyone know which ones are? Data on VC returns seems hard to come by.
For industry wide statistics, something like https://www.cambridgeassociates.com/wp-content/uploads/2018/... is pretty good. All returns there are gross, not net, but they show top quartile funds returning 15-20% gross over the last decade, varying a bit year to year.
For specific fund performance, I don't know of anything public. Most of the big names have had some funds with >20% returns, usually as they get bigger those get harder to maintain.
Even though a lot of engineers want to raise VC (or work for companies that have) the incentives are weird and it can influence your work/job in ways you might not expect.
When you take VC, you're given millions of dollars to build something huge, but it's also a Faustian bargain because you're limiting your range of outcomes.
You might grow a nice, profitable business, but if you can't 100x (or 1000x) their investment, your investors will be unhappy.
shameless self-plug: I just interviewed Sumukh Sridhara (AngelList Engineer, @vcstarterkit on Twitter) about VC from a programmers perspective on our podcast [1] and he's really, really good. If you're a dev looking to learn more about this, give it a listen.
The return profile depends a lot on the stage of VC you're at - while a 100x return might be plausible for an early angel investor (who also expects 90% of their investments to go to zero), lots of later stage VC's will be quite happy with the more consistent 5x outcome.
32 comments
[ 2.9 ms ] story [ 69.0 ms ] threadE.g. if the fund size is large enough, VC partners can do very well ($ millions a year) purely from the fee. So they are incentivised to close large funds, and for that they need to demonstrate potential, which is easiest to achieve through huge valuations on paper for their portfolio rather than actual exits.
Like, I'd love to see some relatively impartial analysis of stuff like that, because mostly the only people who talk about it are ranting.
I don't know about you, but Venture Capital is not the first term I think of when I hear VC.
>they don't run the VC firm (hence the term 'limited').
It’s from the concept of limited legal liability more than who runs it.
Same for GP - generally just a legal shell. practically it doesn’t really do the stuff the article implies. The actual running of it is usually in a third entity (again to separate legal liability). And the carry sometimes goes to a fourth.
[1] https://www.amazon.com/Mastering-Private-Equity-Transformati...
I think the distinctions the author tries to use are generally wonky, but otherwise, I think you are trying to take the pedantic legal view of the entities. Semantics here are important.
> Same for GP - generally just a legal shell.
Legally sure. In fact you might find all sorts of legal structures about how GPs and LPs operate ("Fund I LLC", etc). Colloquially, however, GP means "the party who actually run the fund day to day" and LP means "party who puts money into a specific fund".
But what he won't tell you is much much harder to be a founder/engineer who actually does stuff.
It's not clear how different this is from say hedge fund? I would imagine it's the same set of people who just found a nice, easy alternative?
No idea how hard VCs work, but I suspect this isn't a fair comment. Sounds strikingly similar to engineers' opinions of salespeople - "their job isn't so hard, my job is much harder because I actually have to build something".
To me, dealing with people is a lot more difficult than dealing with machines. I think I would bomb spectacularly if my job was mostly wining, dining and cajoling investors.
once you do all that hard stuff, picking the investments is relatively easy, and mostly a numbers game, because any (large enough, ~60+) portfolio of not-unviable investments will perform reasonably, assuming you do, and keep doing, all the hard things noted above.
it's mostly tending to people and being proximate to both talent and wealth. only a small slice of the job is picking investments.
Although a hedge fund and a venture capital fund look superficially the same, they attract very different types of people because they specialize in different aspects of finance. I wrote a previous comment on this.[0]
Many folks who start hedge funds or join hedge funds come from traditional banking sectors like ex-Goldman Sachs, ex-Citi, ex-MorganStanley, etc. Their mental model is arbitrage and finding inefficiencies in financial markets.
In contrast, the type of people who start VC funds often come from the tech industry. E.g. ex-Intel, ex-Google, ex-Netscape etc. Their dominant perspective is growing new startups that beat the competition. E.g. The VC Marc Andreessen was not an ex-banker. He was the Netscape wunderkind programmer. Yes, sometimes some lower-level VC partners come from Wall Street (e.g. KPCB partner Mary Meeker was analyst at Morgan Stanley) but the prominent names in VC came from the technology sector. Likewise, the next generation of VCs will come from employees of today's tech unicorns.
The disposition and personality of a venture capitalist is closer to an angel investor rather than a hedge fund partner. The angel is just investing his own money to grow a hot new company whereas the VC is investing others' money.
[0] https://news.ycombinator.com/item?id=21365966
Yes, I'm sure VCs "work hard" in the sense of putting in lots of hours or doing demanding work, but really, who cares about that. Lots of people, up and down the socio-economic spectrum work hard in this sense. It's not a helpful distinction. And I'm not impressed by hard work in this sense.
I have often wondered what it is, exactly, that VCs and executives and SVPs and bankers do that makes their services so valuable and so venerated. As I already mentioned, it's obviously not just because they are physically "working so hard." To me it's equally obvious that it's not because they are incredibly smart or wise. I assert with great confidence that (as a general rule) truly smart people are not wasting their time with work that is in any way associated with the movements of small green pieces of paper.
I believe that what is meant by "working hard" in the context of this set is a certain willingness to make deals or sales at all costs. By wisdom is meant intuition and connections or a rolodex (ie. the ability to get certain people on the phone).
But I know this for sure: something isn't hard if there aren't any real consequences for failing. And in the United States, if you are lucky enough to clear certain bars, you are exempt from failure. "Failure" and "hard" in this post means not closing a certain deal, but it doesn't mean anything like financial ruin. It means a minor roadbump, perhaps some professional embarrassment, and then onto the next money thing.
This is why I think these people are so utterly unworthy of the fawning adulation paid to them by SV folks desperately wanting to be rich, suckling at the teat, fantasizing about someday standing on that shiny stage with the little yellow ball mic, arms outstretched, telling everyone about their fantastic vision in broken sentences.
What you call "movement of small green pieces of paper", others might call "resource allocation", which is a pivotal function in civilization-building.
The fact that the acquisition of lots of money is an end in and of itself pursued by a class of skilled "elite" white collar workers (like VCs) is basically a side effect of the "resource allocation" you mention run amok coupled with faulty wiring in our monkey brains.
Acquisition of lots of money is also a proxy for impact — if you provide just $3 of value to every American, ONE TIME, congrats, you're a billionaire.
Hell, there are 7.8 billion people in the world. If you can get 1% of them to pay you a penny once a year, you're making $780k/year.
Most smart people spend a lot of time thinking about building empires. Making money is just a really nice side effect of building the empires.
In this world, there are 2 endeavors that make a LOT of money: empire building and macro resource allocation. The majority of the best and brightest will spend a lot of time thinking about those two endeavors no matter what the underlying system is. In a parallel universe where all resource allocation and production is driven by the government — your elite class will simply be in the officer ranks of those bureaucracies. It's no different from the military where the elite West Point graduates enjoy greater status than the enlisted rank-and-file.
I don't think you can look to the climate crises, and then conclude that there is a compete mis-allocation of resources, across ALL industries. That's plainly absurd. We don't have a mis-allocation of resources in the production of food, clothing, appliances, electronics.
Insofar as we have a mis-allocation of resources towards energy sources, it's because externalities are not included in the price of the thing. There is a pretty straightforward way to fix this that does not involve totally shifting the way we allocate all of our other resources...
Article is saying that VC is a challenging business
What does "expected to generate a 25-35% annualized return" mean here? Is that the mean/average annualized return of a VC fund? Or the "wished for" annualized return?
[1] https://www.theinformation.com/articles/andreessen-horowitz-...
For specific fund performance, I don't know of anything public. Most of the big names have had some funds with >20% returns, usually as they get bigger those get harder to maintain.
When you take VC, you're given millions of dollars to build something huge, but it's also a Faustian bargain because you're limiting your range of outcomes.
You might grow a nice, profitable business, but if you can't 100x (or 1000x) their investment, your investors will be unhappy.
shameless self-plug: I just interviewed Sumukh Sridhara (AngelList Engineer, @vcstarterkit on Twitter) about VC from a programmers perspective on our podcast [1] and he's really, really good. If you're a dev looking to learn more about this, give it a listen.
[1]: https://podcast.newline.co/episodes/a-software-engineers-gui...