Venture Industry Needs To Be Cut By 50 Percent


A new study of the venture industry points to some old problems – and some newly discovered ones.

It is common knowledge that venture-capital returns have been poor since the dot-com bubble burst in 2000. For almost a decade, returns have lagged the small-cap Russell 2000 Index by 10 percent, according to a study from the Ewing Marion Kauffman Foundation.

At the root of this decline is the reluctance of public financial markets to buy stock in young, unprofitable companies and the maturing of the core markets that have propelled venture investing: information technology and computer networking.

Ok. So these deficiencies and structural issues are well known and widely debated inside and outside the industry. But what isn’t widely discussed is a topic with which venture partners and the National Venture Capital Association trade group will likely take issue.

According to the study, the venture industry likes to tout its role with companies such as Google, Genentech, Microsoft and Starbucks, but “less than one-in-five of the fastest-growing and most successful companies in the United States had venture investors.”

Only approximately 16 percent of the 900 companies on the Inc. 500 list from 1997-2007 had venture capital backing, and study found. What’s more, less than 1 percent of the estimated 600,000 new businesses created in the United States every year take venture financing.

So what’s the study’s prescription for bringing greater profitability back to the business: “we expect venture investing will be cut in half in coming years. At the same time, lowering valuations and improving overall exit multiples should help resuscitate the industry,” said Robert Litan, vice president of research and policy at the foundation.

“Whether it realizes it or not, whether it wants to or not, the venture industry has to change,” says study author Paul Kedrosky, a senior fellow at the foundation and an investor himself.

Such a prescription is quite a bitter pill for the industry to swallow. Therefore, don’t anticipate that it will. Instead look for better times to bring greater health to firms and funds. And chalk up this study as another dire warning in the series of dire warnings that defines this less than perfectly visible slice of the American economy.