I have been thinking about this subject for a long time, and I came across a blog post exactly about this topic. A venture capitalist by the name of Mahesh Murthy wrote this article.
Let me basically summarize very quickly. Basically he is talking about a problem in the venture capital scene, that venture capital actually raises their funds from private investors who may require the fund to basically reach “maturity” in 8-12 years (for lack of a better word) and realise the returns of funds to the said private investors.
Hopefully returning funds to investors with a huge and healthy capital gains.
This capital structure however has been under criticism by a lot of entrepreneurs (those who understand finance well enough), and a lot of peers in the Venture Capital industry. That a specific deadline forces venture capitalist to rush into projects and god forbids, forces venture capitalists to sell the business prematurely via a trade sale or IPO.
This can cause a lot of companies to not able to achieve its true potential as their shareholders rush to exit the business via a trade sale or IPO.
However, before I state my opinion I would like to acknowledge that author of the blog post in Tech In Asia is a highly experienced venture capitalist with a seemingly decorated past of investing in companies. I will share my thoughts here and do forgive me if I am premature in my conclusions.
1) I personally disagree with the fact that we need 3-4 years to filter out good companies to invest in. Part of the reason could be due to my background, as I talk to 15,000 entrepreneurs in the last 15 years. Certainly when the sample size of the evaluated companies is big, I don’t need that amount of time to filter out good companies to invest as I should already know.
So maybe from principle standpoint, maybe a good venture capitalist need to have deep information into the market and the entrepreneurship scene.
2) The typical venture capitalist modus operandi probably takes the typical invest-advise-build-tradesale-IPO loop. However, I personally find that loop highly tortuous and laborious.
As investment capital converts from cash to shares certificate, the venture capitalist is forced to wait for years and maybe in some cases a decade for the shares certificate to be converted back into solid liquid cash via a trade sale or IPO exit.
What could be a good approach is a hybrid approach of waiting for company to grow, and at the same time the venture capitalist could get immediate financial returns via sales commission from selling licenses or franchises of the invested companies. Noting that while doing that, the venture capitalist is participating in the activity that would absolutely increase the valuation of the said invested company.
This is probably where the venture capital fraternity would cry foul and put me on a virtual crucifix, as entrepreneurs expect me to keep my hands to myself and wait. At the same time, many of the venture capitalists probably also tell me that the creed of venture capitalists is never to get their hands dirty.
In some of the investments I have done, I have gotten my hands dirty by involving in dealmaking in selling the respective franchises and licenses. It has gotten some minimal success, not enough to make it a golden principle in venture capital, but have not failed enough times to decide that strategy a silly one.
Without strong statistics behind me, I can only say that I would strive on to do it the hybrid model and report whatever success I have to the venture capital fraternity.
3) While I can understand that the author appeals to investors to be patient, and I can understand the need to be patient, I think this request is actually unfair to the investors.
So if we need more time to get back returns for the investors, we have got to tell them how much more time, and how much more returns would they get if they were to wait. This is not going to be easy and you are forcing them to change their expectations and habits.
The only way I know is to bridge that gap with the hybrid model proposed in the last few paragraphs. While waiting for returns the investors should still get some returns that beat the bank interest rates.
I personally think that the way forward is not to change the habits and expectations of people. The way forward is to innovate a step that is probably forgotten / avoided by many venture capitalists.
I welcome your comments.
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