Silicon Valley's Moneymen Can't Beat the Market

Silicon Valley's Moneymen Can't Beat the Market
Marissa Mayer, President and CEO of Yahoo!. and David Karp, founder and CEO of Tumblr appear on Good Morning America in May
Photograph by Donna Svennevik/ABC via Getty Images

Being a venture capitalist would seem like a great job: Ideally you spend your days meeting passionate startup founders, funding their breakthrough ideas, and then raking in tenfold or hundredfold returns as the companies go public or get acquired by Silicon Valley giants.

The reality is just a bit more dismal. New data from Cambridge Associates show that investments in venture capital gained (PDF) 2.5 percent in the first quarter of 2013, while the Dow Jones Industrial Average climbed nearly 12 percent. The performance gap has been true for periods of one, three, five, and 10 years—only over a 15-year span did the venture industry beat a simple investment in stocks.

The growing consensus about venture capitalism in Silicon Valley is that too many funds are chasing too few truly great companies, a view described recently by VC pioneer Bill Draper and others. There are signs the industry is contracting. VC firms raised $2.9 billion in the second quarter of 2013, according to the National Venture Capital Association and Thomson Reuters. That’s 54 percent less than in the same period a year ago.

Meanwhile, intermittent megadeals entice investors into believing that big paydays might be around the corner. Yahoo’s $1.1 billion acquisition of Tumblr in May created a 50-fold return for some of the publishing platform’s earliest backers. (Businessweek’s Brad Stone profiles Yahoo chief Marissa Mayer in this week’s cover story.) Google’s purchase of mapping startup Waze in June for the same amount produced a nineteenfold gain for its biggest investor, Bloomberg News reported.

Mike Maples, whose $75 million Floodgate fund invests primarily in very-early-stage companies, says that broad measures of venture capitalism as an asset class are not that useful. “Fundamentally, I don’t really think of venture capitalism as an industry,” Maples says. “I look at it like every startup is like its own snowflake, and every venture firm is like it’s own snowflake. The problem people have is when they try to get too macro about it.” Lumping all funds together smooshes out the enormous gains enjoyed by a relative few. “Given how much money is in the venture business right now, we will continue to see poor macro performance,” he says. “That’ s not going to change. But at the same time we will see a tiny fraction of firms continue to do extremely, extremely well.”

Fred Wilson, a co-founder of New York’s Union Square Ventures and an influential blogger, posted a lament in February about the industry’s returns. “This post is for everyone who thinks venture capital is an easy business. I’d like to dispel that notion,” Wilson wrote. Investing in young startups is hard because so many of them fail, and investing in more mature companies is cutthroat because the winners are more obvious.

“So the next time you are bidding one VC against another, maybe you can feel just a bit of empathy for us,” Wilson wrote. “We are in a tough business, trying to make a buck to live to fight another day. Just like everyone else.”

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