IS VC A PEICE OF SH*T ?

Hello, would love to get your perspective:

I suspect the VC as an industry is bunch of wannabes who are literally cluelessly gambling on tech startups. I really don’t understand why there is so much LP institutional money allocated to this asset class… on risk adjusted basis -  the vast majority of the times VC’s absolutely fail to deliver returns.. so come on! - it’s the public money given to some fart sniffing guy who’s mainly focused on getting his 2% and flying with it to Europe for a summer vacation so he can post it on his twitter account (oh sorry… “X”….)

De Facto they’re trying to predict the future with little to no evidence for a pretty long time horizon of 8-10 years… 

Base on Fuking what?!?? You liked the Founder? You think a certain industry will “blow up”? You think there’ll be a “product-market fit” ? That’s exactly how a FTX scenario is created.
So you might be better off by go getting a fu
king crystal ball…

I’ll forever remember the answer of a top VC firm associate when I asked him: “what’s the time range of seeing the returns?” 
and he simply answered “In this industry you won’t necessarily see the returns and on a specific timeline” (it’s hard to exactly translate because he said it in another language). The point is that if I’d be an institutional investor hearing his answer I’d throw him the fu*k out of the building and call to his boss to make sure I won’t hear from this idiot again. Like seriously - you expect me to write a check for tens of millions of dollars and you can’t even tell me a time range??!??

Am I crazy? Am I the only one thinking like this..?

 
Funniest

That's way more text than I usually bother to read even in a dd but like a wise man here once said, I much rather gamble on Rihanna's new lingerie brand than deleverage waste management companies in midwest in the name of private equity or get blown up in publics because a rando in a cat shirt has a youtube channel. I like this job and it's fun.

 

Are you sure? Because in a low interest rate environment you can get your higher returns from alternative investments such as PE and RE as they use a lot of leverage. But In a higher interest rate environment if the pension funds won’t be able to achieve sufficient returns from traditional investment vehicles maybe it would make more sense to use VC as their equity strategy because it’s not use leverage.

what’s your perspective? Am I looking at it completely wrong or there is something in my argument?

 

VC is an alternative investment vehicle like PE. The demand for all of these vehicles increased for the reason I mentioned, particularly RE, which is more inherently sensitive to interest rates (given the long-term capital investment associated with the asset class). Now, I don't know the extent to which institutions like pension funds are exposed to VC. But in a high interest rate environment, it's easier for that type of institution to achieve its targeted return through investment in more traditional fixed income. I don't know why a DB pension fund would put money into a tech VC right now when it can get 7%+ in IG corporates. Also, I believe the present value of pension fund liabilities would decrease too, in a high interest rate environment. 

 
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In VC the dispersion of returns between GPs is really large, so if you can invest in top quartile GPs, you get a really good risk adjusted return.  But if you end up in lower quartile GPs, you end up with a really poor risk adjusted outcome (as opposed to public equities funds where everyone is fairly similar and difference between the best and the worst is relatively small). 

And because the dispersion is so high, if you end up with an 'average' VC portfolio, it doesn't make sense to invest in VC as an LP.  Although the data says the same thing about PE GPs (RE is more complicated because there's more variation in what GPs do and how the data is collected).

So in theory, if you end up with an LP portfolio of first quartile GPs, you'll perform really well, and therefore the rationale for institutions investing in the sector is they think they can pick first quartile GPs.

The other interesting dynamic at play, is that picking first quartile funds, has historically been quite easy, as the best VC GPs have been quite persistent in their performance (think Sequoia, a16z, KPCB etc), assuming you only invest in the flagship fund (and avoid the late stage products).  However, the flagship funds tend to be capacity constrained (i.e. more demand than available capacity), so building a portfolio of these top quartile GPs is difficult (if not impossible).  Large institutional investors need a significant amount of capacity for a VC allocation to make sense (otherwise it's not worth your time to allocate to the sector), so they then get caught in the trap of chasing capacity in funds, and they drift out of the top quartile GPs into a portfolio of 'average' GPs. 

They'll obviously then end up with poor results, will pull out of VC, and then the lower quartile GPs will struggle to raise capital (and likely go out of business).  So the way to invest well in VC as an LP is to be small (i.e. a small endowment or HNW), where you can write selective small commitments to VC funds (and only go for the best GPs), but it can still be a meaningful part of your portfolio.

The large institutions that have gone after VC are going to end up with a really bad outcome, and these have predominately been large pension funds and large SWF (especially from the Middle East).

People get very caught up on things like FTX and criticize investing in VC based on that, when the reality is that most VCs expect 40-50% of their portfolio to be write-offs.  The power law of VC is that one or two investments per fund create all of the return, and picking the features that signify a potential winner aren't overly hard to pick (large TAM, pathway to profitable unit economics, differentiated product, sustainable growth, capital lite or ability to raise significant capital etc). 

The key reason that the top GPs have been able to be so successful is that they see the good deals before anyone else (due to their standing in the sector).  And then consequently, the lower quartile GPs see the deals all the successful GPs passed on (or offer insane prices/terms if they do get to see the deal).

 

Wow thank you very much for the detailed answer.
Could you please share the data that you're talking about.
Also could you please elaborate on RE (  explain how the data is collected, give examples for the variation og things that the GPs are doing and any further remarks you have on the topic - I truly want to hear your perspective :)  ) .
Also I'm wondering - what's your background?

Thanks.

 

Unfortunately I can't share, the data I've looked at was put together by LP advisory firms (think Hamilton Lane/StepStone/Cambridge Associates/Albourne etc), and they only share it with clients.  Although Cambridge Associates used to publicly publish a cut-down version of the data - but not sure if that still happens (maybe check their website).

RE has a wide range of strategies from lower risk such as buying core stabilized assets, through to high risk such as buying/developing land (with many strategies in the middle), and a lot of the data sources I mentioned above tend to lump them all together. (Although I'm not as close to the RE world - so happy to be corrected by someone who has seen better data.)  The usefulness of historical data has also probably changed a lot in RE over the last few years.

I've mainly worked in LP linked roles - mostly focused on private equity secondaries and co-investment (but don't want to say too much because I don't want to out myself).

 

Can't agree more, I have ever worked at a lower quantile VC in Europe, and the investment decks (inbound ones) we have reviewed tend to be of low quality, thus, the investment team ought to work really hard on outsourcing, while if you are a lower quantile VC, it's kinda less likely to get the founders of promising startups respond to you, at the end, no good deals, this is a dead loop. 

 

There are definitely a lot of dogshit funds, but according to the Kauffman Foundation, returns in VC are stickier/more consistent than PE.

This is because all the top deal flow goes to the "best" VCs. IE Sequoia, a16z.

So it's actually a good investment *if* you can get into top funds.

For what it's worth, I have 7 figures personally into VC type deals and my IRR is pretty good, but I only focus on companies in my specific space that I am familiar with and adjacent tech cos.

I wouldn't be comfortable with something like deep tech because I have no way to assess founder skill sets. The only reason I am ok with these is because I know my space well.

 

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