VCs Don’t Invest In Ideas

    March 26, 2005

SiliconBeat looks at the overhang in venture capital because interest rates have led to a general glut of capital, and wonders if all that supply benefits demand…

SiliconBeat: So if you think you’ve got a good idea, you’re marginally more likely to raise more money now.

The problem, and I hope you don’t think it is a problem, is that VCs don’t invest in ideas. This is one of the greatest myths in the Valley. We would like to believe it as it implies a meritocracy simply not present. Part of the Valley culture is a self-perpetuating desire to be more like Hollywood, where talent is discovered and hits are made. But the only people who get funded on ideas alone are serial entrepreneurs.

Techdirt suggests that it may be time for VCs to start pitching entrepreneurs, because Bloglines and Topix have been able to go it alone. But again, the people who don’t need the money in the first place are the other half of the supply/demand story. And as Jeff Nolan points out:

Serial entrepreneurs are perhaps even worse at times becuase they really do think they are the dog wagging the tail (us)… even though the odds of finding serially successful entrepreneurs are only slightly better than O.J. didn’t do it.

These days it is cheaper to bootstrap products and even markets. If you are only pitching an idea, it may be stolen, and you have lost the option to focus on customers and execution. If you are still at the kitchen table stage, your side time is better spent developing relationships.

VCs invest in real businesses and the criteria today, even in the consumer internet, is still relatively high. When VCs start funding nobodys based on ideas alone again, its time to cash out and move to Montana.

My sense of the private equity market is it is exactly the same as a year ago. Further confirmed by how VCs lag the NASDAQ by a year. The one exception is M&A has taken off, a market with even greater false incentives.

Large companies saved cash during the bust, furthered by low interest rates. Someone rang the consolidation bell. Now public equity investors are investing in larger companies because they don’t want to own acquired public companies because their price declines in the transaction. Large companies increase their market cap, they start buying with less cash and more equity. They cycle perpetuates until there are greater perceived returns for sellers by going alone.

My guess is in a year or so we may be talking about IPOs more than M&A.

Ross Mayfield is CEO and co-founder of Socialtext, an emerging provider of Enterprise Social Software that dramatically increases group productivity and develops a group memory.

He also writes Ross Mayfield’s Weblog which focuses on markets, technology and musings.