Venture Capitalists Running Scared, And Who Can Blame Them

Recent research confirms what those of us close to the tech industry know anecdotally: the VCs are running scared.

[from Maybe We Should Call Them Venture Pessimists - Bits Blog - NYTimes.com]

Venture capitalists need a healthy dose of optimism to do their jobs — betting millions of dollars on young ideas and hoping they turn in to the next big thing. These days, though, that optimism is in short supply. The latest evidence is the quarterly Silicon Valley Venture Capital Confidence Index, which found that venture capitalists’ confidence has reached its fifth consecutive quarterly low. In the fourth quarter, it sunk to 2.77 on a 5-point scale, down almost two points from just a year ago.

Biologists have learned that animals evolve into one of two procreative strategies. On one hand, there are those species where parents produce bazillions of offspring (think of salmon spawning, for example) and then have next to nothing to do with their progeny. At the other end, we have the opposite strategy, where parents have only a few children and invest a great deal of time and trouble in their upbringing (like penguins and people).

The VC industry seems to swing between these poles, ebbing and flowing with the tides of the economy. When things are booming, VCs amass more money, throwing it at a wider and wider range of companies, and spending less time invested in their care and feeding. When things slow down, VCs stockpile their money, doling it out like anxious parents sending their 1.7 children to the best private schools, and supporting their charges with more nurturing. But when the economy hits with a dead cat bounce, like we are seeing today, VCs don’t have children at all: there just aren’t enough calories to go around.

VCs need an exit to get a return from the innovation inherent in startups. But if our financial systems contract so that there are no exits, there will be no entrants.

A world in which there is no procreation will die: not today, not tomorrow, but sometime down the road.

In the absence of the modern free market approach to spurring innovation — represented by VCs and other sorts of risk-oriented investment — our innovation is threatened. I don’t know exactly what will emerge to fill this role, but the government should be concerned. A country like the US has to create many, many startups to remain in the forefront of innovation.

I am not advocating nationalization of the VC industry, but I hope that some of the trillions that Obama & Co are earmarking to jumpstart the economy would be directed to a fund that might match investments in sectors that are key to our future.