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March 12, 2007


ashkan karbasfrooshan

Fascinating stuff, I think one reason is that angels and VCs tend to invest in people they have already worked with. And these people tend to have a successful exit under their belt. Frankly, that would imply that such people are less hungry, more risk averse... but they have more ease in raising funds. Wrote about this some more here:


Jason Wood


Excellent work as usual. As I read through this, it makes me wonder where you sit on the spectrum of failure, and the necessity of embracing the potential for failure in order to achieve inordinate success.

If you care to comment on the topic at hand, I would be most appreciative:



Joe Duck

Great stuff as always. You've done the math and at first glance it's not very compelling. I can't belive this tells the full story on this but perhaps on average these investments lose money, yet the players are wealthy enough to keep in the game and enjoy it. Sort of like breeding Arabian horses or high stakes gambling where there is a huge net loss yet people seem to love it.


# FileNet Corporation for $1.6 Billion
# Internet Security Systems for $1.3 Billion

+ Rembo + MRO + others

Did Google really spend more than IBM last year on buying out companies?


The numbers were startling to me. First I looked at the results for 2006 and thought it must have been an anomaly. Then I looked at 2005...bad again. Then all the way back to 2001...and the trend continued.

VC funds invest for the long term, and the investment climate has been pretty rough since the dot com bubble burst in 2000. I suspect that the annual returns prior to 2000 were very positive. Maybe this has just been a period of "regressing to the mean" and by 2010 things will look very good on average.

Remember one of my favorite expressions "The market is driven by two things; fear and greed. But, fear is temporary while greed is permanent."

VCs have invested over $2 Billion in search related start-ups hoping to find the next Google. One winner makes up for a lot of losers.

Anshu  Sharma

I am surprised to know that Microsoft made more acquisitions than Google. Perhaps, this speaks to the level of media's obsession with this company.

I am a little unsure about the returns calculation though. Google itself is worth over $10 billion since the VC firms did not sell their stakes at IPO time.

"According to Google’s filings with the SEC, Sequoia Capital owns 23,893,800 shares in Google, now worth $4.42 billion on paper (at $185 per share), and Kleiner Perkins has 21,043,711 shares, worth $3.89 billion on paper (at $185 per share)."

I suppose the numbers used in this calculation assume that investors sell their entire stake at time of IPO, or merger.

Althoug I have used Google's example, I would speculate that investors in Salesforce and some other 'exits' may also be holding on for a real exit.

Paul Kedrosky

Don -- Interesting data, and stuff I obviously have seen many times, but I'd be careful drawing many conclusions from it.

a) It is misleading to match invested capital and return proceeds in any given year. The lag between disbursements and receipts is 4-5 years, so monies put out 2003 or later is pretty hard to value.

b) The skewness in returns means that most of the profits went to the top decile within the top quartile. In other words, while the asset class's performance may not have been great, that is not the same thing as saying that the top-performing funds -- a stable group -- have not done well.

c) Returns immediately prior to 2001 were very good indeed. 2000 and 1999 netted LPs 211% and 134%, respectively. 1999 and 2000 vintage funds, however, have been no hell, reinforcing my point in a) above.

d) While we are regressing to a mean after some standout years, it is true that the venture asset class has never had back-to-back negative returns years until 2001/2002.

e) The next three years will tell a great deal about the future of venture as an investment, and I'm actually fairly bullish, with the market wanting more risk, some early-stage companies performing well, and an uptick in IPO activity likely ahead of us.

Tim Duncan

Don -

Thought provoking but I question the basic premise given your investment numbers.

First, tens of millions of VC investments are outside of the tech sector (life sciences, materials etc, etc). To compare apples to apples don't you need to look at tech investments specifically as compared to tech exits?

Secondly, the methodology behind the angel investment amounts in the study you reference seems to be quite ambiguous. It apparently includes broad and rough estimates of virtually every individual private investment (e.g. son borrows $100K from Dad to open up a bar). Again, the true tech investment by angels is likely magnitudes less than the amounts you mention.

Finally, I would also like to suggest that for many, many successful entrepreneurs, starting, building and continuing to run a successful company is the goal. Many of these folks are able to repay initial angel investors from something called "cash flow" (I know, some of you will have to look it up) and live a happy life without ever having encountered the phrase "exit strategy". Believe it or not, that is the way things were done up until a few years ago.


Dr. Paul, I agree that this data doesn't match exits to the initial investment, and noted that most VC investments take at least 5 years to get to a liquidity event. That said, the money invested and exits realized have been pretty consistent over the past 6 years. We need to see the "exits" exceed the investments for the next several years in order to balance out the returns.

Tim, the investments and exits are for ALL companies, not just tech companies. So, it is an apples to apples comparison.

The Angel investment numbers come from the Center for Venture Research, and they are equity investments...not loans from Dad or friends and family.

Finally, Angels make equity investments for the same reasons VCs do...for a capital gain return on a sale or IPO. Angels don't typically invest for cash flow dividends. Those are called "lifestyle" companies or "cash flow" companies and they are usually funded by Dad, friends, family, and suppliers, not Angels or VCs.

I know the top VC firms have done well over the past 6 years. This is the 80/20 rule. This means the rest of the firms have sustained some pretty heavy losses on paper.

Tom Foremski

Don, do you help MSFT buy startups?

I would think that valuations on startups have been depressed by the fact that there are few large buyers competing for them.

And given these numbers, it might seem that the VCs should be happy to get what they can from MSFT and others...

Jason Rubenstein

Nice post Don !!!


Tom, Yes my group helps identify acquisition candidates for Microsoft. We acquired 19 companies last year, and are continuing the pace this year.

Valuations are certainly driven by competition between buyers...and there hasn't been a lot of that lately.

VCs are really good at optimizing the value of their investments. They have the patience to wait for the right situation. In the meantime they will just continue to build value.

David G from Zillow.com

Fantastic post -- thanks for crunching the numbers. It's important for entrepreneurs to appreciate the risk that investors take.

Jeremy Fain

VCs and angels may feel the same 'high risk high return' way, but entrepreneurs can't avoid putting their eggs in a single nest. So, it seems to me that there's a discrepancy between the interests of seed investors and entrepreneurial teams: if investors can afford to see one of their investees go bankrupt, hoping another one of these investees will be a success, I'm afraid entrepreneurs can't be happy about this situation. When all's said and done, having VCs invest more money (reducing failure risk) in less start ups (reducing VC failure tolerance) may well be a good thing after all...

Tig Tillinghast

Very interesting figures. A couple theories:

1- VC's typically like a certain range of out-of-pocket investment size, which I always thought was a bit odd (at least odd that they all center on the same scale). If economic conditions create good weather in the sort of company that eats $7 million infusions, then all's well. If, though, the long tail of companies that would be comfortable eating $500,000 of investment (which typically need to be profitable to survive at that scale and never DO get any investment), then the VC's are going to be feeding in the wrong field. On the other side of the scale, credit has been pretty free for large firms, and bond floating doesn't bring with it pesky board members (not to mention poor valuations), so VC isn't attractive to the fundees.

2- (And this might be related...) VCs cause poorer performance. I don't know if research has been done on this. I know, for instance that The Economist did a neat study some years back on whether or not leveraged buyouts tend to work well for the assets (answer: mostly yes). Would be neat to see them do a similar analysis on VC investment. I can think of several reasons why VC-funded firms may have inferior performance, among them:
- The business plan built to win funding was geared too much to what the VCs wanted to hear. (Been there)
- Burn rate dependent on money on hand, rather than logic
- Too much competition for the small coterie of companies that can argue they need that $7 million, resulting in many poorer investments, rather than investments in similar opportunities at other scales
- Exits with a one-or-two order of magnitude multiple from initial VC valuation typically require an IPO. But in a market where IPOs aren't favored, VCs must sit on their hands and pretend to be happy.

Of all the theoretical possibilities, I think this last one is the most probable answer to the whole issue. VC success is predicated on a general market that shares that appetite for risk, so much so that they are willing to buy it off the VCs at a premium. We may have a higher ratio of cynics among investors nowadays, which isn't necessarily a bad thing.


Hedge Fund Consultant - Richard Wilson

Thanks for those stats. I know many PE firms invest in hedge funds and other investment shops. Do you know how active angel investors are with hedge funds? Are any groups known for working closely with hedge funds?

Thanks in advance.

- Richard

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