Why are Venture Capitalists so Picky?
A Thought Leader Guest Post from Dr. Fred Haney, Author of The Fundable Startup:
Why Do Venture Capitalists Invest in Such a Small Percentage of Startups?
The other day I mentioned to a friend—who happens to be an entrepreneur professor—my concern that so few startups satisfy the hurdles required to attract venture capital.
His response was, “Well, the VCS only invest in .052% of startups so they are pretty much irrelevant.”
Let’s think about this a little and see if we can put it in perspective.
First, it’s true that VCs invest in about .052% of startups. This could mean that VCs are not terribly active or that they are missing a lot of opportunity or that there aren’t enough of them. But it could also mean that professional investors—people who invest for a living—think only .52% of deals pencil out as good investments. Or something in between.
Personally, having managed a very successful venture capital fund and falling into the traditional pattern of investing in only about 1% of the companies I saw, I’m inclined to believe the latter—that a very small percentage of startups meet the criteria for venture capital investment.
Looking for Answers
“Facts sometimes have a strange and bizarre power that makes their inherent truth seem unbelievable”—Werner Herzog
Can we find some statistics to help us understand what’s going on here?
According to a Quora article referencing the National Venture Capital Association, from 1995 through 2019 a total of 28,536 companies received venture capital funding. Of these, 2010 executed in IPO and 7515 were acquired for a total of 33% of all companies achieving an exit.
This data suggests that the .052% of startups funded by venture capitalists are producing about one-third of all exits. That is extremely disproportional. It seems to say that the VCs are in fact making good investments and that they are not missing many opportunities.
A recent Stastica report shows that from 2004 to 2018, venture-backed IPOs have comprised an average of approximately 24% of total IPOs. This implies that venture capitalists are turning ,052% of startups into about 24% of all IPOs. (“Number of IPOs in the United States from 1999 to 2018,” Stastica. Again, this is highly disproportional compared to .052% of startups.
A 2018 report by J. Ritter, offers some insight as to the makeup of the non-venture-backed IPOs.
From 1980 through 2016 and there was a total of 8252 IPOs. Of these, 2703 (33%) were venture-capital back companies, three hundred eighty-seven were “growth capital” backed companies. One thousand ninety-six were “buy out” backed companies. The number of IPOs without a financial sponsor (presumably including all angel-backed IPOs) was ...
Read the rest of this article at TheFundableStartup.com…
About the Author
Thanks for this Guest Post to Dr. Fred Haney, the Founder and President of the Venture Management Company, a firm that provides assistance to high tech companies. He is the author of The Fundable Startup: How Disruptive Companies Attract Capital, published by Select Books of New York.
Download the first chapter free here.