I’ve heard a lot of hyperbolic statements lately — venture capital is dead, ICOs will kill VCs, Silicon Valley is over.
Just last week, the New York Times published two separate articles exploring Silicon Valley’s potential demise (one due to Peter Thiel’s exit and one due to Steve Case’s rural America-focused Rise of The Rest Fund). Part of this is cyclical, but it definitely feels like change is on the horizon.
There are a few major contributing factors:
- #metoo: This year’s heightened recognition of the gender and race disparity within Silicon Valley, as brought to light by the #metoo movements
- #riseoftherest: The rise of emerging tech hubs outside of Silicon Valley made possible through lower costs of capital and growing technical talent pools elsewhere
- #crypto: New asset classes — namely cryptocurrencies — that dangle more attractive ROI potential than traditional VC investment as well as the possibility to distribute wealth differently
In spite of all of this, I don’t believe that Silicon Valley is over — in fact, that statement misses the point entirely. Instead, Silicon Valley — as a microcosm of the tech industry overall — is simply experiencing change at an accelerating rate, and in order to keep up, VCs will have to adapt more quickly than ever before.
Adaptability is the key trait that will indicate which VCs — and tech companies alike — survive and thrive in today’s changing times.
I’ve written about the importance of adaptability and the adaptability quotient (AQ) before. AQ pertains to all of us — each individual, each organization/company, and each region/nation — but VC funds are a particularly good use case for measuring AQ.
Why do VCs need high AQ?
In general, venture capitalists aim to invest in companies that provide 10x returns over a period of 8–10 years (the average number of years it takes to IPO). In other words, early stage VCs need to be able to predict what the world will look like 10 years from now. But, since the rate of technological advancement is exponential instead of linear, VCs today must be able to predict 100x more change in this same 10 year time horizon. They must be able to see a big change before it happens, predict its direction, and invest preemptively in order to capitalize on it.
To drive the point home, let’s take a look at the 3 factors I described above in the context of the adaptability quotient (AQ) to see how VCs with high AQ are already starting to separate themselves from the pack.
High AQ Examples in VC
Current Status Quo: VC is largely dominated by straight white males, investing in other straight white males.
Future Trend: Value creation will be greatest by those who have been previously neglected: women & minority groups.
Low AQ Response: Respond negatively or with fear and continue down the same path of hiring, promoting, and investing in straight white males.
High AQ Response: Capitalize on the market gap and invest preemptively in women and underrepresented minority groups.
Example: Arlan Hamilton, Founder of Backstage Capital, is a black, queer, female VC poised to succeed because of her high AQ. Individually, she’s had to exhibit adaptability many times over — she’s navigated homelessness, succeeded in a music career, and pivoted to raise a seed fund when every statistic was against her. As an investor, she’s capitalizing on that unique point of view by investing in founders like herself— a group that traditional investors are widely neglecting. With her first fund, Arlan plans to capture future value by investing in 100 companies that are led by underrepresented founders, with half being women of color.
Current Status Quo: VC investments are highest in Silicon Valley, where the talent is strongest and the opportunity to create valuable companies is most likely.
Future Trend: The relative value creation potential is higher outside Silicon Valley because of lower costs and an increasingly technical talent base.
Low AQ Response: Continue to pattern match within Silicon Valley and invest in startups there to attempt to replicate previous successes.
High AQ Response: Capitalize on the market gap and invest preemptively in new tech hubs outside the Valley.
Example: Rise of The Rest Fund (ROTR) just raised $150 million dollars to invest in startup ecosystems outside “the coastal elites”, namely Silicon Valley, LA, New York City and Boston. The seed fund, led by Steve Case and backed by luminaries including Jeff Bezos and Eric Schmidt, strives to prove that there is serious cash to be made by doubling down on previously overlooked tech hubs like Kansas City, Cleveland, and Detroit. Simultaneously, Silicon Valley is witnessing record-high costs — both in terms of housing prices and talent costs. As a result, ROTR is positioning itself to capture future value by taking advantage of that cost-differential.
Current Status Quo: Invest in companies through a standard venture capital terms — X shares of a company at Y valuation, with a price set by a lead investor and followed on by a select number of other institutional VCs.
Future Trend: Invest in a company through an Initial Coin Offering (ICO) where investors — both accredited and not-accredited —invest at terms set by the company for tokens instead of shares.
Low AQ Response: Avoid investing in ICOs and cryptocurrencies because it doesn’t fit the previous model and does not guarantee the same percentage ownership.
High AQ Response: Capitalize on the market gap by altering your returns model to be value-based instead of structure-driven (10 tokens for Company A in an ICO may be worth more than 10% of Company B through traditional VC if Company A is inherently more valuable).
Example: Prominent investors Andreessen Horowitz (A16Z) and Union Square Ventures (USV)have dramatically altered their models to re-position themselves for returns from cryptocurrencies. They are participating in ICOs (YouNow, Kik), investing in tokenized protocols (Basecoin, Orchid) and investing in cryptocurrency hedge funds (Polychain) for broad and hedged exposure in token markets.
It’s hard to say for sure that Backstage, ROTR, A16Z and USV will have the highest returns in 10 years, but they are all exhibiting high AQ in the face of change. They’ve each made a risky yet calculated bet on the future by perceiving existing gaps and predicting tidal shifts. In doing so, these VCs are not only adapting to change, they are also acting as change agents themselves through their capital.
Isn’t that what venture has always been about?
Author’s Note: Views are my own and do not necessarily represent those of my employer