Follow The Money

Brad Feld has a new book on the startup ecosystem.  He wrote it with Ian Hathaway who has done a lot of very good research on startup ecosystems.  Brad writes good books on startups.  It’s a part of his “brand” and it is a way to attract deal flow to Boulder where he is based.  Brad has been highly successful, and that success also attracts deal flows.

NY based Fred Wilson opines, “This suggests to me that we will see tech entrepreneurship and innovation move even more broadly around the US and around the world this decade”.   Again, Fred has been highly successful and that success attracts a lot of deal flow.

Fred might be right.  But, he might be wrong too.

I think like everything, you have to follow the money.  Talk is cheap.  Both Fred and Brad have invested outside of the Valley.

I started Hyde Park Angels back in April of 2007 in Chicago when there was very little seed capital at all available to Chicago entrepreneurs.  The ecosystem has grown tremendously, but it’s still tiny compared to NY, Boston, Austin, and of course the Bay Area.  We had a rule that we’d invest a “day’s drive” from Chicago.

This time it’s different though since everything has gone virtual.

Going through a “virtual” investment is not something that big time VCs are used to.  They are still getting used to it and it will be interesting to watch if they continue with that model when everything gets back to normal.  If VCs start to invest a lot outside the Bay Area and are okay with virtual board meetings and all that comes with it, Fred will be right.

I recall Jason Calcanis saying in his book “Angel” that you have to spend a lot of time in Silicon Valley to find the best deal flow, so you might as well move there.  If VCs go back to the way they were comfortable and highly successful at doing business before, then we won’t see a thousand new ecosystems take flight.

If the VC world goes virtual, the key for the VCs will be deal flow.  How do they find and attract it?  If the business goes like most businesses that are fragmented and then solidify, it will be harder for upstart VCs to break in.  Samir Kaji has shown how hard it is to raise the first fund.  I think it’s getting even harder given the returns in other markets.  VC is inherently risky so you better generate very outsize returns.  As anyone who has been invested in startups knows, it takes quite some time to generate that return.  I think at least 10-15 years.

Another facet of the investing process is after you write the first check, how much capital do you reserve for follow-on checks?  As the VC world goes virtual, it might be that funds need to reserve more money than they are used to because finding co-investors in follow on rounds might be more difficult depending on their network and their comfort with co-investing with other funds.  Funds compete against each other and some funds don’t like co-investing with others.

I am also reminded of my friend Sam Guren’s statement that “VC doesn’t scale”.  Funds will have to figure out what it takes internally to scale nationwide, and possibly worldwide.  I can tell you from experience, there are different hurdles and challenges when investing far from home.  Our fund has made two investments outside the US and I made one as an angel.  All three companies are still in business so we will see how it all plays out.