Originally published on Substack — January 25th, 2022
I'm a big fan of thinking about the history of things. To understand why you do something today you sometimes need only look at how it got started. Humans are creatures of habit, so a lot of times we do things in large part because that's the way we started doing them. My Dad calls it the SALY principle (Same As Last Year).
But when it comes to venture capital you can go all the way back to the 15th century (when we were still casually stumbling upon continents) and talk about whale hunting.
You can read the details in VC: An American History by Tom Nicholas, but the TLDR has to do with risk and equity. Whaling expeditions, much like tech startups today, represented a majority-risk endeavor where only a small portion are big successes.
Americans were able to dominate the whaling industry over time for a few reasons, but one of them was a unique financing mechanism. Financiers incentivized whalers by giving them equity in the upside and by backing a variety of whaling expeditions they were able to distribute risk across a portfolio of bets. Now we've just traded whales for unicorns and dragons.
While the mechanism for venture investing has stayed pretty similar (exchanging equity ownership in upside for taking on the risk of downside) we can fast-forward to the 70's to find the current model for "general partnerships" in venture.
The Partner of My Partner is My Partner
Since the old guard of VC firms got started they've largely stuck to the same legal structure: a general partnership. Over time firms have consolidated and added more structure or pieces. What is most interesting is that the core dynamic has stayed the same. The focal point of the partnership is (surprise) the partners.
No matter what they added or took away they've always been the center of the universe in their respective firms. Lots of partners, few partners. Do they offer help with talent? Do they find you customers? Do they invest exclusively in niche dog-related verticals or do they invest across all physical and digital mediums?
Doesn't matter. The whalers driving the ship are going to be the partners.
This doesn't sound crazy. All sorts of places have partners. Law, accounting, consulting. But there is an important distinction. These are all services. You have individuals who provide services. In fact, they are the service.
Venture firms have more in common with law firms than with the tech companies they invest in. Nothing wrong with that. Everyone knows law firms are just as good a business as a tech company, right?
The focus on "partners" in VC funds has largely defined the value proposition of each individual firm. Most people would point to the differentiated perspective, personality, or experience of the individual partners that you're taking on. There are around 2,000 venture funds in the US alone. How are they doing differentiating?
Our Uniquely Differentiated Value Proposition
Sometimes when a founder goes looking for a venture fund to work with it can feel like candle shopping. Some candle aficionados will tell you they're all unique in their special way. But the average person knows the options are mostly just wax, food coloring, and different flavors of axe body spray.
When you think about the size of the prize in venture think about it this way. There is over $100 trillion of global public equity value. Private VC-backed companies represent a tiny fraction of that. There is a LOT of room to go.
Even though we've already got a highly commoditized capital base chasing startups we're just getting started. More LP capital means more venture funds. So every VC can either stick their heads in the sand and pretend they're special or they can step back and evaluate what has changed about the startup landscape and innovate accordingly.
A Controversial Stance
Before I dive into the meat of the productization of venture I have to take a stance. A hot take, as it were. Venture capital has been described as a cottage industry. A small group of companies and a small group of VCs, primarily based in the Bay Area. That isn't true anymore.
On the one hand people will argue that venture capital isn't meant to scale. That is often the argument for keeping funds small. If I raise $300M its easier for me to 5x that fund than to generate the same return for a $1B fund. A small fund with a few partners can find a collection of great businesses and make meaningful returns.
To each their own. But we're seeing a continued growth in the size of potential outcomes. In 2006 there was a total of 387 companies in the US generating over $1B in revenue. Across every industry, from utilities to CPG and beyond.
Now there are over 4K companies with $1B+ in revenue. Within technology we crossed the 100 company mark in 2011. 100 companies with over $1B in revenue. In 2020 there were nearly 200 companies, having added 51 companies just in the last few years. Companies like RingCentral, DocuSign, Zendesk, Twilio, and Dropbox crossed the $1B revenue mark.
The secret is out. Technology is taking over the world and we're in the early innings. As that number of companies grows there will be more large outcomes. That will continue to attract more capital. More capital, more venture firms. And so on.
Here's my hot take: venture capital can't just stay a services business. Competition is already going to limit returns, both through less available allocation in the best companies and higher entry prices. Venture capital is going to have to evolve.
Product vs. Services
I'm going to use the term "product" pretty liberally. When I talk about this concept of productizing venture capital a lot of people focus on platform services (talent, bizdev) or proprietary software (something that very few firms have.) But these products can be much more broad.
As an example, if you're a company building around data infrastructure or AI then some of the folks at Index Ventures have a great product. Several of the investors there all have technical backgrounds and have invested across a variety of data infrastructure and AI companies. There are few better products for these kinds of founders.
The reason for venture firms to consider how to more effectively productize their offerings is tied to the increased number and diversity of opportunities. From the explosion of international startup ecosystems, remote work mixing the groups of talent, and complex new categories from AI to robotics to web3 to climate tech. Funds will find themselves exposed to more opportunities and either they specialize (a product in itself) or they productize.
Products can include groups of people, specific services, brand developed a particular way, data-enabled technology, and a hundred other things that creative forward-thinking VCs could come up with. The key question is scalability. How do venture firms grow to take advantage of the opportunity they're presented?
The Evolution of the Venture Offering
Nikhil Trivedi wrote a great piece a few years ago about the ways venture funds have been defining themselves. He describes the progression of firms first focusing on sector and then on stage. Most firms today are now some combination of the two.
Determining where to focus both in terms of stage and sector are certainly strategies, but they're both driven internally; "what do I (the investor) want to look for?"
The world is changing to become more dictated by value proposition because it reframes the question. What do founders want? They don't particularly care what stage or sector you want to focus on. They want to understand what you can do for them. Sure, being really good at seed or the very best at a sector can be a value offering. But it can't just be a filter. It needs to be a feature.
Another way the venture landscape has been articulated was by Everett Randle in "Playing Different Games." His framework showed two ends of a spectrum: high touch and quality vs. low touch and speed.
Everyone's takeaway last year when they read his piece was "I don't want to get squeezed in the middle," but very few people stopped to think, "what does it mean to be in the middle?"
"The most exposed and vulnerable will be funds stuck in the “middle”. When choosing between capital providers, sometimes Founders will want the $12 Amazon Prime 1-day-shipping Carhartt T-Shirt, sometimes they’ll want the $1,500 Gucci Cardigan, but very rarely will they want the $22 J.C. Penney Hoodie. You really, really don’t want to be the VC version of J.C. Penney." (Everett Randle)
What are the characteristics of the VC version of J.C. Penny? Generic, but not cheap? Accessible, but not convenient? Functional, but not noticeable? How many VCs would describe themselves as Tiffany? J.C. Penny? Walmart? And more importantly, how many of them would be telling the truth?
The Status Quo
I asked over 90 investors across 70 different firms (seed, venture, growth, crossover) the question "what 'products' does your firm offer?" These are smart people who are laser-focused on supporting entrepreneurs. But most of them aren't the people deciding the overall strategy of their firm. They're not 50+ years old and reminiscing about the good ol' days. They're working hard to define themselves as investors in a rapidly changing world.
The first common reaction was acknowledging that they didn't always have a crystal clear answer to the question. A lot of people have felt the pressure in the venture market during 2021 and have been pushed to think longer and harder about what their firms offer.
Beyond some of that initial hesitation I got a number of responses. I expected some uniformity but I was surprised to find ~90% of the answers fit into some core buckets. If you're a VC, take a look at the pillars and ask yourself if it sounds like your firm.
Don't get me wrong. All of this is great. And every firm will do all of these to varying degrees of quality. But if every firm says these are their products you can see why founders sometimes feel like they're candle shopping, right?
"One of the challenges of being a [large multi-stage firm] is standing out from the others. These firms are already starting to look like one another, and the competition amongst them is fierce. The commodification of [large firms] presents new opportunities for [others] to differentiate." (Nikhil Trivedi)
The point of creating a product is not to make it everything to everyone. A lot of firms feel like they have to add the latest and greatest value offering to keep up. This can confuse an already fuzzy view that founders have of a given firm. Building your firm with a product in mind allows you to more clearly articulate your value proposition. What's the "job-to-be-done" that a founder hires your money for?
"Better to find a niche where you win first prize than to be one of an undifferentiated many." (Garry Tan)
There are countless examples over the last few years that should shake VCs awake and help them realize there are a lot of founders in a lot of sectors at a lot of stages and they don't all want the same thing. Folks like Boldstart proved that founders are prioritizing people who will actually help them over big brands. Stripe proved that corporate VC's can be fast-moving value-add partners. Tiger proved that some founders just want to be left alone!
Very few firms have a clear answer to the question "what is your differentiated product?." There has never been a better time for venture firms to stop and think about what a product-led venture firm would do.
While there are lots of services and offerings like community or talent these aren't necessarily purpose-built for specific founders. Apply the same logic to a VC's product as you would to any product-first company. What is the ideal customer profile? Saying your firm is building with founders in mind is like building a consumer product for humans. There's no clear direction. There are thousands of different types of founders.
Structure your organization around productization. Like I said, the center of a VC firm's universe has always been the partnership. They dictate how everything works. Maybe start to borrow from an org structure that has created phenomenal products. Those organizational changes are already starting to happen. Kim Milosevich recently rejoined a16z as Chief Marketing Officer after spending almost 2 years in marketing at Coinbase.
Most importantly, when she was at a16z before she was a Partner in charge of marketing. Now? She's CMO. Things are changing. What would a venture fund look like with a CEO, CTO, a Chief Product Officer? A Head of Sales? A Chief Architect?
The VC landscape is getting more crowded than ever. Founders are confused, stumbling around in a candle shop, and the picture is getting fuzzier. And as bad as it is to lose the opportunity to invest in a great company because you're not the right fit it is even worse to be so unclear in your offering that they don't even take time to think about you.