The Diffraction of Venture Capital

European Straights, 2020-07-15

MK: I love Nick Colin’s content from European Straights and if you can afford GBP 15/mo, please subscribe to his paid email list. Don’t want to be ungrateful to him.

Why Diffraction?

  • Analogy: light waves get spread out as a result of passing through a narrow object.

  • The edge is the shift from financial capital into production capital.

Various Wave Forms

  • VC – no surprise here. Very good for software (increasing returns to scale). End game: the winner takes most. Room for one major player, intense competition. High Risk / High Reward.

  • Venture Debt – complement to equity financing [MK: I’ll need to write about it later]

  • Revenue-based Financing– get paid now instead of later. [MK: my old company used to do it in 2007-2009 and it was a serious source of extra revenue for us]

  • Private Equity – focusing on profitable companies

  • Hedge Funds – and many other forms of alternative financing.

  • Different approach to diversification: learn to earn less, but from difficult markets, attract different kind of investors, production capital and still money to be made.

Something About VCs

  • Upstream: need basic research funded by govt/large companies to make the tech robust and abundant. Risk: entering the market. Must not bear TWO risks: market + research.

  • Downstream: liquidity, of course. IPO, trade sale, no one wants a dividend machine.  [MK: the appetite for dividends may change since 2020 with the lack of exits]. IPOs since 2019 and COVID are not so attractive.

  • IPOs were the go-to paths to exit (if not – trade sale), not anymore, at least outside of the US. This is a huge inconvenience.

  • Since 2008 VC investment into software hasn’t been the dominant model.

o   Software eating the world: companies are entering tangible industries [WeWork?] and regulated markets [fintech, healthcare].

o   Scarcity of exits (see above): aim for profitability sooner [MK: we at Aviasales have been profitable since day one]. But yes, this means less capital and less sexy billion-dollar exits.

  • Both these trends mean lower scalability and lower returns for VCs. Look for other sources of funding?

How Will VCs Look Later On?

  • Traditional VCs are here to stay, provided they have a name.

  • Large multi-asset powerhouses. Different means of funding based on the needs of the firm and the types of firms.

  • There will be nothing in between, because why bother with anyone but a leader?

What’s in It for Europe?

  • Currently – still attempts to copy SV as of 10 years ago.

  • Software is eating the world © :) - firms are branching out to difficult industries. Lower return potential, require faster profitability. Not enough funding tools and opportunities to scale.

  • SV, nonetheless, is going towards the path of less scalability and more profitability. There’s enough room for everyone, but this new approach is what EU needs, but lacks.