Venture Capital Is Ripe for Disruption

Figma was one of the largest software acquisitions of all time at $20B—a staggering, Scrooge-McDuck-swimming-in-a-pool-of-gold sum of money. More remarkable than the money is the possibility that this deal is a failure for many of the VCs who backed Figma. All it would take is for the investors to have used capital out of their current funds. 

At the time of exit, Index Ventures owned ~13% of Figma, for a stake worth about $2.6B. The firm led the seed round of the company in 2013 and almost certainly defended its ownership over the intervening years by injecting additional capital. Depending on timing and volume of deployment, they likely got 30-90x their capital. That’s great—but it isn’t enough.

Index’s most recent fund was raised in 2021 with $3.1B in total assets under management (AUM). Even though Figma was a $20B outcome, even though Index owned more stock than the founder of the company, this company wouldn’t even be enough to return the fund. A good fund will return at least 3x the investor’s capital. To clear that bar, Index will need multiple Figma-sized outcomes. The typical venture fund will have 1-2x breakout winners, a few more that might double their investment, and the rest will go to zero. This is a grand slam industry—VCs aren’t in the business of base hits. To be fair to Index, the $3.1B they’ve raised is spread between different types of investment vehicles from seed to growth, but the point is still valid. The larger the fund size, the more outsized the outcomes need to be.

We have now reached a point in the startup ecosystem where for large VC funds, a startup achieving a billion-dollar outcome is meaningless. To hit a 3-5x return for a fund, a venture partnership is looking to partner with startups that can go public at north of $50B dollars. In the entire universe of public technology companies, there are only 48 public tech companies that are valued at over $50B. Simultaneously there are close to 1,000 venture funds all trying to find these select few. This is a huge problem. It is likely that many of the funds deployed over recent years will be some of the worst-performing of all time.

It isn’t just limited partners who are being ill-served by the venture capital product—entrepreneurs are getting hosed too. Since VCs typically only have 20-30 companies per fund, they end up doing a large degree of “pattern recognition” for their portfolio companies, resulting in a small subset of ideas being funded. The people behind these ideas almost always end up looking the same: white, Ivy League, and elite. Just 0.12% of the venture dollars deployed in Q3 this year went to Black entrepreneurs. 

To hit this $50B hurdle, entrepreneurs take on more and more risk to try and achieve larger and larger outcomes. There is an entire generation of entrepreneurs who are ambitious and highly qualified who can’t receive venture dollars because they look or act a little differently. Even for those founders who are building a “world-changing” company, this push to enormous outcomes forces them to embrace an insane amount of risk. Any experienced builder will tell you that at certain growth milestones, the end state of the business becomes obvious. For those who take VC dollars, there is no off-ramp to becoming a giant company.

This is a market ripe for disruption. As venture funds continue to target larger and larger outcomes, there is a ton of opportunity left on the table that no one is seizing. You could invest in businesses that have an 80% chance of being worth $300M, rather than a 1% chance of being worth $80B. This strategy is an obvious opportunity to make a ton of money. Start by serving the underfunded, slowly move upmarket, and then, suddenly, you’ve disrupted the entire industry.

(Reader, I beg you, please use this strategy and become rich. And not only will you become rich, but you’ll also enable a wholly new class of entrepreneurs and small businesses in America. Get rich, do social good, and validate this article? Why wouldn’t you pursue this??)