Updated: The latest salvo in the ongoing debate over the health of the technology venture capital industry comes from investor and startup advisor Dave McClure in a blog post entitled “Moneyball For Startups.” One of the big questions that continue to spark heated discussion is whether angel or “super-angel” funds and investors are inherently better than big traditional VCs, a debate that got a boost recently when venture advisor Paul Kedrosky said there was an angel crash looming. But McClure — whose preferred blogging style consists of lengthy rants filled with capital letters, multiple expletives and seemingly random changes in font color — says that the big problem isn’t size. He argues that most VCs, big or small, are simply approaching the consumer Internet market in completely the wrong way.
Most consumer internet investors, large or small, have no g****mn clue what they are doing. They are getting killed on IRR, and most of them should be put down & put out of their misery… NOW. Their investment thesis is suspect, their domain-specific skills are limited or non-existent, and their desire & ability to innovate is minimal. They are simply collecting fees, waiting for their next tee time.
The issue, McClure says, is that VCs of all shapes and sizes have failed to appreciate the kind of revolution that the web and the Internet in general has produced for consumer-focused startups, and how this changes what is required of the venture capital industry. Most VCs, McClure contends, are still stuck in a pre-web mindset where a good investment consisted of building a product — meaning “a variety of expensive things (big iron, disk drives, personal computers, packaged software, computer chips, designer drugs, network routers, browsers, search engines, social networks, etc)” — and then acquiring as many customers as possible and looking for a hundred-million- or billion-dollar exit.
That kind of approach makes no sense in today’s world of ultra-fast, low-cost web startups, McClure argues, since “product” now “typically means a website or service, run on low-/no-cost open source software, hosted in the cloud on low-cost servers, developed in a few months (or a WEEKEND!) by a small team of 1-5 developers, who continuously test & iterate in real-time with online customers.” And where marketing used to be expensive and require a lot of people and processes, he says, it now means “online distribution channels, paid & organic search” and viral and social marketing through Twitter and Facebook — much of which is low-cost or even free, and much more measurable.
There’s a lot more detail in the post, but that’s it in a nutshell. The result of all this is what McClure describes as his central investment thesis, which is to invest in smart entrepreneurs before they have even identified a product or market completely, and then make sure they are testing and checking continually to see if they need to revise or “pivot” to a new product or market. Then, when it becomes obvious they have something and are building a growing customer base, McClure says, it’s time to “double down” (McClure will get a chance to test his thesis with a new $30-million fund he is raising).
It’s sort of like counting cards at the blackjack table while betting low, then when you’re more than halfway thru the deck and you see it’s loaded with face cards & ten, then you start increasing your betting & doubling-down.
So is McClure right that this approach makes more sense than the traditional venture capital process, and that mainstream VCs are simply out to lunch? Some seem to agree wholeheartedly — the legendary Mitch Kapor, founder of Lotus 1-2-3 and the Electronic Frontier Foundation, said that in his post, “Dave McClure gives away every one of my investing secrets.” (Update: Union Square Ventures investor Fred Wilson has also posted some comments in support of McClure’s approach). Others seem more skeptical, however. Keith Rabois, also a venture investor of some note (and like McClure a former staffer at PayPal), said he disagrees with Dave’s take, and pointed to another contrarian response, a blog post by Glenn Kelman at the online real-estate brokerage firm Redfin.
In that post, entitled “It’s Still Expensive to Build a Great Product,” Kelman takes issue with one of McClure’s main assertions, which is that it is substantially cheaper now to start and run a company. Kelman argues that the only thing that has really declined is the cost of software development and hosting, but that it still costs a lot of money to find and keep excellent engineers and designers. And he says that when McClure “argues that his type of investing is the best type of investing, and that the alternative will go the way of the dinosaurs, I just want some data, or even a single example.”
Interested in a follow-up post, Dave?
Related content from GigaOM Pro (sub req’d): What the VC Industry Upheaval Means for Startups