The Business of Venture Capital. Mahendra Ramsinghani

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       Pain + Reflection = Progress. One of Ray Dalio's principles is often quoted but rarely practised in the business of venture capital. VCs often talk about pattern-matching for success. But pattern-matching for failure is rare. Losses are often buried deep and quick, unless you need a favorable tax treatment. Logos vanish from websites and LinkedIn profiles. In a business where speed and “hit-rates” matter, the LPs suffer the pain, while GPs rarely reflect. Nor do LPs ask questions about lessons learned. Getting inside a “hot fund” matters more. Asking tough questions may not yield access to the elite funds. Venture investing still remains a game of hit-or-miss, with more losses than hits. But as VCs, we do injustice to our own ethos when we do not reflect on our own losses and mistakes. How will our hit-ratios ever improve? One VC told me about their first loss — it occurred when they got a call at 10 p.m. from a portfolio CEO. “I cannot do this anymore,” said this exhausted, overworked, underappreciated, and totally burnt-out CEO. The VC reflected that they had not worked hard enough to understand the CEO's personal challenges. And it was too late to offer support now, when the CEO had pulled the plug. Another VC's loss occurred when a company ran out of cash. In this case, the CEO was a quintessential salesman who could get orders but did not understand the implications of poor cash management, leading to a flameout. The VC blamed it on their own rushed fervor to invest in this company. Speed, trust, blind optimism can destroy any portfolio quickly. And therein lie the root causes of all investment losses. To address these, following a radically open-minded decision-making process can help.

       Decisions, biases, and harmful emotions. In the VC business, we often make rapid decisions with limited knowledge. Ray Dalio's fundamental decision-making principle asks to build deeper knowledge sets with utmost humility. In practicing humility, we assume we are not as smart (as we think we may be). If we reach out to as many people to gather as much data, we might make better-informed decisions. We should often ask, “How do I know I am right?” VCs only know if they are right after a longer period — say, five years, when portfolio companies succeed or die. But we can ask this question at every stage of our investment process. All investors go through two phases — gathering information and conducting analysis — before we commit. During these phases, a lot of opinions clash with facts. And we can be rushed into saying yes or no. Emotions and impulses can drive this instead of knowledge, data, and analytical skills. To develop and follow a rigorous weighted and probabilistic model of decision-making is not easy.What Makes a Good Investor?Good JudgmentVC doesn't necessarily take technical talent — it doesn't hurt — but it's more about people skills and the ability to assess whether there's a market for something,—C. Richard Kramlich, founder, New Enterprise Associates (NEA).¹⁰They see into the future, and they see what I call “situational awareness.” A lot of good venture capitalists, most venture capitalists — the good ones — can walk into just about any kind of meeting and, in about five minutes, figure out who's doing what to whom and exactly what the issues are, sort of cut through it and figure out what's going on … You sort of look at a given situation and project its trajectory reasonably well.¹¹—James R. Swartz, founder, Accel PartnersIt really pays off to come into [venture capital] after you've had a fair amount of experience doing something else. I think it's a business that you're probably better off entering in your thirties and forties than you are entering it in your twenties, because you need to build a frame of reference by which to judge people and to judge opportunities and to be able to judge markets and what's going on in the economy.¹²—Reid Dennis, founder, Institutional Venture PartnersVenture capitalists should guide companies based on real-world experience … if you had a good marketing job at Intel, that beats an MBA. An MBA is a little bit general for the venture business…. The partners [at our firm] can say to entrepreneurs, “We've been where you're going,” and really mean it.¹³—William K. Bowes Jr., founder, US Venture PartnersBrian Armstrong, CEO of Coinbase, has written a post about an anonymized decision-making framework that can bring a level of discipline in any politically charged, ego-driven process. Such an approach can reduce the role of harmful emotions in decision-making. Ego, greed, status-plays, and one-upmanship are rife in the VC business. Our own psychological biases will never vanish completely, but at least we can become more self-aware. The notion of radical transparency may seem idealistic but needs to be inculcated in our lives.

       Conformity (or groupthink). In groups, we like to conform rather than act independently. Time and again, studies have shown that our behavior changes, at times dramatically, when we are in groups. This might explain why you have some investors who say one thing in a one-on-one session but change their views when they are in a group. This is group dynamics at work — people don't usually want to be seen as renegades. Conformity is default behavior in human beings indeed, as it is seen as essential to survival in tribal contexts. McRaney points out that our desire for conformity is strong and unconscious — like the desire to keep everyone happy around a dinner table. But beware the dark place conformity can lead to — dishonesty. If you see groupthink and weak spines around the table, raise your hand and ask, “Are we conforming to look good to each other? Or do each of us believe this is a good decision?” The other interesting aspect of group dynamics is that it can decrease the quality of decisions, writes Dan Ariely in his book, The (Honest) Truth about Dishonesty. We have all seen this happen in large organizations and government entities: it's called bureaucracy, and it results in decisions being made via the lowest-common-denominator approach. No one gets fired. It's all good, but nothing ever gets done. It is rare for such a challenge to occur in a startup, but be watchful.

       Halo effect: Hero worship. Every business has its heroes. The lead singer of the rock band U2, Bono is a venture capitalist with TPG Growth and Elevation Partners. While we have not seen such star power in a startup's boardroom, it would be fun to speculate what a board meeting would be like. Bono walks in, sits down, removes his shades and says in his gravelly husky voice, ”We really should move away, really, really move away from that strategy.” Would there be a chorus of “ayes” followed by, “And now can we get your autograph, picture, and a hug?” We often subconsciously gravitate toward people who look like us, who agree with or compliment us, or are physically attractive, writes author Robert Cialdini. It’s called similarity, compliance, association, and cooperation. Such psychological СКАЧАТЬ