The Venture Industry Five Years On? Entrepreneurs May Be Running It

Wealthy entrepreneurs used to buy vineyards. Now, they become venture capitalists.

And they’re taking over the venture industry.

Earlier this week, Formation 8, a new venture firm co-founded by Palantir Technologies’ Joe Lonsdale, revealed its new site. Yet Lonsdale is only the newest in a long line of entrepreneurs who’ve jumped headfirst into the venture industry in recent years. The list includes PayPal cofounder Peter Thiel (who now has two venture capital firms, Founders Fund and Mithril Capital Management); Freestyle Capital’s Josh Felser and Dave Samuel (who founded Spinner and Grouper, two companies that went on to sell for a collective $400 million); K9 Ventures’ Manu Kumar (who founded SneakerLabs); Floodgate’s Mike Maples ( who cofounded Motive); Thrive Capital’s Joshua Kushner (who cofounded the Brazilian game company Vostu); Crunchbase’s Michael Arrington (who founded TechCrunch); Revolution’s Steve Case (who cofounded AOL) and on and on to the biggest wheels, Marc Andreessen and Ben Horowitz of Netscape and Opsware fame, whose three-year-old firm is now considered one of the most powerful players on Sand Hill Road.

That’s saying nothing of the hundreds of entrepreneurs who are actively investing their own money in deals and potentially displacing traditional VC dollars in the process.

What’s going on? Last weekend, legendary investor Roger McNamee complained to the New York Times that venture capital is now “more about a lifestyle than it is about investing.” Today’s VCs are “making a million bucks a year without generating much, if any, return. It’s like watching Fox News — these people are living in an alternate reality.”

A more plausible explanation is that the industries that VCs are funding have changed and so, accordingly, have the investors.

In 2005, when Josh Kopelman first launched a tiny $10 million fund under the First Round Capital banner, his move was atypical, to say the least. Kopelman had played a founding role in three companies – an Internet company called Infonautics that had gone public in 1996; an online marketplace called Half.com that sold to eBay for $350 million in 2000; and TurnTide, an anti-spam router company that was acquired by Symantec for $28 million just six months after it spun out of a tiny consultancy. While any reasonable person with Kopelman’s track record would have given serious thought to spending the rest of their life in Tahiti, Kopelman wanted in on the venture capital game.

Changes in the technology market have obliged him.

“Fifteen years ago there was more ‘hard’ technology being developed – Internet routers, semiconductors, hard drives – that were more capital-intensive and soaked up more VC commitments as companies needed to build ‘real’ things,” observes Kelly Deponte, a managing director at the San Francisco-based Probitas Partners, which helps investment firms raise money. “The current market is more virtual, driven by things like social media, which often do not require lots of capital to hit critical mass.” As a result, he continues, “Entrepreneurs and angels can fund a lot more things to critical mass” than ever before.

Deponte doesn’t think the growth of super angel funds has caused the number of traditional VC firms to contract. Rather, he argues that the industry simply grew too bloated during the go-go dot.com days and that the “past decade really has been a return to sustainable fund sizes and sustainable VC staffing levels from the mid-1990s.”

But other insiders say the venture industry will probably never look the same again. Jon Holman, a San Francisco recruiter, has been hiring VCs and CEOs for more than 30 years. As he puts it, “I think the stratification [of the VC industry] will continue for a while, along with the trend of wealthy entrepreneurs (Andreessen, Thiel, Khosla, Omidyar, etc.) setting up their own shops to help the next generation. And I think there will be fewer firms five years from now.”

The outcome of this ongoing evolution remains to be seen. For his part, Mark Heesen, president of the National Venture Capital Association, thinks the number of “active” traditional firms “could, at the end of the day, be around 300” down from an estimated 500 today. He further anticipates that new entrepreneur-investors will “probably offset that decrease.”

Heesen doesn’t sound overly worried about the shift. “We had a sizable angel community 20 years ago, but it wasn’t as mature or as important a source for entrepreneurs as it is today. From that angle, it’s not by any means doomsday.” However, he notes that “VCs are going to have to have to become more acclimated to this new environment because I don’t see us going back to where we were 10 years ago.”

For the “traditional” VC survivors, at least, that may be just fine, too.

“Creative destruction is a natural part of capitalism,” says longtime VC Venky Ganesan of Globespan Capital Partners. “Why should the venture business be immune to it?”

Photo: Image courtesy of Shutterstock.