BUSINESS BLOGS
BUSINESS BLOGS
category: business
28 Nov 2008

One of the results of the credit crunch has been the fact that VCs have seen a wrench thrown into their time horizons, exposing the flaws of their investment strategies.  For the record, I am not talking about clean energy, infrastructure, semi-conductors, etc., I am strictly talking about the obsession that some VCs had with the consumer media sector.

VCs typically invest with 5-10 year time horizons, after which point they usually expect to see a 10x return on their investments (ideally more, of course).  The exits come in the form of an acquisition or an IPO.  However, with less and less IPOs happening, VCs now find themselves questioning their models.  Exasperating matters is the explosion of VC funds out there, creating an influx of capital for too few VC-worthy projects.

The problem is, they are now looking at triggers and accelerators and scapegoating these as causes.  The result now is pressure on VCs to liquidate their holdings.  The WSJ, via SAI, reports that some of these distressed funds are now asking for $0.10 to $0.60 for every dollar invested.  Considering that VC partners pride themselves on having a long term outlook, this line of action is quite surprising and sign of the times, which will certainly get worst before they get any better.

Meanwhile, a lot of VCs actually see themselves as innocent victims or bystanders who did nothing to bring this on to themselves.  That’s half the story.

While I have always poked fun of VCs me-too mindset and herd mentalilty, I’ve also given them credit when and where it’s due.  This being said, I just think a major problem with the VC execution here has been that many are simply out of their elements when it comes to the list of consumer web media investments they have made.

VCs tend to hail from engineering or computer programming backgrounds.  If they’ve had any sales experience, it’s at a technology company which probably has very little exposure to advertising-supported revenue models.  Yet as I am prone to repeat, there has only been one successful ad-supported technology company: Google.  Even Google’s success was more of an exception, rather the rule, as a result of the perfect storm.

The harsh truth is that VCs are now seeing the chickens come home to roost:

- The acronym YASN was coined to illustrate the tendency for VCs to invest in “yet another social network”.  Apart from MySpace and YouTube, no one can brag about a VC-worthy payoff.

- Think of the number of Digg clones that were backed to profit from user-generated content (UGC).  Yet today, none of these companies - not even market leader and admittedly addictive Digg - have a clear path to profits or an exit.

The news for social networking companies’ hopes to monetize their audiences just gets worst and worst, even Facebook, which is growing faster than ever, is scaling back their revenue targets: from $300-350M this year to $250M, and that, with a healthy contribution from Redmond and uncle Steve.

So if VCs are in fact pruning their portfolios, it’s not just that the credit crunch has impacted their time horizons, it is that their bets were misplaced and plain wrong: VCs are simply allergic to content plays, for example, yet they will back countless content aggregators, why is that?  VCs look for shortcuts.  They think content creation does not scale or is not defensible, yet they will back countless applications that can be duplicated on a whim and a case of Red Bull’s.

To conclude, it is not because of the credit crunch, but rather, their poor investment thesis of backing these clones, that they have failed to show any major exits.

All the credit crunch has done is accelerate the inevitable.  Lenin would say that war was the accelerator of history.  In some ways, so has the financial meltdown that we’re now watching.  Sooner or later, VCs would start to hear what marketers have been saying all along: UGC is undesirable.   Their reluctance to heed this feedback now forces them to clean up their portfolios before being able to invest in new companies, which means that they will only be rendered ever more irrelevant.

This, of course, is just my two cents, mind you.

I am biased because we’re a video content producer/syndicator, so the polar opposite of UGC.  But the fact remains: UGC has failed in the ad-supported ecosystem that is the Web… yet I don’t see any signs that VCs have learned from history.