The Muddled Middle

Top tweeter Fred Wilson has two interesting posts that echo the same theme: venture investing should be much more complicated than simply finding the Next Big Thing.

First, he talks about the fallacy of bimodal returns – that the two most likely outcomes for an early-stage investment are either a fast flame-out or an oversized return. As evidence, he shares some of the current valuations (because the returns are unrealized) from their 2004 fund. His belief, as an early-stage investor, is to play in the middle of the curve, limit your capital, and invest aggressively in future rounds for companies making great progress.

The seems like normal advice, but in the fervor to find future facebooks, it’s contrarian.  This middle ground, as Fred says, is the mess in which one should invest. As he writes:

Right now, this is where venture capital investing remains attractive. Like all forms of investing, the hard investments to make are the ones that are the most rewarding. Everyone knows that Facebook is a winner. Investing in Facebook is not hard and it is expensive, although it may well be rewarding.

Much as private equity companies were criticized for gains through leverage and an expanding M&A market instead of adding value through operational improvements, some venture firms seem to have shifted to merely trying to catch the tail of the next rocket rather than helping companies grow.  As usual, the successful strategies are likely to be elsewhere.