Last month legendary investor Vinod Khosla commented that 95% of VCs add “zero value” and 80% probably “add negative value” in how they advise startup companies in their portfolio. This is a stunning indictment of the VCs that Khosla has interacted with over time.
No one would argue that some VCs make net negative contributions, but four out of five seems like considerable hyperbole. And only one out of twenty VCs add real value? Really? Those proportions aren’t anywhere close to my experience. I’m pretty sure I can still count 20 biotech VCs that remain active investors, and certainly more than one of them is a value-add partner. Don’t get me wrong – there’s no argument that all VCs aren’t created equal – and that the good ones contribute more than just cash.
After hearing about Khosla’s remark, I informally polled a few entrepreneurs in our biotech portfolio to get their feedback on the topic – they’ve collectively worked with a large number of life science VCs over the past decade. My sample set was obviously biased since I was asking them, but the resounding feedback was “of course VCs add value” and “most of my VCs [are/have been] good”. Interestingly, asking other VCs about this topic leads to the same thing: all tend to agree that lots of “other VCs” don’t add value, but that they think they are different. I’ll admit I share that view. But is this just a Lake Wobegon-like “superiority illusion” held by most VCs about their above-average contributions? Is it the Dunning-Kruger effect in action (i.e., the belief you are competent when you aren’t)?
Hard to know for sure, but we don’t live in a consequence-free world. LP’s and entrepreneurs have the responsibility of holding VCs accountable, and for the most part they are very good at it. Value-adding VCs get affirmed over time, serial entrepreneurs seek them out and vice versa, and better returns accrue to those partners and their firms. Most LPs I know spend lots of time reference-checking VCs with CEOs on this very point: do they add value, are they trusted partners, would you want to work with them again?
If a VC isn’t adding value in this long-odds business of risk capital (or at least not adding negative value), the likelihood that their performance is consistently strong is very low. Pure randomness doesn’t tend to build repeatedly successful firms and franchises.
Seems to me that VCs need to be net positive contributors or they will fail to raise their next fund(s). It’s that simple. The 50% drop in the number of active VC funds over the past decade is Exhibit A for the prosecution. Add value or die, and many have now died. This is certainly true in the biotech sector. Maybe this explains, at least in part, why the current crop of biotech VCs think they add value – as survivors, perhaps a good proportion of them actually do? I’d argue that, at the very least, more than one out of twenty of them do add value. Its probably closer to 50:50 from my experience.
I think this long-term “add value or die” thesis is especially true in biotech where venture capital is less about the 1-in-100 lottery ticket outlier and much more about reproducible models for creating and building science-led businesses. And within biotech, it’s even more important for those of us involved in startup venture creation – the formation, incubation, and building a new companies. If you can’t roll up your sleeves and add value you probably won’t last long in the business.
But enough about whether its one out of two, or one out of twenty, VCs that add value. The more important and productive question is what do good VCs do to help add value to their biotech companies? They clearly need to be more than just ATM machines. Although important, capital isn’t the only ingredient to success.
Here are seven things that good VCs can and often do:
1. Catalyzing the right connections. This is a people business. Good ecosystem networks are valuable and hard to cultivate overnight given the diversity of players: startups, pharma, biotech, academics, entrepreneurs, executives, advisors, bankers, investors, etc. Working with a VC that brings high quality connections can help entrepreneurs more efficiently and credibly get to key decision-makers at prospective partners, avoid wasting time with NINAs, access the right advisors, get qualified referrals to new investors, etc… Furthermore, good VCs facilitate opportunities for executives across their portfolio to connect and learn from each other.
2. Sharing the lessons of experience. “Pattern recognition receptors” in VC are critically important in diagnosing situations and prescribing solutions. Most mistakes aren’t original ones; the key is to try to learn from past experience and this is where a VC firm’s collective experience can be invaluable. No sense in every team reinventing the wheel on every issue that’s new to them: the art and science of FDA interactions, engagement with specific Pharma’s, pros/cons about working with specific CROs, experience in interpreting preclinical models and their predictive capacity, etc.
3. Recruiting and cultivating talent. Good VCs are helpful in bringing talent into orbit around specific opportunities. At the end of the day, it’s all about management, management, management – so a big chunk of the job of a good VC is as an Executive Recruiter. The best are constantly out meeting new people, surveying for talent, and introducing the right folks to portfolio companies. While this is certainly helpful for startups, its worth noting that good VCs also read the talent marketplace: if high quality introductions keep getting rebuffed or keep passing on joining specific startups, it’s a clear market signal that something may be awry.
4. Acting as a real, and real-time, thought partner. This takes many flavors, but fundamentally involve supporting the “loneliest job in the world” – the CEO. Being a sounding board for new ideas. Listening to their concerns. Privately brainstorming paths forward. Helping think through financing and syndication strategy. Getting on the phone at odd hours. Providing constructive feedback in an ongoing way. The degree of thought partnership depends on trust and takes time to develop.
5. Focusing on big picture, long-term value. Getting lost in the trees rather than seeing the forest is sadly common across many people (VCs and management teams included), but good VCs can telescope from the details to the big picture and back. Further, the best VCs help maintain the right level of focus in a board dialogues. Details matter, but not endlessly debating them or “nickel and diming” every item. Managing different views around value creation is often a tricky issue, and this is probably where differences of opinion between a VC and the management team can be interpreted as being “net negative” by some, e.g., selling a company now vs “going long”. Good VCs are able to navigate that dialogue without alienating others with different views by focusing on the big picture.
6. Being a predictable partner. CEOs have the tough task of managing their Boards, often composed of multiple strong-minded investors and seasoned independent directors. Being a predictable partner and Board member helps a management team be successful – consistently sharing your perspective, recognizing the importance of “agreed” strategies of the past while being open to new ideas. I once heard a Board member described as a “water spider” – in one place at one moment, in another place the next. That unpredictable behavior is not very helpful for startups, and is incredibly hard to manage. This isn’t to say that creative, unstructured out-of-left-field thinking is bad – its not – but it needs to be done in the right context.
7. Being transparent about their Firm’s decision process. Startups often lack visibility into how VC firms make decisions, and this can be especially challenging during critical periods around fundraising. VC firms can’t be black holes of information – something needs to come out. Good VCs are open about what needs to happen to get to a decision, and are clear with their feedback afterward.
Those are seven good “value-add” characteristics of high quality VCs. I’m sure there are many others.
Defining something by its opposite is often helpful too, and so it is for “negative value add” behaviors as the flip side of the seven points above: not listening or engaging as a good thought partner, being an unpredictable Board member, not helping open doors or pushing open bad ones, etc… But a few more specific “bad behaviors” are worth calling out:
Consuming too much oxygen. Oxygen is limited in boardrooms, and blowhard board members can drain a room quickly. Bad VCs notoriously do this with great aplomb (Wow, isn’t he the smartest guy in the room!). Sometimes the best Board members are those who speak the least.
Being unable to represent their partnership. VCs that continually say “I need to check with my partners” on key Board issues definitely add negative value. If it’s important, it typically didn’t just “appear” on the Board agenda, so maybe you should talk amongst your partners beforehand – if it’s a investor issue at all, which brings up the next one.
Failing to remember fiduciary vs investor roles are different. Board members have to act with proper purpose and good faith regarding all the shareholders of the business, not a specific set of investors. They must act with a duty of care and duty of loyalty. Sometimes Board decisions aren’t in the best interest of a particular VC or class of investors, but it’s the right thing for the company. “Negative value” board members often conflate these issues.
Bringing VC fund dynamics into the Boardroom. This is particularly true for things like fundraising or lack thereof: e.g., preventing new financing because its a downround when one VC is fundraising and doesn’t want the write down; pushing for exit too soon to aid their track record, etc… Pushing back on these inappropriate agendas is really important.
Importantly, no investor is anywhere near perfect on every dimension. I’m certainly far from it. Lots of VCs are good at some of this and bad at others. In the end, it’s about the “net” impact to a start up – does a VC offer a net positive vs net negative value-added contribution? It’s also not a static equation: like entrepreneurs and CEOs, VCs can and should learn over time as part of continuous personal improvement. I’m also hopeful that the multi-year shake-up going on in venture capital, and biotech in particular, will reward those investors that do add value. Only time will tell.