After the Bell: Davos and the indelicate vagaries of venture capital

Ok, slightly name-dropping here. Well… if we are being honest, more than slightly.

One of the thrills of attending the World Economic Forum at Davos is the serendipitous bumping into people you don’t expect to bump into. For me, it was bumping into the managing partner of Sequoia Capital, Roelof Botha. (Thump!) The phrase “bumping into” is of course a euphemism; I basically accosted him at the South Africa party, where he was chatting to Prosus chairman Koos Bekker (obvs) (double-thump!).

But we did have a brief chat about the book I read on the way to the conference called The Power Law: Venture Capital and the Making of the New Future written by Sebastian Mallaby. I knew Mallaby a little when he was a correspondent for The Economist in South Africa years ago and his excellent writing continues. It’s a terrific book and discusses Sequoia extensively and Botha’s role in making the company one of the leading, if not the leading, venture capital providers.

Sequoia does not have any direct investments in SA, as far as I know. But it’s almost impossible to overstate the importance of venture capital (VC) in the making of the modern world, and Mallaby’s book does a fabulous job of describing why that is and how it happened. Try to imagine a world without Google, Alibaba, Facebook, Coinbase, Spotify, Uber, Airbnb, and, to a certain extent, even Apple and SpaceX, and a host of others. They all relied, at one time or another, on venture capital. At one point, 40% of all new companies listed in the US were VC-backed.

And the incredible thing about venture capital is that although it’s been around for years, it’s only recently become a crucial cog in the investment world. In some ways, 2018 and 2019 were the golden years of venture capital, and it’s no accident that these years coincided with extremely low interest rates and very cheap capital. At the moment, venture capital is paring back, understandably, but is now such an established part of the global financial system that it’s unlikely to fade.

Yet, the low interest rate environment is only a necessary precondition for the flowering of venture capital, not precisely a causal factor. There have been many times and places when capital was cheap, but venture capital remained on the fringes of the investment world, massively overshadowed by other leveraging financial structures such as private equity. It took a combination of time and place and some flukishness for VC to really explode.

Mallaby unpacks something he refers to as the power law, which is the deceptively simple proposition that a few good investments will compensate for a host of losers. That notion slightly understates the enormous drama that underpins the idea. What we are looking at here are potential winners who not only win but win so big that they make it possible to support hundreds of losers. VC funders usually fund less than 1% of applications. And to achieve those wins, the people involved will almost necessarily be contrarian, iconoclastic, subversive and, if we are being honest, a little unpleasant.

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So, funders have to take all that on board and somehow see the possibilities of the investment, even if they are repelled by the people running the company. Just one example: when the CEO of Facebook, Mark Zuckerberg, presented his card to VC funders, in the early years, it said “I’m CEO … bitch”. In the words of one reviewer of the book, “what VC funders are looking for are difficult and maladjusted, frustrating individuals who aren’t satisfied with how things are, and who are willing to risk it all in pursuit of something better”.

Of course, alongside great successes, there have been some absolutely spectacular failures. Hello WeWork. But what Mallaby’s book teaches us is that these failures are almost hard-wired into the system. The successes are so unlikely that inevitably it will be the oddballs and eccentrics who are the most probable agents of that success. 

In the words of one of the legendary tech VC leaders quoted in the book: “When it comes to improbable innovations, the future cannot be predicted, it can only be discovered.” Similarly, Botha is quoted as saying on the Sequoia website: “If you’re going to be really successful in this business, you have to be contrarian — and right.”

Venture capital has become such an important part of the new business environment that governments have started to try to think of ways to nurture it, which to me is a bizarre contradiction in terms. This is not something that can be taught in business school or guided into action by bureaucrats, partly because the great VC funders are not looking for projects that will probably succeed, they are looking for projects that will be gloriously transformative.

And yet, it’s crucial that venture-backed startups in Africa particularly start to step up. There are now ongoing tallies of how much VC funding is taking place and where, and just last week the research firm CB Insights published its State of Venture 2022. As far as Africa is concerned, it’s a very mixed picture. Africa still has the lowest level of venture funding, about $3.1-billion last year, which is only about 1.2% of the global figure. But, it’s also a record for the continent.

The global picture is also mixed; internationally, venture funding is down 37% to $415-billion, but that is still the second-highest figure in history. Unicorn births — companies valued at more than $1-billion — steadily declined throughout 2022, sinking to a low of 19 new unicorns in Q4’22, an 86% drop compared to Q4’21.

SA does have venture capital funders, and there is a VC board on the JSE. But somehow, it needs a big push. DM/BM