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Icon of Money in the Hand on Digital Background.Let me start this post by stating how much respect I have for venture capitalist Fred Wilson.  He is easily in the top-5 influential thought leaders in the entrepreneur-investor ecosystem. His blog “AVC” is required reading for everyone on both sides of the table. But today he really pulled the trigger too quickly on a post.

He was postulating about a product idea – where entrepreneurs might pay for a report that lists what each venture capital firms’ investing criteria is, based on their track records  (something that arguably should be on their websites).  Let’s set aside for a moment that he is proposing a $100 fee for each entrepreneur seeking funding, here’s the crux of his argument:

The PWC Money Tree report says that 4,356 startup investments were made in 2014. So I imagine that somewhere between 5,000 and 10,000 entrepreneurs are going out to raise VC money on an annual basis right now. If we take the middle of that range (7,500) and assume that an entrepreneur would pay $100 for such a report (probably a lot more but I’m being conservative), then the total available annual market for a service like this would be $750,000 a year. If you could reach 20% of that market, then you have $150,000 a year of income.

Here are a few things I find a little disturbing: A world class venture capitalist thinks that between 5,000 and 10,000 entrepreneurs are chasing 4,356 venture deals.  Doing some simple math, the average entrepreneur has a 44% and 87% chance of obtaining venture capital. Every experienced entrepreneur in the world just let out a collective guffaw upon hearing this whopper.

While it is true that venture capitalists invested $48.3 billion in 4,356 deals in 2014  – but only about half those deals were early stage deals and only a third of the total money went into early stage deals.  In other words – most venture capital is not invested in startups.  The vast majority of deals and money goes into expansion-stage and later-stage companies.

There are hundreds of thousands, maybe even millions of entrepreneurs who are seeking capital (most of them are not that picky where the money comes from). Regardless of this number – last year only 2,357 startup companies received seed or early stage capital from venture capitalists.

Here’s what is so unnerving about Fred’s back of the napkin analysis:  If an entrepreneur walked into his office pitching a startup with such flagrantly flawed assumptions, he’d probably be dismissed out-of-hand.  But what’s even more disturbing, is that this offhand idea seems to display a sense of a disconnect from his customer: The Entrepreneur.  He first assumes that 75% of the market is attainable, and then tosses out the 20% figure arbitrarily, and assumes a price the typical customer would pay based on very little evidence.

OK – we’ll cut Mr. Wilson some slack  (his contribution to the entrepreneurial knowledge-base over the years warrants this deference), and this was just a casual idea, not a serious pitch.  At the same time, it’s useful to turn the tables every once in a while (something every entrepreneur fantasizes about every now and then). Could a venture capitalist withstand the same scrutiny for his ideas, as he gives the entrepreneur?

 

 

 

Written by CJ Cornell

CJ Cornell

Serial Entrepreneur. University Professor. Software Engineer. Media Executive. Venture Capitalist. Researcher. Marketer. Advisor. Mentor. Author and Speaker. Founded or co-founded nearly a dozen companies in software, digital media and television.

For the past few years I’ve been Co-Director of the Knight Center for Digital Media Entrepreneurship and Professor of Digital Media & Entrepreneurship at Arizona State University, and the university’s first full time Entrepreneur-in-Residence. Currently Visiting Professor of Entrepreneurship & Innovation at New York Institute of Technology and Managing Director at Propel Ventures LLC.

 

2 Responses to The Fred Fallacy

  1. fred wilson says:

    i was counting the number of entrepreneurs that want to raise from VCs, not the number of entrepreneurs who want to access capital for their businesses.

    i’ve continued this discussion with today’s post
    http://avc.com/2015/04/lifestyle-businesses/

  2. CJ Cornell says:

    No worries. I wanted to make sure this post was not about “calling you out” – but rather an example, to entrepreneurs, of flawed market assumptions. I understand your post was just about tossing out an interesting idea, and new ideas should not be burned at the stake because a few assumptions have not yet been validated.

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