The number of venture capital funds has declined precipitously – it’s down nearly 50% from its peak, says David Brophy, venture capital expert and Associate Professor of Finance at the University of Michigan’s Ross School of Business – and deals have been slow this year. Says Brophy, “Partners are pulling back because they don’t trust the future – nobody does the moment – and venture capital is a big bet on the future.” So, with Facebook’s ill-fated IPO, does that mean another dot-com bubble is about to burst?
Brophy does see similarities to the hype of the 1990s. When it comes to social media, “we haven’t had what you might think of as ‘proof of concept’ or sustainability,” he says. “Can they sustain [the growth]? We have just enough clues saying maybe they can’t… When you look back at the dot-com bubble, some very good companies sustained themselves. If you can hang on to provide something useful, your company can take its place in the economy. But do we need 50,000 companies, each one trying to do a little piece? I don’t know that it will burst, but just like venture funds, the number went up, and now it’s coming down.”
In the 1990s, says Brophy, it was relatively easy to make money during the boom times of rising stock market valuations. Since 2000, however, “the only way to make money is by increasing cash flow and profitability of your portfolio companies, and that takes hard work and understanding the business.” The upshot? The only people who will be able to make money in a flat market are experts who bring unique operational skills – as well as money – to the table.
With venture capitalists forced to raise the bar, Brophy insists that entrepreneurs must follow suit. “I think we need smarter entrepreneurs,” he says. “The venture capitalist looks at 2000 business plans or opportunities in a year, and invests in five or six, or whatever the number might be. The entrepreneur may do it once in his or her life, and in general they’re dumb as a bag of hammers when it comes to the process. It’s a competitive country, and an economy in which competition is highly valued. If you’ve got the goods but don’t know the real value, stay tuned for someone to liberate that value from you. Entrepreneurs need to learn about the process so they’re not taken to the cleaners.”
Brophy also believes that universities – inspired by the example of MIT and Stanford – are poised to kick it up a notch when it comes to commercializing their research. “The average science or engineering professor fears a rush to commercialize – that there will be a race for Lamborghinis rather than a race to discover the cure for cancer,” he says. But commercialization isn’t a detour from the fundamental premise of universities, says Brophy – it’s actually a return to their roots. “It goes right back to the basis of these land-grant universities,” he says, “to build better plows, shovels, and picks and the tools of the day. Part of the mission of universities is still that – but now it’s not shovels and picks, it’s [silicon] chips.”
It’s harder for companies – and the VCs that back them – to thrive in today’s competitive environment. But that challenge may lead to sharper skills, better investments, and new innovation that benefits us all. What do you see on the horizon for venture capital in the next 1-2 years?
This post originally appeared on the Forbes website on July 16, 2012.
Dorie Clark is CEO of Clark Strategic Communications and the author of Reinventing You: Define Your Brand, Imagine Your Future (Harvard Business Review Press). She is a strategy consultant who has worked with clients including Google, Yale University, and the Ford Foundation. Listen to her podcasts or follow her on Twitter.