The Future Of Venture Capital: Trinity Ventures Partner Gus Tai (Part 2)

SM: You are saying the early venture capital industry was performance driven? You could not get a lot of management fee-driven income with $31 million.

GT: Yes. The mentality of the people who entered the business in the late 1980s, the early 1990s and when I entered it in 1996 was that you joined the industry because you had the privilege of working with brilliant people who were working on innovative, novel things. You could control your lifestyle because you elected who you worked with and decided who you funded. It was performance driven, but you were doing it for those sets of interest rather than to become really, really rich. Sure you could make a good living, but you did it for the passion.

SM: How many venture firms were in business when you joined?

GT: There were a bunch of different numbers, but I would say that it was probably between 400 and 600 in North America. There are a lot of different metrics as to what defines a venture capital firm. It is probably on that order.

SM: How much capital did they have under management?

GT: I would have expected in 1990 that the capital under management of the median firm was $15 million. The median capital under management in 1995 was probably around $30-$40 million.

SM: That completely bloated up after the dot-com bubble.

GT: I don’t know precisely what the median size is, but funds are capped at the bottom at zero and they are uncapped on the upside. We have seen a lot of mega funds clearly grow. The median fund size in 2005 is probably at least 10 times higher than in 1992 and 1993.

SM: There are a lot more firms and a lot more capital under management, and all together the amount of capital that is sitting in the venture capital industry right now is exorbitant.

GT: It is quite high relative to the ’80s or ’90s.

SM: The problem I see is that it is possible to turn $400 million to $4 billion, but how do you turn $40 billion to $400 billion? There are not enough deals to do that kind of stuff, are there?

GT: Venture is a cyclical business. Growth is predicated on having these discontinuities. Discontinuities create the alignment of customer interest in which they will spend money for a startup and the incumbents do not move quickly enough. They could buy a startup or wait until those markets materialize. In many ways, venture capital can be viewed as an option for those discontinuities as those discontinuities can be quite large.

SM: You can certainly hit home runs when there are discontinuities.

GT: Yes. You can have 1,000x Google returns. If you have a number of those then yes, you could support a large fund in a large industry. The issue is that we have not seen those discontinuities over the past several years. There have been micro-discontinuities, but once again it is a cyclical business. Venture contracted in the late 1980s, and it should be contracting in size right now as well.

SM: Trinity just raised a new fund. What is your experience with limited partners? What kinds of questions are they asking? It seems like they are aware of some of the structural dysfunctions of where we are right now and are approaching the situation with greater scrutiny.

GT: My read of it is that it is clear that if the venture opportunities over the next five years are similar to those of the previous five years, then the industry is too large. There must be discontinuities to continue to support the amount of capital going into the asset class. Venture, along with other asset classes like private equity or hedge funds, is over- funded relative to the value they are creating in this type of climate.

The impression we were getting from the various LPs we were speaking with was that they were acutely aware of what was going to help this asset class have premium types of returns against the S&P or the NASDAQ. Are there too many funds? Are the funds too large? Are the funds drifting from their focus of staying close to the knitting of helping take innovation and entrepreneurs and helping grow that, or are they getting distracted by setting up international offices and chasing opportunities everywhere else using different strategies?

I do think there are good venture opportunities internationally. A lot of the questions overall about the venture industry are that the partners practicing venture capital had style drift and have moved to models that are too capital-intensive, and won’t be able to return the type of premium returns that this asset class had promised and delivered at many periods of time in its history. We felt very good about our reception with our limited partners.

This segment is part 2 in the series : The Future Of Venture Capital: Trinity Ventures Partner Gus Tai
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