My new column is live in The Drum:
San Francisco was a city that we built on rock ‘n’ roll, but venture capital funds eventually took over. That may soon change due to growing economic and social trends in the martech and investment worlds.
Social media sharing platform Buffer recently spent $3.3m to buy out the company’s venture capitalists. Video software company Wistia turned down an offer to sell and instead took on $17.3m in debt to buy out investors. Audience intelligence platform SparkToro raised $1.3m from 35 individuals rather than going down the traditional VC route.
While it is impossible to know the exact percentage of martech and other companies that have eschewed VC funds, many are now using alternative funding methods, according to industry observers, activists and company executives.
“My impression from data people have shown me over the years is that probably around half of the companies on my martech landscape haven’t received funding from institutional investors. Instead, they’re funded by the founders, angels, or customers,” marketing technologist Scott Brinker said. (His Martech Landscape currently lists more than 6,000 vendors.)
There are also recent examples from consumer brands. Watch brand MVMT was bought by Movado last month for $200m. The founders and employees owned all of the company’s shares at the time. Deodorant brand Native was acquired by Procter & Gamble in 2017 for $100m. The chief executive had owned 90% of the company by not going the VC route.
Mattress brand Tuft & Needle was funded with only $6,000 from the founder and a $500,000 loan and is reportedly in acquisition talks with Serta Simmons in a deal that may be worth $400m to $500m.
How VC funding really works
To understand the big picture, it is first important to know the realities of the VC world.
Take people with money such as corporate pension fund managers, wealthy families, and university endowment administrators. They could simply do nothing and invest in a low-fee index fund that tracks the US S&P 500 or UK FTSE 100 and grow their savings at a long-term market average of 10% to 12% per year.
But like everyone else, these limited partners – as they are known – want to make more. So they hear sales pitches for anything from corporate bonds to real estate to VC funds. Venture capitalists who receive funding from the limited partners must then decide on which high-tech companies to place their bets.
A typical VC fund lasts for seven to 10 years, meaning that it must at least triple in value within a decade to beat the annual market average. If a VC fund receives $100m from the limited partners, it needs to invest in enough successful startups to grow to at least $300m before time runs out.
“The goal is to improve upon the rate of return that would have been achieved through putting the money into public stocks, bonds or other investment vehicles. The target is 12% annual growth,” Rand Fishkin, the co-founder and former chief executive of Moz who founded SparkToro, wrote in a memoir after leaving the SEO software platform. “Beating the market is hard. Like, really, really hard. Only about 5% of venture investment firms actually succeed at it.”