Canadian Investment Review

Is the Venture Cap Model Broken?

Written by Steven N. Kaplan and Josh Lerner on Monday, December 13th, 2010 at 10:17 am

broken cookieThis paper presents a selective history of the U.S. venture capital (VC) industry, a discussion of the current state of the market, and some predictions about where that market is going. There is no doubt that the U.S. venture capital industry has been very successful. The VC model efficiently solves a difficult problem. A large fraction of IPOs, including the most successful, are VC funded. The U.S. VC model has been copied around the world. We view with some skepticism claims that the VC model is broken. Historically, VC investments in companies represent a remarkably constant 0.15% of the total value of the stock market. Commitments to VC funds, while more variable, are consistently in the 0.10% to 0.20% range. These percentages have not changed in recent years. Returns to VC funds this decade do not appear to have been unusually low (or high) relative to the overall stock market. This is true despite the relatively low number of IPOs. VC investment and returns have been subject to a boom and bust cycle over time. Based on that record, the current historically low level of commitments to U.S. VC funds suggests that returns to the 2009 and (probably) 2010 vintage years will be relatively strong. Finally, a strong rationale for the future role of venture capital lies in the transformation of corporate research and development. Read the full paper.

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