Monday, July 15, 2013

The VC Cosmological Constant

In his recent essay on "Startup Investing Trends", the always insightful Paul Graham referred to the VC cosmological constant:
"There's a rule of thumb in the VC business that there are about 15 companies a year that will be really successful. Although a lot of investors unconsciously treat this number as if it were some sort of cosmological constant, I'm certain it isn't. There are probably limits on the rate at which technology can develop, but that's not the limiting factor now. If it were, each successful startup would be founded the month it became possible, and that is not the case. Right now the limiting factor on the number of big hits is the number of sufficiently good founders starting companies, and that number can and will increase. There are still a lot of people who'd make great founders who never end up starting a company. You can see that from how randomly some of the most successful startups got started. So many of the biggest startups almost didn't happen that there must be a lot of equally good startups that actually didn't happen."
The 15 companies a year principle is actually the driving assumption behind Andreesen Horowitz; their explicit assumption is that a few handfuls of companies each year matter, and their goal is to be in as many of those companies as possible, valuation be damned.  It's hard to argue with their initial results.

But I agree with Paul that 15 companies per year isn't a universal and immutable constant.  Silicon Valley as a startup hub has only been around for about 40 years, and it's hard to see how something like the 15 companies per year rule could apply across all those different markets and market conditions.

Where I disagree is that the limiting factor is the number of sufficiently good founders.  I've met billion-dollar founders, and I've met failed founders.  Anyone who says that there is a surefire way to tell the difference is kidding themselves.

In my experience, the limiting factor is the number of ripe markets.  Ultimately, the startup world is a subset of the overall economy; even we can't conjure up revenue from thin air.  There have to be consumers or businesses that spend money, and there's only so much money to go around.

Technology opens up opportunities by disrupting old markets and opening up new ones.  In addition, audiences change.  10 years ago, SaaS was unthinkable to most IT departments.  Now it's widely accepted (if not loved).

If you want to beat the cosmological constant, follow new technologies and cultural changes into new or newly disrupted markets.

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