Global Surplus

Remember the story about King Midas? Everything he touched turned to gold… even his food and then to his ultimate misery, his beloved daughter. It's always struck me as ironic that Forbes Magazine calls their annual VC ratings "The Midas List" as a testimony to the wealth creation effect. The real Midas story was about the realization of life's true riches – I guess Forbes only read the first part of the story!

In a modern day echo of the story of King Midas, the global economy can't produce enough food to feed everyone, demand for oil seemingly outstrips supply leading to higher and higher oil prices but we have been able to create one resource in abundant excess…

CAPITAL.

Seemingly endless tsunamis of capital slosh around the global bath tub seeking opportunities to invest and generate a return. I first blogged about the impacts of excess capital in January of last year – re-reading that post makes me pause for thought - $6/gallon for gasoline doesn't seem so farfetched as it did 18 months ago!

The impact of too much capital can be as devastating as too little…

2000	$100B flows into venture capital funds. ~50% of every dollar was eventually written off. Excess capital continues to flow into venture funds resulting in reduced returns and unhappy investors who now question whether venture capital is still meaningful as an investment category.
2006/7	Capital pours into LBO funds - $255B in 2006, $302B in 2007 – mega-deals abounded until the credit crunch began in mid 2007.
2007/8/…	Sub-prime mortgage disaster. Near-death experience for the banks, huge write-downs, failing confidence in the financial industry.

 

Yet despite the destruction of so much wealth, capital continues to pour in. Why? As one limited partner summed it up to me in a conversation the other week:

"There are numerous challenges facing both LPs and GPs, but they are generally the same recurring themes of the past in different form. The real challenge this time is the massive excess of dollars seeking returns without the requisite increase in opportunities."

Increase in the number of opportunities? I'm not so sure that it's a lack of opportunities as it is about investor confidence being positive about the future. With falling stock prices, the loss of consumer confidence, soaring oil prices and a closed exit environment, its dark and gloomy and hardly conducive to optimism.

Conventional wisdom has it that Bear markets end when everyone capitulates and throws in the towel. That same wisdom says that you can only spot the end AFTER it happens – through hindsight. The bottom line... No one can predict the point at which optimism returns.

A lack of investor confidence has a direct impact on the startup world – initial capital is harder to get, the bar to raise follow-on capital gets pushed even higher – the emphasis is on results and driving hard to self-sufficiency. In other words, spend each dollar like it's your last and place all your attention on getting to break even.

Above all, don't succumb to the gloom and doom – every Bear market has an end (eventually!) and investor confidence will return. Just make sure that you're around to benefit from the return of optimism!