How Have Private Markets Evolved Over the Years?

In the previous chapter, we started tracing the origins of venture capital. We covered the earliest instances in Abyssinia and then delved into the influence of families like the Rockefellers. But the story continues!

In this chapter, we’re going to trace the route to modern venture capital as we know it today.

It is often dangerous to raise someone on such a pedestal — to call someone a father of a movement implies they are the fountainhead of said movement. The last thing you want is to put an undeserving candidate on this throne.

Let’s explore why Georges Doriot is, in fact, a deserving candidate for this honour.

After World War II, Doriot, who was a Harvard Business School professor at that point, saw a world brimming with potential and innovations just waiting to leap from lab benches into people’s lives.

So, what did he do? He rolled up his sleeves and got to work. In 1946, alongside his buddies Ralph Flanders and Karl Compton, Doriot kicked off the American Research and Development Corporation (ARDC).

This wasn’t your average investment firm. They weren’t just throwing cash at businesses. No, they were about bridging the gap between wartime genius and peacetime prosperity and charting a new course of investments in post-war America. ARDC raised capital from a variety of sources beyond the traditional wealthy families, including foundations and university endowments. They were focused on democratising the investment landscape and paving the way for the venture capital ecosystem we see today

And guess what? It worked.

ARDC’s investment in Digital Equipment Corporation (DEC) in 1957 is often cited as one of the most successful venture capital investments of all time. With an initial investment of $70,000, ARDC’s stake in DEC grew to over $35.5 million by its initial public offering in 1968. This wasn’t just a win; it was a demonstration of the raw power of venture capital.

But Doriot’s legacy isn’t just in the numbers. He was a mentor, a Harvard professor who equipped a whole generation with the tools to invest wisely and with vision. His philosophy? It’s not just about the money. It’s about fostering innovation, guiding startups, and being there for the long haul. It has become a cornerstone of successful venture capital practice.

Through ARDC, Doriot laid down the tracks for the venture capital express that powers today’s tech giants. His work laid the groundwork for the exponential growth of venture capital, facilitating the rise of Silicon Valley and the global expansion of technology startups. He showed us the potential of smart, strategic investment to not just profit but to push the boundaries of what’s possible.

Now, let’s talk money.

ARDC paved the way for a new wave of funding from institutional sources. Doriot showed that by allowing stable institutions to invest in startups and growing companies, you can level up and expand the playing field.

Flash forward to the 1960s and 1970s, with the rise of a new wave of private venture capital firms, especially on the U.S. West Coast. The birth of Silicon Valley, fuelled by the semiconductor industry’s growth, coincides with this same period.

A major change happened when the US Labour Department allowed pension funds to join the party. Previously, these funds had stuck to more conservative investments. The moment the Labour Department opened up its doors, the VC world exploded from managing a modest pot of money to overseeing a treasure chest. From about $500 million in 1978, the industry grew to oversee $11 billion by 1983!

Enter institutional investors. As defined by the Corporate Finance Institute, these are legal entities that accumulate the funds of numerous investors to invest in various financial instruments. These aren’t your average Joes with a few bucks to spare. We’re talking big players: banks, credit unions, pension funds, insurance companies, hedge funds, venture capital funds, mutual funds, and others. They don’t just play the game; they set the rules, influencing everything from stock prices to tech trends.

Source: What Drives Venture Capital Fundraising? — Gompers and Lerner, 1997

This shift to institutional funding didn’t just widen the playing field; it transformed it. Venture capital went from a rich man’s game to a team sport, allowing everyone from college professors to factory workers a slice of the startup pie, through their pensions and endowments. These institutions, with their long-term investment horizons, are less affected by short-term financial pressures such as death, divorce, and taxes. It’s a stability thing. Unlike fleeting personal fortunes, these institutional investors are in it for the long haul, giving startups the runway they need to soar.

The shift also allowed for the democratisation of the benefits of these investments. Ordinary people like you and me, who contribute to pensions or are beneficiaries of endowments, gain indirect access to venture capital investments. This meant a wider segment of the population would now be able to participate in the economic gains from successful startups and technological innovations, which were previously accessible only to a select group of wealthy individuals.

Not only that, but this move professionalised the VC world. Gone were the days of handshake deals and gut feelings. Now, we’re talking due diligence, strategic support, and a level of oversight that would make any startup proud. This wasn’t just good for the companies; it was great for the economy and sparked a cycle of innovation and growth that’s still turning today.

Picture this: Uncle Sam steps into the startup scene. Why? To give those daring dreamers and small biz wizards a fighting chance.

The role of the government in venture capital has been pivotal, particularly through the Small Business Administration (SBA). After its birth in 1953, SBA rolled up its sleeves to pump up the nation’s economy by backing the underdogs. It offered loans, loan guarantees, counselling, and other forms of assistance.

A key component of the SBA’s efforts to support small business financing is the Small Business Investment Company (SBIC) Program, established in 1958. Think of it as the matchmaker between venture capital’s big shots and the little guys with big ideas. This program isn’t just throwing money around; it’s a careful dance of regulation and funding, blending private venture capital with a sprinkle of government backing to invest in the dreams of small businesses.

The SBA does not directly lend money to small business owners. Instead, it acts as a wingman and sets up deals with lenders, making it less risky for them to bet on small businesses. Whether you need cash for working capital, purchasing real estate, construction, or buying equipment​​, the SBA’s got your back.

And it’s not just about the money. The SBA plays a significant role in government contracting and assisting small businesses in securing federal contracts through various programs. This includes efforts to ensure that a fair share of federal contracts is awarded to small businesses, including those owned by women, minorities, and veterans.

Imagine Silicon Valley as the world’s playground for tech innovators, where hardware once reigned supreme, thanks to a vibrant mix of labs, universities, and military collaborations. Then, boom—the digital age shifts everything to software!

In the early 2000s, the Dot Com Bubble had just gone pop. Tech valuations took a nosedive, and it seemed like the party was over before it really got started. But guess what? The tech world bounced back, bigger and bolder, thanks to groundbreaking tech like enterprise software, mobile tech, GPS, and the dawn of social media. This wasn’t just a comeback; it was a whole new game.

Enter the titans: Google, Facebook, Airbnb, and Uber. These weren’t just companies; they were gold mines for their venture capital backers. And as these tech giants strutted onto the global stage, VC wasn’t just about the money anymore. It was everywhere – in cinemas, on your TV, blasting through your headphones. Remember “The Social Network”? Suddenly, Y Combinator was the place to be, and names like Zuckerberg, Musk, and Dorsey were as familiar as movie stars.

Fast forward to the roaring 2020s, and the scene’s exploded. Masa Son’s eye-watering $100B Softbank Vision Fund dropped jaws, changing the stakes at a time when the entire US VC pot was a mere $82B. And Andreesen Horowitz? They’re on fund number 60, with a crew nearly 300 strong. VC’s not just a cottage industry anymore; it’s morphed into a financial behemoth.

The pace of innovation isn’t slowing down; it’s accelerating, pushing venture capital into uncharted territories. With new technologies, new challenges, and new opportunities popping up faster than ever, the only sure thing is that the world of VC will have to evolve.

As we stand on the brink of these changes, one thing’s for certain: watching how venture capital adapts and thrives in the face of these new frontiers will be nothing short of thrilling.