I gave a quick talk today at the Future Forward conference on “How VC’s Win, and How Things Are Changing”. It’s a topic I’ve been thinking about a lot.

My observation is that the Venture Capital business has changed significantly in the past 10 years because of much greater capital efficiency at the early stages, and much greater transparency around the process of fundraising and the performance and value of investors.

Put another way, the venture capital industry has become more mature, and increasingly, the market for the companies we invest in is more and more efficient. This creates challenges for investors.

When markets become more efficient, a couple things happen. First, it becomes much harder to find “value”.  The way I see it, an efficient market means more competition for an investment, which in turn means that pricing will tend to be driven up to the point of discomfort relative to the risk.  If you are investing very early, pricing may be good, but the perceived risk will be high (and a lot of smart investors will pass on an opportunity).  But if you are investing after product-market fit, the price will be driven up to the point that an investment becomes harder and harder to justify given the remaining risks.

Second, firms in a more efficient market need to find more and better ways to compete.  Relying on charm and reputation doesn’t get you very far in a world where entrepreneurs are increasingly less enamored by a VC’s brand or historic legacy, and entrepreneurs are more savvy about asking the question “what do I really get from taking your money vs. someone else’s?”.

So, this is forcing VC’s to seriously rethink the way they compete in the market.  Those that don’t evolve will have a pretty tough time, I think. Specifically, I’ve seen innovations in the following areas:

Sourcing

• Sourcing in new, less competitive geographies (for example: US firms focusing on Europe, Brazil, etc)
• Finding leveraged ways to tap into different founder communities (for example: General Catalyst’s Rough Draft initiative, or FRC’s Dorm Room Fund)
• Using data and technology to identify talent

Winning (systematically finding ways to help companies be more successful and also win competitive deals)

• Using AUM to “productize” value-add. (for example: OpenView on the growth equity side and A16Z on venture)
• Leveraging the human capital of the portfolio to give value to the “platform” (for example: the FRC community)
• Tuning investment models to specific kinds of investing (for example: seed funds, sector focused funds, etc)

But by far, I think the single more important thing a fund can do is to improve their selection. I’ve blogged about this before, and I continue to think that there is a big opportunity here and we just don’t know what the answer is just yet.  Getting better at sourcing and winning is important.  But I actually think that the biggest difference will be the ability to look at an opportunity, and say “yes” when others say “no”… and be non-consensus “right”.

** One fun thing about this conference is that there was someone from Collective Next who was creating a mini illustration/idea map of the talk in real-time. Pretty cool – see below!