This document summarizes a presentation given by Venkatesh Rao on whether investors matter for innovation. Some key points made: - Investors play an indispensable role in financing innovation according to Schumpeter's definition of capitalism. - There are different types of "smart money" and "dumb money" that matter at different times, places, and industries. - For true venture capital markets to exist, certain necessary conditions around market access, rule of law, available talent, and support systems must be present. - Local innovation may be more important than previously thought due to the geographic constraints of talent, markets, and knowledge spill overs. - Best practices in venture capital are openly discussed in

1. Do Investors Matter?
Latin American Venture Forum
Bucarmanga, Colombia, April 14, 2016
Venkatesh Rao, Ribbonfarm Consulting
@vgr ribbonfarm.com breakingsmart.com

2. 2
“In Schumpeter’s basic definition of capitalism…
entrepreneur and lender are two sides of the
innovation coin…The accent has almost invariably
been on the entrepreneur to the neglect of the
financial agent, no matter how obviously
indispensable this agent may be to the innovation.”
Carlota Perez, “Finance and Technical Change: A Neo-Schumpeterian
Perspective” (quoted in William Janeway, Doing Capitalism in the Innovation
Economy)

3. 3
Okay, so you’re trying to stay honest… (source: http://lavca.org)
Your best: 74 Weakest comparison: 78

4. 4
Outsiders sorta agree…

5. 5
So how good is your best…?
My Chile experience

6. 6
So do investors matter? [to innovation]
• Wall Street: Nobody beats S&P consistently
• SV in the past: “Legendary” investors win for 20 years
• SV in the future: Kickstarter, JOBS act, China in
AngelList… who the hell knows?
WHICH Investors matter?
WHEN? WHERE? HOW? WHY?
Are you one of them, HERE and NOW?
Are you SMART MONEY or DUMB MONEY?

7. 7
Four Features of a true VC markets
1. VC returns depend on the state of the IPO market
2. Returns are (VERY) HIGHLY skewed
3. Individual fund managers can have persistent
returns
4. Only 1-2 sectors are “VC fundable” at a time
Point 3 is NOT true of mainstream fund managers

8. 8
“As expected, the returns are highly concentrated: about ~6% of investments
representing 4.5% of dollars invested generated ~60% of the total returns. Let’s
dig into the data a little more to see what separates good VC funds from bad VC
funds…”
http://cdixon.org/2015/06/07/the-babe-ruth-effect-in-venture-capital/

9. 9
“The home runs for good funds are around 20x, but the home runs for great funds are almost
70x. As Bill Gurley says: “Venture capital is not even a home run business. It’s a grand slam
business.”
http://cdixon.org/2015/06/07/the-babe-ruth-effect-in-venture-capital/

10. 10
Why?
1. Missing the “Grand Slam” deal is a serious mistake that matters more
than having low error rate with low-multiple (<10x) opportunities
2. Grand Slam companies and alumni create and dominate ecosystems
for decades (just like supernovas create heavy elements for life)
3. Grand slams create enormous social network capital — and winning
VCs are at the center of it
4. They can make big things happen for newer portfolio companies with
single phone calls
5. Winning funds get first pick of dealflow, everybody else gets deals
they don’t take, so have to live off Top 5 mistakes
6. Unlike Wall Street, VC fund managers can actively use results of one
winning fund to increase chances of next “crop”

11. 11
A FULL-STACK economy has
…MANY types of SMART MONEY
…and MANY MORE types of DUMB MONEY

12. 12
Type
Pure
Example
Vehicle
Risk
Type
Created
value
(societal)
Captured
Value
(investors)
“Smarts”
Needed
Hedge Funds Subprime CDS
Unique
instruments
Technical,
agency,
capture
Clear out
economic
deadwood
Big piles of
capital
Global macro
env; market-
technical
Mainstream Index funds
Broad-based
portfolios
Global
downturns
Societal
stability
Individual
prosperity for
all
Gauging
health of
nations
PE Dell
Mature
company dying
faster than
market
Overwhelming
operational
cancer
Save jobs,
reduce
volatility
Bounded
upside
harvesting
Turnaround
competence
Venture Facebook
Growth
startups
“Missing the
big one”
Spillover new
wealth
creation 90%
Big company,
“creative
monopoly”
How to build a
big business
Angel
Ron Conway,
Dave McClure
Individuals
Immature
growth market
Talent,
knowledge
liquidity
Small-multiple
exits
Local
ecosystem
knowledge
Corporate
R&D
Transistor
iPhone,
Hololens
Upstream Labs
“Fumbling the
Future”
Business
model
renewal
New LOBs
“Self-
disruption”
Government
R&D
Radar Defense Labs
Theft by
Political Rival
National
Strength
National
Secret
Political
wisdom
Academic
R&D
Number theory Universities
Low scientific
culture
Commons
Knowledge
Cream of
immigration
Philosophy of
science and
technology
Types of Smart Money in a Full-Stack EconomyInnovationEconomy

13. 13
VC
PE
Fraud
Basic
R&D
High Upside with
Hard-to-Hedge
Mortality Risk
Operational
Uncertainty
(bad waste)
Ontological
Uncertainty
(good waste)Structure of the
Innovation Economy

14. 14
Is imitation closer to PE or VC?
Baidu vs. Google
Alibaba vs. Amazon
Ryan Air vs. Southwest
ARM versus Intel
WeChat vs. WhatsApp
Good question. The most important question for non-US
geographies

15. 15
1. The costs of imitation are 60-75% the costs of
innovation
2. Time-to-imitate is dropping…
1. Early 19th century: ~100 years.
2. Between 1877-1930, Average “time to
imitation” dropped to 23.1 years.
3. 1930-39: Dropped to 9.6 years
4. 1950s: ~2 years.
5. Now: 12-18 months
3. Pioneers who create new markets generally
end up with around 7% of the markets they
create. The copycats get the rest.
Data from Oded Shenker, Copycats
What about imitation? A bit of both VC and PE…

16. 16
“Smart Money” = CASH + CONTROL
Kinetic Energy
KNOW-HOW of CAPITAL DEPLOYMENT
• RIGHT SCALE…
• RIGHT SPEED…
• RIGHT KNOWLEDGE..
• RIGHT INSTRUMENTATION
Potential Energy
Exists in SUFFICIENT
CONCENTRATION
In SUFFICIENTLY LIQUID FORM
(“Low entropy cash”)

17. 17
DUMB MONEY ECONOMY
No successes to create wealth
Nobody learns anything from failure
Vanity “angels” dominate the system
Static/decaying ecosystem
Wealth gets locked up in low-entropy,
illiquid, degrading forms
Low-Grade Cash High-Grade Cash
Effective Control
Weak Control
SMART MONEY ECONOMY
Investors WORK HARD
Create more value than they capture
High liquidity of talent and know-how
Work to strengthen commons
Make ecosystem smarter
“Giving back” is a norm
Protected from crony capitalist sectors
INNOVATION THEATER
Lots of sincere people…
working hard on the wrong things…
at too small a scale…
with too little liquidity in key variables
lots of coworking spaces, hackathons
lots of brain drain, few actual companies
best case: feeder for a bigger market
EXTRACTIVE ECONOMY
Fraud, crime returns > Innovation returns
Low trust, high bureaucracy
“Curse of resources”, “Dutch Disease”
Weak property rights
Elites and “connected people” dominate
Smart outsiders not welcomed

18. 18
“Smart Money”
MONEY is not the problem
Trillions in capital already seeking returns. Trillions more
in distressed assets waiting for redeployment
SMARTS is the problem
How do you deploy capital RAPIDLY and AT
SCALE?
Can you deploy $250mm+ in <4 years?
See: http://avc.com/2009/04/the-venture-capital-math-problem/

19. 19
Four Noble Truths of Global Innovation Economy
1. Productivity gains account for 80% of economic growth (Solow)
2. Most countries rely on foreign sources of technology for 90% or
more of productivity gains. Only the US shows the reverse
pattern
3. An increase in cross-border spill-over by 10% would
overshadow domestic [R&D] for all but 3 countries: US, Japan
and China.
4. Large companies are more globalized than markets in general.
In 2008, the world’s largest 100 companies had 60% of their
assets outside home markets. 40% of US imports are internal to
MNCs
(Data from Pankaj Ghemawat, World 3.0)

20. 20
• Null Hypothesis for ENTREPRENEURS: Learn
English, emigrate to the US. Hard enough to build a
great company in IDEAL conditions, why take on extra
burden?
• Null Hypothesis for GOVERNMENTS: Give up on
startups. Just increase knowledge spillover by 10% by
attracting right kind of MNCs with market access,
require local participation, IP sharing (China)
• Null Hypothesis for INVESTORS: Unless you can
access the top 5 VC funds in Silicon Valley, you
probably cannot beat the S&P

21. 21
Maybe “Create a Local Startup Scene” is a
Bullshit Political Conceit?
Like building a big skyscraper?
Or *cough* hosting the Olympics?

22. 22
Four Alt-Noble Truths of Global Innovation Economy
1. VC is a HIGHLY LOCAL business: Only 15-20% of venture
capital investment is outside the home country.
2. Local innovation is cheaper: In the G7, $1 of foreign R&D is
worth 74c of domestic R&D at distances less than 2000 km, 37c
at distances between 2000-7000 km and 5c at larger distances
3. Talent is geographically illiquid: First generation immigration is
only 3% of the world’s population. 90% of people will never leave
their home country. 60% of immigration is from developing world
to developing world, 37% is from developing world to developed
world, 3% is from developed to developing world
4. Silicon Valley is bandwidth constrained, BUT Telepresence is
getting better and better and better…
(Data from Pankaj Ghemawat, World 3.0)

23. 23
1. Alternative Hypothesis for ENTREPRENEURS:
Find the smartest local money, smartest global
knowledge, work where developed world is
constrained
2. Alternative Hypothesis for GOVERNMENTS: Make
high-skill developed-to-developing immigration/
circulation easier, create REGULATORY ARBITRAGE
opportunities, put as much GDP as you can into low-
cap-ex basic R&D and wait 20 years
3. Alternative Hypothesis for INVESTORS: Where US-
based startups struggle to globalize LEARN TO
COPY and don’t get hung up on VC vs. PE vs.
“Originality” pride (not-invented-here syndrome)

24. 24
Necessary Conditions for True VC Markets
1. Unencumbered access to big-enough markets
2. Modern state, rule of law, accountable government
3. Enough smart money to scale companies rapidly
4. Large, liquid talent base to scale rapidly (~ 500 engineers
in 1 year) <— KILLER CONDITION
5. Enough “graduated entrepreneurs” for scouting, angel funding,
deal-sourcing, mentorship needs
6. Enough “capacitance” in system (university labs, big
corporations) for renewable talent lifecycle
7. Supply chain from a network of 2nd tier hubs that can seed but
not scale investments
8. Steady pipeline of upstream research coming from government
R&D

25. 25
So… do investors matter?
Up to you…
Do you WANT to matter?
Or do you want to PRETEND to matter?

26. 26
Don’t be a Scenester…
Wantrapreneur: Somebody who dresses, acts, talks
like an entrepreneur but isn’t building anything
meaningful
Wantainvester: Somebody who has money in
meaningful concentrations (High-Grade Cash), but
isn’t willing to put in the hard work required to make it
SMART money (Weak Control)

27. 27
via @AdamRFisher

28. 28
Best Practices in VC… LIVE on blogs/twitter
1. Fred Wilson avc.com
2. Chris Dixon cdixon.org
3. Paul Graham http://paulgraham.com/articles.html
4. Sam Altman http://blog.samaltman.com/
5. Dave McClure https://500hats.com/
6. Ben Horowitz bhorowitz.com @bhorowitz
7. Marc Andreessen blog.pmarca.com
8. Good podcasts a16z.com
9. Mark Suster (Los Angeles) bothsidesofthetable.com
10. Brad Feld (Boulder) feld.com
11. Chris DeVore (Seattle) crashdev.com
12. Good roundup+posts: Mattermark newsletter

29. 29
And beyond…

30. 30
This is just the tip of the iceberg
1. Entire VC blogging scene has emerged since 2000
2. Highly open, wisdom-sharing investor culture
3. Opposite culture from Wall St… use it, add to it
4. Regional and sector-level blogs
5. Plenty of coverage in interviews, video chats
6. Several good books on every stage of investment

31. 31
Thanks to…
Marc Andreessen, Chris Dixon, Chris DeVore, Luke
Blackburn, Skinner Layne, Balaji Srinivasan, Bryan
Johnson… many more
And LAVF sponsors
Bancoldex, the Colombian development bank
Inter-American Development Bank
Bavaria Foundation