Lack of Early Stage Venture Investing is Holding Back U.S. Innovation

It’s the biggest myth in American entrepreneurship, the idea that we’re riding a bubble of unprecedented startup funding that’s driving new innovation.

But when you look at venture capital in the United States, the confusion is clear. It seems like we are investing a huge amount of money in start-ups. Everywhere you look, there are private companies like Uber, Airbnb and many more, cranking out massive amounts of revenue and driving valuations to heights not seen since the Dot-Com Bubble days. The simple fact that the term “unicorn” was adopted to describe start-ups that are valued at $1 billion-plus is proof enough that valuations are off the charts.

But despite all of these positive signs, all isn’t well for U.S. entrepreneurs.

The practical reality is that we face at least an $8 billion a year shortfall in early-stage venture investing in this country, and it’s getting worse.

Why?

In part it’s because too much money is going to too few companies. According to the National Venture Capital Association, VCs invested $69.1 billion across 7,751 companies in 2016, the second highest yearly total since 2000. But nearly half of that total went to just one industry: software (48%). What’s more, 60% went to just three metro areas: the SF Bay Area (40%), New York City (10%), and Greater Boston (10%).

What about everything else?

Those companies simply aren’t getting funded at these levels. Healthcare, agriculture, manufacturing — innovation is everywhere, but VC funding isn’t finding its way to those businesses like it should.

Innovation’s New Reality

It didn’t used to be like this. In the ‘50s and the ‘60s, in every single town in the country, somebody was starting a business. There were still strong local banks and there were local investors interested in backing local, job-creating enterprises. Part of this was due to inspiration from people coming back from World War II, all focused on taking on new challenges, but it was a powerful combination of people willing to be entrepreneurs paired with banks and other investors willing to back them. It was an economic engine that turned out new companies all across the country, name brand companies that you still see today. They’re McDonnell Douglas, they’re Boeing, and so many others, all of which grew dramatically during the ‘40s, ‘50s, and ‘60s.

But after that, something changed. The entrepreneur-investor-economic growth virtuous circle stopped as we moved into the ‘70s and the ‘80s, and it has never come back like it was before.

A combination of factors led to this shift:

Silicon Valley started taking off in some novel ways around that time, and so a lot of focus was put on Silicon Valley as THE place for innovation, which drew more investment attention there from the rest of the country.
There were some challenges in our financial markets, so over time we have made small corrections to the ways the markets work that have restricted what banks can do and limited the opportunity for investors to get involved with new companies.
The corporations that started during that big postwar push have matured and moved out of the entrepreneurial phrase over time. They became bigger, and they built plants and factories and different things as they grew, leaving behind the need for constant innovation. As a result, the notion of entrepreneurship as a driver of economic growth quieted down a little bit.

All of this led to the concentration of business development resources and talent around Boston, Silicon Valley and other hubs. Somehow, along the way, we forgot that there are smart people, with good ideas, throughout the rest of the country.

Investors Need to Branch Out

Over time it has just gotten worse. Entrepreneurs in far-flung places like Kansas City, and Orlando, and Portland realized that they couldn’t get access to capital at home so they picked up and moved to Silicon Valley, moved to Boston, moved to the areas where the capital existed, and they pulled a lot of talent out with them.

It became a self-fulfilling prophecy. Investors couldn’t find good opportunities to support in their hometowns because all of the innovators were leaving, so they focused their attention on the known quantities of Silicon Valley and software companies for their investment dollars.

And now we have record amounts of VC funding going to just a small sliver of the innovation market, and an $8 billion shortfall in entrepreneurship support nationwide.

That’s what keeps me up at night.

Consideration

With 2021 well underway and with public markets still strong, we think it is an important time to highlight some of the key private market, venture investment themes that iSelect fund has identified for the year. We believe technologies transforming the Agriculture, Food and Wellness markets will flourish, with a focus on four areas: technologies that enable better food choices to drive better health outcomes, technologies that drive better, more profitable farm operations, technologies that drive the Consumerization of Healthcare, and biome-based treatment technologies. At iSelect, we invest for impact AND performance. We offer qualified investors access to emerging growth companies through our national venture capital strategy. Our unique structure allows our investors to continue to invest in these companies as they develop.

Timing

Why is now the right time for venture? The answer is that now is not explicitly the right time. Venture is something we need in our economy at all times. Now is not better than any other particular time. The question is, why ever stop? When we look at the challenges we’re facing in food and healthcare the reality is there is someone, somewhere who has an insight about how to build a product that will solve those problems. And if they put the right resources to it, they will succeed. As long as we need new technology to make life better or make our lives more enjoyable, we need venture capital to help fuel those entrepreneurs.

What is iSelect as a product?

iSelect is a very unique product, but when you break it into its parts it’s fairly easy to understand. On the front end we’re a traditional venture capital fund. We have a diligence process. We have an investment process. We have categories of industries where we have focus and real expertise, and we invest in companies in those areas that meet requirements for the fund. On the back end we’re unique in that we don’t raise a large amount of capital at one time and deploy it over the life of our fund. Each deal that we bring onto the fund, our investors have to prove and determine to invest in that deal. We have to constantly prove our diligence standards. It’s accessible, transparent and easy for investors to come in and see our comprehensive process.

What is the ideal iSelect company?

We are looking for founders that are passionate and we want the problem they’re trying to solve to be big, real, and painful. We want the solution to be revolutionary and we want our capital to be able to help them solve that problem. We want to know that they have customers involved and that the solution they’ve come up with actually meets those customers’ and market needs. And we want the team to be capital efficient with the money they’re spending.

What does the ideal iSelect company look like?

We’re looking for a company that has an opportunity to have a 10x return to our investment or greater in a period of three to seven years. What excites us at iSelect are companies that are solving big problems. We want companies that are going to be the Monsantos of the future. Not just in the size and the scope, but the impact they have on people’s lives. We want to create positive impacts on people’s lives, so we invest in areas like agricultural production and areas like producing healthy foods for our kids. They are problems that impact real people’s lives on a daily basis. That’s what we’re trying to do at iSelect. We’re trying to solve the big problems out there. Find ways to bring capital to the entrepreneurs who are the real heroes out there getting up every morning, beating away at these things that are problems that you and me and everyone else faces in their everyday lives.

What is iSelect?

iSelect is a venture capital firm. What that means is we look at hundreds and hundreds of different companies and we apply tough diligence standards to each of them, looking at whether the team has a good plan for growing the business, whether the team is qualified and credible, and more. We do that to resolve the few who provide the best opportunities for investors. And then iSelect takes that smaller set of investments and goes to investors who are interested in venture capital and provides a way for them to invest in these companies, either individually or all at once. We co-invest alongside other venture capitalists. We source transactions through to an exit where the company would become public or get bought. And we manage that whole investment process on behalf of our investors.

Inside the $8 Billion: Here’s What’s Holding Back U.S. Innovation