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Venture Capitalists and the Upside-Down Pyramid

All Gizah Pyramids in one shot.

In response to my post on VC’s increasing use of operationally focused team members, HBS professor Noam Wasserman sent me an excerpt of his dissertation on ‘The Venture Capitalist as Entrepreneur: The Characteristics and Dynamics Within VC Firms’. A key point he makes in this paper is that, “Most strikingly, a large percentage of the firms in the [VC] industry have adopted nonpyramidal structures [i.e., several partners and almost no junior staff], which are particularly predominant among early-stage and single-location firms. This structure has persevered for several decades.”

This is very unusual relative to most knowledge-intensive firms. However, Noam observes that the accounting, investment banking, and law firm industries all started off with non-pyramidal structures but now are hard to envision without their current pyramidal model. I emphasize that the trend I discussed doesn’t necessarily mean that VCs are becoming dramatically more pyramidal. 8 years after Noam’s dissertation, the VC industry is still noteable in lacking the traditional pyramidal structure.

Rather, I see VCs taking 1 or both of the steps below:

1) refocusing some existing staff on operational improvement rather than new deals.  That’s exactly what happened in the 2000-02 downturn, and also is a means to differentiate from other VCs.  As New York magazine observes in their recent cover story, the current boom in NY tech startups is painfully reminiscent of the last dot-com boom. Although I’m generally bullish on NY tech, there’s no question that we have potential to see another downturn in the VC space. When that happens, just as in the private equity industry in the current downturn, there will be a need for operational resources.

2) adding on staff (senior enough to provide substantive help to a portfolio company at the CEO level) who focus primarily on operations as opposed to investing.

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