How the industry of innovation makes itself obsolete

There's a lot of buzz lately around Silicon Valley about angel investors, startup accelerators, crowdfunding, business model development and much more.

A typical claim is that the VC business model is broken. Another one is that VCs have just not adjusted to the modern needs of their companies.

As I am not in the valley, I watch the changes somewhat from afar, but not too far. This gives (IMO) an excellent perspective on things, and one of the interesting phenomenon is how the VC industry is funding its own demise.

If you're reading this blog and know nothing about VCs (venture capitalists), here's a short explanation: VCs take money from investors, and invest it in startups. Their (claimed) expertise is allocating investments smartly in a way that funds groundbreaking innovations that bring huge returns to their investors.

The industry started in the early 1960s (late 50s even), and had funded probably every large and innovative technology company you have heard of or not, including DEC, Apple, Cisco, Google and many more.

In the last 5 years or so, a big shift in the industry can be observed - much smaller investments are needed to start a company, and VCs many time stay outside the game of the smaller company creation and exit process.

The typical explanation is that starting a company requires smaller amounts of capital, and as such, VCs are just too big to succeed.

If you think about it, however, VCs are exactly the reason costs are so low to begin with.

Over the years, the technology industry invested significant amounts of money in making technology more affordable, available and easy to use.
One result, for example, is the emergence of e-commerce. In case you did not notice, the following chains went into bankruptcy (or closed their stores) in the last 5 years: CompUSA, CircuitCity, Borders, Tower Records and Blockbuster.

What's common to all of them? They needed to compete with an ever growing online selection and new business models relying on lower costs driven by technology.

And the same thing is happening to the VC industry. If at first VCs have funded innovation in areas such as semiconductors, telecomm, banking and travel (have you used a travel agent lately?), where manual labor was slowly replaced by computerized technology, later they funded inventions that lowered the cost of creating technology in general.

One result was that they created a lot of rich people, who are technology savvy, and can easily compete with VCs when the costs are lower. The second result is that the wave of "basic/big" infrastructure innovation is mostly over, and as the technology sector matures, their services are less needed.

The third result, which is probably the most interesting one, is that VC investment is essentially a manual process. It is grudgingly slow, and sometimes inefficient.

So what does the technology industry do when an inefficient manual process exists? It creates the technology to replace it, or make it better and more efficient. As a result, service such as the Angel List had sprung up, as well as technology accelerators and several other projects and tools.

This is literally slowly cutting off the branch you were sitting on, while inventing the saw, and making money of selling saws.

How will the VC industry react?

Although a famous (Hebrew) saying is that Prophecy is given to fools, I will go out on a limb and say that many VCs will disappear, and the rest will fund truly great innovation, or shift to different industries.