New ideas needed for a maturing industry

First published in the Financial Times on 12th June 2012.

The upcoming generation can revive the VC sector

Recent coverage might imply that the world of venture capital and private equity is riddled with homophobia and sexism.

First, Lord Browne, former chief executive of BP, said in a speech on the prejudice faced by homosexuals in business: “In some industries, the situation is particularly bad. Among the many people I know in private equity, where I now work, fewer than 1 per cent are openly gay.”

Meanwhile in Silicon Valley, a junior partner at legendary VC firm Kleiner Perkins Caufield & Byers has launched a sexual discrimination lawsuit against her employer. Ellen Pao, who has filed the complaint, alleges harassment and retaliation over spurned sexual advances, and systematic bias against women within the company. Yet Kleiner is seen as one of the more progressive participants in the sector, which is perhaps why it is defending the case so vigorously.

I am also familiar with one or two other similar actions that were settled discreetly before they came anywhere near court. The industry understands well that it can lose hundreds of millions of pounds in companies that go bust yet the media barely notices – but suffer a high-profile discrimination tribunal and journalists will swarm like piranha.

Do the accusations reflect widespread intolerance in my trade, or are they unrepresentative? These insinuations are damaging if true, for the philosophical rationale of venture and buyout investing is that it is a meritocratic process, unburdened by all the hierarchical rigmarole so common in corporate boardrooms.

Almost without exception, the founders of the better-known private equity and VC houses are men. When those partnerships were created – mostly in the 1970s and 1980s – the key movers were drawn largely from the accountancy, investment banking and management consulting fields. Those professions themselves were at the time dominated by family men, and did not have diverse workforces by today’s standards.

Nowadays the finance industry as a whole – still the breeding ground for most private equity and VC recruits – has a broader intake, better reflecting the heterogeneous make-up of today’s society. But I’m not sure if that diversity is visible at the top in many firms.

One of the reasons is the long tenure of principals and partners. Typically those who succeed stay with a firm for 10, 15 or even 20 years, partly because a decent slice of the rewards are distributed via carry, which pays out over many years. Most of the established and bigger private equity companies are somewhat top-heavy with senior partners who earn fabulous sums – both in income and capital gains – which those men could never replicate if they left. So they stay, taking a disproportionate amount of the profits, and acting as a bottleneck against up-and-comers.

Various sectors I know, including retail and hospitality, have more variety in their leadership because the turnover of bosses is far greater than in the private equity and VC universe. Moreover, there is greater pressure to widen senior management opportunities in public companies and the state sector than in the very private world of private investing.

Typically the best private equity and VC investors are exceptionally driven and work exceedingly long hours. Given the implicit “eat what you kill” mentality of the craft, taking time off to bring up children could prove problematic in some firms. And possibly, the risky and stressful nature of the job does not appeal to that many women.

The terms of trade for the industry have deteriorated in the past few years. Leveraged deals are difficult when debt is scarce and more expensive. VC returns have been poor thanks to a feeble initial public offering market. And many firms are spending much of their time dealing with problems among portfolio companies drowning in borrowings. Consequently the number of players will shrink as many fail to raise fresh funds.

Perhaps the halcyon days of super returns are over, and thus the industry must evolve and mature if it is to deliver for limited partners. Doubtless many of the old guard will retire, making way for the next generation. This will surely be a more diverse and interesting cohort, and should inject a dose of new ideas to revive tired models.