In addition, VCs making initial investments in affected sectors were less likely to take a board seat following the technological shock. In fact, the number of initial investments made per year per VC in affected sectors nearly doubled from the pre-cloud to the post-cloud period relative to unaffected sectors, without a commensurate increase in follow-on investments. These VCs were also more likely to abandon their investments after the first round of funding. In sectors impacted by the technological shock of cloud computing, VCs tended to respond by providing less funding and limited governance to an increased number of startups. Some VCs shifted toward an approach colloquially referred to as “spray and pray” - VCs ‘sprayed’ money in more directions, and ‘prayed’ rather than governed. This fall in the cost of starting businesses dramatically impacted the way in which VCs manage their portfolios. Thus, the effect of cloud services significantly impacted the initial costs of trying an idea, but not the costs of scaling a successful business. Interestingly, this fall in costs only changed the initial capital required for the startup – total capital raised by firms in affected sectors that survived three or more years was unchanged.
On average, initial funding fell 20% relative to unaffected sectors. Startups founded in sectors that benefited from the introduction of AWS raised much less capital in their first round of VC financing after AWS. Both Rhodes-Kropf and Ewens are advisors to and have a financial interest in Correlation Ventures.) (Thank you to Correlation Ventures for helping us with this study. We combined data from VentureSource, VentureEconomics, Correlation Ventures, CapitalIQ, LinkedIn, Crunchbase, firm websites, and LexisNexis to examine the funding of startups in the period around the introduction of Amazon Web Services (AWS) in both affected and unaffected sectors. Cloud computing made the early ‘experiments’ for these firms significantly cheaper. The introduction of cloud computing services in the mid 2000s allowed Internet and web-based startups to avoid large initial capital expenditures and instead “rent” hardware space and other services in small increments, scaling up as demand grew. In recent research, we examined a particular innovation that had a broad impact on some types of startups but little to no effect on others. So an innovation that changes the cost of experiments changes the landscape for venture funding. This leads to many failures (roughly 55% of startups) and a few successes (6% return > 5x the total amount invested). Venture capitalists essentially invest in startup ‘experiments’, and subsequently provide more funding to the experiments that work, so that they can run more experiments. How has technology changed which deals venture capitalists (VCs) fund and how they fund them?
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