Venture capitalists are clueless – the likes of Klarna and Uber prove it

And yet, there is another, more alarming explanation for all the deals that are turning sour. The VC industry doesn’t actually have the faintest clue what it is doing.

A paper this month from Chicago Business School crunched that data on 16,000 VC investments. It found they were making what it described as “predictably bad investments”.

In fact, a simple algorithm could make consistently better investments than the VC firms could. They kept making mistake after mistake, and were not able to learn even the simplest lessons for their failures. “By comparing investor choices to an algorithm’s predictions, I show that approximately half of the investments were predictably bad – based on information known at the time of investment, the predicted return of the investment was less than readily available outside options,” the author Diag Davenport argues. 

In truth, three key issues are emerging. First, the venture capital industry puts far too much faith in founders. It is constantly searching for the next Jeff Bezos, Mark Zuckerberg, or Steve Jobs. But entrepreneurs of that calibre are very rare, and even where they do exist, the market has to be right for them. In reality, the robustness of the business model, and the ability to get to the market quickly count for far more.

Next, they all herd into the same sectors. Do we really need that many food delivery apps, 10-minute grocery services, money transfer sites, or streaming options? Almost certainly not. All that happens is that too much money pours into a sector, creating brutal competition where margins are slashed to close to zero and no one can make any money. It is great for consumers while it lasts – we have all enjoyed below cost deliveries – but terrible for the shareholders.

Finally, and perhaps most worryingly, they have far too much faith in their own ability. It is starting to become clear that many of the most feted VC firms simply got lucky once – investing in Alphabet, or Meta, for example – and have simply coasted on that reputation ever since.

Over the last few years, hundreds of billions have been poured into the VC industry. Ordinary pension funds have started to shift into the sector (public pension funds contribute 65pc of the VC money in the United States, although perhaps mercifully only 12pc in the UK) in the belief that it can generate superior returns. Very occasionally perhaps it can. And yet it is becoming painfully clear that much of the time it simply has no idea what it is doing – and a huge amount of money is being wasted in the process of discovering that.