The Venture Capital Overhang

The perils of the venture capital overhang — the amount of money raised by venture capitalists that they have not yet invested — are very much in the eye of the beholder.

Most people can agree on one thing, however: its size. The overhang is currently not far from record high levels, sitting at approximately $65-billion.

After that, however, agreement wanes. For example, most venture capitalists think that a larger overhang is bad. Why? Because, all else being equal, they don’t like investing knowing that there is all this other money out there looking for a home. Sooner or later it will drive up valuations — the price they pay for chunks of private companies — and drive down investement returns.

There are other reasons too, including that investors in VCs look at the size of the overhang and demur on giving new money to VCs. There is, to their way of thinking, too much money already invested in the business, so why send in more?

For their part entrepreneurs think an overhang is nifty. Why? Because it means means that sooner or later investors will have to spend the money, and entrepreneurs are likely to be the beneficiaries. More of them will get more money, or valuations will be higher, or both. While both of those will seem like good things in the short run, it is debtable whether they are such great long run outcomes.