Researchers: Deep-Tech Needs Old School Venture Capital

Insider Brief

• Venture capital is currently focused on turning a quick buck, not long-term investments, according to MIT Sloan Management Review columnists.
• In the past VCs funded cutting-edge, but risky companies and technologies.
• The piece was written by Thomas Ramge, associate researcher at the Einstein Center Digital Future and Rafael Laguna de la Vera, founding director of the German Federal Agency for Disruptive Innovation.

Venture capital must return to its roots, taking on more significant risks to fund scientific and technological advancements that have the potential to deliver substantial returns and societal benefits, according to researchers writing of an article in MIT Sloan Management Review.

The authors, Thomas Ramge, associate researcher at the Einstein Center Digital Future and Rafael Laguna de la Vera, founding director of the German Federal Agency for Disruptive Innovation, write that the landscape of venture capital has shifted towards safer, less risky investments, mainly focused on enhancing convenience of daily life. While there is nothing wrong with that and  these innovations disrupt existing market dynamics, they fall short in addressing the more critical challenges humanity faces, such as the urgent need for green energy solutions, effective CO2 reduction technologies, and strategies to combat global hunger and overexploitation of natural resources, according to the authors.

They add that this cautious approach to investment is creating a significant barrier for radical innovators, particularly those working on breakthrough technologies that could potentially solve some of the world’s most pressing issues. This phenomenon, often referred to as “innovation’s valley of death,” describes a critical phase in the development of new technologies where initial funding is depleted, but additional investment is hard to secure.

This gap is thwarting many promising ventures that are unable to gain traction because of a lack of support from capital markets.

Venture capital and private equity firms are sitting on a considerable amount of “dry powder” – unused capital – estimated at $1.9 trillion, the authors write. While investments in deep-tech startup have seen a significant increase, — quadrupling to more than $60 billion from 2016 to 2020 — this is still a fraction of the total capital available, indicating a cautious approach to investing in potentially transformative technologies.

The authors warn that deep-tech funding cannot rest on the shoulders of governments alone, writing: “This has to change fast. While government has a role to play, so does venture capital. It’s high time for the high rollers in VC to shift from financing the easy digital-asset classes to funding more fundamental scientific and technical advancements.”

The reluctance to invest in deep-tech ventures may be due to a lack of understanding and expertise in these areas among decision-makers in VC and private equity firms. There’s a pressing need for these entities to diversify their teams, incorporating scientists and specialists who can competently assess the risks and potentials of new technologies, the authors state.

They write: “But we’ve found that teams working at VC funds and private equity firms have, as a rule, been weighted too heavily toward generalists to be able to competently take advantage of the tremendous opportunities offered by truly disruptive technologies. To change this, they need to recruit scientists with an interest in finance to join their analyst teams, and open up the partner track for them. And they need to work with external advisers who aren’t the usual suspects from the tech consulting scene but are active researchers in the field in which the fund hopes to invest.”

There’s also a misconception that deep-tech equates to early-stage investments, overlooking the fact that many such startups are moving beyond initial funding phases and are ripe for larger, more impactful investments.

Corporate innovators and family offices are beginning to recognize the value in deep-tech investments, with the former increasing their mergers and acquisitions activities and the latter being more open to longer investment horizons. This shift is crucial for driving forward innovations that can disrupt markets and contribute significantly to addressing global challenges.

The authors conclude: “Venture capitalists who want to make an impact on global problems must learn (or relearn) to take risks — and take closer looks at deep-tech investments aligned with serving humankind in significant and even urgent ways. In the long run, it will pay off for them — and for our collective future.”