GlossaryFund economics

What is the power law in venture capital?

The power law describes how venture returns are distributed: a very small number of investments usually produce most of a fund’s gains, while many others return little or nothing.

In practice

Because outcomes are so uneven, a venture fund’s result can depend on one or two companies, and typical company results say little about the fund’s. This shapes how funds think about portfolio size and follow-on money. It also makes returns vary widely between managers.

An example

Round numbers, not a real fund

Say a $100 million fund backs 20 startups at $5 million each. If 19 return nothing and one returns $300 million, the fund still triples.

Why it matters

It explains why venture investors look for companies that could become very large, and why one missed winner can matter more than several failures.

Video

32 seconds, with sound

A definition, not advice; where usage varies the entry says so.

See an error?