What Is a Drive-By Deal?
A drive-by deal is a slang term referring to a venture capitalist (VC) who invests in a startup with the goal of executing a very quick exit strategy, ideally by way of an initial public offering (IPO) on a stock exchange.
- A drive-by deal is a slang term referring to a venture capitalist (VC) who invests in a startup with a quick exit strategy in mind.
- Critics say drive-by deals result in VCs pushing companies toward an IPO, even though they are not fully prepared.
- The term "drive-by" investing was first coined around the time of the dotcom craze, when venture capitalists blindly poured money into technology startups.
Understanding a Drive-By Deal
VCs usually invest in businesses over the long-term. Normally it takes roughly five to eight years for a promising early-stage venture to cement its path and either get bought out or go public by listing on a stock exchange. During this tricky process, VCs will function as partners, nursing young startups through their growing pains.
The exit strategy is key. In many cases, VCs only really get paid when the startup they invested is sold on, whether that be through an initial public offering (IPO) or being acquired by another company.
When possible, some VCs will actively seek to arrive at this point sooner than others. Occasionally, a startup might have concrete plans to float on a stock exchange but first need quick access to capital. If the IPO ambitions are valid, VCs could be expected to pounce as it enables them to make a quick buck without having to engage in all the strenuous activity they are usually required to undertake.
When opportunities of this nature present themselves, the VC takes little to no active role in the management and monitoring of the startup. Instead, the goal is to increase the size of the investment by quickly getting the venture listed or finding it a suitor.
Benefits of a Drive-By Deal
Drive-by VC deals may be seen as advantageous for both the startup company and the VC, since it allows a company to boost its growth at a very high rate early on in its life cycle, while enabling the investors to quickly get their capital back in order to reinvest in new projects without being tied up for years at a time.
Criticism of a Drive-By Deal
Though sometimes fruitful for all parties, drive-by deals more often than not are viewed skeptically. Critics say these types of transactions result in companies being pushed towards an IPO, despite not being objectively ready for such a big event.
VCs are in the business of making money for their investors and, when all goes to plan, the promising ventures they inject capital into, too. However, if it is a short-lived affair and squeezing a profit out of the startup swiftly becomes the only objective, it could be argued that their nurturing aspect goes out of the window.
Suddenly, the VC has little reason to care about the long-term welfare of the business. Getting to the promised land as quickly as possible becomes the main mission, regardless of whether the company and its founders succeed or fail immediately afterward.
History of Drive-By Deals
The term "drive-by" investing was first coined in the mid-1990s as venture capitalists poured money into technology startups, especially surrounding the dotcom craze. The term refers to the common practice at the time of angel investors and VCs agreeing to fund early-stage startup companies without doing any real due diligence to verify if the firm's business plan and management team was a worthwhile and promising investment.
During the technology boom, VCs were anxious to fund the next big company before their competitors. Drive-by investing occurred because they believed that they didn't have enough time to do their homework.
Many investors got burned after the dotcom bubble burst in the early 2000s, prompting this type of quick and dirty VC investing to fall out of favor. That largely remained the case until the late 2010s, when digital currency Bitcoin and blockchain-related startups began generating a lot of buzz.
The excitement surrounding this emerging technology asset class led some VCs to act recklessly. Once again, this was motivated by fear that not investing promptly would lead them to miss out on the next big thing.