Startable – Healy Jones’ & Prasad Thammineni’s Blog

Hmm, it’s hard to say how venture capital did in 2012.  PEhub has a great post with a lot of good charts on venture capital performance in 2012, ytd, and it looks just ok. The title of the post is great though –  ”VC ’12 Year-Ender: We Suck Less!”

From the post: the dotcom bust is finally washed out of the 10 year numbers: “Cambridge Associates US VC Index for a ten year period (ending June 2012) shows a return of 5.28%. That’s worse than Barclays bond index at 5.79% and S&P 500 at 5.33%. But every cloud has a silver lining. VC returns are up from a lousy 1.25% a year ago. Or -4.2% in 2010.”

So I guess the key take away is that venture capital is not performing up to its risk adjusted level. But it is getting better than it was, so we may see some decent gains.

And I guess that means that LP’s are chasing the returns again, if this chart means what I think it means:

I found this great infographic on Entrepreneur, listing various legal structures available to startups and showing each legal structure’s pros and cons.

update: OK, so this infographic did not paste over very well, so click on that link above to go see it!!

A new report by BCG suggests that corporate venture capital has become less of a boom and bust driven industry and more of a core part of many companies R&D strategies. They’ve got some powerful facts and figures that suggest the corporate venture capital is hanging on pretty well, despite the tough time that venture capital has had in general over the past 10 years.  (I know, I just blogged that venture capital returns are ticking up, but still, it hasn’t been a great decade for almost any investor.)

The report mentions:

“Today, more than 750 corporations around the world have CVC units in operation, according to the report, citing the definitive database of Global Corporate Venturing, a leading industry publication. Between July 2010 and June 2012, these corporations engaged in more than 1,300 transactions.”

and

“The comparison shows that venture investing is taking root across a broad range of industries. Within the traditional sectors, the percentage of the 30 largest companies with dedicated CVC units has been climbing steadily since at least 2007. In three of four sectors (pharmaceutical, telecommunications, and technology) more than half of the 30 largest companies have such units in place—a sign of the growing recognition of CVC’s value as a tool for innovation, corporate development, and competitive advantage.”

The main thing I happen to think about when I think of venture capital arms of large corporations is how VC activity seems to get hot at corporation at exactly the wrong time. With the exception of amazing funds like Intel Capital, traditional corporate VCs tend to boom and bust at totally the opposite times when they should – entering at the peak and leaving at the bottom. The report indicates that there may be a real change underfoot: “Since the 1960s, CVC has cycled through three distinct boom-and-bust periods, with the bust coming each time as a result of financial-market or macroeconomic downturns. Now a fourth growth phase is under way, leading some observers to suggest that history is repeating itself. BCG argues otherwise, citing compelling evidence that CVC, once an experiment, has entered a new, more mature phase. Not only are new industries entering the arena, but the life spans of corporate venture units have increased steadily in the past ten years.”

I guess I don’t really know. I see impressive strides by Google Ventures, which is making all sorts of Google resources available to the companies they invest in. But regular venture capital arms of big corporations? IDK. Maybe, if they are following the list of best practices mentioned in the report (the following is a direct quote from the press release):

• Operating Principles. Leading CVC units have clearly defined investing parameters. Corporate leadership has committed to venturing for the long term, with the understanding that venture investors, by definition, take risks and that the occasional failure is the cost of doing business.
• Strategy. Befitting their key role in the innovation management effort, successful CVC units are tightly aligned with their corporate parents’ overall business and innovation strategies.
• Knowledge Transfer. Companies with high-performing venture units often designate specific business units to serve as “guardians” of individual investment targets. “The guardians are responsible for ensuring that the knowledge gathered from target investments feeds directly and reliably into the larger corporation-wide innovation pipeline,” said Michael Brigl, a BCG principal and coauthor of the report.
• Leverage of Existing Assets. Successful CVC units also make the most of their corporate resources. Some corporations, for example, give researchers from target companies access to their laboratories, while others contribute manufacturing expertise, offer broader distribution of the target company’s products, or provide administrative support for patent applications.
• Staffing. Finally, proven venturing performers pay close attention to staffing issues, choosing team leaders who combine broad familiarity with the VC landscape with deep understanding of the corporation’s strategy and processes.

I guess the one other thing that I don’t always see well explained by corporate VCs, is, do they exist to make money (i.e. returns) for the corporation or to feed innovation/strategic something-something into the corporation? Because the two are often at odds.

A study has found that getting PR for your startup not only helps get funding (which is obvious) but also helps identify the right kind of PR to help you raise venture capital. The study points out that particular blogs are the ones that venture capitalists are most likely to read., namely TechCrunch, GigaOM and VentureBeat. I’d point out that not all of these are great outlets for getting customers, but OfficeDrop’s experience is pretty similar in that when we get press in these venues we are more likely to get inbound calls from VCs.*

Quoting from the study’s press release: “Besides the fact most venture capitalists only have time to read so many blogs, the research shows that negative coverage of a startup venture has more of an effect than positive coverage. In other words, a venture capitalist is more likely to take notice of a negative blog post about a potential investment than take notice of a positive post. “After all it is more of a rejection process than a selection process,” Aggarwal said. “VCs want to sift through the pile of startup plans on their desks quickly, and are essentially looking for a reason to reject a plan and move on.”

The study also examines how the influence of blogs may change with the progress of a project’s funding rounds. The findings indicate that the effect of blog coverage is strong at the earlier funding rounds, but then it starts to decrease in subsequent funding rounds. “This makes sense, because in the early stages, all they may have is a dream of what they could be,” Aggarwal said. “As time passes, users, usage, and other accounting measures start to give a better signal about their actual potential.””

PWC is reporting that venture capital investments in the third quarter of 2012 are down. From the report: “investment activity declined 11 percent in terms of dollars and five percent in the number of deals compared to the second quarter of 2012 when $7.3 billion was invested in 935 deals. Investment for the first three quarters of the year was $20 billion into 2,661 deals, a level well below this point last year, making it likely that 2012 will fall short of 2011 in terms of both dollars and deal volume.”

The sector data from the report does shed a little light on what’s happening:

Cleantech investing dropped 20% in dollar terms, but stayed flat in terms of dollars.Software was off a little bit as well, and “Internet-specific investing fell 12 percent in dollars and eight percent in deals from the previous quarter with $1.7 billion going into 250 deals but remained well above the billion dollars per quarter level that has been prevalent for the last two years.”

In terms of stage, “First-time financing (companies receiving venture capital for the first time) dollars declined eight percent in dollars to $1.0 billion in Q3, but the number of deals increased one percent to 297 deals in the third quarter.”

It feels like the big thing is a drop in dollars committed per deal. Since companies are require less to get going, since there were fewer big blockbuster $100mm plus deals and since the number of VC funds (and size) are decreasing it all makes sense that we see a decline.

So this is the middle of a major shift in how the US venture market functions. Smaller deals, smaller VCs with a few big funds… this is reality.

Recently there have been two very interesting analysis on seed funding – on showing the optimal amount of companies in a seed portfolio is an amazing 60! And another showing that seed investing remains healthy, but is likely not in a bubble like situation.

I’d love to dig more into both of these, but surprise surprise, OfficeDrop is really busy! But it’s a good thing!

Gigaom has a new piece, “Who is right on internet valuations? Public markets or VCs?” which points to the drop in public share price of Groupon, Zynga and Facebook as examples of newish public internet companies who have had nasty drops in their share prices. The piece correctly notes that “they were overvalued as private companies and after going public they have been presented with a reality check… The latest to get that reality check in Zynga, which today saw its stock tank almost 40 percent to about 3 bucks a share in after-hours trading.”

While it’s clear these companies were all aggressively valued as private companies, I don’t agree with the idea that it’s either the VCs fault or the public markets fault.

Instead, I believe that a lot of the pumping up of these companies valuations happened in the private secondary markets. And most of those secondary markets investors weren’t traditional VCs; they were … well, I don’t have a clue who they were, maybe hedge funds? (Actually, Dan Primack at Fortune says “Around 50% of Facebook buyers through SecondMarket are described as “asset managers” or hedge fund managers. Individuals make up 14.8% of the pie, while family offices (11.8%) and mutual funds (7.5%) also are represented.”)

Traditional VCs weren’t adding to their ownership positions in those crazily valued private trades – in fact some early investors were liquidating some of their holdings in the private secondary markets.

Facebook’s private company valuations

According to Secondmarkets, Facebook’s private valuations were:

The data above is from Secondmarkets, with the exception of the July valuation which I just pulled off of Yahoo! Finance.

The Russian investor Digital Sky Technologies & Goldman Sachs invested around a $50 billion valuation in early 2011, and Elevation Partners invested at something in the high twenties billion in the middle of 2010. These are more growth or private equity style investments vs. traditional early stage VCs, so I don’t consider it fair to blame the venture capital industry for the high valuations of these companies and the subsequent public stock drops.

Furthermore, the company appreciated from $50 billion to $100 billion while private, but I’m pretty sure that had nothing to do with traditional VCs, unless they were selling their holdings at those values. And the fact that all of these companies are having their public stocks go down now is more due to the issues they are having beating the public markets growth projections more than anything else.

So, let’s not blame the VCs for the public company stock drops.

Wow, I’ve been way too busy to post. It’s embarrassing. But here are a couple of good links on the early stage fund raising market I found via pehub:

• US venture funds raise $5.9 billion in Q2 2012 – 12% more than Q1. 38 funds raised money. Two of those 38 funds were HALF of the total, so that’s some big funds plus a lot of little ones. But it’s also 22% fewer funds than Q1… so we are continuing to see the contraction of the US venture capital industry. Read more here.
• SVB has a report on angel group’s investments; median pre-money valuation was $2.5 million. The report is here.

Recently there have been a few interesting posts on the Boston internet startup scene. This genre of posts seems to come back every 18 months or so, and I thought I would revisit a piece I did a while ago called “Keeping startups in Boston.” I wrote the post in 2010, and the purpose of my points was:

I’ll try to elaborate on a few of the problems I see in Boston – problems that make it less desirable for startup founders to want to found/keep their companies here. My point of view is colored by the years I spent living in San Francisco and by the fact that I am not originally from New England. Also, please keep in mind that as a guy helping run a startup in Cambridge I actually do think this is a great place to found a technology company.

Anyways, I mentioned the following points:

1) Lack of funding sources to take a risk on less experienced founders. Sometimes I feel like this is starting to get better, sometimes not. I”m seeing a lot more seed rounds being done in Boston, but we’ll see how they translate to Series A or successful outcomes.

2) Little investor willingness to roll up the sleeves and mentor/help other companies. I see some serious improvement here, coupled with a real improvement with point #3 as well. Programs like TechStars have brought mentors out hiding and made it cool to help get small companies off the ground. This makes me happy.

3) Very few here-is-how-you-grow-your-company events. Totally getting better, with incubators leading the way + organized events at the CIC, MSFT Nerd and a few other places gaining steam.

4) Very little national, customer driving press. This is still a huge problem. A really huge problem. I don’t see it getting better soon, although Bostinno is trying hard to become a real East Coast tech reporting machine. I see them making real progress, but this will just take time.

5) It is hard to feel welcome as a “non-native” in Boston. Still a problem that most non-natives don’t get, nor do I expect them to.

So, there is some serious improvement on the “what ills” Boston startups since my post a few years ago… but has there been any progress on making better consumer startup/internet companies here? Yeah, I’d think so, just based on the number of companies I see actually growing and doing well, like RunKeeper or Boundless or CustomMade.

Only time will tell though. There needs to be a big company that becomes a tech spawner, where a bunch of engineers make a lot of $ and then go and start other companies. Maybe Hubspot will fulfill that role.

Finally, here are the articles that got me thinking about this, one by a reporter named Jim Kerstetter and one by Rob Go.

Wow, it’s been a while since I’ve seen a positive article on the VC market outlook (not since that nasty Kauffman Foundation piece, which I found really hypocritical*.)

Robert Ackerman has just written an article for peHUB on why he’s bullish on venture capital as an asset class. Of course, he’s an investor in technology growth companies, so he’s got a particular bias. However, I think he makes some great points about why VC isn’t lost as an area for LPs to put their capital.

1. Innovation isn’t slowing down.”Groundbreaking developments in cloud computing, social media and mobile technologies are giving rise to an entirely new technology ecosystem. What’s really interesting is that innovation is pushing out in all directions simultaneously.”
2. The VC overhang is …, well, over. The excess capital from the dot com era has finally been bled away, leaving a more correctly sized venture market. Check out the chart to the right that shows flip of dollars raised by venture vs. dollars invested – and the huge drop in both.
3. Corporate M&A has picked up, with corporations basically, “corporations have made the strategic decision to cede research and development to innovative young companies, which they can then acquire at some period down the road.”
4. Finally, Robert mentions the JOBS act. To be honest, I’m not sure what to think about this legislation. Supposedly it will make it easier for small companies to go public. I hope that’s the case!

Anyways, it would be good for innovation in the US if we had a healthy venture capital market. If we’ve finally worked our way through the bust of the dot com period, and worked our way through the slow mid 2000′s and maybe if the US economy is going top pick up, then it could be a good time to be investing in venture capital funds.

*Here is what I wrote as a comment on Pando Daily re: that Kauffman study:

 HealyHoops
@Eringriffith, I don’t get how an organization that has the stated purpose of promoting entrepreneurship is advocating cutting venture capital investments. Doesn’t that seem counter to the Kaufman Foundation’s supposed mission?
eringriffith  moderator

that’s a good question for them–in a way you could make the argument that advocating for the best venture capital promotes more rationalism in the market which makes it more for the entrepreneurs? but yeah it does seem like a paradox.
HealyHoops

@eringriffith Pretty sure there is some Kaufman study somewhere that says “entrepreneurs say access to capital is one of the major challenges in starting and growing a business.” And weren’t they sponsors on the recent Startup Act that makes it easier for individuals to buy pieces of startups – the same types of investing that VCs make? But with less information, protective rights and without preferred stock usually? It’s ok for dentists to make these kinds of VC style investments, but not sophisticated limited partners of venture capital funds? I don’t quite understand this.