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NO!!! While, It’s undeniably true that venture capital activity has slowed down, but to say it has “dried up” is a massive overstatement. In fact, it’s closer to a canard.
Venture capitalists funded 833 U.S.-based companies in Q4 2008, for a total of $5.47 billion. That’s well off the $8.08 billion invested in Q4 2007, but it’s hardly “dried up.” In fact, it’s pretty close to where the VC market was at the end of 2005, when just $5.79 billion was invested in 810 companies. Moreover, not a single quarter in 2004 even broke the $5 billion mark.
I understand Anderson’s consternation, and it’s true that today’s entrepreneurs need to show clearer revenue paths than they did 15 months ago. But that’s more a reflection of past VC froth than an ability of quality companies to get funded. But there is still plenty of money available, and there will be going forward. Certain things truly have dried up (VC-backed IPOs, mega-LBOs, etc.), but venture capital isn’t one of them.
In 2008, we see a sharp reduction in VC exits: for the first time in 38 years, the quarter had ended in the U.S. stock marketwithout a single venture capital-backed IPO. The number of venture-backed IPOs in the U.S. over the last seven years has fallen to almost 25% of the level of the first seven years of the 1990s, a comparable period of time that excludes the most ebullient years of the Internet Bubble.
Why is this important? See our review on Venture Capital business model.
Increased regulations are often credit with the difficult exit market.
Sarbanes Oxley
Sarb-ox is often reported for increasing costs and potential liability for public companies, making it more difficult for young companies to go public.
New accounting rules will change the way accountants record the value of companies. Rather than using the "historical" cost on the Balance Sheets, there are new rules that assets must be valued as if they would be sold today ("marked to market")
Impact on the Private Equity industry: The private equity industry is going to be hit by volatility in accounting for their assets, as newly adopted rules force them to mark down the value of their portfolios, high profile private equity bosses cautioned on Tuesday. Mark-to-market, or "fair value" accounting, took full effect this year, requiring companies to value assets at current comparable prices. The rules are known as FAS 157, which defines how companies should use fair value, and FAS 159 which lets companies elect to use fair value for certain assets and liabilities. "In many instances the LBO funds are going to be forced to mark assets to market for first time," said Thomas H. Lee, president of Lee Equity Partners, a $7 billion hedge and leveraged buyout (LBO) firm. "Many haven't done this in the past." "It will be brave new world out there," Lee, who left the buyout firm that bears his name, Thomas H. Lee Partners, in 2006. "Just as we see mark downs we will see mark ups. So the class itself will be very volatile." read more from: Reuters 06/03/2008
Capital Gains Tax change effects Private Equity & VC
6-2008: “Capital gains taxesare going up no matter who gets elected president, or what party they’re from. That’s just how it’s going to be.”Those were the words back in January of one of this space’s better sources – an ardent Republican who had not yet decided who to support in his state’s GOP primary. Our conversation was more about politics than business, but his point is beginning to significantly impact the private equity markets. Specifically, lots of people are looking to sell their businesses now rather than in 2008 or 2009, in order to avoid paying what they believe will be higher capital gains rates.
This philosophy is most prominently felt in the small-cap and mid-cap buyouts spaces, particularly when it comes to buying family-owned businesses. It’s also having an impact among VC-backed entrepreneurs.
It seems to be counterintuitive, given that company values are depressed across the board. Apparently the calculation is that the value lost by selling today is less than the return lost by paying on a higher capital gains rate in 2009 or 2010. This is particularly true among those who aren’t expecting an economic rebound anytime soon.
Interesting argument to watch develop, particularly as investment bankers promote it to attract new clients…
A legacy of the Internet Bubble was that too many venture capital firms were created at its height, with a glut of firms and capital helping to drive up purchase prices for companies to unsustainable, unprofitable levels. In 2000, the height of the market, there were nearly 1,200 venture capital firms in existence in the U.S. according to the NVCA. By 2007, that number had decreased to 844, down an additional 40 since the previous year. Of the remaining firms, 244 of these firms, or some 27% of the total, did not make a new investment in 2007.
Venture Capital trends
the credit crisis of 2007-2008 looks like it will slow down venture capital industry. funding is getting tighter (see article here) "a possible early sign that the resurgence in venture investment may be coming to an end. In the last quarter of 2007, venture capital investments in Southern California companies fell 25%. Los Angeles-based information services companies, which include online entertainment and advertising ventures, attracted 13% less funding than the same time a year earlier. Only one technology company had an initial public offering in the first quarter of this year, down from nine the same time last year, according to an April 1 report by the National Venture Capital Assn. The group also found a slide in mergers and acquisitions." On the other hand...2007 was the best year in history, so any slowdown need not necessarily be a sign of alarm: "The investment slowdown comes after the biggest start-up funding boom since the Internet bust. Venture funds raised $35 billion in 2007, the biggest hoard since 2001."
getting more difficult to take companies public
4/2008: (see article here): "the volatile stock market has spooked many investors and made it more difficult for companies to find buyers or go public. "You can't get an IPO out when there are a lot of investors sitting on the sidelines," said Mark Heesen, president of the National Venture Capital Assn. Without exit opportunities, venture firms need to keep funding older firms at the expense of younger ones, he said. Investors are making tough choices about which firms to finance and "which to abandon to its fate," said Mark Cannice, an associate professor of entrepreneurship at the University of San Francisco, who surveys venture capitalists' confidence."
VC companies getting their funding from overseas
What do you get when you combine a drooping dollar and a bunch of venture-backed startups that are aggressively trying to enter international markets? Apparently, one side effect is more strategic investors from overseas... considering the dismal state of the greenback, and the fact that the equally dismal exit climate means there are probably a lot of high-quality later stage companies looking for private funding, it seems logical that we’d be seeing a lot more foreign strategic investors in Q2 funding rounds. Plus, a lot of U.S. startups get most of their revenue outside the country anyway. read more here also see: Venture Capital Fund Raising
Optimists say...
Maybe this is a good thing?
The market was getting a bit "bubbly". Previously, we noted that the subprime and housing crises led many entrepreneurs to flock to the internet, and to launch companies in this space ( see article here ) This seemed to be an un-sustainable trend that was causing low quality entries into the market. It was just a matter of time before the funding boom ran out (ala credit curnch, and people started going out of business).
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