Although the venture capital firm as a business predates the buyout firm by at least a decade, only now does it appear that venture capital is succumbing to many of the same economic realities of what is now called the private equity industry.
We see that the major US venture capital firms have branched out geographically, with operations and funds in China and India. This has partly to do with the fact that startup companies in certain sectors must have international operations in order to be competitive. It also has to do with a desire among institutional investors to commit capital to emerging markets. Many would prefer to go to China and India, to name a couple of popular destinations, through established names, and the GPs are only too happy to oblige.
Another business reality affecting today's venture capital market has to do with the increasingly difficult economics of small funds, which of course means the early stage strategy. Simply put, it is very hard for a successful venture capital firm to return to early stage roots after having raised a much larger fund. The tech and telecom boom of the late 1990s saw the erstwhile cottage industry of venture capital become stewards of billion-dollar funds, such were the capital demands of bold new internet and telecom companies (and such was the demand of LPs to deploy capital in said industries).
Today there is a dwindling population of true early stage VC firms, and this is primarily because, as Jennifer Harris reports on p. 20, established firms would prefer the steadier model of mid- to later-stage investing to the risky, very long-term, dilution-prone, hitdependent early stage model. This is what happens when an industry “grows up”.
In this issue of PEI Manager we also examine a byproduct of a mature industry in the midst of an economic meltdown – more reporting, as per LP demands. This certainly is not confined to the VC market, as Kevin Ley writes. When times are bad investors demand greater transparency. GPs today are better equipped to provide this, but confidentiality concerns are more prevalent than ever. How to communicate with your LPs while protecting the competitiveness of your possibly fragile portfolio companies?
Finally, yearend reporting season is now upon us, and we know from our frequent interactions with private equity and venture capital CFOs that there will be many brain cells burned attempting to come up with interim valuations. This was the recurring theme at our recent Strategic Financial Management Conference in San Francisco (see p.10) and, as evidenced by the sentiment against fair value, it is front and center in the minds of private equity GPs.
Regards and Happy New Year,