Venture capitalists aren’t doing much venturing these days. They just don’t see how they can attain a return on their investments.
As reported on July 20 by The Associated Press, venture capitalists slashed their US investments in half during the second quarter of 2009 compared to the same quarter last year. It marked the second consecutive year-to-year quarterly decline of more than 50 percent.
Nearly $3.7 billion poured into 612 venture-capital deals in the three months ending in June, according to statistics released Tuesday by PricewaterhouseCoopers, Thomson Reuters and the National Venture Capital Association (NVCA). It represented the smallest quarterly total in 12 years. When one considers that biotechnology and cleantech investments are relatively ascendant, the IT-related investment picture is even worse.
The only positive that can be gleaned is that we see a sequential uptick in investment from the first quarter to the second quarter of 2009.
With such foreboding VC data providing a gloomy backdrop, Frank Quattrone — erstwhile technology investment-banking powerhouse and current CEO of boutique investment bank Qatalyst Partners — spoke with the New York Times about why an IPO has become an unachievable dream for the typical technology startup company, presuming said company can get enough funding to get off the ground.
Quoting NVCA data, the Times’ Claire Cain Miller reports that, from 1992 to 2000, 56 percent of venture capitalists’ successful exits from startup companies resulted from IPOs, with 44 percent resulting from acquisitions. From 2001 to 2008, only 13 percent of the exits were IPOs, with that proportion declining further in the last year. Of course, overall exits have been in chronic decline since 2000, too.
Quattrone notes that the incidence of IPOs, which generally make investors and entrepreneurs more money than do acquisitions, is declining because investment bankers have raised the qualification bar on such deals. Quattrone says some of the best companies with which he was involved in the halcyon days of the Internet had revenues ranging from $30 million to $50 million when they took the IPO plunge. Today, he said, bankers require companies to have $100 million or even $200 million in revenue before considering them as IPO candidates.
Other factors in the diminution of the IPO as exit strategy, according to Quattrone, include the already sizable number of publicly listed technology companies — most of which came of age and to market during better times — the increasing focus of large mutual funds on bigger investments, and the depleted pool of sell-side market analysts.
Quattrone failed to mention that the execrable economy might have something to do with the lack of IPOs. Even before the devastating financial crash of last autumn, the information-technology industry had not fully recovered from the bursting of the Internet bubble in 2001.
Except for spasmodic fits and starts, the industry has never seen, and probably will never see again, the effervescent euphoria experienced in the late 90s and into the year 2000, when a rising tide lifted all boats, even dinghies that were attempting to sell dog food online.
What’s happening is rather simple: VCs are scaling back investments in IT because they don’t foresee an appealing exit scenario, represented by an IPO or a big-bucks acquisition, preferably involving an all-cash transaction. IPOs are down because the market today does not remotely resemble what it was like when Quatrrone was riding high on an endless succession of gargantuan investment-banking deals.
As long as IPOs are down, VC investments will not be forthcoming. Why add to supply when there isn’t enough demand to satisfy what’s already on the market?