Milestone Group Quarterly: January 2009
Articles
Milestone POV: A Different Perspective on the Venture Industry by IdaRose Sylvester, Milestone Group Principal
In the past two weeks, nearly every major news publication, including the New York Times, Forbes, and the Financial Times, has shed light on the gloom that hangs over the venture capital industry. Forbes had one of the more alarming statistics, that it’s has been 11 years since the venture industry has returned more cash than it has plowed into investments (of course, during that time, the amount of cash plowed into investments has grown, and in five of those years, the net year over year returns have grown, including, notably, 2006 to 2007). Total venture investment was down 30% in Q4, hitting a fairly tepid $5.5B, and bringing 2008 to just under $29B.
Perhaps more concerning is the liquidity of some of the venture investments. 2008 brought a record low number of exits, both IPO and sell M&A to other companies. (Only six venture backed companies went public in 2008, the lowest number since the 1970s, according to the National Venture Capital Association) This is worrisome if indicative of capital market conditions, because many companies funded during the bubble of 2000 are mature and ready for an exit-but are potentially stuck without a strategy.
Nobody can argue one reality: according to the National Venture Capital Association, 180 companies per year on average IPOed between 1991 and 1998; fewer than 50 per year IPO’ed between 2001 and 2008. While it is important to note that the market is quite cyclical, this current dip is unprecedented, at least during the careers of today’s VCs. The value of M&As, per company, while dropping precariously from 2007 levels, was far greater than seen in 2002-2003. No matter how you look at it, things are slower than we’d like them to be, even if not as bad as made out in the headline.
So what is going on here, and what will 2009 and beyond bring us?
First, some perspective: 2008 was in at the high end of the 2005-2008 investment range, and generally trended higher than 2002-2004 averages. So it’s not a matter of how badly we’ve done-it’s more or less fine-it’s where we are trending, which is another matter. While we concur that 2009 will not be a banner year for the US venture industry in terms of funding levels or big exits), technology innovation is another matter. First of all, and most critically, we see technology innovation occurring across all sectors, and geographies. Innovation, and stubborn determination, are in the DNA of entrepreneurs, and macro forces will only deter to a point. Developments in environmental technology, social media, consumer technology and services, SaaS applications, cloud computing, enterprise productivity and collaboration, and mobile applications and services are just a few of the areas spawning innovation.
But how does this innovation get funded? Don’t let the gloom and doom tossed around in the media be your only source of guidance. First, money still exists in the venture industry, although getting it has become more of a chore to get, and funding tends to be smaller (leading some VCs to proclaim “all rounds will look like series A rounds” in terms of scale in 2009). Venture capitalists, typically always careful in vetting companies, have upped standards tremendously. Being the third or fourth (and even second, in most cases) “like twitter, but for the enterprise” or “an ad supported revenue for driving content to the PC” me too solutions (no matter how much “better” or “cheaper” or “cooler” you are) no longer fly with the VCs. Unique, and first to market, solutions that target a very clear market need, are pretty much the only investments VCs will-and arguably should-consider. Of course, more established companies, seeking later rounds, are also in higher demand, being more established, and theoretically closer to exit.
If one positive statement can be made about the issues in venture capital, it’s the potential for better investments to get funded. Knowing the bar is now set higher should cause more innovation among entrepreneurs, encouraging the oft forgotten motto that a technology chasing a problem is far better than technology for technology sake. Additionally, while sectors such as green tech remain hot, rationalization about the types of investments being made are occurring. 2008’s eco darling, solar power, has already fallen somewhat out of favor with VCs and customers, as they realize the capital intensive nature of such technology, and the long return on investment-for investors and consumers. Instead, the venture community is moving to less capital intensive, less costly to the consumer investments, such as energy monitoring and management. Technologies that have a quicker time to market and an easier sell to purchasers make more rational investments for VCs seeking a faster time to liquidity, and ultimately may make more impact solving real world problems.
Beyond venture, money still exists in universities and in government sponsored grants for technological and economic development, especially outside the US. When contemplating the US venture market, we must be aware of venture and non-venture investments being made outside the country. Another force not to be discounted is private equity. Challenged by its own series of difficult investments, private equity may-if you believe the wild rumors-save the venture industry. (Ah the power of essentially being able to print money!)
As investments become smaller, and harder to get, and the IPO market remains tight, it does suggest that the next Google, Microsoft, Apple, or Amazon, are possibly being hatched today, but unlikely to grow into dominance in the next five years. While exhibiting impressive growth and creating tremendous innovation, these large companies have proven that higher the rise, the longer the potential fall. In absence of strong new players, though, they remain the companies people turn to hoping for innovation, and are the top companies to watch in 2009. In light of the equity crisis, and in light of the maturing and saturated existing markets for many of the behemoths, innovation may be a challenge, though, suggesting careful M&A strategies for them, and continued, if not painful, investment in emerging areas.
In the long run, the rationalization we see around investments can serve to strengthen both venture capitalists and entrepreneurs. Focused innovation and focused investment should ultimately lead to better products and better returns. The wild investments of the bubble days certainly brought us where we are today; a more rational market should bring us to better returns and a stabilized market.
In the short term, our advice to entrepreneurs is similar to what we always say: Know what problem your technology solves. Find unique applications, rather than copying the trends. Stay rational with product development efforts and market strategy. Be realistic. And never fail to innovate. This is good advice no matter what happens in the venture market in the next few years.
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IdaRose has over 15 years experience in the high tech industry. She has worked in strategic and product marketing on the corporate side in both startup and large enterprise environments, gaining deep functional expertise, and has gained broad industry perspective as an industry analyst, working for IDC and Gartner, the industry leading research firms. Immediately before joining Milestone Group, IdaRose worked at industry analyst firm IDC, covering the digital connected home, video technology and markets, and semiconductors, where she was widely published and quoted, and a frequent speaker at industry forums. Prior to IDC, IdaRose served on the executive team of a startup networking technology company based in Sweden, conducting strategic marketing and business development, and creating a product roadmap that grew the company from one product to many that ensured the company’s success for several years. Before that, she worked at industry analyst firm Gartner as a networking technology analyst, as a product marketer at AMD, and a market analyst at a green technology startup.
IdaRose holds an MBA in Strategic Marketing, FW Olin School of Business, Babson College and a BS in Public Policy from the University of California, Berkeley.
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Dear Reader:
In this edition of Milestone Group Quarterly, we focus on making smart decisions. Its crunch time in the tech industry, and we simply cant cut our way to growth. Continued spending will occur, but well all have to be smart about it.
Our lineup for this issue consists of:
Bertrand Diard: The CEO of Talend, tells us that enterprises live in a vast world of data that is often hard to access and obtain insights from. His company just this week received $12M in new venture funding, so perhaps he's on to something?
Rob Hayes: Hayes is a partner at First Round Capital. They are still writing checks for early stage start-ups, in fact Rob argues now is a great time to be investing.
Peter Cochrane: Peter is the former CTO of BT and has seen his far share of technology. Peter argues now is the time to think, model, experiment and war game like we've never done before.
IdaRose Sylvester: Milestone Group's Sylvester analyzes the venture sector, and shows the path how technology innovation will and must continue, irrespective of shifts underway in venture itself.
It was Lyndon B. Johnson who said, "We can draw lessons from the past, but we cannot live in it." And while this period of economic uncertainty continues to unfold, it's important to review 2008 in the spirit of LBJ. Some answers for 2009 will be found in 2008, but not all.
Up and right,
Mark Zawacki
Publisher
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