Thoughts on Venture Capital & Startups

In the last two years, there was a drop in the total funds raised by Venture Capital firms. Reports suggest that it went down from $36 billion in 2007 to $14 billion in 2009. Venture Capitalist’s usually make their returns when their portfolio companies go public or get acquired, both of which slowed down during the recent tough economic conditions. In each of the last two years, fewer than 10 companies had an IPO, compared with 86 in 2007. Venture Capital industry veterans are concerned about low returns and have blamed:

  • Funds that have grown too large
  • MBA’s that have invaded the industry
  • Older partners who have lost touch with the latest technology trends

VCs have been struggling to find a company that will make them not just rich, but fabulously rich. They dream about investing in the next Intel, Apple, Sun Microsystems, Yahoo or Google. Ten-year returns for the venture capital industry have gone down significantly compared to the previous decade, which saw the success of Google and other dot-com companies.

IPO vs. Acquisition

Public offerings have long been the eventual goal of start-ups and their investors. However, in a survey of start-ups by the venture capital firm DCM, only 19 percent said they expected to go public. Three-quarters said that stricter regulations like those on executive compensation and the compliance requirements of the Sarbanes-Oxley Act have made IPO’s less attractive. However, as market conditions improve, start-ups with a solid story to sell would love to go public at the right time. Facebook, Twitter, LinkedIn, Zynga and Zillow have all hinted that they hope to go public rather than sell.

Entrepreneur-In-Residence (E.I.R)

Most venture capital firms today have a couple of E.I.R.’s working with them. An E.I.R. typically has an office, an assistant and gets a nominal salary. Zimbra, an e-mail software start-up, which was sold for $350 million to Yahoo in 2007 emerged from the E.I.R. Model. Another one is Cloudera, one of the most-watched start-ups in Silicon Valley. Cloudera was started at Accel, by E.I.R.’s who had earlier worked at Yahoo and Facebook.

US still the center of VC activity

Technologists have been worrying that America is losing its competitive edge as other countries invest more heavily in technology education and innovation. To counter that trend, Intel and 24 venture capital firms have joined hands to invest $3.5 billion in American start-ups over the next two years. The alliance includes top-tier names like Kleiner Perkins Caufield & Byers, Venrock and DCM who have committed to invest portions of their funds in start-ups founded in the United States.

Venture capital firms based in the United States already invest 70 percent of their money in start-ups in the US, while Chinese and Indian companies each receive just 3 percent, according to the National Venture Capital Association.

In the first quarter of 2010, companies based in the U.S. accounted for the majority of deals (65 percent) and dollars invested (67 percent) worldwide. During the first quarter of 2010, venture investors put $4.7 billion to work in 597 deals, up 12 percent from the same period in 2009.

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