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 hot startups venture capital svasel Mark opened the discussion by asking what the panelists thought of this year's Consumer Electronics Show (CES) in Las Vegas, which he'd been to earlier this week. There was a marked lack of enthusiasm about CES. Mark asked them each to elaborate on "what's going to be hot this year in venture investing?". Some mention was made of green tech investments, auto/car tech, portable tv content devices, digital media, and internet plays. The opinion was expressed that no one has figured out "how to make the TV play with the PC".
While that is true if you view the end-game as being TV-PC integration; and set top boxes will likely maintain control of market share. I see it from this perspective: PC-TV products are developing incrementally, morphing and evolving along nicely and adjusting to consumer demand as it develops. The end game does not need to be integration. How about these still-evolving great TV-PC items: the PC DVR market (including the first portable DVR, launched at the CES show by Panasonic & Comcast); advanced TV-PC services like the SlingBox and InternetVue; Tivo/Desktop for the PC, DLink's new PC-on-TV player, all the new internet-connected TV's with PC apps, and many other TV-PC products, including new web-based TV information services; not to mention the new satellite-download HD-on-demand service which is controlled from your PC (another CES debut).
I was also a little surprised to hear a panelist express disappointment in the state of sub-note and ultra-mobile (UMPC) products at the CES show, since this year's show was a watershed event for (probably breakthrough) product launches in that side of the portable computing business (details pending on my CES summary). While it is true that there was no "big announcement" at CES this year - like a new desktop operating system or some huge partnership - the sheer quantity of incremental innovation was astounding, in my opinion.
The panelists, helpfully, seemed to want to back up and reframe the moderator's opening question to put it into perspective. A good explanation was given about why A-round investors really can not invest in "what's hot" this year. Since they are the first money into a deal there is a 4-year or longer horizon to exit. So almost by definition, if a sector is already "hot" (invested in), it is likely too late for these investors to move in.
This fact may be the best "take away" for budding entrepreneurs to ponder (is my idea far enough ahead of the "market window" for venture investment?). One other remark I noted, which has been accurate in my experience, and is understandable when large sums (and the partner's career) are at stake on each investment: "you'll never find anyone more conservative than a vc". This should be understood by entrepreneurs as well; vc's are not gunslingers. They have to ask a lot of critical questions about each investment, justify it to their partners and institutional investors, and in general, be highly picky/selective. It's nothing personal!
Some facts and statistics were tossed about. In line with the Price Waterhouse data, about $25B per year is invested by VC's; but only a portion of that goes into A round deals which start new companies (it's roughly 25%, according to the Price-Waterhouse surveys); the rest goes into follow-on rounds. There are between 500 and 1,000 A-round deals (initial investments to start a company) every year, and that number doesn't move outside the range often. 'A-round' vc's are looking for a quality entrepreneur who hasn't yet "hired his brother in-law's pal' as a ceo. The vc's see themselves (sometimes accurately) as "having much bigger networks" and better judgment than entrepreneurs when it comes to important business decisions like picking the boss. Examples were cited of deals just ruined by this very mistake. You can't fault the vc's for wanting the strongest possible person in that slot.
There is a major issue developing in the venture business that pertains to A-round investing in many sectors. The combination of too many vc funds relative to the number of quality deals to invest in; too much money raised to invest, and rapidly declining capital requirements to start a firm today, are making it quite difficult for vc's to find a place to put all their capital to work (but not in biotech, healthcare, and some semi's). The higher returns are made on the earlier A-round investments; but the risks are higher as well.
As a result, many venture firms that have raised larger funds of $250M or more are going to find it impossible to find enough high caliber startup teams to invest in. The situation is pushing some traditional IT-centric VC's such as Kleiner-Perkins into risky new mega-investment sectors which are correlated to high oil prices, like electric automobile companies, which were, because of their scale previously the exclusive territory of investment bankers and private equity firms.
Many early stage funding deals are now being made by Angel investors. The data for 2007 puts the magnitude of Angel investment at roughly the same level as venture investment. However, the Angel data may be distorted somewhat by large real estate deals; and the venture data by capital-intensive Biotech deals.
I asked the panel if any of them knew how many venture funded companies are in business today ("going concerns") in the SF Bay Area, given that the majority (70 to 80%) of venture funded startups end up going bankrupt, or having some other form of unsuccessful exit (defined as an exit which returns an amount less than that invested, compounded for interest). Often showing up as merging into another portfolio company; selling the company "price not disclosed", etc. (Dow Jones even offers a "startup Chapter 11 newsletter" service). I explained that my interest in this question originated with the theory that it (the "still in business" bay area vc-funded startup count) may currently be higher than ever before, even when compared with the funding spike in 1999-2000.
It took considerable arm-twisting and follow-up questioning to extract an answer. I urged them along by stating the baseline stats on the number of companies funded per year, my 70-80% estimated extinction rate (over the first 3-4 years) until finally Raman from ONSET ventured a guess "around 10,000". The assertion was also made by another panelist, that "70 to 80% of A-tier venture-funded startups have successful exits". Ramon's number was pretty close to what my own research turned up.
There was a bit of the usual "this is such a tough business" vc talk regarding how difficult it is to manage investments that are a ten hour flight away; the "stay away from ny niche" talk about how investments in Israel are nearly impossible to make successfully unless you've had a lifetime of experience with that (Israel is the #3 region for venture investment worldwide, behind silicon valley and Boston); "things that have to be sold to a CIO" are bad, because the sales cycle is too long (like enterprise plays?); but no mention of the alternative, which is actually in a boom: venture-funded SMB startup plays. Software as a service (SaaS) aka salesforce.com is "what's working" for software startups, but it takes more capital to build the company up front; a claim that "the average vc looks at 4,000 to 8,000 investments per year (they work THAT hard??), giving 45 minutes max to those that make it in the door for a meeting, and only funds 8 of them each year. VC's are honest, don't tell other vc's your secrets, and sometimes will even sign an NDA... "and if you have a venture that fragile, don't even bother to start it". Which is great advice as a general rule; but it doesn't always apply - some ventures really do get their business strategies leaked to competing teams. Most vc's are honest, but that doesn't mean a portion of them won't be able to resist sharing some of your hot info, given the right situation.
The panel discussion could have benefited by discussing the amount invested in various sectors - software, biotech, medical devices, chips, IT services, networking equipment, business and financial services, computers & peripherals, consumer products, retailing, etc. But you can't expect the vc's to really roll up their shirt sleeves and do powerpoints, or really to even put on display their most scintillating insights, at a semi-public seminar given the highly competitive nature of their own business today. It was an interesting discussion, and I thought that both the moderator, and the four vc's who generously spent their evening on it did a decent job. Thanks to SVASE for organizing this event, too. Onwards and upwards!
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