A VC - Latest Comments in The IPO Debate

Re: The IPO Debate

Nate Westheimer — Sat, 19 Jul 2008 18:12:04 -0000

I think the environment you describe puts an even GREATER emphasis on WHO the VC is (as Charlie and others have written about lately).

There's likely much greater competition in the IPO space, so WHO you know in the banking sector doesn't help or hurt your chances to IPO nearly as much as WHO you know in the corporate world, when it comes to M&A.

What do you think?

Re: The IPO Debate

fredwilson — Wed, 02 Jul 2008 01:11:08 -0000

I agree with you. That is certainly our approach

Re: The IPO Debate

Scott Johnson — Tue, 01 Jul 2008 16:15:51 -0000

The IPO market has been soft since 2000, and firm and fund size needs to reflect that reality. Sure it would be bliss if the greater fool returned to the trough and feasted, but a VC fund manager shouldn't raise a series of large funds that requires this unlikely event. It takes some discipline to keep fund size small and investment stage early. Work is harder, risk is higher, fees are lower. But that is the only proven model in venture, which has always been a business that can't scale.

Re: The IPO Debate

fredwilson — Tue, 01 Jul 2008 13:20:06 -0000

I think some are in it to build a big public company. We have at least three
entrepreneurs in our portfolio who very much want to do that.

But back in the 90s, it seemed that everyone wanted that, and then when they
got it and realized it was not necessarily a path to the most money, they
got smarter.

fred

Re: The IPO Debate

GlennKelman — Tue, 01 Jul 2008 12:00:25 -0000

You're right Fred, I re-read the original post and realized I focused too much on SOXA when your discussion was already broader than that. Thanks for being so gentle in pointing that out.

We both agree that SOXA has (unhelpfully) raised the bar for public companies, and too that recent capital markets have raised the bar a little more, and finally that the dearth of IPOs is bad for the industry. But it would still be fascinating to hear what you have to say about why VC-funded startups aren't growing into large, profitable, stand-alone businesses? Why has the stated endgame changed? Surely regulations wouldn't be the #1 culprit in a root-cause analysis?

At least for the entrepreneurs, it's not just an economic -- or rational -- discussion. The whole reason a lot of people are in this business is for love of building things -- not just products, or features of products -- but building companies, building them to grow and to last.

Re: The IPO Debate

josh guttman — Tue, 01 Jul 2008 11:17:48 -0000

I think the factors contributing to fewer IPOs are many. In the 90s, we used to hear bankers and economists forecasting that the IPO markets are "open" or "closed". Today, I speak to many VCs who would much prefer exiting via an acquisition vs an IPO. I think many entrepreneurs agree. So the IPO markets are not closed due solely to economic circumstance. The entrepreneurs and investors, especially those who were burned on bad deals, are influencing the markets.

Secondary markets for private equity investment are bound to become more efficient over time, giving founders/investors more options (see news of facebook employees putting a block of shares on the market right now). All capital markets should grow more efficient as information becomes more transparent and readily available, giving shareholders more liquidity options and yielding increased opportunity for good businesses. As an investment banker/placement agent, I often had a hard time justifying my role as broker, and could never understand why so much of the financing process hadn't been streamlined more.

Re: The IPO Debate

fredwilson — Tue, 01 Jul 2008 01:26:05 -0000

Maybe that post wasn't crisp and clear

I totally agree that IPOs are not the endgame for most of what we fund. I think I stated that in the post

But there are some sectors of VC, like cleantech and biotech, where the capital requirements are so large and the timeframes so great that IPOs become more important in the financing dynamic

In those cases, having a weak IPO market (or a non existent one) is problematic

Its not a problem for me or our firm. But it is a problem and overly regulated financial markets are part of the issue

Re: The IPO Debate

GlennKelman — Mon, 30 Jun 2008 21:23:04 -0000

Fred, regulations aside, how many VC-funded companies have a legitimate shot at being long-standing, independent businesses? How many entrepreneurs do you meet that even aspire to to build such companies?

Maybe Sarbanes-Oxley and other regulations have raised the cost of being public to the point where a business now needs to generate $150M rather than $75M in annual revenues before an IPO is worthwhile -- but to me the biggest shift over the past decade in high-tech has just been in lower expectations among entrepreneurs and investors alike.

Blaming SOXA for the IPO drought just seems a little like a cop-out. A lot of startups these days are like very well-paid contract developers, deciding from day one to build an add-on feature to some other company's products. This can be a very lucrative decision, but it's hard to characterize such deliberation as a casualty of SOXA. Whoever builds the next Google or Cisco, Apple or eBay is going to have bigger ambitions than that, and if they succeed, they're going to take it public, SOXA or no SOXA.

Regards, Glenn at Redfin

Re: The IPO Debate

fredwilson — Mon, 30 Jun 2008 12:42:08 -0000

Very good point

Re: The IPO Debate

Chris Rechtsteiner — Mon, 30 Jun 2008 12:36:37 -0000

It isn't necessarily any 'one thing' that caused the drought in IPO's. Rather, it is a combination of all of the factors you note: a) faster money from m&a; b) horrendous regulatory environment; and my personal favorite; c) entrepreneurs are smarter today than they were in the past.

While you can go public, who wants to deal with all of the headaches of Q/Q earnings projections, analysts hammering the company on any given day based on 'rumors' and litigious activist investors when you can build something great, let it be rolled up into something larger, and then go right back to the drawing board with the next idea.

Seems to me that if you love to build, that is a pretty sweet way to go.

Re: The IPO Debate

pedalpete — Mon, 30 Jun 2008 11:59:06 -0000

Looking at the numbers you provide above (and maybe I'm nieve) but rather than 'exit' strategies, shouldn't VC funds be looking at 'return strategies' as that is the measurement you use?
If a company can provide your returns via profitability, or other method I am not thinking of, should that method not be considered in the investment along with M&A or IPO?

This has been part of the reason I have never spent the time to go through the funding dance, as a start-up, I'm looking at what can make this business profitable, not what can I do so a VC will invest so I can be an M&A target.

I think this is specifically valid in the web market where investment requirements are dropping.

Re: The IPO Debate

fredwilson — Mon, 30 Jun 2008 11:58:22 -0000

the regulations are overdone but even worse are the penalties for messing
up.

I makes it incredibly hard to find good board members

Plus the board meetings are spent with lawyers and accountants instead of
talking about the business

It's overkill and is hurting the companies which in the end will hurt the
shareholders

fred

Re: The IPO Debate

Will — Mon, 30 Jun 2008 11:39:35 -0000

Fred I normally agree with most of your points, but I am slightly at odds with the need to roll back regulatory standards. This debate seem to be a long standing issue within the business community in general, but everyone seems to have forgetten the reason for its creation. The Enron Era (which includes firms like Healthsouth and Tyco) to me destroyed public confidence in the markets more then the tech bubble did. We needed these tough regulatory standards in order to preserve the integrity of the financial data presented to the public. You can't just wave a wand and make it dissappear when it becomes a slight hinderance. It would only reaffirm the believe that government simply works for the interest of a few and not the many.

I do understand regulation can become stiffiling to growth if unchecked. However, history has shown us that lack of regulatory standards can and will ultimately lead to corruption, and investors will often flood to where they can recieve a safe return on investment.

Re: The IPO Debate

terra210 — Mon, 30 Jun 2008 10:45:43 -0000

"selling their shares on a private markup to institutional and private wealth funds"

I agree; this seems to be very likely an expanding model for the US.

Re: The IPO Debate

fredwilson — Mon, 30 Jun 2008 09:31:07 -0000

I don't think in terms of irrs steve. I think we should be able to generate at least 3x on our portfolio gross and at least 2.5x to our lps

The cash comes in over the first five-ish years and goes out over the last five-ish years

That said, our first usv fund is four years old and we've returned about 40pcnt of the fund and we've called about half so the cash flow dynamics can be even better than that

Fred

Re: The IPO Debate

Steve Kane — Mon, 30 Jun 2008 09:19:17 -0000

Hi Fred. Hope you and the clan are enjoying summer travel.

What level of returns might an LP expect from a tope quartile or top decile fund these days? That is, what ballpark of returns are you referring to when you write, "I think we can generate the returns we need to produce to satisfy our investors without a single public offering in our fund"?

Re: The IPO Debate

Liz — Mon, 30 Jun 2008 08:15:35 -0000

I think other countries in Europe (Germany) and Asia are ahead of the U.S. as far as integrating cleantech into the culture. At least, I hear more news about interesting uses of cleantech from other countries than I do in the U.S. PSFK.com is always posting interesting international developments in cleantech usage both on an experimental basis as well as on a wide-spread scale.

Re: The IPO Debate

Ian Wilson — Mon, 30 Jun 2008 06:58:42 -0000

From another perspective, it disappoints me that Europe (London particularly) did not follow the lead of the US in implementing tighter regulatory controls on the public markets. It would have been better and certainly more equitable if the European markets had also stepped up to the plate and brought their regulatory frameworks to the level of the US for the benefit of shareholders.
Only so much business can be lost before Sarbanes-Oxley is scrapped and the next Enron starts to ferment. Thats not good for anyone.

To follow your thread about secondary markets, from an entrepreneurs perspective I certainly find the narrow list of possible exit strategies (required by the investment community) a bit like a straight jacket. Surely there are more options to provide acceptable returns to investors than just IPO or M&A? I hope your conversation here starts to get the whole industry thinking at least.

Re: The IPO Debate

Michael F. Martin — Mon, 30 Jun 2008 06:47:46 -0000

I bet it develops first in China.

Re: The IPO Debate

Michael F. Martin — Mon, 30 Jun 2008 06:46:04 -0000

Thanks. That's about what I figured. I guess the discount for being less known is still larger than the premium for SOX. I'm guessing the underwriters aren't cheaper in London.

...I wonder if we'll see some more listings in Hong Kong over the next year or two though

Re: The IPO Debate

David B. — Mon, 30 Jun 2008 05:16:20 -0000

I think the dearth of IPO's is more indicative that: a) start-ups are migrating to a much smaller and leaner form, and b) the big fish have realized it's cheaper to acquire early than compete later. And while I personally feel we're months away from a monstrous financial pull-back globally, I think the IPO drought is more about the above changes than anything else.

"There is no venture industry if there is no I.P.O. market," may not be strictly true, but at the same time, I think the venture business has to start earlier and lower if it wants to better compete.

Re: The IPO Debate

gregorylent — Mon, 30 Jun 2008 05:04:04 -0000

in edge thinking it is understood that it is not "good for the world" to manage firms with the next quarter's stock price, or exec bonuses, as the criteria for decision making

similarly, the ipo model of "making a killing" has hopefully been discredited as being "good for the world", especially when manipulated, rather than as a result of natural maturation

the pro- argument is that innovation will not occur without incentive, but this represents a misunderstanding of human nature ... you cannot stop innovation no matter how hard you try ... the argument is specious

it is the same in the intellectual property rights world, a total protection racket operating under the guise of being an incentive for development ... the open source movement disproves this

the very definition of "value" is changing, faster than established players can comprehend. this understanding is being forced upon many models of doing business, simply by evolution, and the ipo model is going to lead the way in the experiment of finding a better way to function that is indeed good for the world

Re: The IPO Debate

Simon Cast — Mon, 30 Jun 2008 04:48:31 -0000

I seem to remember that. That was during the VC is broken meme from last year.

I think I blogged something along those lines too. Well I guess if it keeps coming back up then its probably going to eventuate.

Re: The IPO Debate

fredwilson — Mon, 30 Jun 2008 04:31:04 -0000

I like that approach a lot and blogged about it a while back

I hope the ³secondary market² for startup founders and investors develops
over the coming years

Re: The IPO Debate

Simon Cast — Mon, 30 Jun 2008 04:26:49 -0000

I don't think IPOs will go away but I do see the rise of other possible methods of exit. You mentioned M&A but that does rely on the existence of a reasonable number of large companies to do the M&A. Given the companies USV has invested in M&A was always going to be a reasonable route.

Another exit that I can see growing in importance is privately traded shares. Here the exit is the VC selling their shares on a private markup to institutional and private wealth funds. It allows an exit to a market but without the regulatory hurdles of the public markets. It could even conceivably act as step to smooth the path to public market.