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MoreLIP: VC results, Angels and IPOs and more Broken Dreams

10/20/2009 — George Lipper, Development Capital Networks

The most difficult challenge in this week's newsletter was dealing with an avalanche of stories about 3rd quarter venture capital investing.

Dow Jones/VentureOne released new data on Friday: just $5B in 616 deals, a 6% drop from the second quarter, foreshadowing a year-end likelihood of less than $20B, which would be the least since 1998 -- even less than the post-bubble stumble.

Then this morning the Money Tree listed $4.8B invested 637 companies -- numbers comparable to those from VentureSource but characterized as an encouraging step up from the last quarter.

As I scanned this morning's newspapers, regional newspaper headlines reflected either a giant move to the upside or a devastating fall.

Neither VentureSource nor the Money Tree any longer provide state-by-state data, which provided a more clear picture of distributions, useful to policy makers. But it's abundantly clear, the industry would rather accentuate the positive than have critics point out how severely concentrated venture capital is.

And dueling reports on venture capital activity continue to fuel contradictory conclusions for the three-month period that ended Sept. 30. The data-collection field has spawned yet another player, New York-based ChubbyBrain, which claims $6 billion in venture capital was invested nationwide in 680 deals during the third quarter, a 14 percent gain over the previous quarter.

The three groups use different methods to count VC investments, and it’s not yet clear which is more accurate.


Dan Primack of peHUB fame got around to finishing Josh Lerner’s new book Boulevard of Broken Dreams, which focuses on the historical relationship between government, entrepreneurship and venture capital. Primack observes that some VCs are ignorant of the substantive role that government played in the VC industry’s formation.

For example, Lerner writes about how the rise of Silicon Valley was largely on the back of U.S. military contracts, particularly at pioneering companies like Federal Telegraph, Magnavox, Fairchild Semiconductor and Hewlett-Packard.

Moreover, the federal SBIC program helped build the Bay Area and Route 128 ecosystems that enabled VC-backed companies –- and VC firms themselves -– to thrive.

Finally, the Labor Department’s 1979 clarification of the "prudent man" rule enabled pension fund managers to begin investing in high-risk asset classes like venture capital (not to mention that most of today’s large VC firms receive tons of their own capital from public sources).

To be clear, Lerner’s book is not a wet kiss to Washington or state governments. He finds plenty of faults, and spends most of the book uncovering lessons that should be learned. But he also acknowledges historical realities, which conflict with the notion that venture capital’s "thing" doesn’t entail government involvement on the financial or regulatory fronts. According to Primack, failing to recognize that history may lead to failing your portfolio companies and, ultimately, your investors.

Primack’s comments prodded me to a second look at the book. What really jumped out at me is how much the industry has changed over the past three decades, not the least of which is the change in global investing by a substantial portion of the industry.

The increasing globalization of the industry makes it much more challenging for government to structure participation of public funds into venture deals -- a factor, perhaps, in the myriad broken dreams of state-sponsored venture capital. It was difficult enough for states to design deals that could reasonably reach across state lines, much less national borders.

Lerner outlines so many pitfalls into which state venture capital have tumbled, that it’s well worth a very careful examination to see what processes remain for government to participate in venture investing.

PeHUB also reports that the Center for Venture Research is preparing to publish a new study concluding that angels make better partners than VCs when it comes to going public. That’s because venture capitalists tend to underprice IPOs to benefit their own firms, while the interests of angel investors are more closely aligned with those of entrepreneurs.

Venture capitalists are prone to underprice IPOs because they hang on to their shares and distribute them to limited partners, says the Center’s director, Jeffrey Sohl.

"This allows the venture capitalists to point to a high return to their limited partners, and...higher returns enhance their reputation to potential future limited partners," Sohl said. "In converse, a high offering price brings more money to the firm and the angels, individuals that plan to sell their shares at the IPO."

Sohl wonders whether entrepreneurs should avoid venture capitalists and just go for angel funding.