Choppy Waters for Venture Capital Investors

Chopping Waters

Choppy Venture Capital Waters:

A Great Buying Opportunity for Savvy, Early-Stage Investors

Recent press about the venture capital market may sound foreboding, but it shouldn’t scare away savvy, early- stage investors. Near-term market conditions represent an ideal breeding ground for exceptional investment opportunities.

Notwithstanding the rapidly increasing number of unicorns – private companies valued at $1 billion+ — there has been an apparent inability for most to exit through IPO or sale to a larger, established company. Until those exits happen, investors in those unicorns, especially late round investors, will be left nervously waiting and hoping for an eventual payday. While they continue to wait, CB Insights notes that the majority of exits that have happened recently have been valued at less than $50 million, with a large majority of the tech exits happening without any institutional VC funding along the way.

Some pundits view all this as bad news for venture capital investors, interpreting these trends as the disappearance of traditional venture capital investment opportunity. The team I work with, though, views this market situation as just the opposite, an exceptional opportunity for savvy early-stage venture capital investors.

Our team is led by VC veteran Len Batterson, whose 30-year venture capital investment record across multiple funds boasts a cumulative IRR of approximately 29%…and even includes a few $ 1 billion+ homeruns…so I put a lot of stock in his views. Our team works on Batterson’s established Batterson Venture Capital (BVC) fund as well as on his new online fund, VCapital.  BVC investors are especially happy these days, following the recent acquisition by IBM of Cleversafe, Inc., a leading developer and manufacturer of object-based storage software and appliances which BVC invested in at the Series A stage. (Specific deal terms are confidential.) Moreover, our team is seeing lots of exciting venture investment candidates. There is not a lack of opportunities.

We do agree with others that the outlook for late round investors in all those unicorns is cause for those investors’ anxiety. The herd mentality of institutional investors, as they have piled into unicorn late-stage rounds, has driven many valuations too high for attractive exits.  That is likely to put a chill on venture valuations broadly for a while.

We don’t, however, view the large number of exits valued at under $50 million as bad news, nor do we view the absence of institutional money in most of those exiting ventures as signaling a lack of investment opportunities.  Those exits confirm the public and acquisition markets’ appetite for worthwhile ventures even if they’re not billion-dollar home runs. As for their lack of institutional funding, we believe that’s more a function of the large VC (and institutional investor) focus on those visible, highly valued “trophy-ventures” rather than the absence of early stage investment opportunities.

Some ventures are getting all the way through to exits without institutional funding because the foundational technologies now in place make it easier and less costly to start up new tech ventures and even to reach breakeven or modest profitability more quickly and with less investment than years ago. But the other reason for this phenomenon appears to be the late round focus of the institutional VC’s.

As shown below, there appears to be a big gap in the venture funding market — to meet further venture needs after friends, family and angels but before the big institutional VC’s get interested — and that’s where our team is focused.

2014 Venture Deals Angel Investors Venture Capital Funds
# of Deals 71,000 4,050
Billions of Dollars $24.8 $49.3
# of Participants 298,000 635 Active Firms
Avg. $’s Per Deal $349k $12.2 Million

Sources: Angel Capital Association, “Important Things to Know About Angel Investors – 2014”;
National Venture Capital Association Yearbook – 2015

We believe that early stage deals, especially Series A deals, when highly promising angel-funded ventures need further investment, continue to present an excellent opportunity for investors who recognize the inherent long-term time horizon and the need to invest in enough ventures for prudent diversification. The chill on near term venture valuations likely because of unicorns’ inability to exit due to their excessive valuations should result in even better early stage deal opportunities with even greater return potential.

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