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Venture Capital Trends

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9 March 2010 

Background Information 

This note is to entrepreneurs in order to provide some perspective on the state of the Venture Capital Industry (www.nvca.org). Venture firms are of tremendous importance to both the US and global economy. In the US alone VC-backed company revenues make up 18% of the U.S. GDP and account for over 10 million jobs. 

VCs are having challenges raising capital as they compete for risk adjusted return. Last year, 125 venture funds in the U.S. collected $13.6 billion, down from 203 funds that raised $28.7 billion in 2008 and down from 217 funds that raised $40.8 billion in 2007. As the data above shows, 10-year return fell to 8.4 percent from 14.3 percent in the previous quarter – and from 40.2 percent one year earlier. 

In the NVCA survey above, the majority of VCs see a substantial shake out in their industry with 90% of VCs predicting that the number of firms will shrink (NVCA chart). 

Plans to tax carried interest are further challenging VCs politically and financially. VCs take “active” roles and put personal capital into their investments. Further, GPs typically face hurdle rates

From Wilson Sonsini – Example Hurdle Rate Allocation

 

Net profits will be allocated: 

  • First, to all the Partners until each Partner has been allocated net profits sufficient to represent an 8% cumulative IRR on such Partner’s contributed (and unreturned) capital;
  •  Next, 100% to the General Partner until total allocations have been made: 80% to all the Partners in proportion to their respective capital commitments; and 20% to the General Partner; 

What does this mean for entrepreneurs? 

 

A: Times have never been tougher in raising capital, VCs are anxious as their RAROC is challenged by potential carried interest tax changes. Net is that the hurdles of getting your plan funded by a VC have gotten much higher (limited capital) and that valuations are tougher due to recent vintage trend data and carried interest tax implications on GP returns. 

Entrepreneurs don’t give up hope, there remains a bevy of options (some outlined here in Inc.): private placements, angels, angel networks, small business loans, existing customers, …etc. Most of these options start with a relationship or connection to your business. If you are having trouble raising capital, my top suggestion is to look at your board of directors. A successful CEO provided a tactless (but useful) approach to evaluating board performance in capital raising: “they either need to be able to give, get or get off”.

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Written by tomnoyes

March 9, 2010 at 3:12 pm

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