Angel and VCs: Affected by Economic Slowdown?

Posted on September 22, 2008
Filed Under Investing, Start-Ups |

We have a serious economic crisis on our hands and, if the worst is to be believed, this is only the beginning. With money and liquidity suddenly the most scarce commodity going around, what will happen to Angel and VC funding so critical to innovation in the tech sector?

My take? Appetite for risk will be lowered, but funding will continue for good ideas. The tech industry has gone through some real bad phases all through, but we have seen new products and services being delivered without fail year on year. If you have a start-up in mind, bootstrapping may be a better idea to get the money out after you have taken it to a certain level. Of course, all predictions could haywire if the dirty stuff does not stop hitting the fan.

What do others think? Here are some thought leaders who shared their views with me:

Chris Forbes, CEO at Knovel
“There is no question that Angel funding will be negatively affected. Angels, by definition, are not sophisticated private company/venture investors. They have made their money elsewhere and fancy their ability to pick a ‘winner.’ Angel investors tend to be working with capital that they view as discretionary and are prepared to put into higher risk plays. In recent months many wealthy individuals have seen their portfolio valuations fall. In New York many angels made their money in financial services and have seen some significant portion of their wealth disappear. These factors will cause Angel funding to dry up for some years.

At the same time, there are substantial funds available from venture investors for companies with strong management and viable business models. Valuations are down because of the current environment but deals are being done.

So to answer your question investment in innovation in the tech sector will continue unabated by professional investors at lower valuations. These investors will be holding these investments for longer periods as liquidity will be harder to come by. This is in line with the overall correction that is now occurring. And, traditionally, venture investors would hold investments in good companies for longer periods of time.

A good litmus test is my own company where we have no shortage of interested investors. However, I can guarantee my Board will not find the price as attractive as they might have done 6 months ago.”

Don Musselman, Venture Capital and Private Equity, Dow Jones
“Stephen Schwarzman, CEO, Blackstone Group, spoke at the Dow Jones Private Equity Conference in New York the other day and this is what he had to say: ‘It is too early to assess how the disappearance of a number of independent brokerages will affect the private equity industry’s ability to raise debt for its deals. While there will be fewer lenders, he said that doesn’t necessarily mean aggregate capital available will be down dramatically. He does expect that with fewer lenders around, the ones who remain will exhibit more discipline on pricing and capacity, extracting tougher terms from buyout firms on deals.’

I honestly think he is treating this very lightly given the turmoil in the credit and equity markets. There is a lot of fear in both markets.

In regard to VC returns (from the Private Equity Analyst): ‘If we don’t get decent liquidity markets back for a sustained period of time, it could have some serious ramifications for the industry,’ said Battery Ventures General Partner Tom Crotty. He notes that the venture industry has had a prolonged bout of illiquidity since 2001, save only a brief period in 2006 and 2007. ‘We had about an 18-month window to make some hay.’

GP’s and LP’s alike are seeing increasing negative returns on their investments.

With the time to exit investments increasing to a median of 7-8 years VC’s will have to hold investments for a much longer period of time.

I was at a conference the other day where I heard a number of corporate and venture investors repeatedly say the words ‘capital efficiency’. My take it that they are much more concerned about their investments and are seeking companies with proven customer validation that are closer to the point of commercialization.”