

Stock Market Drops. VCs Hold Partner Meetings. What Happens Next? - schlichtm
http://techcrunch.com/2011/08/09/stock-market-drops-vcs-hold-partner-meetings-what-happens-next/

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mapgrep
Though this post is great it makes me worry the tech sector has learned
nothing from the past. If you're worried about the stock market and the
climate for IPOs and acquisitions you've failed to learn the lessons from the
2000 bust.

Quick refresher: After the first, big dot-com bubble burst a new ethos based
on its lessons spread and came to dominate biztech thinking for at least
several years. It emphasized slow, organic growth; revenues exceeding expenses
from almost the very start of a business; and a bootstrap self reliance that
said you pay for growth from income, personal debt (credit cards) and maybe
some very trusted seeders (friends and family). Think Joel Spolsky, 37signals,
Paul Graham. This was the start of the deprecation of VC.

People were receptive to this message not only because VC was discredited and
largely AWOL, and because so many revenueless VC backed companies had blown
up, and because Spolsky Fried and Graham were such articulate writers, but
also because servers and bandwidth and hosting services got so cheap in the
early aughts. You didn't need VC to get up and running on a Sun with Netscape
Enterprise Server any more; you could conceivably launch with a VPS running a
free LAMP stack for $100 month or less.

It seems to me a lot of this very sensible, fundamentals-oriented thinking has
been lost in the last several years. You still see a lot more bootstraping
than in the first boom, don't get me wrong, but you also companies taking
loads of VC to stay afloat, before they have a real revenue source, just like
in the bad old days. The biggest companies doing this would be Twitter and
Foursquare but there are loads more smaller ones beneath them in the same boat
obviously. Even Spolsky who partly made his name railing against dot com era
VCs (e.g. <http://www.joelonsoftware.com/articles/VC.html>) took VC for Stack
Exchange, a startup without much revenue (though the tech and user experience
is superb and the whole Careers 2.0 thing _could_ produce some very solid
revenue some day).

All of this is a long way of saying, if VCs had been investing in the 2001
style all along -- companies with a demonstrably viable business plan; with
real, substantial and growing revenue streams; and with a specific identified
use for the capital invested, with plausible scenario for how it would be
returned to investors (not IPO/acquisition lottery) -- they would have no
reason to worry about the public market because the model for return on their
investment would have to do with the income of the company and not the
existence of lots of Greater Fools in the stock and M&A markets.

~~~
jonmc12
This was my first notion too, but I think if you look more closely as Suster's
arguments, he is really pointing out disparity between 2 forces: 1\. The
short-term economy (including stock markets, jobs, growth and politics) 2\.
The long-term (10-yr) tech investment opportunity

So, he is saying "we know the returns are there over 10 years, but we've got
to survive in the meantime". Equity markets aside, the fundamentals of
business are effected by the short-term economy.

I kept wondering too, is this true for private investment (ie, angels)? Are
they susceptible to the same short-term concerns? Or will Angels keep pumping
money into early stage independent of the economic conditions? Perhaps this
post is doing nothing more than pointing out the obsolescence of the VC model
through uncertain economic conditions..

~~~
mapgrep
It's definitely possible that the "fundamentals of business are effected by
the short-term economy." Good point. I just didn't see that point being
established in the VC post, at least not well. It seemed much more focused on
opportunities in equities. Maybe I need to read it more closely.

It just seems to me that if you a product that can produce the sort of returns
VCs are interested in, it should be valuable enough to customers that it could
do well in virtually any macroeconomy. Google, for example, launched its cash
cow AdWords just after the first dot-com meltdown.

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rgrieselhuber
At the end of the day, if you're a VC you've raised a fund to invest, not sit
around and wait to see what happens.

What is the outcome one could hope for by not investing in promising
companies? Waiting for lower valuations? Weeding out the riff-raff?

Is that the best use of a fund's time?

There are going to be good and bad companies no matter what the rest of the
economy looks like. Figure out your thesis and stick to it when you invest.
But don't just sit there.

~~~
pedalpete
I think part of Mark's point is that they need to reserve funds for the
portfolio companies which will need another cash infusion. They've already
invested x in company A. If company A needs another 2 million to reach
profitability, they may not be able to raise it from another firm. The VCs are
being prudent and cautious to ensure that they can keep their existing
portfolio companies going.

Remember, they aren't looking for 10x returns, they're looking for 100x+
returns. They know their is risk for their portfolio companies and need to
make sure they look after their current investments before bringing on any new
investments.

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rdl
It seems pretty clear that public companies (with recent IPOs especially) are
most affected; seed stage the least. Raising a seed or A round really
_shouldn't_ be any different (the sums involved are smallish for the funds,
even with multiple investments and reserves), but it's entirely possible it
will be (or, that it will be used as an excuse).

I'm going to hypothesize that the push to cloud, and need for improved
computer security, is a much much stronger positive trend than the current
economic issues. I'd be more concerned if I were a B or IPO stage company
which relied on local/state/federal government sales (e.g. some kind of
government-optimized CRM), or maybe an expensive consumer product. Genuine
luxury seems like it should do ok, especially non-deferrable luxury servies,
but "aspirational luxury" for middle class and lower class might suck.
However, really cheap entertainment might win, too -- much better to be video
games than movies in a downturn.

~~~
hugh3
Surely public companies have no need to care _that_ much? Once your shares are
sold, they're out there, you don't care all _that_ much if they decline in
value.

The people for whom this is really bad news are the companies who were
planning an IPO in the near-to-mid-term future.

~~~
rdl
If only.

1) "Fiduciary duty" in 2011 in the USA seems to mean maximizing share price at
all times. If you don't, you're out of a job.

2) Compensation is largely tied to stock price -- either via options, or via
bonuses paid explicitly on stock price.

One thing you can do is bury your own specific bad news in a general downturn,
since you'll be blamed a lot less for external things. E.g. if you have
recalls, bad numbers, etc. to announce, announce them on a day when everyone
is getting hammered for exogenous reasons.

But yes, definitely worse for companies who have registered but not completed
IPOs.

~~~
blackguardx
Point 3) is that it is nice to keep the stock price high if you need to do an
additional offering down the road.

This is probably the only real reason why a company should care about its
stock price. Tying executive compensation to the stock price encourages the
company to think on a quarterly basis. I don't think this is good in the long
term.

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bgentry
Leave it to a guest writer to post the best TC article I can remember in ages.

Excellent article, do yourself a favor and give it a read.

~~~
Estragon
I agree, an excellent article. The main thrust, though, seems to be "This is a
terrible time to start any business exposed in any way to US retail. We won't
have sane economic policy until _at least_ the 2012 elections."

    
    
      My message to entrepreneurs has been, “It’s coming soon to a theater
      near you.” You know – the “butterfly effect” on a local and tangible
      basis. Consumers hurting in Detroit or Biloxi will not continue to
      spend money they don’t have and income they’re not earning. It will
      impact retail. It will impact brands. These companies advertise. On
      your tech platforms. These consumers buy iPads, iPhones,
      Androids. You’re counting on them for up-sells to your app. For buying
      virtual goods. You need consumers – they’re 70% of the economy.
    
      Trouble is – they don’t have jobs. Those that do still have too much
      debt. Their 401k ain’t what it once was and it just got whacked
      again. They still have too much personal debt. And the equity in their
      house isn’t rising. They’re doing what economists call
      “de-leveraging,” which means spending less, saving more.
    
      ************************************************************************
    
      Maybe the stock market drop will bring some clarity to congress. Maybe
      it will bring some bi-partisan spirit to solving the nations
      problems. Maybe. But evidence seems to the contrary. Right now people
      seem to be angling more around November 2012. And that sure sounds a
      long way away to me.

~~~
nl
I don't think he's saying 2012 will bring sane policy - he's saying that
people are hoping the 2012 election will _break the gridlock_ on policy.

Maybe sane economic policy will win out, maybe it won't. (In my opinion,
either way: the _reduction in uncertainty_ is likely to improve the investment
environment)

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pge
While I think Mark's article is insightful about macro issues, I have a
different perspective on how VC firms should react. I will never forget the
partner meetings we had when the bubble collapsed in 2000. The lessons of the
years that followed immediately after the collapse always stuck with me. First
of all, we are long term investors (VCs as a whole). I saw numbers recently
that the average time from Series A to exit was up to 8 years. Managing
through that entire lifetime means that a Series A investor that is looking at
the public markets is looking in the wrong place. What the public markets are
going to be doing in 8 years is the real question, and it is an unanswerable
one. So we all have to build companies, real companies. An exit should be a
pleasant interruption of the process of building a company. Building a company
means planning for good times and bad (as a company and as a funder), not
having to suddenly panic because the stock market went down. The only
companies in my portfolio that need to react quickly are those in registration
for IPO or in discussions with public acquirers whose stock prices just
dropped. Otherwise, it's steady as she goes.

One note I will make though, is that VC valuations do seem to track
(irrationally) the public markets. After a crash is often a good time to
invest, particularly if other funds do pull back, and competition is
diminished.

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davidw
> PIGS as it is called: Portugal, Italy, Greece & Spain)

Nitpick: initially it was PIIGS for Portugal, Ireland, Italy, Greece and
Spain, especially since Ireland got worse much faster than Italy has, and
Italy is still on the cusp, as it were.

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nickpinkston
Suster doing what he does best: great insight and synthesis. Mixture of macro-
Econ and startup-micro. Worth the read.

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mark_l_watson
Even tough I am not directly interested in startups (I enjoy a lifestyle of
learning a lot from many consulting jobs) this article is the __best __article
I have read about the economy in a long while.

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ssebro
I just love how the title of this post implies causation.

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mbesto
What happens next?

Easy - The bubble pops.

