Alan Salzman from Vantage Point Venture Partners moderated a panel on exits for venture-backed companies at the NVCA Annual Conference. He was joined by Todd Carter from Savvian, Ken Goldman from Siebel Systems, Colin Stewart from Morgan Stanley, and Thomas Weisel of Thomas Weisel Partners.
Salzman posted some simple data to set the context for this discussion. He focused on these takeaways from the current VC market:
- Roughly 900 new starts per year
- Mergers and acquisitions remain the primary exit option
- Values have compressed in both M&A and IPO valuations
- Valuations > $150M at exit are in the single digits
Weisel sees accelerated technology spending by carriers and enterprises, which is renewing the potential upside in technology exits. On average, $5 - 6 billion was invested per year in the 90s, while $20 billion was invested per year in the 00s; these larger pools of capital makes senior venture partners less risk-averse. (The other panelists were confused, thinking that of course Weisel meant to say more risk-averse.) VCs are focusing on a broader group of investments and hoping for moderate returns, rather than selecting a more narrow group and hoping for home runs. Stewart is partculaly interested in telecom trends that will drive a wave of IPOs over the next five years - WiMax, broadband wireless, mobile content, and the like.
Stewart believes that volume is picking up. Regardless of the issues and regulatory pressures in finding a compelling exit (as nicely outlined by Bob Grady from the Carlyle Group in a previous session), he thinks that we are building slowly towards increased valuations. The average company going public now has $20-25M in revenue and is profitable; it's a different metric than there used to be, and it limits who can go public. (Isn't this a good thing, to be profitable before going public? And different from when? When I was in VC during the early 90s, public meant that you had actually figured out your business.) This class of companies is raising the absolute minimum dollars they need to accelerate growth and drive up their stock's value. Investors have to wait until this surge happens in order to cash out.
Goldman's IPO cycle used to take about five months from start to finish; now, it's closer to nine months bcause companies want more signs of maturity to develop. He's noticed that a number of companies are recruiting for professional management teams and independent directors, both of which are needed in place in order to execute on IPOs. Management teams are filling in all of the blanks before filing for an IPO, rather than putting things into place as they go along. Goldman recommends that those of us on audit committees need to work very closely with auditing firms. In particular, auditing firms need to be driven hard in order to hit his quoted nine-month mark - the alternative is that your IPO may never happen.
Salzman followed up with this question: What happens when a company with SOX compliance is acquired by a public buyer? Carter confirms that this is extending the M&A process, even more so if the acquisition is considered a material transaction for the buyer. Goldman thinks that the definition of materiality continues to shrink, so that more and more transactions will be subject to preparatory SOX review.
Carter also described a dual-path aspect for private companies. The availability of private capital has risen, with hedge funds stepping in to play the part that the public market used to do. This is an entirely new development - the emergence of large, financial buyers that can be more aggressive than strategic buyers. At the same time, public markets outside of the US end up being used as a credible alternative during M&A conversations, thereby driving up the negotiated value. And though this may work, Weisel thinks that the only way to drive an auction mentality is to have an IPO option seriously developed. You can't just fake your IPO interest.
Salzman looked for advice on handling not-yet-great companies. Weisel was brave enough to opine that no one cares about the $30M company that's not growing, so it needs to be merged into something larger. There are many dead spaces in technology, many of which are filled by private companies that aren't going anywhere and that will ultimately be acquired. Stewart suggested that other exchanges provide viable alternatives to US options. The AIM has had the most press, and has brought out 88 companies in the last two years. The deal sizes remain small, and most capitalizations were less than $200M. At this size, going public results in a Series D valuation, so Stewart believes that exchanges like AIM are more like an institutional private market. Weisel still thinks that most people see a $250M market cap as a breaking point for going public.
This won't be the highest-value introduction to the public market, but it will avoid SOX costs. Companies need to compare expected valuations to see if the tradeoff is worth it. Stewart predicts that it will be a long time before AIM becomes competitive from a dollar perspective.
Weisel agreed with Bob Grady's analysis of a liquidity gap between the US private equity and IPO markets. Weisel sees foreign registration not as a liquidity event, but as a financing event. Companies will have to do a second offering in the US market in order to fully capture their value. Biotech companies do something similar - large sales to a private buyer that may technically be a public offering - and since it's really a private placement, it's not an easy transaction.
Stewart has seen many companies looking to deploy capital more effectively, which has led to greater interest in M&A transactions. It's still very difficult to outperform benchmarks, so people continue to come back to tech as a better-performing asset class. The average tech deal over the last two years has risen in value by 35-40% after the offering. I suppose this is one reason that we're all still at it!
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