Friday, June 22, 2012

VC 2006-11: $136 Billion In, $146 Billion Out

There's a lot of talk recently about a Kaufmann Foundation report on the venture capital industry that states:
Over the past decade, public stock markets have outperformed the average venture capital fund and for 15 years, VC funds have failed to return to investors the significant amounts of cash invested, despite high-profile successes, including Google, Groupon and LinkedIn.
Doesn't sound promising, does it? I thought I'd try my hand at a back-of-the-envelope analysis of the situation, using the NVCA's own numbers.

What I did was look at the period from 2006 to 2011, and compare annual commitments to venture capital (e.g. the amount of money going into the asset class) and annual exit value from M&A activity and IPOs. I'm indebted to PEHub and Robert Ackerman, who brought these numbers to my attention. I've rounded to the nearest billion, because hey, this isn't rocket science.

VC Commitments
2006: $32 billion
2007: $31 billion
2008: $26 billion
2009: $16 billion
2010: $13 billion
2011: $18 billion

Exit Value (M&A)
2006: $19 Billion
2007: $30 Billion
2008: $14 Billion
2009: $13 Billion
2010: $18 Billion
2011: $24 Billion

Note that these are just values for transactions where the purchase price was disclosed. However, since transactions where the purchase price isn't disclosed tend to be very small, it's a good approximation.

Exit Value (IPO)
2006: $5 Billion
2007: $11 Billion
2008: $0 Billion
2009: $2 Billion
2010: $7 Billion
2011: $10 Billion

While these numbers look small, it's also important to note that most IPO offerings only account for about 1/7th of the total shares, so we need to multiply by 7 to get the total value of these IPOs. Applying this correction gives us the following numbers:

Exit Value (IPO, grossed up to account for offer %)
2006: $35 Billion
2007: $77 Billion
2008: $0 Billion
2009: $14 Billion
2010: $49 Billion
2011: $70 Billion

Now let's add the M&A and grossed up IPO figures to get a total exit figure:

Total Exit Value
2006: $54 Billion
2007: $107 Billion
2008: $14 Billion
2009: $27 Billion
2010: $67 Billion
2011: $94 Billion

But wait, we're not done yet.

This is the total exit value, but VCs don't own 100% of their portfolio companies. For simplicity sake, let's assume they own 50% (which means employees own 10-20% and founders 30-40%).

Total Exit Value To VCs
2006: $27 Billion
2007: $53 Billion
2008: $7 Billion
2009: $14 Billion
2010: $34 Billion
2011: $47 Billion

But wait, there's still more. Let's not forget that VCs charge their LPs a 20% carry, so we need to reduces the exit value figures by 20%.

Total Exit Value To LPs
2006: $22 Billion
2007: $42 Billion
2008: $6 Billion
2009: $11 Billion
2010: $27 Billion
2011: $38 Billion

That means the grand totals for this 6 year period are $136 Billion invested into the asset class, $146 Billion returned by the asset class.

In some ways, this isn't fair, since one doesn't expect VC investments to deliver a return for many years, but it is a good picture of the "steady state" of the industry.

Over this time period, the total return was 7.1%. Not annually. Overall.

Over the same time period, the total return on the Vanguard S&P 500 Index fund was 12.6%.

Again, these are very rough calculations (rounded to the nearest billion, remember?), but they certainly paint a picture of an asset class that hasn't produced great absolute or relative returns, especially in comparison to the past. And this is for a time period that includes two relative booms (2006-7, 2011).

What's missing in the aggregate, of course, is the performance of individual funds. A number of funds have delivered extremely strong returns over this same time period, with IRRs north of 30%. But the numbers do suggest that finding and investing in the right funds is more important than simply increasing one's exposure to venture capital.

6 comments:

Anonymous said...

Your methodology is lacking in both intellectual rigor and honesty. Your data is meaningless in any useful objective sense. We would all benefit from some form of explanation as to how a dollar invested in 1999 returned during an exit in 2006 has any meaningful relation to a dollar invested in 2006.

Chris said...

Dear Anonymous,

Please note the following paragraph:

"In some ways, this isn't fair, since one doesn't expect VC investments to deliver a return for many years, but it is a good picture of the "steady state" of the industry."

The amounts invested in the VC asset class have been at this level since the late 1990s. Plenty of time for those investments to pay off in 2006.

Jerry Neumann said...

Tough way to analyze, but accepting your premise, two nits:

1) Carry is 20% of the gain, not 20% of the exit. To be consistent, you should assume some sort of exit multiple (say 2x, being a guess at the average multiple of funds that actually pay carry?) So the carry paid on a $100 exit is only $10, not $20.

2) The return you cite is, in fact, an annual return (again, to be consistent.) The money goes in over five years and comes out over five years. Saying the class returned 7% over five years assumes that all the money went into the funds in 2006 and all the exits came out in 2011. If you do it this way you also see that some years the gain is enormous (2010, 2011) and some years it is a big loss. But this is an artifact of the method.

Making these two changes increases the return on venture to about 20% per year on a "steady state" basis.

Anonymous said...

Chris,

I hardly think either of those statements is fair; the data simply do not support them.

http://insiteny.org/wp-content/uploads/2011/01/B_DollarsInvested.jpg

Anonymous said...

...sorry, wrong chart. one moment, please.

Anonymous said...

...at any rate, I DISAGREE.