For the Moment Mellow . . .

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Since I too often bellyache on these pages, I thought I’d share something I wrote for a quarterly letter at the end of last year.  Ironically, the poem I reference is called Temporary Well Being. Comments and feedback encouraged, just don’t harsh my mellow, as the kiddos say . . .

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Q4 Commentary:

A Kenneth Burke poem inscribed on a wall in New York’s Penn Station begins, “the pond is plenteous and the land is lush and having turned off the news, I am for the moment mellow . . .”

I’ve been thinking about this poem a lot recently, as Silicon Valley seems to be enjoying a sanguine moment. Although the tech world was consumed at the outset of the year by an unease that resulted from an investing pullback on the part of so-called Tourists – a cohort of large public market-focused investors who had become active in late stage private investing – the middle third of the year seems to have been marked buy a growing realization that the sky was not falling.   And by September, optimism engendered by a smattering of tech IPOs lifted spirits across the Valley.

Indeed, an uneasy truce between bulls and bears seems to have emerged as 2016 slouched to its conclusion. The headline of one of our favorite barometers, the Fenwick and West Venture Capital Survey, reported that, “valuation metrics were down modestly in the third quarter.” After all, the median round over round price increase among companies completing financings during the third quarter was 27%, down slightly from the second quarter’s 31%. While the Report noted that this was the lowest amount since Q4 of 2013, this rate of increase was right in line with the 10-year average calculated by the survey. Our conclusion, both from the data, as well as from our on the ground perspective, is that the entrepreneurial ecosystem seems relatively healthy; there are many great companies who are being rewarded by increased valuations for the progress they have made.

What has caused some consternation around the Bay Area, however, is the decline in mega-financings driven by the exit of the Tourists. The late-stage market, which had been defined by froth in recent years, has slowed. Financing used to be available to companies at levels that assumed perfect execution for the subsequent 18 to 24 months; there was a conceit that all of these companies would grow in to their valuations. Today, late stage investors are only paying for progress to date and acknowledging execution risk and uncertainty. As result, many venture capitalists to which we have spoken are suggesting to their companies that are fundraising to expect valuations that are 25 to 40% lower than they might have expected a mere 18 months ago.

This, of course, is good news for us. Buffet’s equation tells us that Opportunity equals Intrinsic Value minus Perception. As sentiment comes into line and folks acknowledge the reality of risk, prices should come down and our expected return should go up.

This new reality is being reflected in entrepreneur perceptions, as well. First Round Capital produces an annual survey of start-up founders and one of their typical questions is, “who has the power in fundraising negotiations?” In a 180° reversal of last years results, entrepreneurs this year’s survey said that power rests with investors by a two to one margin.

Of course, optimism is always empty without the prospect of healthy distributions. We are hopeful that the momentum of late 2016 will carry over into the new year and that both distributions and valuations will give us, the ultimate providers of the capital, reason for a continued excitement that we would have never thought possible at the outset of year.

As we look to 2017, the conclusion of that Kenneth Burke poem sums up our feelings nicely: “ . . . with my book in one hand and my drink in the other, what more could I want but fame, better health, and ten million dollars?”

 

In the Time of the Gatsbys

img_4393So this buddy of mine, Peter Stein, is one of the best hedge fund evaluators I know and I once asked him how he knew to steer far clear of Madoff?
“Sometimes, returns can be too good,” he replied sardonically.

But it’s never been that way in Silicon Valley, a sunny and magical land where risk-adjusted return is impossible to calculate since risk is perpetually dialed up to eleven.

And in a culture steeped in selling the impossible, sometimes things go a little too far, which reminds me of another thing Stein, a veteran of ‘80s Tokyo and ‘90s New York, once cautioned me about long-running bull markets:

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Secondhand Flowers

flowersOld O’Malley used to dispense sage advice from his stoop in Brooklyn. The smoke of cheap cigars and the cracking of the Yankee game on the transistor radio hung heavy in the humid night as O’Malley meted out wisdom like Aristotle under an olive tree. And one nugget that stuck with me through the years goes as follows: “never buy a girl secondhand flowers. The last girl may have enjoyed them, but your girl will just think of them as used up.”

So what does this have to do with investing? Recently, I was talking to someone about a company that was about to go public and they were lamenting the large discount to public comps implied by the bankers’ pricing guidance. Of course, IPO investors crave a first day pop, but the discount seemed to be bigger than they had seen lately. We wondered aloud why that might be? Lackluster aftermarket performance of last year’s IPOs? Higher perceived risk in the economy? Idiosyncratic risks of this company? And so on. This person also talked about how the bankers remarked that some private companies were pretty close to being overvalued relative to public companies, creating an inversion that would make any liquidity efforts tough.

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SuperLP Classics: DC-8s and Tigers and GPs! Oh my!

ShigaAs I crank up some posts (and other cool content) over the coming weeks, I thought I’d take the dog days of summer to repost some of my favorite stuff from years past.

I was inspired to look back to the story of Captain Asoh by Bessemer’s recent updates to its anti-portfolio.  I’ve always loved the honesty of BVP’s reflections and admire them for being so vulnerable in what can be such an ego-driven business.  Warren Buffett often says that there are no called strikes in investing, referring to the practice of a batter letting an unpalatable and often inconsequential pitch go by.  But in VC, our called strikes can feel like a called third strike.  With the bases loaded.  In the last inning.  Of the World Series.

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