The manic
The venture capital industry rises and falls. The past decade has been full of crises and bubbles that have made it manic depressive. We are now in a lengthy manic stage. In Israel, like the US, enthusiasm is in the air, exits are promised, IPOs are huge, and Microsoft Corporation bought Skype for $8.5 billion.
When the mood changes in venture capital, it means that someone is making money. It seems that the profiteers after the years of crisis are the private equity funds that invested in late-stage companies.
The mechanism is straightforward: during the crisis, companies thin down, streamline, and raise capital at lower company values, even as the companies continue to grow. When the time comes for funds that invest in late-stage companies to make their move, they win good exits in the companies cheaply and at low risk. That is the theory, and it correlates with the Thomson Reuters Venture Private Equity Performance Index.
According to Thomson Reuters, in 2010, US late-stage private equity funds achieve an average return on investment of 35% within 12 months. The average was pulled upwards by investments in Internet companies such as Facebook and Zinga.
Funds that invest in earlier stage companies, also saw higher returns, but they still underperformed Nasdaq - 14% to 18% - and their returns were also less than the 18.7% average for private equity funds.
The depression
It was nice to read headlines reporting that the first quarter of 2011 was a good one for Israeli start-ups, and that the average investment returned to the level before the credit crisis of 2008. It was also nice to report about successful exits, but the weakest link should not be forgotten - Israeli venture capital funds. Their cash is running out and they are stagnating with single-digit returns at best and negative returns at worst.
Remaining capital for follow-on investments in portfolio companies is dwindling, and the Israeli venture capital funds' ability to maintain their stakes in the companies is weakening. Only a miracle can change these facts over the coming year, because even if the funds succeed in raising capital for follow-on funds (which is dubious given their performance), the new money will only begin to flow in another year.
On the other hand, US and other foreign funds have available cash and they are jumping to invest in Israeli companies. These will be the funds that will profit when the companies succeed, and they will report only small losses if the companies fail.
Published by Globes [online], Israel business news - www.globes-online.com - on May 18, 2011
© Copyright of Globes Publisher Itonut (1983) Ltd. 2011