In 1987 a group of the U.S.s most influential venture
capitalists, including Warburg Pincus founder Lionel Pincus and
Kleiner Perkins Caufield & Byers co-founder Tom Perkins,
convened at the Hilton Chicago OHare Airport hotel. Their
then-fledgling industry was coming off some spectacular
results, fueled in large part by the successful venture-backed
IPOs earlier that decade. With the industry having proven
itself and the laws making it easier for institutions to invest
in venture capital, pension funds and endowment managers were
ready to pour money into venture funds.
For the OHare gathering there were several crucial
questions. Was this a sustainable industry? Could it manage a
new influx of capital that might be two to three times what it
was currently managing? Were the investment returns scalable?
And were there enough venture capitalists to manage the
Though there were doubters, the capital providers prevailed
and the money poured in. A quarter century later some of
the same issues are perplexing the venture industry but
this time against a very different backdrop. Now the questions
revolve around how much the industry will need to contract
before it becomes healthy again.
Last year venture capitalists invested $26 billion in U.S.
companies, a quarter of the $105 billion they invested in 2000.
Capital commitments to venture funds, which stood at $103
billion in 2000, were below $18 billion.
The contraction is likely to continue this year, as
investors pay greater attention to smaller and more local
venture funds. Venture capitalists expect institutions to
commit even smaller sums of money. "What you will see is fewer
relationships between venture capital and institutional
investors," says Edwin Goodman, co-founder of New
Yorkbased Milestone Venture Partners.
Many investors who previously might have preferred the
longer-term horizon of venture capital for its once outsized
returns, and as a hedge against short-term volatility, are
turning to the shorter-term public equity markets because they
are just as profitable and much more liquid. For the 12 months
ended September 30, 2012, venture capital funds returned 7.7
percent, compared with the 26.5 percent return of the Dow Jones
Industrial Average and the 29 percent return of the Nasdaq
composite index. Over the past ten years the long-term
sell that used to be venture capitalists big pitch
venture capital funds reported annualized returns of 6.1
percent, compared with 8.6 percent for the Dow and 10.2 percent
for the Nasdaq.