A few days ago I attended a wide-ranging set
of discussions for Harvard Business School graduates regarding the state of the
VC industry.
The
discussions covered issues from international developments in Asia to how best
to structure models of innovation to LP perspectives. I furiously made notes
and thought I might share some of the highlights.
VC
Developments Overseas:
A
decade or so ago there was enormous excitement about VC investing in Asia. We
watched with great anticipation as US VC’s “exported” our industry overseas,
investing aggressively in business models which had exploded on the scene here
and were now being launched in India and China. This naturally led to the
creation of strong local VC franchises in those markets. Arguably these markets
came of age very quickly which caused some of the participants to express some
words of caution.
- Many of the China
investors felt that we are now in very uncertain times. The failure of a
number of China IPO’s, the emerging waves of disclosure around fraud and
accounting irregularities, and the every present trifecta of lack of
property/human/intellectual property rights were underscored. True
economic reform in China did not start until the late 1990’s – less than
15 years ago – when the banking system was reformed. Have expectations
outrun realities?
- There are now
over 4,000 RMB investment funds in China.
- “China is
transitioning from a consumer of know-how to a producer of know-how.”
- One the largest
PE investors in the world shared that returns in China have been less than
expected, and at best in line with other markets – that was quite sobering
to hear.
- Others observed
that China is 17% of global GDP and “will become an asset class.”
- India, on the
other hand, has over 500 angel networks, a national stock exchange which
has been vibrant for the last 20 years, and has a proliferation of
national incubation funds.
- Many of the
India commentators were very complimentary of that country’s ability to
aggregate numerous private sector initiatives, but worried that the
bureaucrats making these allocation decisions were quite inexperienced.
- Interestingly,
the largest biometric database – until recently – was the FBI’s database,
estimated to number 60 to 100 million people; India launched a national
effort a few years ago and now has logged 250 million people – going
to 600 million people in 18 months! As someone who is fascinated about Big
Data in the healthcare space, that holds extraordinary promise. It was
also pointed out the North Korea has catalogued all 26 million of its
citizens – probably little VC opportunity there!
Innovation
Models:
There
was an interesting discussion around models to drive innovation featuring
NASA’s Tournament Lab program, which is a set of crowd sourced “contests” where
the community at large is asked to solve problems NASA is grappling with (I wrote
about NASA last year). This approach was juxtaposed with traditional
approaches which include…
- Internal
Development: one defines the problem, finds the right internal workers,
creates an incentive structure, monitors outcomes and then PRAYS for
performance, which is opposed to…
- Contest Model:
one defines the problem, establishes evaluation criteria, sets the prize
(often quite modest in the case of NASA), recruits problem solvers from
the community and then PAYS for performance
Limited
Partner Impressions:
The
final set of discussions involved the LP’s – our customers. One of the largest
state pension funds, which very publicly lowered its VC allocation targets in
its portfolio model, observed that VC returns have “detracted from overall
performance in all time periods” – that kind of stings! On the other hand, LP’s
from leading academic endowments had the exact opposite conclusion and shared
that “VC has been a great performer for the endowment.” So a couple of conclusions
I left with…
- As an LP, if you
can get access to any manager you want, one can construct a fabulous
portfolio of VC managers. Today, where access is not a meaningful issue,
LP’s would be wise to lean into VC.
- Large pension
funds have hundreds of VC relationships, which by definition; will drive
overall performance to be median – and median VC returns have been bad.
Full stop.
- There was a
strong sense that there will be increased dispersion of returns from the
median going forward, which for the last decade or so have been
compressed.
- Even though VC
returns overall have been uninspiring that in no way is to suggest that
there have not been some spectacular funds.
- There are over
40 sovereign wealth funds which manage ~$4 trillion of capital; two-thirds
of which were founded in last ten years. There is an expectation that they
may be increasingly an active force in the VC industry.
Two
other random observations:
·
Everyone
was focused on the fact that the amount of capital to get to point of failure
or point of acceleration in most VC-backed companies is now at an all-time low,
and this will further cause the VC industry to shrink as fund sizes will/can be
smaller
·
The
recently released Midas List (top 100 VC’s) has 33 people who went to a school
in Boston – but only 3 on the list currently reside in Boston. That is a
problem given how much of the nation’s VC dollars are managed in Boston – and
we remain the second largest innovation economy behind Silicon Valley.
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