Writing from the "ground zero" of the VC world--San Jose, California--O'Brien focuses on the implications of the recent report from the National Venture Capital Association ("NCVA"), which concluded "that 10-year returns on venture capital investments had turned negative at the end of 2009, and nose-dived during the first quarter of 2010." Stated otherwise, "venture capital funds returned 25.8 percent for the quarter ending March 2009. For the quarter ending March 2010, that return had fallen to minus 3.9 percent. That spectacular dip is due to the outsize gains of the dot-com boom finally washing out of the official 10-year benchmark."
In a word, the business model that has depended on a critical mass of successful initial public offerings of stock (or in VC-speak--"IPO's") has largely become unstruck for most of the past decade. We had previously reported here on the structural change in the VC world, from patient family-based funding in the 1980s to "in and out" institutional funding beginning the 1990s.
Seen in this light, riding the end of a long-term bull stock market that had begun its course in the mid-1980s, the dot-com boom now appears to have been an aberration rather than the harbinger of a business model for the VC world. The belief was that VC funding would marry smart funding in world-beating technology with a willing public willing to buy equities in companies, many of which were long on potential but short on actual returns. The performance of the past decade has largely "put paid" to this panglossian view of the potential of the IPO.
The result is a continuing decline and contraction of the VC industry, as companies that would appear to be the most attractive for an IPO--such as Facebook, LinkIn and Zynga--eschew that route. They seem to have concluded for the moment, at least, that the funds to be received from such a move do not warrant the ceding of control that accompanies taking a company public.
The heart of O'Brien's downbeat report is the followng:
"Some will argue that at least in the area of Web startups, companies can be
launched on the cheap, and growing numbers of angel investors -- those wealthy individuals who invest at the earliest stages -- are stepping in to give these companies a boost. True, but that kind of funding doesn't work as well for biotechnology, medical devices or cleantech. And these angel-backed companies are small and lean, and don't create large numbers of jobs.
It's not just fewer startups, though. When companies don't go public, they don't generate the same number of jobs in their later stages. Heesen [the president of the NCVA] said the cash raised from an IPO usually triggers an explosion in hiring. "The real job creation starts far down the road, after they go public," Heesen said.
Instead of going public, the companies that do show potential now get gobbled up by the Googles and Facebooks of the world. At the same time, valley giants like Hewlett-Packard, Oracle, Intel and Cisco Systems continue their acquisitions of larger tech companies, a consolidation trend that more often than not is accompanied by big job cuts. So we're seeing fewer startups and sweeping consolidation. Tie those trends together, and you've got a drag on job creation that could weigh down the valley for years to come."From the vantage of IP, I have several comments to O'Brien's observations:
1. For some time now, there have been rumblings about the diminishing role of IP (most notably patents) in the Sillicon Valley landscape. Under this view, the Valley is increasingly becoming the bastion of social media and related user apps, and decreasingly a centre for developing "the next big technological thing." The reference to Facebook, LinkedIn and Zynga as the most attractive candidates for an IPO would seem to offer some confirmation of this view. Further, the kind of investment required for cleantech, medical devices and biotech seems to be ill suited for the less form of VC funding that has become the business norm for nearly 20 years.
2. If this be true, even in part, the question becomes what impact the decline of the VC industry, and the arguably changing nature of the types of technological innovation being carried out, will have on the nature of high tech IP practice. Will it mean that there will be less patent filing activity, due to presumably fewer VC-funded start-ups, or will patent activity simply be increasingly centred on the companies that acquire the start-up technologies, rather than the VC-funded start-ups themselves?
3. Alternatively, it might also be the case that the nature of IP services required for certain kinds of high-tech companies, whether start-ups or otherwise, will also need to undergo at least a partial transformation. Under this view, there might be greater reliance on trade secrets and copyright as major sources of legal protection, and less emphasis on traditional patent protection. Afteer all, when one thinks of Apple, one thinks more of the functioning of the Apple ecosystem, which seeks to integrate hardware, software, contents and branding, rather than a dominant patent portfolio.