A fairly extensive survey of venture capitalists was published this week from 4 professors at Booth School, Chicago; Stanford; Harvard; and Univ of British Columbia.
It is a long 80 page read, but worth it.
Here are the highlights that I thought were worth reiterating. Nothing in this report would surprise an insider, but for new entrepreneurs seeking investment, it answers questions about the 8 areas:
- deal sourcing (where do they get startups to invest in);
- investment decisions (which ones they invest in);
- deal structure (what are the key terms and conditions);
- post-investment value-added;
- internal organization of firms; and
- relationships with limited partners. In selecting investments
They surveyed over 889 VC’s at 681 firms.
- Roughly one-half of all true IPOs are VC-backed even though fewer than one quarter of 1% of companies receive venture financing
- Public companies that previously received VC backing account for one-fifth of the market capitalization and 44% of the research and development spending of U.S. public companies.
- The ability to generate a pipeline of high-quality investment opportunities or proprietary deal flow is considered an important determinant of success in the VC industry.
- Over 30% of investments are generated through professional networks. Another 20% are referred by other investors and 8% from a portfolio company. Almost 30% are proactively self-generated. Only 10% come inbound from company management.
Few VC investments (<10%) come from entrepreneurs who beat a path to the VC’s door without any connection
- The median firm closes about 4 deals per year. For each deal in which a VC firm eventually invests or closes, the firm considers roughly 151+ potential opportunities
- VCs focus on the quality of the management team, the market or industry, the competition, the product or technology and the business model in their investment decisions.
VCs ranked the management team (or jockey) as the most important factor.
- California VC firms are more likely to say passion is important and experience is less important.
The average deal takes 83 days to close; the average firm spends 118 hours on due diligence over that period and the average firm calls 10 references.
- The average required IRR is 31%. Late-stage and larger VCs require lower IRRs of 28% to 29% while smaller and early-stage VCs have higher IRR requirements. The same pattern holds in cash-on-cash multiples, with an average multiple of 5.5 and a median of 5 required on average, with higher multiples for early-stage and small funds
VCs report that fewer than 30% of the companies meet projections.
- Interestingly, 91% of our sample believe that unicorns are overvalued—either slightly or significantly
- Pro-rata rights, which give investors the right to participate in the next round of funding, are used in 81% of investments.
- Participation rights that allow VC investors to combine upside and downside protection (so that VC investors first receive their downside protection and then share in the upside) are used on average 53% of the time.
- Redemption rights give the investor the right to redeem their securities, or demand from the company the repayment of the original amount. These rights are granted 45% of the time
- Full-ratchet anti-dilution protection gives the VC more shares (compared to the more standard choice of weighted-average dilution protection) if the company raises a future round at a lower price; this investor protection is used 27% of the time.
- Liquidation preference gives investors a seniority position in an exit.
- An option pool is a set of shares set aside to compensate and incentivize employees, vesting refers to a partial forfeiture of shares by the founders or employees who leave the company, and control rights include features such as board seats, veto rights on important decisions, and protective provisions. VC’s were most comfortable negotiating these rights
- The average VC firm syndicates an average 65% of its deals.
- Over 25% interact multiple times per week and an additional 30% interact once a week, indicting that 60% of VCs report interacting at least once per week with their portfolio companies. Fewer than, one-eighth report interacting once per month or less. The high level of involvement is consistent with previous work and anecdotal evidence.
- 87% of VCs are involved in strategic guidance of their portfolio companies.
- 72% of VC firms help their companies connect with investors in future rounds.
- 69% of the VCs say they help their companies connect to customers.
- 65% of VC firms say they provide operational guidance.
- Overall, the average VC firm reports that 15% of its exits are through IPOs, 53% are through M&A, and 32% are failures.
- Deal selection emerges as the most important with 49% of VCs ranking it most important. Value-add follows with 27% and deal flow lags with 23%.
- The average VC firm in our survey employs 14 people, 5 of whom are senior partners in decision-making positions.
VC’s report working an average of 55 hours per week.
- VC firms spend the single largest amount of time working with their portfolio companies, 18 hours a week.
- Consistent with the importance of sourcing and selecting potential deals, sourcing is the second most important activity, at 15 hours per week.
- Networking is the fourth most important at 7 hours per week