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Venture Capital Investments

Mark Heesen
President, National Venture Capital Association
Tuesday, October 26, 2004; 1:00 PM

Mark Heesen, president of the National Venture Capital Association, was online to talk about the third-quarter MoneyTree Venture Capital report, released on Oct. 26 by the NVCA, PricewaterhouseCoopers and other partners. The survey analyzes venture capital investment in the United States. Heesen also took questions on venture capital trends. Filter columnist Cynthia L. Webb moderated the discussion.

A transcript follows.

Mark Heesen (Courtesy NVCA)


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Venture capitalists invested $4.3 billion in 601 companies, according to the latest quarterly survey.

Heesen, who has a law degree, has worked on venture capital issues since 1991. Prior to joining NVCA, he was an aide to a former Pennsylvania governor and was deputy director of federal funds for the Texas legislature.

Editor's Note: Washingtonpost.com moderators retain editorial control over Live Online discussions and choose the most relevant questions for guests and hosts; guests and hosts can decline to answer questions.

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Cynthia L. Webb: Good afternoon, Mark. Thanks for joining us today to talk about venture capital. The MoneyTree survey the NVCA released today, along with PricewaterhouseCoopers and Thomson Venture Economics, showed a drop in overall funding for the third quarter. On a conference call about the results, part of the dip was attributed to the fact that venture capitalists go on vacation in August. How much of the third-quarter results can be pegged to this and the typical summer-time lull, versus other factors weighing on the economy now, including a recovery still from the dot-com bust, the war in Iraq and the upcoming presidential election, to name a few important issues?

Mark Heesen: If you go back a number of years you will see that Q3 is traditionally the slowest Q of the year. I do think most of this is a result not just of VCs taking some needed R&R, but also lawyers, accountants and entrepreneurs who must work together to get the deals done also may be taking some time off. Thus, Q4 often sees an increase in deals as many of them may have started to be processed in Q3, but not finalized until Q4. That said, VCs are long-term oriented and thus should not be looking at the current IPO market or current state of NASDAQ as an indication of what will occur 6-10 years from now. I don't see the war or the elections playing much of a factor in VC funding levels.

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Cynthia L. Webb: Readers, here is a link to a PDF document with a summary of the MoneyTree findings: http://www.pwcmoneytree.com/exhibits/04Q3MTHighlights.pdf. Also, check out my Filter column from today, which details the findings and surveys some national and regional coverage on the VC numbers: http://www.washingtonpost.com/wp-dyn/articles/A63697-2004Oct26.html

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Rockville, Md.: In the Moneytree report, early stage funding is identified. Does this category include seed and angel money? Any idea as to how much seed investing is happening in the Washington metro area and by whom?

Mark Heesen: Angel money is NOT counted unless it is from an organized group of investors. Early stage does include seed money and the number anecdotally is rising as more VCs go back to their roots and invest in young companies. Washington is a entrepreneurial community and there are local VC firms that will look at early stage deals so I'm optimistic generally for the region as a whole in early stage investing in the years to come

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McLean, Va.: Where might one find current evaluations of venture capital funding for the telecom space specifically? What amount is the norm for funding in a telecom venture in the Mid-Atlantic region?

Mark Heesen: Telecom deals are generally down across the Nation right now, but there appears to be more interest today from VCs than since the bubble burst. In the local area Space Vest Ventures and NEA out of Reston do telecom deals. There is no "norm" for telecom deals as they can be extremely large deals if they are mature down to medium sized deals for earlier stage deals.

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Arlington, Va.: How closely are venture investors following developments on Capitol Hill? I'm thinking particularly of the recent INDUCE Act, which could have put the bite on technological enterprise. Do you keep an eye out for laws that could suppress innovation?

Mark Heesen: INDUCE is a very important bill which we have been following closely and have major concerns about. Nothing will occur regarding this or tech bills until a new Congress begins work in earnest next February (the lame duck will not impact most bills). This bill goes to the heart of the ability of VCs to invest in "disruptive technologies" which will one day become the next big thing and thus we have already been on the Hill telling members of Congress not to stifle innovation through these types of bills

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Cynthia L. Webb: How has the wild success of the Google IPO (and the company's performance as a public company in the stock market - yesterday Google surpassed Yahoo's market cap) impacted the venture capital landscape?

Mark Heesen: Google impacted those VCs and their investors lucky enough to invest in the company years ago. I do not think it had a great impact on VC in general and frankly that is good. We don't need one great IPO to induce a flood of new companies attempting to go public which do not have the basics yet to go public. Google will have a long term impact on the community though in its introduction to a broader market of the Dutch auction which many VCs think will have a positive impact on investors in general.

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Cynthia L. Webb: You mentioned that some VC firms are returning to "seeding" or funding early-stage firms. Do you think we will see a revival of funding for garage-born start-up firms like in the 1990s (particularly in the software space) or that more companies are having to get revenue and customers before getting funding from an established group of investors?

Mark Heesen: I think both are happening! On the one hand you have VCs who really are looking at the garage ideas and are not telling anyone about them lest their "discovery" be taken by someone else. These deals are not large in number, but could be significant over the long term. Simultaneously, those entrepreneurs seeking VC today must be able to present the VC with solid evidence that its product/service has a market, how large that market is, what the competition is, whether a "big" customer can or has been signed on, etc. More and more you see VCs setting milestones for the portfolio company so that money is trickled out rather than given in large quantities.

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San Luis Obispo, Calif. In the last major public offering, investors were given a substantial amount of non-voting shares. What is the advantage in owning these when the founders still control the distribution of dividends? This his slight of hand reminded many of previous tech and dot.com maneuvers and soured institutional investors outside Silicon Valley.

Mark Heesen: MOst newly public VC backed companies will not give dividends and the VCs get off the Board once the VC firm is permitted to sell or distribute the company's stock. There are diminishing reasons why VCs stay on public company Boards (Sarbanes Oxley, lawsuits, time commitment).

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Cynthia L. Webb: More information on the so-called INDUCE Act can be found online here: http://thomas.loc.gov/cgi-bin/bdquery/z?d108:SN02560:@@@L&summ2=m&

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Rochester, N.Y.: Hello Mr. Heesen,

Concerning the reputed lack of good investments for VCs, what do you think of venture investing by US firms in places like India, Russia, China, SE Asia, Africa?

Secondly, is the VC community too inclined toward chasing trends?

Thanks.

Mark Heesen: There are a few VCs based in the US who will invest overseas, but its hard. You must know the culture, its legal system, the entrepreneurial environment, to make it work. Most VCs want to stay geographically close to their deals so they can help manage them during crises. Overseas investments make this much harder unless you syndicate with a local VC firm. Today, there is a greta interest in China and India, but the best locale outside the US many would argue is Israel because of its entrepreneurial culture, good legal system, and the ability of VCs to exit the market in a smooth fashion.

VCs do follow trends because VCs are experts in a limited number of mostly high tech fields. As we grow as an industry we are starting to see new VCs enter who have different tech backgrounds and thus areas such sa energy, security, exploration, and clean tech are gaining in stature.

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Washington, D.C.: What are the pros and cons of VC funding and how are alternative methods of financing included in any metrics?

Mark Heesen: If you don't want hands on management then don't take VC. Many entrepreneurs don't want to share "their baby" and that's fine, but then don't take VC as the VC will want to take an active role in moving the company to the next level. This may mean doing things the entrepreneur is not prepared to do. Thus, before taking VC the entrepreneur and the VC should sit down and discuss in detail what both sides want out of the deal. VCs are not going to pressure you for monthly payments with interest giving you a wider flexibility to build your company. They also are not your family which may suddenly need their money returned.

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Cynthia L. Webb: For a list of VC companies that belong to the NVCA, go to the NVCA home page at www.nvca.com and click on "About the NVCA" on top left column, then click on the link for "NVCA Members."

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Cynthia L. Webb: We have about 25 minutes left in our chat with Mark. Readers, thanks for your great questions. Keep your questions coming!

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San Mateo, Calif.: Do you believe that the increased competition for limited partner money is distracting VCs from making new deals while fund-raising is taking up more and more time; and the slow-down in investing might be partially attributed to this (although I am well aware of the summer-break phenomenon)?

Mark Heesen: Actually I would argue the opposite is true today. There are too many LPs trying to get into VC and many VC firms out fundraising right now are having to turn money away. Of course, younger funds only hope they could have this problem, but many, many established funds are finding it relatively easy to raise money right now. You will see an uptick in investing late next year as many funds are out fundraising right now or will be doing so early next year. Once they have the fund raised they will look to early stage deals that they help to mature through the rest of the fund life.

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Potomac, Md.: Are there volunteer opportunities at NVCA?

How does one look for opportunities with VC companies, especially in their portfolio companies ?

Mark Heesen: We have a small dedicated staff and have not in the past been open to volunteer opportunities leaving that rather to the VC firms themselves. VC backed companies often are looking for talent and often they "poach" from existing tech companies because they realize that these types of people are what they want: entrepreneurial risk takers who want a share of the company. Also, I have seen job seekers actually be successful at local VC fairs where venture backed or companies that want to be venture backed pitch the VC audience on why they should get funding. Those same companies often are looking for talent.

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Austin, Texas: What are you seeing in the Southwest in terms of venture investment compared with the rest of the country? Is it stronger, weaker?

Mark Heesen: The Southwest has pretty much mirrored the rest of the country in terms of investment, the differences being that the SW tends not to have as much invested in the life science sector (biotech, med devices, healthcare services) and more invested in communications. Austin is a strong VC market with good tech, good companies and good VCs. Dallas is also a good market, but Houston is still looking for a niche that it can fill. New Mexico could become strong as a result of the strong presence of national labs in the state.

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Annandale, Va.: Mark,

Can you talk about VC investments in the internet security space, and whether this is a growing area of increase for VC folks?

Tx.

Mark Heesen: The internet security space is strong...some would say too strong. The question is what specific tech will win out and how this will impact all the other internet security ideas that are out there. I see a contraction in the area longterm.

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Cynthia L. Webb: Any VC fairs coming up in different regions that you can point readers to?

Mark Heesen: Our webster, www.nvca.org, keeps tabs of many venture fairs. For example, Oregon has one this week in Portland. There is one in Dallas in early December and then things will slow down until mid January.

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Washington, D.C.: Hello,

Are US VC firms increasing or decreasing their investment in companies in the developing world? Are they investing in social entrepreneurs?

Thank you.

Mark Heesen: There are few deals being down in the developing world by traditional VCs who by and large leave this world to the IMF, IDB, etc. Why? VC have a fiduciary responsibility to get a good return on investment for their investors. Having said this, there are some funds who will accept money only from investors who want a "double bottom line" meaning a return on investment as well as the creation of a socially conscious company or tech. There actually is a conference on this subject next week in Boston.

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Cynthia L. Webb: The Mid-Atlantic Venture Conference is going on this week in Philadelphia: http://www.mavc.org/

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Nashville, Tenn.: The mid-South and Southeast ("outside Atlanta") are often characterized as under-developed in terms of VC, angel activity, etc., particularly in such areas as technology. What's your take on the degree to which the region is growing more indigenous capital -- and does this matter, from your vantage?

Mark Heesen: The Nashville area has a strong healthcare services industry which has been VC funded for many years and has created many jobs in the area. This is an area Nashville found as a niche and exploited it which is exactly what cities outside SF and Boston need to do to succeed. Indigenous capital is actually very important because VCs from out of the area often will only invest in the area if it can find a local VC firm who will lead the deal or at lest be it "eyes and ears" on the ground. No indigenous VC makes it harder for the VC from outside the area to invest.

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Toronto, Ontario: What is your recommendation on how good Canadian companies can get exposure to American VCs? Is there a clearing house of information on which VCs focus on what areas (e.g. angel money, technology plays, etc.)

Mark Heesen: There are a few US VC firms located in the Boston area who have come to the realization that its easier to get to Canada than get to Silicon valley. This plus the lower costs in Canada make it an attractive market. I would push your company to get in front of medium size Boston VC funds which want to invest in areas near them. There are several conferences in Montreal and Toronto which bring these VCs to Canada each year. The NVCA directory (see our website, www.nvca.org) has each of our firms listed with their geographic and industry preference. It is for sale.

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Rockville, Md.: The Washington DC metro area has a large number of government agencies, universities, and other institutions doing research. Some such as the University of Maryland are even generating a large number of patents. Yet it does not seem that this research is being transferred out, especially as new businesses. Do you agree with my perception? And if so, why isn't there more private investment going to support new business from these entities?

Mark Heesen: I agree that many other universities have outpaced this region in its tech transfer capabilities. Boston and Silicon Valley are largely what they are today because of the tech transfer policies of Stanford, MIT and Harvard. The schools must have the mindset that tech transfer is good and is not "selling out". This perception is hard to change, but we are starting to see some hope here in the DC region.

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Cynthia L. Webb: Mark is staying online a bit longer today to take some more of your questions.

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San Mateo, Calif.: Mark, do you see a trend towards VCs who were traditionally seed stage investors moving towards later stage rounds in order to increase their chances of a positive return since expectations of venture returns were so high just a few years ago? And if so, does this mean that start-up companies are signing less advantageous (for them) term sheets in order to attract top-tier VCs?

Mark Heesen: I think your premise is correct, but I see a change now. Since many funds are now being "wound down" and new funds are being raised I see that we will see an increase in early stage investing over the next several years. This is a cyclical business. After firms raise a fund they do earlier stage deals which hopefully become later stage deals as the fund matures. If all your companies go bust you still need to get your investors some return and the only way to do that toward the end of a fund is to invest later stage.

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Cynthia L. Webb: You mentioned Sarbanes Oxley and its impact on VCs staying on boards. How have tighter controls on public companies overall coming from federal regulators and politicians impacted other decisions and strategies of VCs?

Mark Heesen: I think that in years to come we will look back an and find that SOX had a much bigger influence on VC than we ever anticipated. Even though SOX does not apply to private companies from a legal standout it does from a practical standpoint. If you want to be acquired you must be SOX compliant, if you want to go public the accountants will tell you early on you must be SOX compliant. The costs are great from both a financial and time management perspective. Hopefully, the new Congress will review SOX next year and make some needed adjustments.

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Cynthia L. Webb: We are out of time for more questions today. Thanks, Mark, for taking the time to chat with us this afternoon about the latest venture capital statistics and the venture capital space overall. It will be interesting to review the fourth quarter VC results and we hope you can return in the future to talk about more VC trends. Readers, thanks for your participation.

Mark Heesen: Thanks so much for having me. I'm sorry I did not have time to answer all the questions, but hopefully I was able to shed some light on the VC community.

Regards,

Mark Heesen

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