The $580 Billion the VC Industry Has Nowhere to Put

Original link: https://www.latepost.com/news/dj_detail?id=1736

Venture capital (VC) can be traced back to the whaling industry in the 17th century. In the New England region of the northeastern United States, the whaling captain led more than 10 crew members and drove a sloop less than 20 meters long to hunt and kill sperm whales that were about the same size as the boat in the strong winds and waves of the Atlantic Ocean, extracting the industrial revolution from under their skulls. necessary lubricating oil. 1/3 of the ships that go out to sea never come back.

Funders look for a suitable captain, sponsor him to buy a ship, recruit crew, bet on his skills, experience, leadership and luck, in exchange for a certain percentage of whale meat and whale oil carried by the whaling ship. Today, VC agencies use similar logic to select entrepreneurs, and also use the word “carry” to refer to the returns they extract from investment income.

This high-risk, high-return business spanned the American Revolutionary War and the Civil War, and has grown for more than two hundred years. In 1715, there were only six whaling ships in New England, and it took 100 years to reach 200. But as more investors joined, the whaling fleet expanded to more than 600 ships over the next 20 years. They used the cutting-edge technology of the year, replacing sails with steam engines, throwing harpoons with gunpowder, and hunted whales more effectively.

Well-known Silicon Valley investor Marc Andreessen (Marc Andreessen) often uses whaling as an analogy to his industry. But what he mentions less is that the venture capital-driven US whaling industry fell sharply shortly after reaching its peak. Investing in whaling ships no longer pays off, largely because the most rewarding species, the sperm whale, is nearly extinct in the Atlantic.

Now, the similarities between the two industries have reached a stage of rapid decline.

Since 2015, the influx of funds into the VC market has increased sharply, and reached its peak after the outbreak of the new crown epidemic. In the past two years, VC financing has exceeded US$550 billion, which is roughly equal to the scale of China’s central fiscal stimulus after the outbreak of the financial crisis in 2008.

The tide has reversed over the past year. According to Pitchbook, a private equity data statistics agency, the scale of VC investment in China and the United States will each decline by more than 1/3 in 2022.

By the end of 2022, global VC institutions have accumulated US$580 billion in investable funds, but in the first quarter of this year, their investment volume further fell by more than half.

In late June this year, Bloomberg reported that Tiger Global had only found 2 billion US dollars in financing in 8 months, less than 1/3 of the plan. This investment institution, which was extremely popular during the epidemic, raised US$12.7 billion in one go in 2021. Now it has reduced its investment by more than 9 billion US dollars, and the fundraising target that has been halved cannot be achieved.

A week earlier, Sequoia Capital announced that the global investment would be divided into three, ending the history of “Sequoia” as a global brand. The respective managing partners of the United States, China and South Asia said the decision was made after months of discussions. They denied that it was catalyzed by geopolitics, preferring to emphasize the conflict of interests between different branches of Sequoia and the increasing complexity of regulatory compliance. .

A year and a half ago, when Sequoia Capital announced the restructuring of its U.S. and European businesses, its global managing partner, Roelof Botha, was still saying that the customary ten-year liquidation deadline for venture capital was outdated, and that many new companies were absolutely obsolete. Most of the value is realized after the listing, and premature liquidation means that most of the fat profits may be foregone.

The larger SoftBank Vision Fund lost $23 billion in the second quarter of last year alone. Son said, “I used to be complacent because I made a lot of money, but now I feel ashamed when I think about it.”

These three institutions are the VC funds with the largest financing scale in the past few years. Their expansion and contraction is also a concentrated expression of the changes in venture capital and many industries that depend on it in the past 8 years.

Ending market competition with capital scale is the beginning of chasing scale

In May 2010, when Zhou Hang founded Yidao, he embarked on a perfect starting point for starting a business. At that time, Uber was in preparation in the United States, and few entrepreneurs realized that mobile phone calling would be popularized along with smartphones. It received US$10 million in Series A financing, comparable to Uber and Xiaomi.

When Didi and Kuaidi started distributing leaflets to taxi drivers in 2012, Yidao already had a stable fleet and customer base, and iterated products for more than a year. This is the first-mover advantage that venture capital once expected to achieve-find the first mover and risk giving him a lot of money. By the time most people realized the opportunity, the company was already far ahead.

But only one year later, this market has nothing to do with Yidao.

“The size of the capital quickly destroyed the first-mover advantage of the first-mover.” Liu Qin, the earliest investor in Yidao and the founding partner of Wuyuan Capital (formerly Morningside Venture Capital), told “LatePost” in 2020 . He missed the entire online car-hailing market. Following the classic style of venture capital, Liu Qin sees the trend before others, and then finds the most promising company. The success of Didi has completely changed the rules of the game.

In December 2013, Tencent and Ali bought shares in Didi and Kuaidi respectively, and started a taxi-hailing war, reducing the taxi fare in first-tier cities to 3 and 5 yuan. The users of Yidao are losing rapidly, and the market is basically divided by Didi and express delivery.

Zhou Hang couldn’t understand such a “suicidal behavior” at first. During the round of taxi subsidy wars, Didi and Kuaidi mainly provided taxi services, did not receive commissions, and could not see the possibility of profitability. In fact, Didi’s taxi business has only made meager profits so far. Yi Dao was reluctant to join the subsidy war at first, and gave up a large amount of financing in 2014.

Only 8 months after the start of the subsidy war, Didi and Kuaidi burned at least 2.4 billion yuan. Funds and ammunition are first sent in batches by Tencent, Ali, and then venture capital institutions. Singapore’s sovereign fund Temasek joined the car-hailing war at the end of 2014, while Sequoia and Hillhouse joined in January of the following year. The two companies merged in another month, and they had already received nearly $1.5 billion in financing.

“In the Internet world, differentiated services, membership systems, and powerful resources are not as good as traffic and price wars.” In 2018, Zhou Hang concluded in his book “Re-understanding Entrepreneurship”.

Yidao also joined the subsidy war in 2015, but missed the financing opportunity and it was difficult to win new funds, so it had to form an alliance with LeTV. The founder Zhou Hang resigned and left, and Yidao gradually disappeared like other businesses of LeTV.

Afterwards, Uber came to China with a larger amount of capital and fought another round, involving various investors, including VCs such as Softbank, Tiger Global, and DST, as well as strategic investors such as Ali, Tencent, and Temasek. It also includes state-owned assets such as China Post and Bank of Communications. By the time Didi went public, it had already raised more than US$20 billion .

Since then, using money to solve competition has become a new tactic for VC.

The financing amount of Mobike and OFO in the first three years of their establishment was twice as high as that of Didi and Kuaidi in the same period. The bankrupt Danke Apartment raised 5.8 billion yuan in seven rounds of financing before its listing, becoming the leading company in the long-term rental apartment market. The same capital chain is broken and the huge financing in the early stage is Youxian . From 2015 to 2022, there was an accident, and the financing was nearly 10 billion yuan.

The company’s valuation is rapidly increasing, and traditional early-stage venture capital institutions cannot keep up. When investor Aileen Lee first used the term “unicorn” in 2013 to describe startups valued at more than $1 billion, there were 43 unicorns in the world. By the end of 2015, the number was more than 200.

Sun Zhengyi was the first to grasp this change and reshape venture capital institutions. In the summer of 2016, Sun Zhengyi, who had already selected his successor and was about to retire, decided to do it for a few more years, and decided to raise a fund of 100 billion U.S. dollars within five years to prepare for another technological explosion. The following year, the fund called “Vision” completed its first fundraising.

Sun Zhengyi said that the Vision Foundation is different from traditional VCs, and will seek control of the company, have a seat on the board of directors, and discuss company strategy with the founding team. Moreover, the scale of the investments disclosed at the beginning were very large, ranging from less than one billion US dollars to more than tens of billions of dollars.

In 2018, Sequoia Capital also raised an $8 billion growth fund. The fund was launched by Sequoia Capital managing partner Michael Moritz, who has retired.

According to the financial writer Sebastian Mallaby’s “History of Venture Capital”, Moritz’s intervention was related to Softbank’s forced $100 million stake in Yahoo in 1996. Sequoia was an early investor in Yahoo. When Sun Zhengyi made an offer, Sequoia hesitated. The investment bank gave Yahoo a very high valuation, but there are always risks in going public, and although accepting Masayoshi Son’s stake will dilute the equity, Yahoo’s soaring valuation is enough to make up for these “losses.”

Before Yahoo and Sequoia could make a decision, Sun Zhengyi directly threatened that if he could not invest in Yahoo, he would invest in competitors and completely eliminate Yahoo.

“Moritz later decided that he would never be bullied by wealthy investors again,” Malaby wrote.

Sequoia, stimulated by Softbank, then affects other peers. Lightspeed partner Semil Shah said it was Sequoia’s super fund that prompted other venture capital firms to seek larger growth funds and scour the world for deal opportunities. In 2018, global VC fundraising exceeded US$300 billion for the first time, six times that of 2013.

With the expansion of scale, some operating rules of the VC industry have been changed. These rules were originally established to reduce investment risk, but they limited the rate of return for investors in the most outstanding projects.

For example, large-scale VC institutions began to cover companies at more stages. Previously, most investment institutions only invested in specific rounds to reduce risks, but investment institutions that focused on early-stage investment missed a company and then had funds to follow up, while those that focused on late-stage investment may miss it. Investment institutions that get more money tend to cover more stages.

By 2021, Sequoia will reorganize its business in the United States and Europe and remove the original restrictions. It can invest in the earliest start-up companies, as well as follow-up investment in mature large companies, and even directly buy stocks of listed companies or invest in cryptocurrencies. , and also removed the exit deadline originally set to reduce risks.

Mutual influence of investment institutions and start-up companies

When Don Valentine founded Sequoia in 1972, he raised $3 million and invested in the first companies. Among them, $150,000 was given to Apple, which was founded just two years ago. If this money were left today, it would be worth more than $6 billion.

Apple was founded in 1976 and went public in 1980. At the time of listing, the net profit margin has reached 10%. However, in order to ensure the high rate of return of the first phase of the fund, Sequoia sold its shares at a price of 6 million US dollars in 1979.

This is a pity that venture capital institutions have been accustomed to in the early years. They helped a generation of tech companies revolutionize the personal computer, but they had limited capital and no long-term stakes. The returns are largely reserved for secondary market investors. Today, the market capitalization of Apple and Microsoft are 3 trillion US dollars and 2.5 trillion US dollars respectively, and their stock prices have increased by 2000-3000 times compared to when they were listed.

Things were very different when Facebook went public in 2012. The 8-year-old company has raised $2.336 billion and amassed 1 billion users. On the day of the IPO, Facebook’s market value reached 100 billion US dollars, bringing thousands of times the return to the earliest venture investors. Investors who bought its shares on the day of listing “only” had a return of 6.5 times.

In 2005, Shen Nanpeng, who was also the CFO of Ctrip, was invited to form Sequoia China, and raised US$180 million with the assistance of the US headquarters. It was also from that year that China began to mass-produce US dollar funds. In the following ten years, a group of people with the most innovative and adventurous spirit seized the opportunity of the mobile Internet.

Entrepreneurs have established a huge Internet industry in China with the support of VC, which also brings considerable returns to investors. At the time of this split, the asset management scale of Sequoia China under Shen Nanpeng had surpassed Sequoia Europe and the United States, and invested in most of China’s star projects in the mobile Internet era, including Meituan, JD.com, Pinduoduo, and ByteDance. Most of these companies are already listed.

Super-success stories give investors confidence, but overall, the success rate of venture capital investment has not become higher. Eric Feng, former partner of Kleiner Perkins, found that before 2008, investors invested in an average of 6 or 7 projects to ensure successful exit and realize returns; by 2014, investors had to invest in more than 10 companies on average to have returns.

“Fortunately” VC waited for enough money. After 2014, the United States is discussing the withdrawal of quantitative easing and raising financing costs. Europe is going through a debt crisis. Funds constrained by regulation and the market environment urgently need a market that appears to have a high rate of return.

In 2015, global VC raised a total of more than 140 billion US dollars. This is the economic basis for the formation of super VC funds.

After more money, investors are eager to give money to entrepreneurs. In the first half of 2017, Softbank requested to invest US$5 billion in Didi. Didi CEO Cheng Wei tried to refuse because Didi already had $10 billion in its account. But Masayoshi Son repeated what he had told Yahoo and Sequoia: If he didn’t want the money, he might go directly to Didi’s rivals. Cheng Wei compromised.

Online car-hailing and food delivery have broad imagination space, and huge capital investment can allow consumers to accept new habits as soon as possible and allow a company to build a moat. But when SoftBank applies the same approach to some other companies, what is left is a wild story.

Soon after investing in Didi, Sun Zhengyi quickly finalized the investment of US$4.4 billion in WeWork. WeWork claims to be an entrepreneurial ecological infrastructure. It is a technology company that provides office solutions for enterprises, but its core business is to rent a large area of office space and sublease it to small companies. Through continuous financing and loss-making operations, competitors are forced to cut prices and close their doors to end competition. In 2019, WeWork’s valuation was close to US$50 billion, but the prospectus submitted later was not accepted by the secondary market, and the valuation was halved and then halved. Now, its market cap is down to $500 million.

There’s also Wag, the dog-walking company. It uses AI algorithm companies to match dog walkers and dog owners, and uses image recognition technology to judge the dog’s emotions. Its founder asked Softbank Vision for a huge investment of US$100 million in 2018, but was stuffed with US$300 million. In the same year, the founders of Zume, a robot-made pizza company, were persuaded to “change the world” and took $375 million. A few years later, Wag was sold at a low price, and Zume simply closed its doors.

After the new crown epidemic in 2020, capital is no longer scarce, and a huge amount of money has rushed into the stock market and technology companies, setting off a valuation tsunami. A group of start-up companies valued at tens of billions of dollars concentrated on listing on the back of optimism. In 2021, the post-IPO market value of companies supported by US dollar funds alone will exceed US$200 billion.

Sentiment has been transmitted back to the primary market. In 2021, a record $150 billion in venture capital funds will pour into the United States, and investors will sell more than $340 billion, almost double the previous year.

Tiger Global has further “upgraded” its venture capital approach. At one point, it only got the profit statement today to look at the figures, and tomorrow it will increase the price by 25% on the basis of the founder’s asking price – in order to get more shares. They give up the excess returns that betting on dark horses can generate, and only seek the average return brought by casting a wide net, and use “quick investment-get returns-quick fundraising-quick investment” to quickly increase the scale.

The Chinese market has richer investment targets before 2022. Investors are chasing an opportunity similar to the mobile Internet in various industries. According to the continuous tracking of “LatePost” over the past few years, in every promising industry, excess funds cause problems in different ways. In the chip industry, new companies are constantly being born to compete for the same engineers over and over again . In the education industry , advertising was once the largest expenditure in the industry. In the consumer industry, the average valuation of a store of chain catering brands can reach hundreds of millions of yuan, and it expanded rapidly during the epidemic.

The $580 billion puzzle

The Russia-Ukraine conflict, rising interest rates and a potential recession make 2022 even more uncertain than 2020. In this challenging year, companies are more motivated to reserve cash, “cost reduction and efficiency increase” throughout the year, and venture capital also pays more attention to profitability.

The funds raised by VC usually remain in the account of the investor (LP), and will be paid when the investment is made (Capital Call). According to the “Economist” report and the information learned by “LatePost”, both the investor and the VC We are very cautious about investing in this environment, and some large investors have asked VCs to suspend their application for funding.

Last year, the number and scale of venture deals in the United States alone decreased by 14% and 30%, respectively. By the end of the year, the market had accumulated 583.1 billion US dollars of investable funds. The cautious trend has continued into this year, with North American funding totals down 46% year-on-year in the first quarter and 53% year-on-year globally.

The secondary market also fell together. Last year, the Nasdaq Index fell by 33%, and Hang Seng Technology fell by 27%. IPO is one of the most common investment exit channels for VCs. The downturn in the stock market has significantly increased the difficulty of company exits, making VCs even more reluctant to invest.

The weakness of the primary and secondary markets may further affect the newly established funds in the past few years, because the project investment returns are poor, or there are even no projects to invest in, and it will be difficult for them to raise funds in the future. The industry has begun to use “zombie VC” to describe these funds. Mel Garvey, CEO of TechStars, an early-stage investment institution, predicts pessimistically that half of VCs in the next few years may not be able to raise the next sum of money.

Startups that rely on VCs are thus pushed into a difficult position. Many companies have become accustomed to raising capital annually to support expansion and have been slow to build profitability. Now the money is gone.

“The emotional fluctuations in the capital market are like a pendulum swinging back and forth, rarely staying at the center of the swing trajectory, and almost most of the time going from one extreme to the other.” Investor Howard Marks once wrote in “Cycle” “And the movement of the pendulum to one end also provides the kinetic energy for the pendulum to swing back,” the book writes.

Now, the swing in the venture capital market has begun, with the strength it has gathered over the past eight years.

Intern Sun Haining also contributed

Title map source: Start-up player WeCrashed / Apple TV+

References:

“On the Road to Recap” Bill Gurley https://ift.tt/xUj3cSD

《Interview: Marc Andreessen, VC and tech pioneer》Noah Smith https://ift.tt/aEbnuK4

“Global Private Market Fundraising Report” Pitchbook https://ift.tt/r15RJuj

“US VC Valuations Report” Pitchbook https://ift.tt/opywmkC

《Global Business Update》Sequoia Capital https://twitter.com/sequoia/status/1666029996455112704

“Sequoia Is Splitting Into Three VC Firms” Forbes https://ift.tt/iRvcEtW

“A stats-based look behind the venture capital curtain” Eric Feng https://ift.tt/Lne3OvP

“Venture capital’s $300bn question” The Economist https://ift.tt/6Tap15L

“Venture Pulse: Q4 2022” KPMG https://ift.tt/V5QfijH

“Ventures” Tom Nicholas

A History of Venture Capital by Sebastian Malaby

“Re-understanding Entrepreneurship” Zhou Hang

The financial data in this article come from: Pitchbook, Crunchbase, Wind, Zero2IPO Data

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