Silicon Valley Venture Capitalist Confidence Index™
(Bloomberg ticker symbol: SVVCCI)
Third Quarter – 2019
(Release date: November 26, 2019)
Mark V. Cannice, Ph.D.
University of San Francisco School of Management
The Silicon Valley Venture Capitalist Confidence Index™ (Bloomberg ticker symbol: SVVCCI) is based on a recurring quarterly survey (since Q1 2004) of Silicon Valley/San Francisco Bay Area venture capitalists. The Index measures and reports the opinions of professional venture capitalists on their estimations of the high-growth venture entrepreneurial environment in the San Francisco Bay Area over the next 6 – 18 months.2 The Silicon Valley Venture Capitalist Confidence Index™ for the third quarter of 2019, based on a September 2019 survey of 29 San Francisco Bay Area venture capitalists, registered 3.58 on a 5-point scale (with 5 indicating high confidence and 1 indicating low confidence). This quarter’s Index measurement fell from the previous quarter’s Index reading of 3.76. Please see Graph 1 for quarterly trend data over the last 15+ years.
Confidence among Silicon Valley Venture Capitalists in the future high-growth venture entrepreneurial environment in the San Francisco Bay Area decreased in the third quarter of 2019 from the previous quarter. The decrease in sentiment was tied in part to concerns on lofty valuations due to a continuing enormous supply of capital being made available to new ventures as more mega funds ($500M or more) are being established. Meanwhile, a new record for U.S. unicorns (180) was set in Q3.³ However, the number of deals and total amount of capital invested in Q3, while solid, declined from the previous and year-earlier quarters.⁴⁵ Also weighing on confidence, the number of exits declined significantly in Q3 2019 from the preceding and year-earlier quarters.⁶ Furthermore, public financial markets now appear to be expecting clearer paths to earnings in addition to fast growth trajectories of IPOhopeful firms. These challenging trends to the financial model of venture capital come in the context of continuing uncertainty in the larger economic and political environment. In the following, I provide many of the comments of the participating venture capitalist respondents that validate their sentiment along with my analysis. Additionally, all of the Index respondents’ names and firms are listed in Table 1, save those who provided their comments confidentially.
The law of supply and demand remains intact. Venky Ganesan of Menlo Ventures wrote “As Herbert Stein once said, ‘If something cannot go on forever, it will stop.’ The private markets have been fueled by the availability of cheap capital and the surge of new entrants to private investing. Just like gravity, eventually positive cash flow triumphs. The venture markets are due for a major correction and it’s going to happen soon. Venture capital works best when capital is expensive and time is cheap. Right now, capital is cheap and time is expensive. This cannot go on forever.” Also, stressing the impact of excessive
capital, Bob Ackerman of AllegisCyber confirmed there is “too much capital chasing too much undifferentiated innovation with unrealistic return expectations. WeWork is a classic demonstration of the consequences of overcapitalization of undifferentiated innovation and a ‘Sky’s the Limit’ hype cycle…” Mr. Ackerman concluded “Other markets are picking up the innovation slack from Silicon Valley.” Another responding venture capitalist who provided commentary on condition of anonymity, echoed these points, saying “The market is supply driven. Lots of money have been raised by venture funds which will need to be put to work even if public markets fall. Unfortunately, that does not mean that these will be good investments, and so returns will fall as the money invested goes up.”
Stressing the urgency of the current imbalance, Bill Reichert of Garage Technology Ventures cautioned “The venture world is walking on the edge of a precipice. The global backlash against the FAANGs, the trade war with China, the valuation overreach of WeWork and many of the other unicorns, and the softening of the macro economy all suggest that we could tip over sometime in the next year. Amazingly, we keep getting pulled back from the edge, thanks to all the money sloshing around the world looking for better returns. But we can’t assume this will go on without interruption.” Jon Soberg of MS&AD Ventures also observed “Valuations are fairly high and with some of the recent issues with IPO performance, I think we could see some price adjustments in the private market and there is likely a recession coming that may also impact later stage.” Another VC respondent who provided commentary in confidence warned of “too many unicorns burning through too much start-up cash; and economic headwinds.”
Continuing macro uncertainties are also affecting sentiment. Dag Syrrist of Vision Capital reasoned “We’re settling in an ‘expect the un-expected mentality,’ flattening equity markets and no end in sight to trade friction and policy inaction. Larger funds will do fine managing for the long term, smaller funds less so, but neither are as enthusiastic about the future as more recently.” Ricky Lu of Cybernaut Zfounder Ventures elaborated “The trade uncertainty has continued to put pressure on the venture community and increased our scrutiny of start-ups. Start-ups are reluctant about their oversea expansion. The deals we have been negotiating are smaller compared to early 2019/late 2018. We have not seen signs of improvement this quarter and do not expect US-China to reach a definitive deal in the next 6-12 months.” John Malloy of BlueRun Ventures suggested “Heightened regulatory scrutiny of big tech will dampen acquisition activity.” Another VC respondent blamed “stock market uncertainty driven by government uncertainty” for low confidence.
Projecting forward these issues, Howard Lee of Founders Equity Partners reported “The venture secondary market continues to be very active as founders and executives of growth-stage companies seek diversification in the face of signs of the end of the economic cycle and stabilization in company valuations. The cooling of the IPO market and small-scale layoffs in larger, publicly traded companies in Silicon Valley have led to a softening of the housing market. While the impact on employees on the whole is negative, these trends have improved housing affordability in the Bay Area. Finally, the scrutiny of companies focused exclusively on growth has led investors to demand clarity on paths to profitability.” Some venture capitalist respondents focused on other aspects of the venture environment, namely, technology trends and entrepreneurial spirit, in which they found encouragement. For example, Tim Draper of Draper Associates contended “There have never been more transformative opportunities than there are today. Bitcoin, the Blockchain, smart contracts and all the AI technologies have the potential to transform the biggest industries in the world, and it is entrepreneurs, not the big companies who will do the transforming.” Also detailing how technology shifts are creating new opportunities, Eric Buatois of Benhamou Global Ventures noted “We are an investor in the enterprise B to B space. All enterprises now need to use all the big data accumulated within their operation to create a strong business outcome. It will imply using AI and machine learning. It creates a lot of opportunity for new companies to deliver very quick value to the customer provided they can create novel data sets and demonstrate strong industry expertise. The sales cycle will be compressed as these companies will sell turnkey solutions to the business leader as opposed to the traditional CTO and CIO.” From the life science arena Tom McKinley of Cardinal Partners highlighted the “digital health revolution.” Meanwhile, Jeb Miller of Icon Ventures emphasized that the “robust exit environment is continuing to help fuel the cycle of startup innovation in the SF Bay Area.” Additionally, Alex Fries of Alpana Ventures assured that the “entrepreneurial spirit is strong, especially outside the USA. More funds and more capital are in the market. Large enterprises are running to achieve Digital Disruption. Good government policies are supporting all of these.”
Public financial markets appear to be adjusting to more sustainable levels. Sandy Miller of Institutional Venture Partners suggested that “The IPO market is in a wild cycle. There has been more sensational coverage of the WeWork IPO than probably any IPO in history. In addition, some recent tech IPOs have been mispriced and underperformed. Nonetheless, we remain in a fundamentally strong exit cycle with a large demand by institutional buyers for IPOs and massive cash hordes by tech acquirers. So, this Fall and all through 2020 should be a robust period for venture exits. We will also likely see more Direct Listings as the interest in this format mounts.” Gerard van Hamel Platerink of Redmile Group indicated “Some rightsizing of late stage valuations appears to be in motion, setting the stage for a more normal financing environment.” Renata George of Zenmen added “Counterintuitively, all the recent IPO failures are perceived by many investors as a sign of the tech valuations becoming healthier. Arrogance as a long-term strategy isn’t that fruitful after all when it comes to both startups and investors.”
Another VC respondent provided a detailed analysis of the public market, saying “Some froth has been removed from the market due to some failed IPOs and some volatility in the public markets, and there is still good liquidity in the venture funds combined with valuations showing signs of getting more reasonable. These are positives. Investment into venture funds tends to follow the cycles of favorable IPO exit markets for venture-backed companies so there may be some slowness impending in investments into venture funds, but for the present time there is money to invest and improving valuations, which is a good mix. The one overhang is a fear of recession, which could make product launches challenging and set back business plans, which usually translates into some early to mid-stage companies facing future funding challenges and potential reductions in force to control spending. It appears the Fed may have gotten a reasonable jump on the slowdown and may arrest or attenuate a steep recession. The trade war’s effect has mainly been to slow Chinese investment money into emerging companies. There are still ongoing business startups, and fairly robust investing into the early to mid-stage rounds so the environment is healthy, and does not appear to have substantial threats on the horizon. Even a mild recession should not be too detrimental to young companies provided they are conservative with their business plans by incorporating the effect of a recession into their business plans.”
Finally, Dixon R. Doll of Impact VC explained that the “most important trends (fundraising and exits) are neutral to positive for a continuation of a vibrant entrepreneurial company building environment. However, in recent weeks the IPO market has gotten a little dicey with several prominent companies in the pipeline either pulling, delaying, or lowering their target offering prices. These jitters are a result of the long running global trade skirmishes, especially the well-publicized ones between China and the US, and a jittery global public stock markets.”
In summary, average confidence among the responding Silicon Valley venture capitalists in the Q3 2019 survey fell from the previous quarter. This drop in confidence was driven in part by concerns over inflated private valuations caused by an over-supply of cheap capital. Coupled with the issue of high valuations have been the disappointing performances of some newly public venture-backed firms and fewer exits in Q3. Of course, high initial valuations and fewer exits will make positive returns more difficult to attain. Unease was also communicated over continuing uncertainties in the larger economic and political environment with global trade tensions and domestic political wrangling continuing unabated. Still, some responding VCs focused more on potential future opportunities based on evolving technologies and enthusiastic entrepreneurs they see may use these technical tools to transform industries and business processes. With new sources and unprecedented amounts of capital being made available to new ventures and evolving expectations of public markets for venture-backed firms in terms of paths to profitability, it can be argued that the venture industry is itself in the midst of a transformation. Like all transformations, the outcome is unclear until it has been achieved. However, the basic formula of imaginative innovation, entrepreneurial optimism, and venture finance and guidance can still be expected to produce amazing outcomes, particularly in the Silicon Valley Entrepreneurial Ecosystem. Let’s see what’s next!
1 Dr. Cannice is Professor of Entrepreneurship & Innovation with the University of San Francisco School of Management. https://www.linkedin.com/in/markcannice/
2Questions about this ongoing research or related topics may be sent to Prof. Cannice at Cannice@usfca.edu or by LinkedIn.
3 Moneytree Report Q3 2019.
4 PitchBook-NVCA Venture Monitor Report Data Q3 2019
5 The decline in investment along with decline in confidence is consistent with the findings of Cannice and Goldberg (2009b) which found that VC confidence and VC capital investment tended to move together quarter to quarter.
6 PitchBook-NVCA Venture Monitor Report Data Q3 2019
Mark V. Cannice, Ph.D. is Professor of Entrepreneurship and Innovation with the University of San Francisco School of Management. The author wishes to thank the participating venture capitalists who generously provided their expert commentary. Thanks also to Jack Cannice and James Cannice for their copy-edit assistance. When citing the Index, please refer to it as: The Silicon Valley Venture Capitalist Confidence Index™, and include the associated Quarter/Year, as well as the name and title of the author.
The Silicon Valley Venture Capitalist Confidence Index™ is a trademark of Mark V. Cannice. Copyright © 2004 – 2019: Mark V. Cannice, Ph.D. All rights reserved.