Friday, August 13, 2010
Revisiting the Global VC Survey data

 

Two weeks ago I posted the results of the annual Deloitte / NVCA Global Survey of Venture Capital Firms.  Something about the data bothered me, so I went back to the slides that  Deloitte provided with the webinar.  The data show that U.S. VC fund managers, by 61% to 39%, do not expect to deploy their capital outside of the country.  They plan to invest it in U.S. companies.  But the data also show that 56% of Limited Partners who invest in U.S. VC funds don’t want the fund managers to invest in U.S. firms.  These data points may indicate a mismatch of expectations.

Here are the two slides that stuck in my head:

 

Slide #12: With regard to investing in the VC fund’s home country, what are the inclinations of the Limited Partners?

If it is a VC fund in the U.S., they are

Less inclined -- 56%     vs.     More inclined -- 15%     vs.     No Change -- 29%

 

Slide #19: Do U.S. VCs plan to increase investment outside of the U.S.?

No -- 61%     vs.     Yes -- 39%

 

It’s easy to understand:  Limited Partners prefer that American fund managers invest more capital outside of the U.S. because risk-free returns are very low.  Everyone is chasing higher returns.  The emerging economies have a number of advantages, not the least of which is a growing number of consumers.  No surprise then that up to 80% of respondents expect business valuations to increase in Brazil, China and India.  This also explains why 72% indicate that, over the next 5 years, the amount of venture capital available for investment in the U.S. will decrease, and 92% predict that the number of U.S. VC firms will fall in the same 5 year period.

 

The U.S. fund managers who want to keep more of the fund’s capital here in the U.S. also have sound reasons for doing so.  One reason suggested by the Deloitte / NVCA panel is that all recessions serve two important functions:  they bring good engineers out of corporate R&D labs where the budgets have been cut; and they reduce the cost of rent and labor.  These are two of the factors that make the next big thing possible.  When a third factor -- cost of capital -- is low, as it is now, wealth can be created.  VC fund managers see that the current U.S. environment is tending this direction.

 

I believe that a second reason that U.S. fund managers plan to hold back on their foreign investments is that the additional risks and the associated costs of that risk cut into the project's earnings.  A lack of transparency leads to questions about the quality of corporate earnings. and the regulatory, tax and legal systems are still developing.  But memories are short and even after the financial meltdown, Limited Partners may have already forgotten that the possibility for big losses always accompanies the possibility for big returns.

 

It would be unfortunate for a serious mismatch of expectations to develop between U.S. fund managers and global VC investors.  It will hurt  the U.S. VC community, the American start-up companies that they invest in and, ultimately, American competitiveness if global Limited Partners neither want nor expect U.S. fund managers to invest in the U.S.   Of course “hot money” will always flow to the highest returns but I think that U.S. fund managers have it right when they plan to invest more in U.S. firms, for all the reasons listed above.   

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