I have not thought about this very much in the past…but it deserves attention, esp in these times of dwindling exit options even for great companies built by entrepreneurs. Why don’t more VCs engage more in such transactions? Diversify portfolio, trade risks, provide returns to LPs, increase liquidity options?
Three legs of the liquidity stool: (1) IPOs, (2) M&A, (3) sponsor-to-sponsor sales?
Source: Dan Primack in PE Wire
Last week, we got word that a Boston-area venture firm was informally shopping one of its hottest portfolio companies to other VC firms. Not shopping the whole thing, mind you, but just the venture firm’s stake. So I called one of the firm’s managing partners, who was understandably cagey in his response.
“We’re always talking to other firms about our companies. Sometimes we call them, and sometimes they call us. And we’re obviously scouring other firms’ portfolios, to see if there’s anything there that we might want to express interest in.”
My point here isn’t to report on the specific situation (still not quite comfortable enough, despite the non-confirmation confirmation), but rather to suggest that venture capital may finally be getting around to recognizing sponsor-to-sponsor sales as a viable exit avenue. It’s what helped buyout firms begin their gold rush earlier this decade, and may be venture’s last best hope for juicing wilted returns.
“If you look at buyout transaction and liquidity data since 2000, you’ll find that about half of the buyout proceeds came from sponsor-to-sponsor sales,” explains Ken Sawyer, a managing director with direct secondaries firm Saints Capital. “VCs have got to get a clue, and realize that they have a third leg for liquidity.”
To date, it’s not something VCs have done much of. Sure there have been the occasional sponsor-to-sponsor sales and uses of direct secondaries firms like Saints, plus some situations where VCs (and company employees) sell stock as part of follow-on financing rounds. But that’s all been insignificant compared to what the buyout folks have done, and has almost always involved non-influence stakes.
The buyout and venture markets obviously aren’t apples to apples. For example, venture deals are typically more broadly syndicated on the equity side, which could make sponsor-to-sponsor sales more difficult. But that’s manageable. The larger issues, Sawyer suggests, are structural. For example, buyout investing often requires more back-end infrastructure than just a partner and an associate with sector expertise. Some firms have already begun to build this, but most have not. Buyside firms also would have to get more comfortable with lower return expectations (2x rather than 10x), while sell-siders would need to get over their conditioned bias toward and IPO or trade sale.
I have to think this is coming. The only question is whether it will be sooner or later.