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Wisdom from the Wizard of Omaha. “Nothing sedates rationality like large doses of effortless money.” Warren Buffet Berkshire-Hathaway Annual Report for 2000 (Net profits rose 113%; earning/share rose 2X)
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Wisdom from the Wizard of Omaha “Nothing sedates rationality like large doses of effortless money.” Warren BuffetBerkshire-Hathaway Annual Report for 2000 (Net profits rose 113%; earning/share rose 2X) “Despite three years of falling prices, which have significantly improved the attractiveness of common stocks, we still find very few that even mildly interest us. That dismal fact is testimony to the insanity of valuations reached during The Great Bubble. Unfortunately, the hangover may prove to be proportional to the binge.” Warren Buffet March 2003
The New Economy Viewup to March 2000 • The Internet changes everything • The economic model of every business will be transformed • Move first, be the Biggest, Fastest • Spend and spend; Equity is currency • Emphasize marketing hype over real execution • Lay-off the risk onto the Public Market
US Venture Capital Investments1995 - 2000 4,107 deals 3,317 deals 2,046 deals 1,840 deals 1,676 deals 1,174 deals Source: PriceWaterhouseCoopers (PWC) MoneyTree Survey in partnership with VentureOne, 2000
Mid-1990sVenture Capital Returns, Select Funds Examples of Funds over 3 years old Fund NameInceptionIRR Summit III 1991 64% Kleiner Perkins VI 1992 39% Mayfield VII 1992 25% Sequoia VI 1992 110% Accel IV 1993 79% Battery Ventures 1994 23% Summit IV 1995 101% Kleiner Perkins VIII 1996 287% Matrix Partners V 1997 516%
Mega VC Funds Source: VentureOne, WSJ, 10/8/00
Venture Capital Investments in the Internet - 5 yr review Source: PWC MoneyTree Survey Report, 2000
Misha Petkevich: VC Investments by Stage of DevelopmentPercentage of Total Deals1995 – 1999 Source: PWC MoneyTree Survey and VentureOne, 2000
From Capital Market Bubble to Tech Bubble • Tech spending grew by 2x the ’90-’96 rate from ’97-’00; bandwidth by 130% year on year from ’98-’00 • Unprecedented venture and borrowing activity (next slide) = huge jump in tech spending, esp. comm infrastructure; amplified competitively as older firms responded • Tech vendors exacerbated by vendor financing and investment in start-ups • Impacts on company financials for quarterly reporting • Compensation impacts • Self-reinforcing, but ultimately unsustainable tech-capital market cycle
Size of Telecom Fiasco $$--Billions • From 1996-2001, Telecom, a $300 Billion industry: • Borrowed $1.5 Trillion in bank/non-bank lending • Issued $630 Billion in Corporate Bonds • Creative Accounting exacerbated impacts • Use of bandwidth swapping to generate phantom revenue • Sales inflation, fraud Source: Thomson Financial; WSJ
The New New Economy View • The bursting of the equity market bubble changes everything • Maybe the New Economy isn’t so New • Amazon and B2C E-tailing – What assumptions were wrong? • B2B – What assumptions were wrong? • Financial Markets: PROFITS and CASH FLOW, not Marketing hype • Venture Fund Practice: Conserve Capital • Kill/Dispose of clear losers in existing portfolios • Reinvest to support rest of portfolio • Pray for recovery
US Venture Capital Investments1995 - 2002 1,840 deals Source: PriceWaterhouseCoopers (PWC) MoneyTree Survey in partnership with VentureOne, 2002
US Venture Capital Investments1995 – 2002, by Quarter Source: PriceWaterhouseCoopers (PWC) MoneyTree Survey in partnership with VentureOne, 2003
US Venture Capital Investments by Stage of Development 1997-2003 % of total deals
Shifts in VC Industry Sector Focus • Shift to “safer” investments • Shift out of tech to bio • Shift to enterprise value creation from infrastructure (x-wireless)
Venture-Backed IPO and M&A activity by quarter Source: Venture Economics and the National Venture Capital Association
Exit Strategies for Venture-backed Companies M&A IPO Source: Securities Data Corporation
Global M&A Activity(2000-2002) Unit = $$ Billions • Global M&A Activity has cratered • 1997-2000, headcount grew by 40% and remuneration by 88% • 2001, revenues fell 13%, employment 8% • Retrenchment is continuing – estimated 30K-50K investment banking jobs eliminated Source: Wall Street Journal and P&P estimates
Venture Economics Post-Venture Capital Index (PVCI) Annualized Returns Source: Thomson Financial & National Venture Capital Association. As of 2/28/03
Net Returns of Venture Capital Funds • A mature asset class? • $60-70 billion in un-invested, committed capital • Limited partners are seeking return of un-invested capital • More asset write-downs to come • $4-5 billion in secondary market sales estimated for 2002 Source: Thomson Financial/Venture Economics & National Venture Capital Association
Recent-vintage Venture Fund Returns Examples of Funds less than 3 years old Fund NameInceptionIRR Menlo Ventures VIII 1999 - 34% Softbank V 1999 - 30% Oak IX 1999 - 34% Worldview Tech. III 1999 - 50% Sequoia IX 1999 - 4% Battery Ventures VI 2000 - 34% Kleiner Perkins XA 2000 - 15% Accel VIII 2000 - 22% Matrix Partners VII 2001 - 39%
Fallout on Wall Street Buy Recommendations as a % of all recommendations • Lots and lots of suits by investors, states and SEC • Basic conflict of interest between banking and equity research/brokerage functions • Analysts recommended ‘buys’ to clients while their firms sold sold sold • Other issues: • IPO allocations in return for trading commissions Sell Recommendations as a % of all recommendations
Top 20 Countries by Investment(2000) by US $ Billion Source: PWC Global Private Equity Report
Top 20 Countries based on Investment Growth (1995-2000) Over 5 years, by percentage Source: PWC Global Private Equity Report
Asia Private Equity Bubble Tracks US with Lag 10,455 2002
Asia Venture Bubble Subsides 2,990 2002
Locational Composition of Asian Private Equity Investment, 2001
Asian Private Equity: Composition by Investment Stage, 2002 Source: AVCJ
Asian Private Equity: Industry Composition, 2002 Source: AVCJ
New York Venture Capital • Prior to 1950s – Individuals in the finance sector • 1946 – Family funds begin operations • Early 1960s – Formal VC funds emerge • 1969 – Citicorp Venture Capital and its progeny • 1980s – Later stage investment for other regions • 1980s – Buyouts, refinancings, bridge financings • Mid 1990s – Silicon Alley Source: Prof. Martin Kenney, Work in Progress, 2000
San Francisco Bay AreaVenture Capital • 1958 SBIC Act prompts them to incorporate to leverage Federal funds • 1960s – Limited partnership form mergers to gather larger amounts of capital. • 1970s – Larger deals still dependent on East Coast for funds • 1970s – Technology industry veterans join the VC industry • 1980s – SV begins to achieve financial independence due to pension fund monies • 1980s – Deal making accelerates and all prominent VCs must have office in Silicon Valley • East Coast VCs establish branch offices • San Francisco-based VCs move to Menlo Park Source: Prof. Martin Kenney, Work in Progress, 2000
Amazon’s Improving Margins Sources: Company 10Q filings
Amazon: Pro Forma earnings vs. GAAP Losses • Amazon’s “pro forma operating profitability” number is computed by ignoring lots of expenses • Profit numbers exclude stock-based compensation, restructuring expenses, and investment losses • Staggering $2.2 Billion in Debt • Today, shares are down over 70% from the peak Sources: Public filings
Has Amazon Turned the Corner?(Q/Q growth and Inventory Turns) Source: Company Reports
Has Amazon Turned the Corner?(Sales Efficiency of Capital Spending) Source: Company Reports