Andrew “Zach” ZacharakisThe John H. Muller, Jr. Chair in EntrepreneurshipArthur M. Blank Center for EntrepreneurshipBabson College, USA
Informal Investors, Angels and Venture Capitalists: A Worldwide View
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Equity Funding Food ChainEquity Funding Food Chain
VCs
Shepherd, D.A., & Zacharakis, A.L. (2001)
Trust
Control
Friends & FamilyAngels
Self
Co-founders
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GLAMOROUS
AMBITIOUSECONOMIC
CORE
CONSTRAINEDIn
nova
tion
GrowthHighLow
High
Low
Classification of CompaniesClassification of Companies
SuperStars
Classic venture capital
$37.3 B.in 11,006companies
$600 Billion in33 MillionCompanies
Informal Investments
Kirchhoff’s innovation-growth classification
Informal investment funded99.963% of all companies& provided 91.00% of the totalamount of funding.
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Why not Venture Capital Why not Venture Capital ItIt’’s not Seed/Startup Capitals not Seed/Startup Capital
0
1000
2000
3000
4000
5000
6000
7000
8000
9000
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
Year
# o
f D
eals
0
20,000
40,000
60,000
80,000
100,000
120,000
(000
) U
SD
Total # of Deals # of Seed/Startup Deals Total Investment Seed/Startup Investment
Source: VentureXpert
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SelfSelf--Funding Funding by U.S. Entrepreneursby U.S. Entrepreneurs
•Entrepreneurs themselves provide 67.9% of the capital for their new ventures.
•Total capital needed to start a new venture is $62,594.
•Entrepreneurs provide $42,501.
•External informal investors provide $20,093.
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Percent Sources of Funding TotalClose Family 48.9%Other Relative 8.4%Work Colleague 7.7%Friend or Neighbor 26.4%Stranger 5.8%Other 2.7%Total 100.0%
Relationship of Informal Investorto Entrepreneur
(All GEM Nations)Percent of Sources of Funding EntrepreneursClose Family 32.9%Other Relative 14.5%Work Colleague 14.7%Friend or Neighbor 15.3%Stranger 7.3%Bank or Other Financial Institutions 42.2%Government Programs 19.7%Other 12.3%Total is more than 100% as entrepreneurs cited multiple sources.
Entrepreneur's Expected Sources of Financing(All GEM Nations)
Expected versus Actual Sources of CapitalExpected versus Actual Sources of Capital
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Informal Investor Prevalence RateInformal Investor Prevalence Rate
Chi
leSw
itzer
land
New
Zea
lan d
USA
Nor
way
S. K
orea
Chi
naT
haila
nd
Mex
ico
Icel
and
Japa
nB
razi
lC
roat
ia
Pola
ndB
elgi
umIs
rael
Fran
ceIt
aly
UK
Net
herl
ands
Aus
tral
iaA
rgen
tina
Rus
sia
Hun
gary
Slov
enia
Indi
a
Spai
nFi
nlan
dSw
eden
Irel
and
Can
ada
Hon
g K
ong
Tai
wan
Den
mar
kS.
Afr
ica
Sing
apor
eG
erm
any0
1
2
3
4
5
6
7
82002 2001
Prev
a len
c e R
ate ,
Pe r
cen t
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Thai
land
Braz
ilFi
nlan
dIsr
ael
Russi
aAr
gent
ina
Belg
ium
Hun
gary
Norw
ayIr
eland
Mex
icoCa
nada
Denm
ark
Swed
en UKAu
stral
iaH
ong
Kon
gUS
AG
erm
any
Neth
erla
nds
Indi
aSw
itzer
land
S. A
frica
Icela
ndSi
ngap
ore
Spai
nNe
w Ze
alan
dCh
ileCh
ina
Taiw
anS.
Kor
ea0
1
2
3
4
5
6
7
Informal investment as percent of GDPInformal investment as percent of GDP
Classic venture capital comprises investments in seed, early, startup, and expansion stage companies.
GD
P
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Startup Amount Startup Amount vsvs Annual Amount per Informal Annual Amount per Informal InvestorInvestor
y = 34.969x0.8139
R2 = 0.7764
0
50,000
100,000
150,000
200,000
250,000
- 10,000 20,000 30,000 40,000 50,000
Annual Amount per Informal Investor ($)
Amou
nt to
Start a
Busin
ess ($
)
Philippines
Netherlands
Iceland
USA
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Amount of Startup Money vs GDP
y = 0.0225x1.47
R2 = 0.74
0
20,000
40,000
60,000
80,000
100,000
120,000
140,000
160,000
180,000
200,000
0 10,000 20,000 30,000 40,000 50,000 60,000
GDP per capita ($ PPP)
Star
tup
amou
nt ($
)
AE
INID
JM
PH
PE CO
CN TH
BR
UY
RU MYMX
CL ARZA
HU
HRLV
CZ
SL SG
GR
IT
SE
FI
ES
FRUK DE
NL
BE
AU
CA
DK IE
NO
USATR
IS
JP
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Annual Amount per Informal Investor vs GDP
y = 0.0012x1.57
R2 = 0.71
-
5,000
10,000
15,000
20,000
25,000
30,000
35,000
40,000
45,000
50,000
0 10,000 20,000 30,000 40,000 50,000 60,000
GDP per Capita (PPP $)
Annu
al Am
ount
per
Info
rmal
Inve
stor
($
)
IN JM PH PE BR MX RU
ID
GR
CN TRCO
LVUY
TH
SLCZ
HR
HUARZA
MYFI
BE
AE
IS
DKIE
NL
SG DE
NO
USCA
ITES
UKSE AU
JPFR
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Expected IRR for Entrepreneurs &Informal Investors
0%
10%
20%
30%
40%
50%
60%
≤0% 0 - 10% 10 - 20% 20 - 40% 40 - 100% ≥100%
Expected IRR
Perc
ent o
f Ent
repr
eneu
rs &
Info
rmal
Inve
stor
sEntrepreneursInformal Investors
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Maximum ReturnMaximum Return
ExpectedExpectedAnnualAnnual HoldingHolding
StageStage ROR%ROR% PeriodPeriodSeed and StartSeed and Start--upup 5050--100+ 100+ ~10+years~10+years1st Stage1st Stage 4040--6060 55--10102nd Stage2nd Stage 3030--4040 44--77Expansion and BridgeExpansion and Bridge 2020--3030 33--55LBOsLBOs 3030--5050 33--55TurnaroundsTurnarounds 50+50+ 33--55
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Driving Forces Impacting VCDriving Forces Impacting VC• Worldwide Savings Glut*
– $11 trillion worldwide in 2005– Chinese savings increasing and spreading worldwide– Corporations not distributing excess cash– Housing bubbles in Spain, US and elsewhere
• VC Driving Forces– Larger Funds– More Funds– Move to International Markets– Follower/Herd Mentality
•Too Much Money; A global savings glut is good for growth -- but risks are mounting.Rich Miller, Jack Ewing, Stanley Reed, Laura Cohn, Frederik Balfour and David Henry.Business Week 3942 (July 11, 2005): p58.
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Key QuestionsKey Questions• How is worldwide glut impacting VC today and into the future?• Where is VC money going?
– Geographic– Stage– Industry
• Where should it go?• What pressures are building?
– Too much money chasing too few deals– Valuations heating back up
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Venture Capital AcrossVenture Capital AcrossThe WorldThe World
• $53.8B worldwide in 2006– $41B in US– $8.3B in Europe– $2.8B in Asia
Source: VentureXpert.
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Fundraising is Picking Back UpFundraising is Picking Back UpCommitments to Venture Capital FundsCommitments to Venture Capital Funds
Fund
s Ra
ised
($B
)
$22.2$18.7
$13.1$13.1
$50.2
$83.2
$57.6
$26.7
$17.1$12.7
$7.1
$0
$20
$40
$60
$80
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
Source: Dow Jones: Venture Source.
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Although Overhang is StabilizingAlthough Overhang is Stabilizing
0
20
40
60
80
100
120
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
Year
An
nu
al C
om
mitt
ed C
apita
l ($M
)
Reyes, J. (2004) Private Equity Performance 2004: The Coming Shakeout.
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Industry DynamicsIndustry Dynamics
1997 2003 2005No of Firms/Funds 515/885 1027/1954 1714/4157
Professionals 4,914 10,833 11,138
Total Cap Mgt $64.6 B$13m/professional
$251.4 B$23m/professional
$406.8B$36m/professional
Avg Firm Size $135.3 M $245.7 M $237M
Avg Fund Size $94.0 M $103.5 $98M
First time funds 61 38 27
Largest Fund $1,158. M $1,100 M $1,250M
Reyes, J. (2004) Private Equity Performance 2004: The Coming Shakeout.2005 data from VentureXpert.
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Later Stage Valuations SkyrocketLater Stage Valuations SkyrocketMedian Premoney Valuations by Round Class (All Industries)Median Premoney Valuations by Round Class (All Industries)
Med
ian
P rem
oney
Val
uati
on (
$M)
$40.7
$20.3
$13.6$11.7
$5.3$6.4
$1.6$2.3$2.9$3.2
$0
$10
$20
$30
$40
4Q02 1Q03 2Q03 3Q03 4Q03 1Q04 2Q04 3Q04 4Q04 1Q05 2Q05 3Q05 4Q05
Later Stage Second Round First Round Seed Round
Source: Dow Jones: Venture Source.
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Fund Type 1 Yr 3 Yr 5 Yr 10 Yr 20 YrSeed/Early Stage VC 8.3 3.1 -10.9 41.5 20.4Balanced VC 24.3 11.7 -3.5 18.9 14.6Later Stage VC 6.9 8.6 -4.1 11.3 13.5All Venture 15.6 7.5 -6.8 23.7 16.5NASDAQ 5.2 14.2 -2.2 7.7 12.4S&P 6.3 10.1 -1.1 7.3 11.0
Thompson FinancialsThompson Financials’’US Private Equity Performance IndexUS Private Equity Performance IndexInvestment Horizon through 12/31/05Investment Horizon through 12/31/05
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Returns By PercentileReturns By Percentile
-100-35.45-47.88-31.45-1000.00th percentile
-10.05-11.23-19.37-9.77-14.7510.00th percentile
-2.75-3.3-11.13-6.51-7.2820.00th percentile
-0.570-6.53-0.99-1.8130.00th percentile
1.492.56-1.41.730.7840.00th percentile
5.045.562.583.944.3650.00th percentile
9.529.177.258.468.6260.00th percentile
13.3913.4913.7110.6313.4370.00th percentile
18.4519.3622.5917.0819.6980.00th percentile
31.2832.251.6225.6438.9890.00th percentile
209.16195.22721.04257.82721.04100.00th percentile
LaterBalancedEarlySeedOverall Percentile Group
Sample size : 1164
Cumulative IRR as of 12/31/2005 Venture Capital
Source: VentureXpert
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IMPLICATIONSIMPLICATIONS
• Capital overhang is working through. • Size of VC firms continues to grow
– $ outpace partners– Later-stage (lower risk?) deals
• Remain focused on high-tech– Investing larger amounts at later rounds, tech has most potential to
achieve returns• Less co-investing/syndication
– Need to put more money into each deal– Lowers learning and network reach
• Valuations Heat Up– Hurts returns– Increases risk
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A MOVE TO NEW MARKETSA MOVE TO NEW MARKETS• 50% of US VCs expect to invest globally by 2010
– Following the entrepreneurs (many US trained)• China and India are hot markets
– 20% of US VCs plan to invest in China– 18% plan to invest in India
• Investing Strategy– Co-invest with local investors (42%)– Strategic alliances with local VC firms (39%) – Open new office with local talent (30%)– Transfer partners (10%)
VC Outlook 2010: A Brave, Global WorldMark Jensen and Mark Heesen. Venture Capital Journal. Wellesley Hills: Aug 1, 2005. pg. 1
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What Does it Mean?What Does it Mean?
• Search for better deals?– Breeder for Technology
• Energy• Water
– Developing Economies– Later, larger absorptive capacity deals
• Who fills in that larger, increasing gap?– Angels, FFFF, Bootstrapping
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For those wanting moreFor those wanting more……
Bygrave & Zacharakis (2004) The Portable MBA in Entrepreneurship
Timmons, Zacharakis & Spinelli (2004) Business Plans that Work.
Timmons, Spinelli & Zacharakis (2005) How to Raise Capital
Bygrave & Zacharakis (2007) Entrepreneurship