On March 10,
socaltech.com profiled a study of the financial outcomes of 700+ southern
California IT startups from 1995-2009 completed by Jon Funk of OceanRoad Partners and others. This Insights and Opinions
column by Jon is the first in an occasional series
delving deeper into the data. Corrections and contributions are welcome.
One of the numbers most interesting
to venture capital firms, their investors and other observers is how
successful Initial Public Offerings are for venture capital firms and
others which invest prior to an IPO.
In an effort to address this issue,
we have created a simple arithmetic calculation to determine a proxy
value for potential returns to private shareholders in companies that
complete an Initial Public Offering. This approach can be used to hypothesize
the scale of return available at the time liquidity is available. We
have applied this methodology to the 67 IPO's completed from 1995-2009
by southern California venture capital-backed and self-financed IT companies.
Initial Public Offerings are an event
that can lead to liquidity for private investors in emerging companies.
However, senior management and large private shareholders, which usually
include venture capital investors, are nearly always precluded from
selling a material portion of their holdings until six months after
the IPO is completed.
Shareholders with the opportunity to
sell six months after the offering are usually considering a substantially
different value of their holdings as compared to the first day of trading.
Further, in the following months, each investor makes individual sale
decisions based on its own objectives, guidelines and assessment of
the company's prospects. Thus, knowing how potentially successful a
given investment upon completion of an IPO is for its previously-private
shareholders is virtually impossible to determine.
Using publicly-available share trading
date, the market capitalizations of each of the 67 companies that completed
an IPO from 1995-2009 have been calculated as of the close of the first
day of trading, and also at the 180-day, 270-day and 360-day marks.
We averaged the capitalizations for the three latter points to provide
a proxy value for investors able to liquidate their holdings after the
assumed six-month lockup has expired.
From 1995-1998 (for the purposes of
this discussion, "pre-bubble"), 27 companies, or an average
of about seven companies a year, completed an IPO. In 1999 and 2000
("the bubble"), 25 companies, or about 12 per year in that
two year period, went public. From 2001-2009, as public technology values
collapsed, recovered and then collapsed again ("post-bubble"),
15 IPO's were completed, as the average fell to less than two per year
over the nine-year period.
Let's look a little more closely at
1995-1998, the first interval covered by our data.
1995-1998 is generally considered a
time in which venture capital industry was more or less in a state of
equilibrium. Investment capital was plentiful but not over-abundant.
The internet was beginning to appear as a brand-new technology platform.
Communications, networking, software and semiconductors were vibrant
categories. Until the second half of 1998, public markets were receptive
to IPO's, but not overeager.
On average, the market capitalization
of a company that completed its IPO in this period was $338 million
at the close of the first day of trading. Our proxy value for the 27
IPO's for this period gives us an average increase in market capitalization
of to $596 million, or 76%. Thus private investors had the opportunity
to cash out of their public companies at investment returns that improved
substantially in the public market.
It should be noted that data for this
period is skewed upward by data from the second half of 1998, as three
internet startups, Geocities, Broadcast.com and Ticketmaster Online-CitySearch,
completed their IPO's. The cumulative value of these three companies
as of the close of trading on the first day totaled $3.4 billion, and
our proxy calculations yields a combined value over the period 6-12
months later of $9.5 billion, or a near 3x additional total return.
Yahoo eventually bought Geocities and Broadcast.com (which then gave
Mark Cuban to the NBA, to its frequent regret).
Setting aside these supersized values,
the remaining 24 startups averaged IPO values of $240 million and proxy
values of $316 million, a more modest but still rewarding 32% increase.
Noteworthy other successes in this
group include Xylan (proxy value-$1.2 billion), Broadcom ($803 million),
Star Telecommunications ($729 million), Cymer Laser ($678 million),
Applied Micro Circuits ($577 million) and HNC Software ($473 million).
But with the debut of the three internet
offerings in late 1998, each at over $1 billion, the bubble was clearly
In future posts we will review the
interesting patterns created by the bubble (1999-2000) and its aftermath
(2001-2009) for the 40 southern California IT startups that went public
in those periods.
Jon Funk has been directing Series A investments in emerging information technology companies in Southern California for over 25 years. He has been a Managing Director with Allegis Capital since its founding in 1996. Jon's Allegis Capital investments include Sandpiper Networks, Rent.com and Shopzilla. He currently on the Boards of Staccato Communications and ClariPhy Communications. Jon wishes to thank Beth Fairchok for her diligent and accurate research supporting the data and calculations used in the article.