A Historical Perspective on the A Historical Perspective on the Development of the VC Industry in Development of the VC Industry in

Silicon Valley*Silicon Valley*

Martin KenneyMartin Kenney

UC DavisUC Davis

&&

Berkeley Roundtable on the Berkeley Roundtable on the International EconomyInternational Economy

* Prepared for a Triple Helix Conference* Prepared for a Triple Helix Conference

OutlineOutline

• Early historyEarly history• Formation of VC in Silicon ValleyFormation of VC in Silicon Valley• Early 1970s to mid 1980sEarly 1970s to mid 1980s• 1980s – VC is routinized in SV1980s – VC is routinized in SV• Internet Bubble and beyondInternet Bubble and beyond• Concluding thoughtsConcluding thoughts

Early HistoryEarly History• Already before WWII there was a long Already before WWII there was a long

history of were angel investors history of were angel investors particularly in electronics (Sturgeon particularly in electronics (Sturgeon 2000)2000)

• Venture capital began on East CoastVenture capital began on East Coast

• But would find its most conducive But would find its most conducive home in the Bay Areahome in the Bay Area

1957/1958 – Change!1957/1958 – Change!Macro DevelopmentsMacro Developments

• Sputnik (Space Race/Cold War accelerates)Sputnik (Space Race/Cold War accelerates)– Aerospace w/price no objectAerospace w/price no object

• Go-go 1960s stock markets for techGo-go 1960s stock markets for tech

TechnologyTechnology

• Transistor technology Transistor technology

• Mainframes, minis, etc.Mainframes, minis, etc.

• Modularity increasingModularity increasing

New firmsNew firms

• Fairchild (in Silicon Valley)Fairchild (in Silicon Valley)

• Digital Equipment (in Boston)Digital Equipment (in Boston)

VC Begins in SVVC Begins in SV

Roughly a decade after first VC Roughly a decade after first VC firms are formed in Boston and firms are formed in Boston and NYCNYC

• 1957 -- Arthur Rock of Hayden 1957 -- Arthur Rock of Hayden Stone in New York assists eight Stone in New York assists eight engineers in raising $3 million engineers in raising $3 million for a company to be called for a company to be called FairchildFairchild

• Angel investors -- Frank Angel investors -- Frank Chambers, Reid Dennis, William Chambers, Reid Dennis, William Bryan, William Edwards, etc. Bryan, William Edwards, etc. doing dealsdoing deals

• 1959 -- SBICs1959 -- SBICs

First VC Limited Partnership First VC Limited Partnership DG&A DG&A (1959-1964)(1959-1964)•Established in Palo AltoEstablished in Palo Alto

– Capital provided by Heller Capital provided by Heller (SF), Rockefeller (NY), Lazard (SF), Rockefeller (NY), Lazard Freres (NY), Gadran Corp (NJ)Freres (NY), Gadran Corp (NJ)

The 1958 Small Business The 1958 Small Business Investment Corporation ActInvestment Corporation Act • West Coast and particularly SF West Coast and particularly SF

Bay angel investors took Bay angel investors took advantage of Programadvantage of Program

• 1962 Formation of WASBIC1962 Formation of WASBIC– 1969 disbands to form WAVC as 1969 disbands to form WAVC as

the SBIC format becomes less the SBIC format becomes less workable for VC investing AND workable for VC investing AND non-SBIC VCs do not want to co-non-SBIC VCs do not want to co-invest with SBICs.invest with SBICs.

VC Succeeds as a Business ModelVC Succeeds as a Business Model

• Digital Equipment Corporation Digital Equipment Corporation ARD investment of $70,000 in ARD investment of $70,000 in 1958 worth $350 million in 19691958 worth $350 million in 1969

• Davis and Rock partnership in SV Davis and Rock partnership in SV raises $3 million in 1961 returns raises $3 million in 1961 returns to investors $90 million in 1969to investors $90 million in 1969

• 1969 Edgar Heizer raises $81 1969 Edgar Heizer raises $81 million from institutional million from institutional investorsinvestors

1970s – Growth, Crisis, 1970s – Growth, Crisis, Fabulous Returns, and Fabulous Returns, and InstitutionalizationInstitutionalization

VC in the 1970sVC in the 1970s• NASDAQ formedNASDAQ formed

– Key role of California startups particularly Intel (first Key role of California startups particularly Intel (first IPO)IPO)

– Optimized for small tech firmsOptimized for small tech firms

• Formation of NVCAFormation of NVCA• 1973-74 Stock market crash1973-74 Stock market crash

– Collapse of union pension funds Collapse of union pension funds – ERISAERISA

• 1978 NVCA lobbying loosens ERISA prudent 1978 NVCA lobbying loosens ERISA prudent man ruleman rule– Massive new capital in-flowsMassive new capital in-flows

The 1970s Technological The 1970s Technological Cornucopia MPUs, PCs, Datacomm, Cornucopia MPUs, PCs, Datacomm, Biotech, HDDBiotech, HDD• 1970s – MPU makes microcomputers possible1970s – MPU makes microcomputers possible

– PCs, work stations, game consoles PCs, work stations, game consoles • Late 1970s – PC/Workstation require ICs, magnetic Late 1970s – PC/Workstation require ICs, magnetic

storage, and softwarestorage, and software• Late 1970s – Data communications equipmentLate 1970s – Data communications equipment• Enormous financial successes in 1980s: Amgen, Enormous financial successes in 1980s: Amgen,

Apple, Cetus, Genentech, Rolm, Silicon Graphics, Apple, Cetus, Genentech, Rolm, Silicon Graphics, Sun, Tandem, 3Com, etc.Sun, Tandem, 3Com, etc.

Silicon Valley Becomes Center of Silicon Valley Becomes Center of Electronics World – SV VC BenefitsElectronics World – SV VC Benefits

Routinization in the Routinization in the 1980s1980s

• Local law firms specialize their VC Local law firms specialize their VC practicespractices

• Silicon Valley becomes the center of the Silicon Valley becomes the center of the U.S. VC industry (over 30 percent of total U.S. VC industry (over 30 percent of total U.S. investment)U.S. investment)– VCs move to Stanford area from SF and East VCs move to Stanford area from SF and East

CoastCoast

• Business plans increasingly professionalBusiness plans increasingly professional

• Entrepreneurs learn the venture processEntrepreneurs learn the venture process

1980s – VC Rountinized1980s – VC Rountinized

1981198119821982

The ultimate The ultimate validationvalidation

1982 Man 1982 Man of of

YearYear Notice it is a PCNotice it is a PC

The ultimate validation of VCThe ultimate validation of VC

RoutinizationRoutinization

• Congress recognizes VC as an Congress recognizes VC as an important part of U.S. innovation important part of U.S. innovation system 1983 Hearingssystem 1983 Hearings

Geography -- The Inexorable Draw of SVGeography -- The Inexorable Draw of SV

• Morgenthaler Associates – Morgenthaler Associates – ClevelandCleveland

• Norwest Capital – MinneapolisNorwest Capital – Minneapolis

• Accel – New JerseyAccel – New JerseyChen et al. (2008) summarize, “Even Chen et al. (2008) summarize, “Even

after controlling for experience, after controlling for experience, firms based in the San Francisco/San firms based in the San Francisco/San Jose CSA are 50% less likely to open Jose CSA are 50% less likely to open branch offices than are venture branch offices than are venture capital firms based in other locales. capital firms based in other locales.

Silicon Valley VC Goes GlobalSilicon Valley VC Goes Global

• Mid 1980s –Bay Area firms invest in East Mid 1980s –Bay Area firms invest in East Asia or Asians in Silicon ValleyAsia or Asians in Silicon Valley

• Mid 1980s –Taiwanese VC firms eye Mid 1980s –Taiwanese VC firms eye Asians in SVAsians in SV

• Late 1990s -- Europe and espec. IsraelLate 1990s -- Europe and espec. Israel

• Internet Boom – invest in China Internet Boom – invest in China

• 2001 -- India2001 -- India

Venture Capital Disbursements by Venture Capital Disbursements by Region, 1980 - 2010Region, 1980 - 2010

Source: VentureExpert 2011

The Biggest Wave of Them AllThe Biggest Wave of Them All

Returns to Selected VC Limited PartnersReturns to Selected VC Limited Partners

Partnership Date Distributions (%)

IRR (%) per annum

KPCB IV 1986 174 11.4 Mayfield VI 1987 335 26.7 Battery II 1988 419 37 Menlo IV 1988 498 42.5 KPCB VI 1992 300 42.9 Sequoia VI 1992 1231 110.8 Benchmark I 1995 4082 233.8 Accel V 1996 1724 195.8 KPCB VIII 1996 1251 350.4

Source: Adapted from Steve Lissom

In 2001- 2006 – the most difficult time since 1974-79. Many VC firms that raised money in 1999 and 2000 are winding down

In 2010 – Twitter, Zygna, Facebook, Linked In, and Groupon save the day!

Concluding RemarksConcluding Remarks

• To have Stanford, Berkeley and UCSF To have Stanford, Berkeley and UCSF in the same region is an incredible in the same region is an incredible blessingblessing

• SV VC has taken advantage of waves SV VC has taken advantage of waves of technical change and particularly of technical change and particularly electronics/digitization electronics/digitization

• Is digitization slowing in creating new Is digitization slowing in creating new needs and opportunities?needs and opportunities?

Concluding RemarksConcluding Remarks

• Can something replace digitization?Can something replace digitization?• Green, Nano, Biotech ?Green, Nano, Biotech ?

• Will the billion dollar funds can Will the billion dollar funds can provide a VC-like return?provide a VC-like return?– Will Green Tech ever make any money Will Green Tech ever make any money

for VCsfor VCs

Concluding QuestionsConcluding Questions

• Will stock markets recover and be Will stock markets recover and be seen as reasonable place to seen as reasonable place to invest?invest?– Lack of regulation is not good it Lack of regulation is not good it

harms marketsharms markets

– Two huge drops in less than a Two huge drops in less than a decadedecade

BUTBUT for the last sixty years a new for the last sixty years a new technological wave has always technological wave has always come income in

Questions?Questions?