No VC Backed IPOs in Q2 2008

During my VC career, there has never been a quarter where no venture backed companies went public. According to the NVCA, the lobbying group of the venture capital industry, this situation has not occured as long as it has been around either. What a remarkable turn around from a decade ago. I don't think any VC would have predicated this situation then. Should we - VCs and entrepreneurs - care about this? What are the causes? I will take a stab at these two important questions.

First, VCs and entrepreneurs should very much care about the drought of venture backed IPOs. Think of the venture capital industry as a system. The input side of the system is capital. This capital comes from limited partners who expect superior returns as compensation for having their money tied up for 10 years (typical length of a venture capital fund). The output, of course, is investment returns. And generally speaking, no bigger returns exist for entrepreneurs, VCs and their limited partners than an IPO. With the IPO window closed, fresh capital - via returns - is not available to invest back into the venture industry. Over a prolonger period, this problem in the IPO market could lead to a reduction in available venture capital. Anyone who experienced the aftermath of the dot com/telecom bubble knows how bad that can be.

Now on to the second question, why has the IPO window closed? Like all complicated things in life, there are a host of reasons we find ourselves in this situation. The biggest contributors? The risk averse mentality on Wall Street brought about by the credit crisis and the unintended consequences of Sarbanes Oxley legislation.

Until the major capital market investors get more visibilty and comfort with the extent of the credit crisis on corporate balance sheets, I don't foresee a big appetite returning for VC backed IPOs. Will that be in 12 months, 18 months? Hard to say, but that is my guess at the approximate time frame. There will be venture backed IPOs in the interim to be sure, but those will be companies with particularly attractive near term prospects. Companies hoping to tap the public markets to pursue business opportunities with a longer term payoff are out of luck.

I believe we are now seeing the enormously negative consequences of Sarbanes Oxley play out in the IPO market. From my own portfolio company experiences, IPOs are looked upon with far more trepidation than they were previously. Aside from the added costs created by SarBox, there are fewer qualified CFOs willing to be involved in public companies. Experienced CFOs have become among the most difficult positions to fill in pre-IPO companies. I understand their reluctance. Prosecutorial overreaching has turned bad business decisions - recognized in hindsight - into criminal cases. I have never seen a piece of congressional legislation that was quickly signed into law work very well. That is certainly the case with SarBox. Congress - in its self interested desire to appeal to the populist anger over a few bad actors, signed into law a piece of legislation that has permanently stymied the IPO process.