VCs Pay Up for Second(ary) Chance to Invest in Web Winners

Liz Gannes — Tue, 15 Feb 2011 22:14:46 +0000

Silicon Valley’s top venture capital firms pride themselves on finding future hits before anyone else. That’s how they get the best returns, have the most influence and build their brands.

But the current market tempts VCs to change the game plan by buying shares of late-stage Web companies wherever they can find them–from start-ups directly or from employees and previous investors.

VCs didn’t start the fire; folks like Yuri Milner from Digital Sky Technologies (Facebook, Zynga, Groupon) and private company marketplaces that help stave off IPOs, like SecondMarket and SharesPost, did.

But these new Web giants’ valuations just keep going up. Think Facebook’s valuation was bloated at $50 billion? After seeing huge demand at that price, a month later, the company is exploring selling employee shares at a $60 billion valuation.

Watching those numbers rise so quickly makes VCs lose their hang-ups about price and just want to get in on the hotness.

Kleiner Perkins is reportedly buying $38 million worth of Facebook shares from existing shareholders at a $52 billion valuation, according to VentureWire. Meanwhile, Andreessen Horowitz bought $80 million worth of Twitter shares on the secondary market, after not participating in the company’s recent $200 million funding round, led by Kleiner Perkins.

Both those firms, along with Battery Ventures and Greylock Partners, also invested in Groupon’s last huge round, after the daily deal site walked away from talks of a $6 billion buyout by Google.

It’s not just the big names doing such deals. Venture capitalists were the buyers in more than 40 percent of transactions on SecondMarket in the fourth quarter of 2011.

VC activity easily outpaced other buyers, which were individuals, hedge funds, mutual funds, secondary funds and asset managers.

According to SecondMarket Head of Public Affairs Mark Murphy, VCs representing the largest percentage of buyers is a recent trend that started in the third quarter of 2010.

This comes at a time when raising money for a VC firm is tougher than ever.

What are VCs buying on SecondMarket? Facebook accounts for the single largest portion of transactions, at 39 percent. After that are LinkedIn, Etsy, Chegg, Epocrates, Silver Spring Networks, CafePress and Reply, and some other companies that declined to be named.

SecondMarket does not share pricing or volume stats or trends, except to say it sold $157.8 million worth of stock in the fourth quarter, up from $75 million in the third quarter.

Some VCs are steering clear of secondary markets and late-stage deals. Redpoint’s Geoff Yang was willing to go on the record about it in a recent interview. “What do venture capitalists know about being a momentum hedge fund?” he said.

It’s not just proven hits big enough for the secondary markets that are attracting funding interest. Everyone is still eager to find the next Groupon or Zynga. The Q&A site Quora, led by former Facebook CTO Adam D’Angelo, raised $11 million at a valuation of $86 million last year before it had even launched to the public. After success with early adopters, the start-up is now fending off offers of much more money than that.

So there’s pressure to either get in very early, or get in late if you can, because the time in between is fleeting.

VCs are also actively trying to get more involved in seed funding deals. For instance, Google Ventures recently set up its Startup Lab to attract early-stage companies where it charges them $5 per month for office space (see our video tour). And just this morning, NetworkEffect covered how VCs are actually more active than angels on the early-stage investment matchmaking service AngelList.

Redpoint's Geoff Yang Prefers Early-Stage Risk to Late-Stage Valuations (Video)

Liz Gannes — Tue, 01 Feb 2011 13:32:35 +0000

“I’m willing to take a lot of risk,” said Redpoint Ventures founding partner Geoff Yang in a recent interview. In addition to trying to find consumer Internet platforms that appeal to broad-based markets, he said, “I’m looking for novel experiences.”

That’s in part how Yang explained recent bets on Formspring, which he described as a “more engaged” version of Twitter; Scribd, which he said is evolving into a digital publishing platform; and the gamer video producer Machinima.com, which has already become “much more mainstream than people think.” Yang is also an investor in Clicker, Bluefin Labs and Oodle.

Yang, who previously backed hits such as TiVo, Myspace, Ask.com and Excite, talked to NetworkEffect about what he’s looking for now. The three big categories are social media, gaming and the digital living room. Yang said he’d love to see a good social music start-up (he deeply regrets not investing in Pandora), as well as a set-top box that’s a viable “combination of broadcast and broadband.”

Here’s a video from our interview last week of Yang talking about potential investment prospects:

[ See post to watch video ]

Yang and I also spoke about the frothy funding environment, which he said is driving up the amount Redpoint pays to be involved in any one deal.

To some extent, venture capitalists have less control than ever over the early-stage consumer Internet start-up market. Companies are cheaper to build; accelerators, angels and online resources get entrepreneurs through the early days; late-stage investors pick off companies increasingly sooner; and secondary markets wreak havoc with traditional concepts of liquidity.

With Demand Media and LinkedIn filing to go public, it might seem like a return to a situation where VC expertise is valuable, but Yang said he doesn’t expect those two IPOs to have a significant effect on what he does. “The most exciting companies are still private,” he said.

Yang said that despite discussion internally, Redpoint has not invested in shares of private Internet companies traded on secondary markets, or participated in the recent massive late-stage deals for companies like Twitter and Groupon. Redpoint competitors like Kleiner Perkins, Greylock Partners and Andreessen Horowitz jumped into those rounds despite multibillion-dollar valuations.

VCs have actually become the largest single category of buyers on SecondMarket, accounting for about 40 percent of transactions in the fourth quarter, according to the marketplace’s recent stats.

Yang is skeptical. “What do venture capitalists know about being a momentum hedge fund?” he said.

Plus, despite his interest in the sector, Yang thinks social media ads will be worth only around $50 billion by 2020, which doesn’t seem like enough to support current valuations for companies like Facebook.

Yang did sound a bit wistful, saying Redpoint had at various points declined to invest in many of the consumer Internet start-ups that are today’s heavyweights. “We passed along the way because we thought valuations were out of reach,” he said, “and it turns out we weren’t right.”

AllThingsD » Geoff Yang

VCs Pay Up for Second(ary) Chance to Invest in Web Winners

Redpoint's Geoff Yang Prefers Early-Stage Risk to Late-Stage Valuations (Video)