From the Ash's

This article is recorded first-hand from the MIT Enterprise Forum global broadcast, Forecasting Markets: The Capital Update for 2006.  

Moderated by Bob Crowley  

Broadcast can be found at: http://enterpriseforum.mit.edu/network/broadcasts/200601/index.html.

Martin Hansel, CEO of Texterity.

Three types of forecasts: Market Forecasts, Entrepreneurial Forecasts, Investor Forecasts

Market Forecast: Always optimistic - vehicles for consultants to sell their services.

Entrepreneur Forecast: Always optimistic - chomping at the bit, "the time is now".  Usually ahead of the market - markets take longer to develop and mature than the entrepreneurs believe.

Investor Forecast:  Investors don't forecast, they scan.  They're always asking questions and sponging up information.  They're concerned about understanding macro trends in the market.

Startup companies almost never end up serving the market they had planned to serve.  However, 90% of being a small business owner is showing up and absorbing the information and ideas that are out there and along the way, winning small businesses will find a market.

Most investors are long-term and the relationship between entrepreneurs investors is very important.  The best investors make sure to reward the entrepreneurs even if they're not perfect (ie. miss a couple numbers but still build a successful company).

Claire Wadlington, Partner and CFO of FA Technology Ventures

One of the major things VC look at is how entrepreneurs view and present their market.

2005 VC-backed IPOs dipped significantly from 2004, 2005 Merger & Acquisition deals rose from 2004.

$25B in new funds raised in 2005, highest in last 5 years. 

Mezzanine and Revenue-stage funding increased in 2005 - almost a linear trend starting with 2002.

Continuing Trends:

• Open Source
• Web 2.0
• Recurring Revenue Business Models
• Wireless/The Third Screen
• Energy Technology (Again)
• Robots for Unstructured Environments
• Biology/Engineering Co-development (Biotech joined w/ High-tech - not a megatrend)

Advice to Entrepreneurs about Approaching VCs

Really strive to get a good, "warm" referral to the VC.  Also, research the VCs as much as possible and understand their portfolio and how your company fits into it.  Focus on presenting business plan and how the technology can be used to build a business plan.  Credibility is important - VCs invest in the management team.  Show a deep knowledge of your market and your competition.  Finally, find a champion at the firm who will promote you and your company within the firm.

Ned Hazen, Managing Director of Lighthouse Capital Partners

Discussing Venture Lending or Venture Debt market, a little known market for lending capital to VC-backed companies.  Use debt capital to leverage the equity capital raised from VC.

Venture debt lending approaches lending in the same way that VC approach equity funding.  Look into the way that the startup will use the debt to pay for hard assets, as well as a "cash runway".  Gives an entrepreneur extra time to pursue product development.  However, venture debt has an interest rate, and the debt will have to be paid back in the future.

Benefits

Debt is less delutive than VC funding - they do take a small "warrant" or option to participate in the upside potential of the company.  Provides a safety net for meeting valuation milestones in the case of slipping development schedules.

Material Adverse Change

Entrepreneur beware!  Can range from "we're not giving you anymore money" to "give it all back to us, now".  Important to strongly negotiate during contract negotiations, and critical to involve competent, professional counsel in those negotiations.

Also, be concerned about laws concern immediate repossession of funds by creditor if a case is made for the entrepreneur breaching the contract (can happen overnight or over a weekend).

T. L. Stebbins, Head of U.S. Investment for Canaccord/Adams

Canaccord/Adams is a Canadian-based investment for focusing on Small Cap investments.

Market last year was roughly flat and tremendously volatile.  Small Caps led the market last year.  U.S. markets underperformed every other market in the world.  Dollar-adjusted against other markets, graphs indicate an improving strength in the American dollar.

56 venture-backed IPOs, up from 31 in 2003, but still well below the 200+ in 2000.  Average IPO market cap >$200 million.  The market has moved away from Small Cap stocks and focuses on volume.  Sell margins have diminished, reducing the analytic coverage of Small and Micro Cap markets.  NASDAQ is not performing for companies with market cap under $400 million, and has now been superceded for Small Cap stocks by the London Stock Exchange.  Stebbins believes we will see a migration of Small and Micro Cap offerings to overseas markets.  The AiM market is now the place to be for Small and Micro Cap companies.  The average market cap on AiM is $66 million versus an average market cap of over $1 billion on the NASDAQ.  Significantly more equity traded in London than New York.

Domestic recovery will flatten in 2006, the dollar will remain weak, and international markets will remain anti-American.  Interest rates are going to continue to rise, real estate is likely to fall, and China and India will continue to grab more marketshare.  "A year of struggle for US capital markets with great volatility and risk."

Questions from the Audience

T.L. Stebbins: Most people are of the opinion that the real-estate market increases are staying.  However, he sees good potential for

Claire Wadlington:  Early-stage VC valuations are down in 2005 versus 2004.  M&A transactions and later stage valuations are getting pushed higher.  However, early-stage is not responding to the rising later stage valuations. 

Ned Hazen:  Some hedge funds and private equity funds no longer have the market opportunity for which the money was originally raised and part of the money from those funds have found their way into the venture capital industry, mostly in the later stages.

T.L. Stebbins:  America needs to put together a business model to provide services to Small Cap companies.  These issues are partly due to Sarbanes-Oxley and partly due to a lack of "soft-dollar research" being provided to Small and Micro Cap companies.

Have not yet seen the full impact of the strain on natural resources, both the energy sector and other raw materials (copper, silver, zinc, etc.), caused by increasing demand in the Far East.

Claire Wadlington:  Open source companies hard to value - most VCs still don't understand.

Ned Hazen:  Open source companies need to clearly understand their revenue model and distribution method in order to present a compelling investment.

Hole in market for angel-backed companies who want to raise debt in the <$10 million.