VC fundraising: Where angels flock

Blackbird Ventures' A$20 million $19 million) first close on its A$30 million maiden fund earlier this year marked a bright spot in a difficult period for Australia's VC community.

Appetite for the asset class among domestic institutional LPs has been weak ever since the global financial crisis. Many of those who active in 2006-2007 had over extended themselves, raising funds that were too large and as a result making bigger bets and taking on more risk. With a worried eye on their portfolios, LPs started asking tough questions about performance.

Recognizing that domestic institutions would be a difficult sell, newcomers like Blackbird sought out alternative sources of capital, essentially tapping into a larger pool of investors willing to write very small checks.

"For us it meant turning to tech founders and people who have made money selling their software companies in Australia," says Rick Baker, managing director of Sydney-based Blackbird. "We have been fortunate to pull together an excellent group of those kinds of investors from Australia and the US."

In total, 35 Australian tech founders and Silicon Valley venture capitalists invested in the vehicle, accounting for the lion's share of the first close. Among them were US angel investors such as Bill Tai and Dave McClure - who invested through his seed stage platform 500 Startups - and the entrepreneurs behind successful Australian technology firm such as Atlassian, Campaign Monitor and Aconex.

So is this start of a new trend? Like their private equity peers, venture capital firms across the region are operating in a challenging fundraising environment. Alternative sources of capital like angels could potentially deliver them from their troubles.

A flight to quality

According to AVCJ Research, Asia VC fundraising has slumped in 2013. So far around $3.6 billion has been committed to 105 vehicles, barely half of last year's total and a world away from the more than $18 billion raised by 204 funds in 2011. It's not just Australian LPs that have turned away from the asset class.

"Investors are generally more sensitive on performance ratios now than they have been in the past and they aren't very big on volatility," says Mounir Guen, CEO of placement agent MVision. "They like a very consistent, money-generating type of strategy, which means they lean towards growth capital, influential minority stakes or control."

LPs that have made commitments to venture capital have tended to focus their investments on a handful of large funds. In 2011, for example, 13 Asia-focused venture funds reached a final close of $300 million or more, with seven of these surpassing $500 million.

Much of this concentration was seen in China. Among the larger funds to close in 2011 were IDG-Accel China Growth Fund III, an early- and growth-stage vehicle that raised $750 million after just three months in the market; Qiming Venture Partners III, which hits its $450 million target within a few weeks of its launch; and Northern Light Venture Fund III, which took about two months to close above target at $404 million.

According to Juxin Foo, a partner with GGV Capital, much of this is down to the investment cycle. Many LPs had entered the China market in 2005, following on from the success of internet firms like Tencent and Baidu which had gone public around same time. By 2011, many of these LPs had seen enough to distinguish the outstanding performers from the intermediates.

"Where we are right now is a point of realization on fund performance so LPs are being selective as to whom they back," says Foo. "So you have a flight to quality."

This flight to quality is also visible in India. Last year Helion Venture Partners and Nexus Venture Partners both raised their third funds after no more than eight months in the market, receiving commitments of $255 million and $266 million, respectively. Kalaari Capital took longer to raise its second fund, the GP formerly known as IndoUS Venture Partners having undergone a rebranding, but still garnered $162 million.

To put this in context, only three other VC vehicles reached a final close in 2012. None of them finished above the $100 million mark and the one that came closest, SIDBI Venture Capital's India Opportunities Fund, is rupee-denominated. 

In this climate, fund managers have two options: scale back their ambitions - perhaps even postponing a fundraise - or look for other sources of capital. One approach has been to seek out investors closer to home. While institutional investors Australia and the US are said to be less bullish on venture capital, several industry participants say this is not necessarily so LPs elsewhere in Asia.

"I think the scene is changing in that you are seeing Asian LPs putting money into venture capital funds," says Kay-Mok Ku, a partner with Gobi Partners. "Asian LPs are closer to the market so they are more able to get a sense of the opportunity and have less of an issue trying to find the right GPs to back."

Some LPs in Asia have already started to re-evaluate their allocations to alternative assets, having traditionally focused on lower risk strategies. Among them are university endowments and a number of Japanese pension funds.

Evidence of significant change is largely anecdotal to date. Japanese VC firm Globis Capital Partners, reached a JPY8 billion ($81 million) first close on its fourth fund - which has a full target of JPY15 billion - in May with around 80% of its commitment coming from Asian investors. However, doubts are raised as to whether the trend is enough to turn the tide.

Modest ambitions

As a result, many are VCs are indeed scaling back their ambitions and looking to raise smaller funds - Globis, for example, closed its previous vehicle at JPY18 million. As it stands, only 10 funds targeting $100 million or more have reached a final close this year in Asia; a further 85 fall into the sub-$50 million category, which have collectively raised approximately $1.5 billion - around half of the total capital entering VC funds so far this year.

It is difficult to gauge how many of these funds are independently raised vehicles as opposed to being a corporate funds or government-backed entities. However, many of those that are, like Blackbird, have been able tap a growing community of entrepreneurs and angel investors.

As part of this trend, a number of so-called super angel funds are being set up in the region. Singapore-based Jungle Ventures earlier this year won $10 million in backing from a number of Asian entrepreneurs and tech executives, including Sony Entertainment Television co-founder Jayesh Parekh, Match.com founder Peng T. Ong, and Skype vice president Dan Neary, among others.

One benefit of this kind of arrangement is that it can be a way for angel investors to size up a particular market. "As an investor in a fund it is easier for a lot of people to have an indexed bet on the overall sector and selectively look at investments to be involved with," says 500 Startups' McClure.

However, this opportunity is not limited to super angels, with other VC funds also coming on board as investors. For both groups, one of the goals is to leverage these relationships to generate further deal flow.

Kae Capital, an India-based seed-to-early-stage fund, was nearly two times oversubscribed when it reached a final close at $25 million in March of last year. Investors include a number of family offices and entrepreneurs such as InMobi founder and CEO Naveen Tewari. Sequoia Capital and SAIF Partners, both of which have raised large funds in the region over the last few years, were also among the backers.

"There is an advantage of being insider versus an outsider, especially when you are dealing with companies that have found some traction," says Anand Prasanna, a director with Morgan Creek Capital Management in Shanghai. "If you commit to a fund you can make a condition - either informally or formally - that you will have first refusal, which makes it an interesting proposal."

However, Prasanna warns that if such relationships are not properly managed they could turn out to be a doubled-edged sword. If one VC firm backs a fund on the premise of generating deal flow when portfolio companies reach a certain size, but then ends up not making any commitments, other investors will start asking why not and the portfolio companies could become stigmatized.

Despite this caveat, there is huge capacity for growth in Asia's seed capital space and super angels and larger VC firms can do much to facilitate its development. Funds that perform well with support from the likes of Sequoia and SAIF may ultimately find themselves operating larger vehicles in the same tier as their one-time investors.

"It will take time for them to establish brand reputations in the same way more traditional funds have established theirs, but you are seeing more thoughtful innovation and a different approach with regards to investing," say 500 Startups' McClure.

SIDEBAR: Tapping the herd - Equity crowd funding

Until recently, crowd funding has predominantly been a way for individuals to contribute small, philanthropic amounts of capital to the projects they like, hoping to turn a dream into reality. Platforms such as Kickstarter have been serving this purpose since 2008.

Now the concept is set to enter the early stage investment space with the emergence of equity crowd funding, which is essentially the same concept, but with a financial upside. Could it be a new source of funding for venture capital?

This concept has been pushed to the fore by the US Jumpstart Our Business Startups (JOBS) Act, a piece of legislation intended to encourage the funding of small business in the US by easing various securities regulations. Among the provisions of the Act is Title III, which creates an exemption under the securities law allowing equity stakes to be sold through a crowd funding structure.

The Securities and Exchange Commission (SEC) voted unanimously to approve the bill last month, issuing proposed set of rules. A company can raise a maximum of $1 million through crowd funding offerings in a 12-month period. Investors, meanwhile, are permitted to invest up to $2,000 or 5% percent of their annual income or net worth, whichever is greater. If their net worth or annual income exceeds $100,000 they can in invest up to 10% with a cap of $10,000 in a 12-month period.

"I think there are many new types of investors coming into the market and crowd funding is a piece of that," says Dave McClure, founder of Silicon Valley seed-stage investor 500 Startups. "It is still early so I don't know if it has created a huge amount of alternative capital, but we will see that grow."

The emergence of equity crowd funding has understandably been concentrated to the US, but the idea has started to make headway in Asia. SeedAsia, a Hong Kong-headquartered web-based platform, offers small-cap angel investors the chance to back a pre-screened group of Chinese and Southeast Asian technology start-ups that have already gained traction.

"It is already difficult for start-ups to find angels as they often target every market in Asia. They work across several jurisdictions at the same time, which makes it difficult for them to approach angels," says Yelena Sedykh, co-founder of Seed Asia. "Our platform allows investors to look for start-ups in different areas. We saw demand from both sides and came up with this platform."

However, the platform is not quite as broad as that which proposed under the JOBS Act. Each investment must be at least $5,000, with aggregate investment into a single start-up of $100,000. As such, it remains to be seen whether equity crowd funding platform in their purest form can make an impact on early-stage investment in Asia.

"It is an interesting idea," says Anand Prasanna, a director with Morgan Creek Capital Management in Shanghai. "I haven't seen many people move on it here but I would be surprised if more people didn't."

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• Topics
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