Exceptional, July - December 2014

Atlas Venture

How VC is turbocharging the IPO market

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The US IPO market is on the rebound, thanks in part to venture capital: 64% of US listings in Q2 2014 were VC- or PE-backed. Jeff Fagnan of Atlas Venture tells us why venture capital adds so much value to both the IPO market and the companies in which it invests.

Q: What is driving venture capital’s engagement in the US IPO market?

A: The most direct answer is simply for us to deliver returns to our investors. IPOs have been historically, and always will be, one of the most exciting and potentially lucrative means to company exits and, ultimately, return on investment.

A buoyant IPO market also raises M&A prices and activity. Two things are currently driving increased VC engagement in the US IPO market.

First, with the improving economy and flight from fixed income, Wall Street once again has an appetite for venture-backed growth IPOs.

Second, because of the economic conditions of the past few years, VCs realized the need to have companies in their portfolios that have performance and potential attributes that match the criteria that Wall Street is favorable toward.

Today, many VCs are in a good position with respect to the second point — in contrast to the dot-com boom — as today’s companies are less valued for what they “could be” and more valued for their proven performance, market potential and sustainability. IPOs no longer happen on momentum stories but rather because of solid performance and high growth.

The exciting thing for investors and entrepreneurs alike is the abundance of opportunities due to the heterogeneity of innovation today. So much of today’s innovation is a result of colliding disciplines.

Q: What do VCs expect when their investees go public?

A: An IPO is simply the start of the next stage of the journey. It is not the end destination.

We look to stay in our IPOs for a considerable period of time. When a company IPOs five years after its Series A funding, it doesn’t mean its best years are behind it — but rather is a signal that the company has an enormous runway to achieve its ultimate promise and the best is yet to come.

Q: What value do VCs bring to companies undertaking IPOs?

A: Most important in my mind is the pattern matching that comes from a string of recent successful IPOs. VCs also can help build out the board and audit committee, select bankers, help perfect the narrative and story presented to Wall Street and be forecasted as strong institutional shareholders.

“An IPO is simply the start of the next stage of the journey. It is not the end destination.” Jeff Fagnan, Atlas Venture

Q: Why do you think companies that are VC-backed typically outperform those that aren’t?

A: First and foremost, it’s important to note that all of the credit for this level of success should be given to the entrepreneurs and leadership teams of the company. VCs are just there to help when needed.

Often we have helped the pre-IPO company attract and retain a management team and establish stability. One of our key jobs as a VC and board member is to consistently meet with, review and help the company ensure it is doing everything possible to succeed.

This process results in a certain level of fiscal responsibility that helps to establish precedent and success once the VC-backed company goes public.

Q: How do you decide which exit strategy is right for a portfolio company?

A: We always build companies to stand alone as independent sustainable entities. We believe there are no shortcuts and you can’t build a company destined to sell.

The truth of the matter is that founders and management teams usually dictate the exit strategy for a company. As VCs, we have a diversified portfolio and usually have the motivation to “go long”; however, we can only go long if the team is so inclined.

Q: Why is the US market so active right now, especially compared with others?

A: After a prolonged recession that affected most markets and sectors, the US economy and stock market performance is far better than international markets at this time. One of the most fascinating and rewarding aspects of being a VC is taking advantage of the macroeconomic factors occurring around the globe.

When the public markets aren’t as favorable, it’s a great time for VC-backed companies to focus on the next phase of innovation and disruption. That way, once the markets open up again, this innovation is already in the market and the pent-up demand for new IPOs to invest in reaches a palpable level.

I believe we’re just starting to experience this now.

Q: Angel investors and crowdfunding have been fairly active in early stage investing. Is this set to continue?

A: Absolutely. The funding game has been forever changed thanks to both of these emerging sources of capital.

The days of investors in ivory towers and opaque decision-making is finally fading away. We embrace this change.

One example we’re proud of at Atlas is AngelList, where we’re founding investors and early supporters. We’re also placing greater emphasis on initiatives like Boston Syndicate, in which Atlas Venture has provided a select group of Boston angels with US$250,000 each to supplement their existing investments in companies of their choosing.

This ability for successful angels to have greater resources thanks to this new type of investing syndicate is something we’re bullish on and something we believe will have a tremendous impact on the entire start-up ecosystem.

The emergence of more angel investors and crowdfunding platforms is clearly great for the start-up ecosystems, as it means cash — the lifeblood — is more accessible.

Q: How has the role of VC changed, with other sources of funding available to entrepreneurs?

A: With the likes of AngelList and Kickstarter in essence democratizing access to capital, VC has become a contact sport, meaning we need to be out there connecting with and partnering with the entrepreneurs we invest in or want to invest in.

Thanks to the aforementioned new sources of capital, entrepreneurs now have more choices than they did previously. Transparency and true partnerships are now critical.

The result is a net positive for everyone, as today’s successful VCs and entrepreneurs are much better aligned. VCs now need to be an active part of the fabric of the community, supporting not only individual entrepreneurs and their companies, but the entire ecosystem.

Q: What is the one key piece of advice you give your portfolio companies?

A: Resilience is the most important attribute for any start-up.

All of our successful companies have had near-death moments. For example, Isilon Systems almost shut down in its early days, as it struggled to get product/market fit. The company later became a blockbuster IPO and sold to EMC for US$2.3b in 2010.

And we almost sold Bit9 for cents on the dollar in 2008 when the market collapsed and customers were scarce. Today, the company is the leader in next-generation endpoint security and well positioned for a 2015 IPO. It takes almost a pathological level of conviction to survive the start-up rollercoaster.

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