Tuesday, February 18, 2014

HBR: "With Fewer New Firms, the High-Tech Sector is Losing its Dynamism"

From the Harvard Business Review:
Believe it or not, America’s high-tech sector has become less dynamic and less entrepreneurial in the last decade. That’s the key takeaway of a recent Kauffman Foundation report I co-authored.

Despite the fanfare this vital segment of the economy and its start-ups have received in recent years, the high-tech sector is experiencing a consolidation of activity away from young firms into more mature ones, and the pace of job creation has been on a persistent decline. While it’s true that high-tech companies have been well-represented among the fastest growing firms in the past few years, the high-tech sector–like the rest of the economy–is less dynamic overall.

What do I mean by “dynamic”? The study of business dynamism involves measuring the flows of firms and workers underlying the private economy. Businesses are constantly being formed, growing, shrinking, and closing. Labor markets reflect this churning: some jobs are created while others are destroyed, and some workers move into new roles as others seek to replace them. New and superior ideas replace existing and inferior ones, while more productive firms usurp less productive ones.

A particularly important component of this dynamic process is the entrepreneur, who starts a venture to create a new market or to replace incumbents in an existing one. Entrepreneurs also play an outsized role in new job creation. While older and larger firms account for the substantial majority of employment levels, new and growing young firms drive net new job creation overall.

The process of business and labor market churning is a messy one. But it’s also fundamental to modern economies. Research has firmly established that this process of “creative destruction” fuels productivity growth, making it indispensable to our sustained economic prosperity. In other words, a more dynamic economy is a key to higher growth.

But business dynamism is breaking down.

Forthcoming research from economists at the University of Maryland and the Census Bureau shows that business dynamism has been declining across a broad range of sectors during the last few decades–and the single biggest contributor is a declining rate of entrepreneurship. A host of indicators point to a workforce that has become more risk-averse, and therefore less likely to change jobs or start a new venture....MORE
On January 30 ReCode published:

Venture Capital: From Dead to a Trillion Dollars
You can still find articles talking about the death of venture capital, but it is becoming harder to write them without sounding silly. During the last 10 years, while venture capital was supposedly dying, the venture-backed companies that went public or got acquired in that decade achieved a combined valuation of $1.25 trillion as of Dec. 31, 2013. Even in the context of the overall U.S. economy, this is real money.

During the decade from January 2004 to December 2013 there were a total of 824 venture-capital-backed exits, valued at $100 million or above. Of this total, 145 are valued today (if public), or were valued upon acquisition, at $1 billion dollars or above. The total value of all exits was $1.23 trillion, and the value of just the top 145 was $1.01 trillion (all numbers as of Dec. 31, 2013). The 80 percent/20 percent rule holds strong.
exits_greater_than_100m-scalevp1
(All values in millions)
Of the 145 billion-dollar exits, 107, or 74 percent, were in information technology, 25 in health care, and 13 in all other categories from cleantech to retail. However, IT accounted for 86 percent of the value, as the average IT exit was larger. The Top 10 exits are shown in the table below, and this links to the complete list of 145.
(All values in millions.)
top_10_exits_2004_2013-scalevp1
(All values in millions.)
Within IT’s 107 billion-dollar exits, there were 29 companies focused on the consumer, primarily in the consumer Internet; 69 focused on selling to the enterprise; and nine semiconductor or component companies....MORE
But that's just comparing apples to alligators. As we pointed out a month prior to that piece (using the Psychic Investment Commentary app):

Sickness on Sand Hill Road: The Incredible Shrinking Venture Capital Industry
The whooping and hollering in Silicon Valley is because of IPO exits and 10-year returns rebounding to lead public markets by a little bit versus trailing by a lot (technical terms) 7.8% vs. 7.3% for the S&P (7.9% for the DJIA, ouch). Risk adjusted that is pathetic.

In 1999 VC fund 10 year returns peaked at 83.4%, no typo.

The success getting out says nothing about the quality of new investments.

Further, unless VC's start returning funds to limited partners expected future returns can only go down as the ability to get liquid results in too much money chasing too few deals.

On top of that corporate America looking for places to put its trillion or so to work will be getting more and more active in the game. Hell, even 7-Eleven has set up a venture arm.
From peHUB:

Many venture capitalists like to think the industry’s decade-long bloodletting is coming to an end. Don’t be too quick to agree....MORE