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PERFORMANCE SPECIAL:<br/>EUROPEAN VENTURE

European venture capital has had a bad press which, on the basis of its long-term performance, appears largely justified. Andy Thomson canvasses LPs for their current views of the space.

Mention European venture to limited partners today and the chances are you will no longer be greeted, as has been the case in recent years, with a long, despairing sigh and a rolling of the eyeballs skyward. Instead, you will more likely be greeted with a shorter, slightly less despairing but still audible sigh and a slightly furrowed brow. Beleaguered GPs in the space may – and probably will – celebrate that as a notable sign of progress.

European venture still remains bottom of most limited partners' priority lists when it comes to private equity. Secondary investor Coller Capital's barometers of limited partner opinion regularly show European venture as the least popular segment of global private equity. It's enough, you might surmise, to give your average European venture capitalist an inferiority complex.

And yet, if you look hard enough, there are signs that this segment of the market has begun to shake off the almighty hangover that accompanied the dotcom crash. “There are more repeat entrepreneurs now, many who have founded a company and have successfully sold it and are coming back for a second or third time,” says John Gripton, head of investment management Europe for private equity asset manager Capital Dynamics. Therefore, he concludes, “there is a greater depth of experienced management now available.”

There are also some European venture success stories providing a template for others to try and replicate. Notable among these is Skype, the internet telephony firm that raised around $24 million from investors including European VC Index Ventures prior to being acquired by Ebay for $2.6 billion in 2005. Cambridge Silicon Radio, a fabless semiconductor manufacturer, is another company frequently mentioned in despatches for its highly lucrative IPO that delivered a healthy payday to backers that included 3i and Amadeus Capital.

ONE-YEAR WONDER
There are also signs of recovery in the most recent performance figures available from the European Private Equity and Venture Capital Association (EVCA). These figures show European venture producing a net return of 17.2 percent over a one-year period (see table 2, p. 69). Not that one-year performance is something particularly beloved of limited partners. “Since 2002-03 most decent venture GPs have sorted out their portfolios to a degree, but things were in total disarray in 2001,” says Sam Robinson, a director and head of fund of funds products at SVG Capital, the London-based private equity advisory and fund management firm.

Robinson says he has “always been cautiously positive” about European venture. “In many cases, European GPs have restructured their teams [since the crash] and things look better on paper,” he says. “Also, there's been very little money going into the space and, in that sense, it looks like a good opportunity.”

Robinson adds that, in his opinion, “there will be quite a few exits over the next one or two years that will not be Skype equivalents but will deliver multiples of between five and ten times cash. They will give the market momentum.”

He also insists that the credit crunch is providing a “mildly favourable backdrop” for European venture firms on the fundraising trail. “Up to now, if a European venture fund looked ok, the investment community would think ‘why not do this buyout fund instead?’ Now, they may be more willing to take a chance.”

But despite these positive sentiments, Robinson is also a realist. There are, he says, two categories of European venture investors: those that have been around long enough to have got seriously burned by the crash, and those that haven't been around long enough and lack experience. “In the US, track records have been built over a long period and 2000 can be dismissed as a blip. In Europe, the blip is an enormous part of the track record,” he says.

TABLE 1: SINCE INCEPTION (FUNDS FORMED SINCE 1980) TOP QUARTER RETURNS AS OF 31 DEC 2006Statistics compiled by the European Private Equity and Venture Capital Association show that, over the 27-year period from 1980 to the end of last year, European venture had returned a pooled IRR of 5.5 percent net of management fees and carried interest compared with an equivalent figure of 10.8 percent for European private equity as a whole and 14.4 percent for European buyouts.

STAGE POOLED IRR UPPER QUARTILE TOP QUARTILE
IRR IRR
Early Stage -0.1 2.2 13.1
Development 8.4 8.9 18.7
Balanced 7.7 5.7 23.5
All Venture 5.5 5.7 17.4
Buyouts 14.4 16.7 31.0
Generalist 9.7 8.7 11.6
All Private Equity 10.8 10.4 23.3

TABLE 2: INVESTMENT HORIZON NET RETURNS AS OF 31 DEC 2006The short-term performance of European venture presents a rosier picture of European venture performance (quite possibly too rosy taking into account the usual caveats about treating private equity performance over anything less than a long-term time horizon with caution). The space registers a one-year net return of 17.2 percent compared with 29.6 percent for European buyouts and 36.1 percent for European private equity as a whole.

STAGE 1 YEAR 2 YEAR 3 YEAR 10 YEAR
Early Stage 5.7 2.3 -4.7 -1.1
Development 2.4 6.9 1.2 7.1
Balanced 35.3 6.6 -1.8 7.9
All Venture 17.2 5.0 -2.0 4.1
Buyouts 29.6 15.3 8.3 14.3
Generalist 98.6 15.8 5.9 10.0
All Private Equity 36.1 13.0 5.4 11.0