Silicon Valley Venture Capitalist Confidence Index®

(Bloomberg ticker symbol: SVVCCI)

Third Quarter – 2010

(Release date: October 28, 2010)

Mark V. Cannice, Ph.D.

University of San Francisco

The quarterly Silicon Valley Venture Capitalist Confidence Index® (Bloomberg ticker symbol: SVVCCI)
is based on an on-going survey of San Francisco Bay Area/Silicon Valley venture capitalists. The Index
measures and reports the opinions of professional venture capitalists in their estimation of the high-
growth venture entrepreneurial environment in the San Francisco Bay Area over the next 6 - 18 months.1
The Silicon Valley Venture Capitalist Confidence Index® for the third quarter of 2010, based on a
September 2010 survey of 37 San Francisco Bay Area venture capitalists, registered 3.70 on a 5 point
scale (with 5 indicating high confidence and 1 indicating low confidence.) This quarter’s index jumped
from the previous quarter’s reading of 3.28 and resumes an upward trend in VC confidence since its low
point in Q4 2008. Please see Graph 1 for trend data.

1
Publishing a recurring confidence index of professional venture capital investors is intended to provide an on-going leading
indicator of the overall health of the high-growth new venture environment. Questions about this study or related issues should
be addressed to its author at Cannice@usfca.edu.

The Silicon Valley Venture Capitalist Confidence Index® is sponsored in part by:
Confidence among Silicon Valley venture capitalists in the future high-growth entrepreneurial
environment in the Bay Area moved sharply higher in the third quarter, springing back from an
abrupt drop in Q2. This upward shift in attitude from Q2 illustrates a key inflection point in confidence
and effectively resumes a modest upward trend in sentiment from the previous five quarters. Increasing
exit opportunities (primarily M&A) that are beginning to make a dent in the overhang of viable venture-
backed firms, along with emerging market and monetization opportunities built on venture-backed
technologies in cloud, social, and mobile computing, and the ever-present confidence in the Silicon
Valley entrepreneur set, helped support an overall increase in confidence among the majority of the
responding venture capitalists in the Q3 survey. Further, stabilizing macro-economic fundamentals and
strong corporate performance point to a healing venture business model in the coming quarters. Still,
concern remains over some sectors (e.g. healthcare) due to uncertainty in the regulatory environment.
And, an emerging risk reduction tendency with more money flowing to later stage firms may presage a re-
alignment of the venture model that could impact the flow of capital to innovative new seed stage firms in
the years to come. In the following, I provide many of the comments of the participating venture capitalist
respondents along with my analysis. Additionally, all of the Index respondents’ names and firms are listed
in Table 1 save those who wished to remain anonymous.

Increasing exit opportunities are improving the financial metrics of the venture business model and
enhancing confidence. Sandy Miller of Institutional Venture Partners indicated that “The pace of exit
activity for venture-backed companies is picking up. This helps everyone in the venture capital
ecosystem - entrepreneurs, VCs, and the limited partners in VC funds. There has been a modest pickup in
IPO activity but the real action is in M&A. The big tech companies have unprecedented levels of cash
that they are deploying now to acquire leaders in emerging technologies.” Savinay Berry of Granite
Ventures concurred, stating “As the IPO market gets better, competition for exits through M&A will
continue to increase, hence creating a better chance for successful returns for both investors and
entrepreneurs.” Likewise, a venture respondent who wished to remain anonymous also reported that the
“…M&A market is quite active and the IPO market is still open.” And Bob Ackerman of Allegis Capital
said “Entrepreneurs never got the memo on the Recession and are actively starting new companies while
a spate of M&A activity is supporting exits for founders and investors alike. M&A led exits are looking
like the new ‘normal’ for the foreseeable future.” In fact, while Thompson Reuters and the National
Venture Capital Association noted a modest decline in IPOs of venture-backed firms in Q3 from the
previous quarter2, they reported 104 acquisitions of venture-backed firms in the third quarter, putting
2010 on a record pace.3

New market sectors built on venture-backed technologies are emerging and are buoying confidence.
Venky Ganesan of Globespan Capital penned “Just like the weather in Palo Alto, the forecast for high
tech growth ventures is sunny with clear blue skies. There are three distinct secular growth trends driving
technology right now - mobile, cloud and social. These are fundamental paradigm shifts which will result
in very strong productivity increases and immense wealth creation. The naysayers are looking at the rear
view mirror instead of the windshield.” And Tim Chang of Norwest Venture Partners detailed “There are
many areas of innovation and opportunity associated with the rise of smartphone platforms, the use of
game mechanics to re-invigorate user experience, and monetization across various industries, and also the
shift towards cloud services creating new business models such as Network-as-a-Service, Device-as-a-
Service, and Apps-as-a-Service.”

2
This slowing of the venture-backed IPO market was forecast by the Q2 Silicon Valley Venture Capitalist Confidence Index, p.
4, July 28, 2010
3
Thomson Reuters and the National Venture Capital Association. October 1, 2010. “Venture-backed acquisitions continue at
record pace as IPO activity holds steady in Q3 2010.”

2
Building the case further, Fred Wang of Trinity Ventures pointed out that “We’re seeing an incredibly
rich set of entrepreneurs and start-ups pursuing new ideas and technologies. The establishment of social
networks, new models of e-commerce, and exploding consumption of rich media via the internet are
creating one of the richest sets of opportunities we’ve ever seen in Silicon Valley. On the business IT
side, you have adoption of software-as-a-service models, variations of consumer internet technologies,
open-source software, and new storage and compute architectures (e.g. cloud computing) also creating a
very robust set of start-up opportunities to pursue the enterprise end-customer.” And John Malloy of
BlueRun Ventures shared “We are sitting in the epicenter for innovation in converged data services and
the new developer centric mobile environment.” Finally, Tod Francis of Shasta Ventures attributed his
confidence to several factors, including “more consumers connected to the web and using tech products
and services, innovative teams, powerful business models, growth in mobile and cloud computing driving
new businesses and services…” Mr. Francis also projected that “less capital flowing into the VC space
will bring capital more into balance versus the previous overhang.”

Overall confidence in Silicon Valley’s innovative entrepreneurs remains strong. Brian Panoff of
Granite Ventures confirmed “We continue to see a strong supply of smart, aggressive entrepreneurs
focused on multiple large market areas (hosted software, energy efficiency, wireless data, etc.) where
technology can be fruitfully applied. Technology start-ups provide value and productivity gains, which
are always important, but especially in difficult economic environments.” And Jeb Miller of Jafco
Ventures added “Talented entrepreneurs are able to scale their businesses quickly and capital efficiently,
fueled by aggressive cash-rich, product-poor big corporates becoming increasingly acquisitive, and a
healthy secondary market.” Additionally, Bruce MacNaughton of Crosslink Capital shared that “We’re
seeing very high quality deal flow. Companies seem to have adjusted to new economic realities and are
finding innovative ways to serve customers as opposed to blindly iterating on previous business models.”
And Warren Weiss of Foundation Capital declared that “…Silicon Valley is still the heart of global
innovation and the best place in the world to build great companies.”

The macro economic climate and corporate fundamentals are improving and supporting confidence
as well. Igor Sill of Geneva Venture Partners offered that “It appears that the economy is finally
beginning to show signs of a solid recovery, spurring pent up IPO demand, the major liquidity realization
for venture investors, strong re-investment activity, and new fund formations, a very welcome change to
the venture landscape.” Dag Syrrist of Vision Capital observed “Corporate profits, margins and cash
balances are improving measurably across the broad IT sector, and as the US is likely to reduce direct
stimulus to drive growth, companies are forced to drive revenue by providing a product customers want,
and do so profitably. This is likely to generate better economic growth, and with it an increased appetite
for M&A, which always drives investment activity albeit more short term in nature.”

In all, a sea change in confidence to the upside appears to be taking place. Tom McKinley of
Cardinal Partners stated “I have seen an explosion in social media companies raising money at very high
prices. Several expansion staged fund have raised new funds very easily.” Bob Bozeman of Eastlake
Ventures sees “Improved confidence by funding organizations to fund where quality shows its face.” And
Graham Burnette of Red Planet Capital explained “We have seen over and over again how Silicon Valley
can change from boom to bust overnight, and from bust to boom overnight. I believe that we are shifting
from bust to boom right now. As the general economy pulls out of recession, one of the first areas in
which investments are made is technology - because that is how more work can be done with the smaller
sized workforce that companies have after cutting costs. Capital spending on technology helps start-ups
grow faster and also provides more cash for established companies to acquire rapidly growing venture-
backed companies.”

But some venture respondents still have concerns over the macro fundamentals. Shomit Ghose of
Onset Ventures noted “The macro-economy has clearly swung from a mood of cautious optimism at the

3
start of 2010 to something more akin to cautious pessimism. It will take some time yet for this to reverse
itself.” Kirk Westbrook of invencor reasoned “We continue to suffer the weekly whims of an indecisive
Goldilocks; are the BRIC economies too hot and will they need tightened policies; are the developed
world economies too cold and at risk of double dip recession, or is there a chaotic balance that results in a
just right mix as evidenced by recent opportunistic M&As? Growth is typically supported by an
underlying confidence, which has been waxing and waning for many months. This process, which has
also played a role in the liquidity challenge for VC fund raising, has had a dampening effect on growth
within the entrepreneurial environment. While it may not be as apocalyptic an environment as a year ago,
I do not foresee sustainable improvement in the condition until there are a couple consecutive quarters of
materially improving conditions throughout the broader financial markets.”

And other venture investors see some sector problems – particularly in health care. Joe Mandato of
De Novo Ventures observed that sentiment is still risk averse with “concern relating to long term
financing risk and regulator risk in the life sciences sector.” Meanwhile, Christian Cortis of ATV Capital
offered “Although no longer in freefall, funding for new start-ups remains very tight across all sectors and
geographies. In the healthcare sector, even as broader economic concerns start to recede, regulatory
challenges and acquirer consolidation remain headwinds that impede a stronger recovery.” Another VC
respondent elaborated “As a healthcare investor, the increasing challenges to building innovative medical
device and biotech companies, particularly delays and uncertainty in the FDA approval process and the
difficulty of obtaining reimbursement codes and coverage for new technologies, is lengthening times to
exit and increasing capital requirements significantly, both of which are hurting investor returns. Given
this situation, many limited partners are re-considering their commitment to healthcare venture capital. If
we cannot find ways to reduce capital requirements and shorten time to exit in healthcare, less capital will
be available to build innovative medical device and biotech companies, reducing company formation and
job creation.” Brian Panoff of Granite Ventures added “…I also remain concerned about a more
aggressive regulatory environment, but I am hopeful that the policy winds are starting to change in favor
of economic stimulation and growth.”

The venture business model itself is not yet fully mended. Chester Wang of Acorn Campus addressed
two diverging aspects of the venture model, sharing that the “Good news is there are more IPOs and
M&As happening. Bad news is it is harder to raise new capital from LPs for the whole PE/VC segment.”
And Bill Reichert of Garage Technology Ventures indicated “This is the first time since the meltdown
that I have reduced my rating. The broad base of the venture world, from start-up to IPO, is not bouncing
back as quickly as we all had hoped, and some sectors are seriously challenged. As a key exception, we
are seeing a disconcerting frothiness in the Web 2.0 world, with too much talent and money chasing too
few hot models. While there are going to be some spectacular successes, and they could outshine the
many failures, in the next year we might see the skies darken with the chickens coming home to roost.
The good news, however, is that lots of solid technology companies are doing surprisingly well, and have,
at a minimum, improved their resilience in a weak macroeconomic environment.” Another respondent
with modest confidence noted that only half of start-up ventures were making their numbers.

Summing up the on-going transition of the venture industry is Tom Rodgers of ATV Capital who
explained “The exit climate is warming, albeit slowly and selectively. Investment activity has stabilized
and there are some signs of it rising but there is a ceiling on how high it can go, given the reduction in
overall capital being invested in venture. Timeline expectations, investment filters, and deal terms have
adjusted to the new realities. Entrepreneurs and investors are looking for big ideas that withstand the
‘what if it takes extra time and money’ test, or capital efficient plays that have very clear liquidity paths.
Companies in between, which are most, are still struggling to get funded, as they should. Overall the
industry is going through a positive healing process.”

4
While confidence sprang back in Q3 from a steep if temporal decline in Q2, caution and risk
aversion appear to remain. For example, Dow Jones reported that “Capital raised by early-stage funds
fell 12% to $3.4 billion for 65 funds, while funding for later-stage funds, traditionally the smallest sector
for venture fund-raising, rose 71% as five funds raised $1.3 billion.”4 And some early stage venture
investments are looking more like later stage. For example, Bryant Tong of Nth Power observed that
“Cleantech early stage investing is providing the opportunity for A round ownership with C round risks.”
This shift toward later stage and lower risk venture investments may enhance the risk-adjusted returns of
some funds, but could slow the pace of seed-stage break-through innovations in the long run.

The continuing slow economic recovery and the slower pace of fund-raising point to a more competitive
process for most entrepreneurs that are seeking funding. But those seed stage enterprises that do reach the
bar for funding in the current environment may exceed expectations. For instance, Bob Pavey of
Morgenthaler Ventures offered that “The best investments are usually made when the blood runs in the
streets – only real question is how much longer will it run?” However, with new market opportunities
and revenue models emerging from technology developed by venture-backed firms (e.g. cloud, mobile,
social), the critical nature of the venture capital process to core innovation and broad based productivity
gains continues to be clearly demonstrated. The recent upward inflection in confidence among venture
investors portends a recovering venture business model (e.g. including an improving IPO market) in the
coming quarter. Whether this confidence and momentum will be sustained may be a function of clear and
supportive regulatory policies that allow the virtuous circle of insightful risk capital accelerating
innovation and economic creation to continue unencumbered.

Table 1

Participating Venture Capitalists in the 2010 3rd Quarter Confidence Index Survey

Participant Company
Bill Byun 7 Capital
Bill Reichert Garage Technology Ventures
Bob Bozeman Eastlake Ventures
Bob Pavey Morgenthaler Ventures
Brian Panoff Granite Ventures
Bruce MacNaughton Crosslink Capital
Bryant Tong Nth Power
Christian Cortis ATV Capital
Dag Syrrist Vision Capital
David Spreng Crescendo Ventures
Deepak Kamra Canaan Partners
Eric Buatois Sofinnova Ventures
Fred Wang Trinity Ventures
Graham Burnette Red Planet Capital
Igor Sill Geneva Venture Management
Jeb Miller Jafco Ventures
Joe Mandato De Novo Ventures
John Malloy BlueRun Ventures
Karan Mehandru Trinity Ventures

4
Dow Jones VentureSource LP Source, October 7, 2010.

5
 Kirk Westbrook invencor
Richard Yen Saban Capital Group
Robert Ackerman Allegis Capital
Sandy Miller Institutional Venture Partners
Savinay Berry Granite Ventures
Shomit Ghose Onset Ventures
Stephen Harrick Institutional Venture Partners
Steve Sullivan Skyline Ventures
T. Chester Wang Acorn Campus Ventures
Tim Chang Norwest Venture Partners
Tim Wilson Partech International
Tod Francis Shasta Ventures
Tom McKinley Cardinal Partners
Tom Rodgers ATV Capital
Venky Ganesan Globespan Capital Partners
Warren Weiss Foundation Capital
Anonymous Anonymous
Anonymous Anonymous

Mark V. Cannice, Ph.D. is a Professor of Entrepreneurship and Innovation with the University of San Francisco
School of Business and Professional Studies and the Founder of the USF Entrepreneurship Program (recognized
among the leading entrepreneurship programs in the U.S.) The author wishes to thank the participating venture
capitalists who generously provided their expert commentary. Thanks also to the attorneys of Greenberg Traurig for
their support of this research, as well as to Catherine Lydon and Jack Cannice for their copy-edit assistance. When
citing the index, please refer to it as: The Silicon Valley Venture Capitalist Confidence Index®, and include the
associated Quarter/Year, as well as the name and title of the author.

The Silicon Valley Venture Capitalist Confidence Index® is a registered trademark of Mark V. Cannice.
Copyright © 2004 – 2010: Mark V. Cannice, Ph.D. All rights reserved.