A new Fund is born! (Long live the "old" Fund)

A few weeks ago, OVP celebrated a successful first closing on OVP Venture Partners VII (OVP VII). We were oversubscribed against a PPM cover of $200M, closing initially on $207M (our largest fund ever) with more to come shortly. In a time when so many venture capital firms are shrinking, OVP continues to grow. So, this is the best and most public way we can thank our returning and new investors for their confidence. Thank you!

However, as gratifying as it is to put fund raising in the rear view mirror, what is exciting today is the realization that OVP VI is now portfolio complete. All those bets are made. We know what raw material we have to work with, and now have the joy and challenge of helping these young companies succeed.

A well-tuned pattern recognition engine is one of the key attributes of any venture capital firm, and investing GPs with collective grey hair (we qualify on both counts). This is true for picking companies to begin with, but then also being able to zoom out from the individual patterns and see a whole image emerge. With the closing of our last OVP VI deal, we stepped back to see not only the picture for us, but we hope some reflection of the industry as a whole for funds started after the bubble burst.

The leading indicators are just what we would hope to see:

• Pre-money values are low on OVP VI deals - about $6M – right at our target at the start of the fund – and lower than even OVP III (1994).
• The capital intensity is in line with our objectives, slightly larger than the early 1990’s, but much more efficient than the run up to the bubble.
• Our portfolio is balanced between semiconductors and electronic systems, communications and software, and digital biology.

Now, there is no way for us to know whether these trends are reflected in the industry at large. But if they are, it bodes well for the venture capital asset class. Low pre-money values, modest capital requirements, and balanced portfolios all tend to be fundamental building blocks of high sustainable returns. Real returns should start to appear in 2007 - 2009 as funds formed in 2001 - 2003 reach portfolio company maturation, with the resulting liquidity events.

After about seven years of lagging the returns of our colleagues in the buyout world, we might well be approaching the inverting of the curves, one that seems to occur every 10-12 years. For those brave souls who invested in venture capital at the bottom of the bubble’s aftermath, that would be sweet vindication.

There is an old saying, “Thunder is mighty, thunder is impressive, but lightning does the work.” So, while we all may thunder the success of our newly raised funds and look forward to building strong new portfolios, we work to create lightning in the “old” ones.

That’s the space to watch in the years just ahead.

A drop in the bucket

When we explore new trends, sometimes the answer is not what we expected. Sometimes, we discover our investing hypothesis targets a market that is five or more years away, or may never take off. But by staying focused on a few spaces, our research usually benefits at least one of our portfolio firms.

While completing due diligence on Complete Genomics, we realized that this would be OVP's third Digital Biology investment that utilizes microfluidics as a key part of their solution. But Complete Genomics, Homestead and NanoString all want to buy this functionality rather than build it. This led to our hypothesis that many other Digital Biology and Life Sciences firms might also want to outsource the manufacturing of chips that can measure, dispense, mix and move microliters or nanoliters of liquids.

Is the micro-fluidics space getting ready to become a large horizontal market, similar to the evolution of semiconductor technologies in the 1980s & 1990s?

After a dozen interviews with industry experts and diving into all the industry literature, our conclusions were:

• Sample preparation is the #1 Achilles heel in Life Sciences, but most Pharmaceutical firms want to buy whole solutions, not sub-systems that they have to integrate
• Microfluidics is a high customization, low volume business for Life Sciences – very different than semiconductors
• Volume will only pick up when the price per chip drops to $1-$10, making the business model very tough for microfluidics vendors for the next 5-10 years

So, we didn't get the answers we would have liked, but we expanded our knowledge of Pharmaceutical and Biotechnology customers. Other benefits for our Digital Biology portfolio firms:

• They now have a short list of firms that might be able to meet their microfluidics requirements
• We extended and strengthened our Life Sciences rolodex, meeting experienced analysts, prospective distribution partners and potential outsourcing vendors
• And one impressive interviewee is interested in joining GenoLogics' Scientific Advisory Board

On to the next investing hypothesis!

"What do you do when the experts have no clue?"

This was the provocative question raised at a recent gathering of the OVP Technology Advisory Group (OTAG). After spending the morning with these key technology leaders (CTO’s, CIO’s and other luminaries of major enterprises) discussing more well-understood areas such as Open Source software and Network Security, we opened a new topic – Digital Media.

Our OTAG moderator, an industry expert who has lived inside a number of the leading players in the traditional media world, offered the quote above. It was his contention that if the current media barons were forced to swallow truth serum, they would admit that the rate of change in technology, user models and business models is faster than anyone inside the industry can absorb.

Who would have imagined that MySpace would become #1 in web traffic in just a few years? Who would have believed that YouTube would be challenging AOL for viewer-ship in even less time. Only a year ago, the TV networks were threatening Napster-like suits against anyone putting their material on the Internet. Now, some are offering their TV shows for sale a day after broadcast, while others are offering selected shows on the Net for free. One of our portfolio CEO’s (Orb Networks) remarked that in the end, the consumer gets what the consumer wants. And what they want is any content, on any device, anywhere, at any time, for free. Where will it lead? What does it mean?

Of course, there were folks in the room who begged to differ with the provocative quote. Some came from established media powerhouses who contend they do have a clue. Others were from firms representing those powerhouses’ worst nightmares - potential disintermediation, or even complete revamping of where value gets captured and conversely where value gets destroyed. They think they are the new experts, and are quite convinced they not only have clues, but have the puzzle solved.

The digital media world is in turmoil. You can be sure that warms the hearts of venture capitalists.

And yes, contrary to what you may have heard, we do have hearts.

A few years ago, OVP invested in Accelerator Corp., an organization created by the Institute for Systems Biology in Seattle to seed, and then later fully fund, promising new technologies. Viral Logic Systems Technology (VLST) of Seattle, WA is the first “graduate” of this exciting operation. The firm has developed a bioinformatics platform yielding a number of potential new approaches to addressing the virulence factors behind many auto-immune disorders and inflammatory disease.

OVP provided the seed funding for VLST along with all the other venture firms in the Accelerator (MPM, ARCH, Versant, Amgen). The full $55 million Series B financing is led by new investor TPG Ventures, with MPM, ARCH playing major roles along with OVP. Gerry Langeler has joined the VLST board for OVP, backed up by Chad Waite.