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Assessing Venture Capital Returns for Efficient Investing in Nanotechnology

With the advent of nanotechnology and the emergence of venture capital funds investing in early stage start-up nanotechnology companies, now is the time to take a closer look at the venture capital industry. It's time to ask some questions on how to evaluate venture funds that claim they can successfully invest in nanotechnology - and avoid the investment pitfalls of the dot.com and biotech era.

Better management oversight is what tips the scales in favor of a successful fund. A number of recent academic studies provide analyses of the returns to private equity that support this assertion.

The findings confirm some commonly held beliefs about return patterns, but also contradict the widely held assumption that the private equity asset class has been a source of abnormally high returns when compared with public equity. Private equity funds, both venture capital and buyout, generated returns that were roughly equal to the returns of public equity. This should be distressing to most investors in venture capital funds because this result indicates that the returns do not justify the risk and management fees.

More importantly the studies also conclude that good venture capital management is a key factor for success. Good venture capital management could include both management of investment companies themselves or management of portfolios. Good fund performance was partly attributable to management limiting the size of their portfolio allowing them to select only the best possible investments which is a very targeted approach at choosing a few good deals rather than a carpet bombing approach.

Funds started by new firms in boon years with the heaviest capital inflows subsequently performed the worst. Such inexperienced funds resulted in too much money chasing too few good deals. The increase of capital flowing into private equity during these flush markets does not go to the top performing funds, but rather to those bad-performing inexperienced new funds that were created to jump on the bandwagon.

Private equity firms have not yet achieved their potential and there is much room for improvement and that new approaches in venture capital investing should be considered more seriously. This is certainly an indication that investors should change their decision process on how they choose venture capital funds in which to invest.

If a traditional VC fund is considered successful based on a 1 in 10 hit rate using a carpet bombing approach to deal selection; then a targeted VC fund that provides a management team with comparable deal selection abilities in terms of investment and technology experts would be expected to do at least as well. If in addition, the new fund also offers credible management capability for each company invested, this can only increase the probability of success.

Hence the ability and skill of a VC to understand these results and management and market dynamics and to translate these into an investment strategy for his or her portfolio of companies, could potentially achieve significantly higher returns. Expectations to extend this investment management philosophy can only improve performance from European investments as well.

It is also important to note that these observations apply to all venture capital investment opportunities and not just nanotechnology.

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Pearl Chin, Assessing Venture Capital Returns for Efficient Investing in Nanotechnology, from 2 Nanotech. L&B 1 (2005) is reprinted with permission of Nanotechnology Law & Business. Copyright (c) 2005. All rights reserved.

Dr Pearl Chin, PhD, MBA, is founder and Managing General Partner of Seraphima Ventures. Dr Chin has extensive experience in strategy and marketing consulting, management consulting, operations, sales and marketing, and customer service, in diverse industries from small to large companies. She was Managing Director of the US offices and co-Managing Director of the London offices of Cientifica, a global nanotechnology consultancy providing business information, marketing analyses and business strategy consulting to Fortune 500 companies and investment firms. She is also CEO of Red Seraphim Consulting where she advises investment firms and startup firms on the business strategy of nanotechnology investments. For further information please see http://www.seraphimaventures.com