obliged and offered new guidance that provided trustees with the flexibility they needed to invest in venture funds . Commitments to venture capital skyrocketed in the subsequent years , giving high-tech entrepreneurs the capital they needed to fund the personal computing revolution of the 1980s ( See Figure 2 ).
FIGURE 2 : New Commitments to VC Firms ( 1972 – 1980 )
The Dot-Com Bubble
“ What risk ? If the company doesn ’ t work out , we ’ ll sell it for $ 150 million . If the company kind of works out , we ’ ll sell it for $ 500 million , and if it really works out , it ’ ll be worth $ 2 billion and $ 10 billion . Tell me how that ’ s risk .”
— Geoffrey Yang , co-founder of Redpoint Ventures
Venture capital firms generated breathtaking returns in the 1980s , as valuations soared in companies such as Apple Computer , Microsoft Corporation , Oracle and Genentech . Premier firms , such as Kleiner Perkins , the Mayfield Fund and Sequoia Capital , rewarded limited partners with massive Internal Rates of Return ( IRRs ). Attracted by the windfalls , institutional investors increased commitments steadily in the early 1990s . But enthusiasm soon transformed into mania after the IPO of Netscape Communications on August 9 , 1995 . The company was merely a business plan in early 1994 , but it was suddenly valued at nearly $ 3 billion after the IPO .
In 1994 , new commitments to US venture capital funds totaled $ 7.6 billion . In 2000 , they exploded to $ 101 billion . The internet era also attracted many new entrants . In 1994 , the United States had 136 venture capital firms . In 2000 , there were 632 . But the dot-com bubble eventually ran its course , as all bubbles do . In 1999 , the Federal Reserve began tightening monetary policy , as rampant speculation had reduced unemployment to levels at which inflationary pressures became concerning . Over the next year , the tech bubble collapsed . Figure 3 shows the rise and fall of the tech-heavy NASDAQ Composite Index .
The collapse of the dot-com bubble damaged the reputation of many leading venture capital firms . Nevertheless , capital commitments from institutional investors quickly returned due to an unexpected tailwind that emerged from the exceptional performance of the Yale University Endowment .
Sources : Venture Capital Yearbook , 1988 ; Poterba , James M . “ Venture Capital and Capital Gains .” Tax Policy and the Economy ; Volume 3 ( 1989 ).
The Magnetism of Venture Investing
“ Money wasn ’ t hard to get , even for a company with a notably vague business plan ; getting a top consigliere and a bona fide CEO magnet made [ Kleiner Perkins Caulfield Byers ] dollars worth more than other dollars .”
— Jim Clark , co-founder of Netscape Communications
In the 19th century , whaling agents with strong track records were much more likely to repeat their success — an investment phenomenon referred to as persistence . Some of the persistence was attributable to their unique skills at selecting the most promising voyages , but the more important factor was the ability of the best agents to attract the best captains . This is because captains knew that the mere association with a top agent was valuable in and of itself . It signaled competence , which captains used to attract the best crews . It also provided captains with access to proprietary knowledge regarding the most effective whaling tactics and hunting grounds .
Premier venture firms experience a similar phenomenon today , and it is why top-tier firms are much more likely to generate attractive returns than second- or third-tier firms . The quote from Jim Clark reveals this principle . Clark accepted a $ 5 million investment from Kleiner Perkins in 1994 . Only a handful of top-tier firms were even considered . Ultimately , it was the magnetism of John Doerr that attracted Clark to Kleiner Perkins . Despite Clark ’ s general distaste for venture capitalists — which he often derisively referred to as velociraptors — he knew that Doerr could attract a top-notch CEO and provide invaluable managerial guidance as a board member . Lesser-known firms provided little more than capital .
When Kleiner Perkins invested in Netscape , there were nearly 400 venture capital firms in existence . Only three had a realistic shot at Netscape . Kleiner ’ s $ 5 million investment skyrocketed to $ 400 million in less than two years . Securing access to such investments is a rarity for the best venture capitalists , but it is a virtual impossibility for second- and third-tier firms .
18 FINANCIAL HISTORY | Fall 2023 | www . MoAF . org