Q4 2017 Quarterly VC Update: Michael Ronen on the State of Venture Capital Investing

In conjunction with our Q4 Venture Financing Report, I sat down with Michael Ronen from SoftBank Investment Advisers to get his take on the state of venture capital investing.

A few highlights from Michael:

On market fluctuations: Investing is a cyclical business, but we continue to feel good about our outlook because we generally take a long-term view, backing seasoned management teams and differentiated technologies with significant capital to weather transitory fluctuations.

On SoftBank’s position: The thrust of where we play the best, and where we are the best partner, is where we are going to become a patient, strategic shareholder and partner to management teams and earlier investors that are willing to take a long-term view with us.

On M&A: With tax reform and the repatriation of cash, M&A should continue to be robust. That’s also an opportunity for us as we look for strategic partners for our portfolio companies.

On cautious optimism for 2018: It doesn’t mean that we’re not cautious. We are highly selective in our investments, but, at this point, we are cautiously optimistic about 2018.

Michael, thank you for your time with today’s interview. I’ve been looking forward to it for quite some time.

I would love to start with your thoughts about the market for private financings, how it’s evolved over the last year and whether it’s consistent with the data that you’re seeing which basically shows, at least over the last three quarters, continued strengths, company-favorable terms and high valuations.

Firstly, thank you – I appreciate the opportunity to discuss these results with you and have lots of respect for what Cooley is doing in the market.

The short answer to your question is yes, we’re in a good market overall. Your data reflects the fact that we’re on the back of several years of strong public markets, low interest rates, generally favorable investor sentiment and, despite political macro risks that come and go, the tech investing landscape continues to be favorable. For the best companies out there that are in unique positions in the market, it is their financing to define. They call the terms, and they are in great shape to do that and for the right reasons – because they’ve put themselves in a position to be a leader.

It has been fascinating to me over the last several years to see how many new industries not classically thought of as tech industries, but with a sort of tech layer to them, have been insulated from larger global macroeconomics. I’d be foolish to think that this trend will last forever, but it’s pretty resilient overall, and it sounds like that’s what you’re saying.

It’s resilient, but you’re right that it won’t last forever. We will go through cycles. They’re part of investing life; they challenge investors and provide opportunities as well. Technology – as we obviously are a tech-focused fund – while affected in downturns, is also more resilient as long as you’re investing behind the right macro trends, and with the right management teams and companies that are in the place they should be. Generally, while cycles can always introduce unpleasant volatility, tech has less sensitivity to those types of macro risks – it has an enduring value.

Because of the size of your fund and the access you have to the most special outlier companies in various industries, is it safe to say there’s some insulation from all of that fluctuation? In terms of your ability to get deals done, to get access to great companies and to deploy capital – or do you see there’s risk that that changes either with significant sustained macroeconomic trends, or what could be perceived to be some amount of encroachment and competition from others?

We’re clearly a large fund, but we’re also part of a large global group. We are an affiliate of one of the largest technology groups out there and one that has been investing for 25-30 years. While this structure is new, SoftBank has been active in technology markets for a while, and Masa Son has accumulated an incredible track record of investing over the years. I think the combination of affiliation with our global technology group, plus our unique US/EMEA/Asia/Japan footprint combined with the size of our capital base, does differentiate our position. I don’t think it puts us in a place where we’re not going to be affected by macro trends. However, we’re in a place where the effects are somewhat different and more nuanced than if we were a pure early stage investing group.

Also, by virtue of the fact that we are a late-stage fund, the companies we invest in have reached a certain critical mass, either in innovation or scale or both, so the risk-return profile of our fund is different.

So, in many cases you’re investing in companies that are in the process of disrupting industries. And in that way, macro volatility might actually benefit many of those portfolio companies. It might be an impediment to getting some deals done, because of uncertainty around the parties getting to a meeting of the minds on price, for instance. But, it also seems like it is a significant opportunity for many of the companies you’d want in your portfolio.

Right. I think when we say macro, we ought to distinguish between large, macro technology trends as opposed to the macro geopolitical trends – such as the cost of capital or equity valuations in public markets. The latter macro trends are the ones I refer to as less critical to long-term investing in technology. We all remember what happened in Silicon Valley when markets blew up at the start of the century, and then again in the wake of the global recession a decade ago. Some of the best opportunities to invest in technology (think about Alibaba, Amazon and Facebook) presented themselves during these macro crises.

Let’s talk about competition. Can you speak to any significant trends you’re seeing in terms of either large venture funds trying to further scale up the size of their funds, or the range of non-traditional investors? Is there an impact on the competitiveness for deals?

I would differentiate between the two. The venture community is doing great, and as companies become bigger, even in early rounds, the opportunities are large and it would be natural for venture funds to continue to grow and raise additional funds. Obviously, if you believe this is cyclical, then you’d expect at some point for things to stabilize and another cycle to start again. So, for VC I don’t view that as anything but the continuation of an expansionary cycle.

On the other hand, when the big tech titans decide they want to acquire technology, as they have been able to do over the past several years – if the markets remain robust and the cost of capital is as attractive as it has been, then they’ll be able to. Now, with the tax reform and the repatriation of cash, M&A will be robust. That’s also an opportunity for us as large shareholders in our portfolio companies.

All this still leaves us situations that are unique and interesting, and where it’s too early for the entrepreneurs or investors to relinquish control. Here, there’s no strategic sale that is attractive, and there is a large capital need to drive the business forward. That’s where we play best, and that’s not changing any time soon.

It sounds like from a competitiveness perspective there seem to be barriers to entry in the strata in which you are typically doing your financing transactions? So much so, that there are probably many more parties that would like to be competitive with you than actually have the ability to be, right?

The competition is for great ideas and the right opportunities. The thrust of where we play the best, and where we are the best partner, is where we are going to become a large shareholder but not the controlling shareholder of companies. That, by definition, means that in most cases we are not going to be rubbing against any strategic technology buyers that want to integrate completely and create synergies for themselves and have full control. That’s not our core strategy. There will be exceptions where we take full control (think ARM for example), but they will be few and far between. The fact that the venture community continues to grow doesn’t change the fact that there’s still going to be multibillion-dollar opportunities that have been well-funded by venture capital, are not ready to go public, not ready to be sold to other companies and are ready for a growth equity round with us that will position them for the next step.

Something that the folks who consume our data always ask us about is, when we’re analyzing trends and the general pendulum swing of company-favorable and investor-favorable, how do you spot the blips from the actual trends? What’s your sense of any movement in one direction or the other in deal terms over the last one quarter and the last one year, in terms of company-friendly versus investor-friendly?

I’m in agreement with what your data shows. We’ve seen a relatively stable and robust environment where the best companies out there can continue to see terms that are attractive to current investors and to entrepreneurs in a market that is particularly active. There will be a point in time where things are more volatile, but in the stable and expansionary environment that we’re in, the best companies out there are the ones that grow the fastest and have the highest opportunity in front of them. They will get terms that are attractive, and that has been the case throughout the last year. In the biggest rounds, there will be volatility of valuation and terms, to some extent, but they will be idiosyncratic. They are case specific, and you can’t read too much into those. But in the core of the market, things have been robustly stable. Everyone’s good at looking backwards and then connecting the dots and then saying yep, at X point in time that changed. But we haven’t seen it yet.

Any sense of whether that trend changes in 2018? My own bias is that it seems likely to be stable if not maybe modestly more robust if anything because of tax policy changes and repatriation of cash, but it’s hard to call, obviously.

It’s hard to call, and we’re going to have elections, but the tax reform will be a positive to tech investing. Going back to those macro trends, the positive ones in technology are robust. There’s so much secular growth in some of the big things that are happening out there – cloud computing, AI, robotics – and they continue to provide incredible opportunities. It doesn’t mean that we’re not cautious. We are incredibly selective about the companies we invest in, but at this point, we are cautiously optimistic about 2018.

Do you have any thoughts about capital markets and their receptivity to technology companies, now and in the near future?

There’s always the underlying market, then the first and second derivative. The equity markets and asset prices have been robust. That is usually highly correlated with strong M&A markets, which has generally been the case, and tax reform, as we said, is another catalyst in the right direction. There’s a positive element in this trend because we are often on the other side of the M&A technology buyers who would look to buy companies after we’ve helped them grow. What we need to look out for is the overall markets, both equity and debt. They are essentially the leading indicator on that front. They will not and don’t need to go up forever; they just need to be relatively stable and predictable.

About Michael Ronen

Michael Ronen is a managing partner of SoftBank Investment Advisers (SBIA). Prior to joining SBIA, Michael spent nearly two decades at Goldman Sachs, most recently as a managing director and co-COO of the bank’s global TMT group.

About SoftBank Investment Advisers

SoftBank Investment Advisers is a global advisory group that manages and advises on technology sector investments on behalf of the SoftBank Vision Fund. The group focuses on growing businesses run by disruptive innovators that are seeking to be the foundational platforms of the information revolution. The SoftBank Vision Fund was launched to help accelerate these efforts, enabling long-term, large-scale investments to fund growth in the technology sector, investing up to $100 billion over the next five years. The team is comprised of passionate strategists, tech experts and portfolio specialists. The SoftBank Vision Fund is operated with the speed and agility of a startup, but with the thoughtfulness and patience of a long-term partner.