VC Firms Venture Into Buyout Space –

When the venture industry was booming in the 1990’s buyout firms hopped on the bandwagon. Perhaps the most memorable example of this was TH Lee’s Internet Fund, which has yet to exit most of its investments from the era, but did invest in companies like, and Unfortunately, many buyout firms that got in on the action did so a little too late and lost big. They all quickly went back to what they knew, buying and selling more mature companies.

Today, there are at least a half dozen examples of the opposite happening. Venture firms like Boston Venture, VentureNet Capital Group and Watermill Ventures, have all done buyout deals this year. Most recently, both Austin Ventures, a typically early stage investment firm, and Battery Ventures, a technology venture firm that typically invests in earlier stage companies, are trying their luck in the buyouts arena. And while Austin Ventures and Battery Ventures say that there is nothing unusual about them venturing into the buyout space, there certainly isn’t anything common about it either.

According to Thomson Venture Economics (publisher of Buyouts), Austin Ventures has done 35 buyouts throughout its lifetime, that’s a small number compared to 382 venture deals. Similarly, Battery Ventures has done 8 buyouts, compared to 323 venture deals.

Nevertheless, Neeraj Agrawal, a senior associate with Battery, said: “We have been looking at technology buyouts deals more and we have always been stage agnostic. If you look back to the early 90s we did more later stage deals, but then shifted more into early stage. We always look for the best risk return and we are returning to a more balanced investing strategy. The bottom line is Made2Manage is a good technology company and we know about technology.”

It does seem that Battery’s investment in Made2Manage is a good fit, despite it being a buyout deal. The Indianapolis-based company is an enterprise software provider for small and midsize manufacturers and distributors that have revenue of between $5 million and $250 million. Battery closed the $30 million deal using funds from Battery Ventures VI, L.P. Prior to the deal, Made2Manage had been public.

Agrawal was mum on the details of this transaction, other than to say that a large commercial bank provided the debt. He also said that Battery has several more buyout deals in the pipeline.

“We think there will be good technology in the buyout segment. In technology, there is a hot market and there is a more mature market. Broadly speaking, lots of the hot companies are starting to mature and there are opportunities for us,” Agrawal said, noting that regardless of how great the buyout sector may become Battery will stay more focused on earlier stage growth investments than buyouts.

The same is expected from Austin Ventures. Clark Jernigan, a principal with Austin, said his firm is not changing its focus, but a buyout made sense in regards to Staktek. Additionally, Austin’s LPs don’t mind. “Buyouts are within our charter and are LPs are aware we did it. Our strategy is to provide a return for LPs and we are not changing that,” he said. “But we will predominately remain early stage.”

A spokesperson from Battery also said that the firm’s LPs expect buyout investments from it and did not object to its Made2Manage deal.

Austin bought Staktek, a memory solutions provider for OEMs, for $127.5 million with $40 in senior debt provided by Comerica Bank and Guaranty Bank.

Austin didn’t seek out the buyout opportunity, it just fell on its lap. “Staktek is right in our backyard and we liked the management team. We weren’t sure what was going to happen with the deal or what kind of liquidity they were looking for, but this is the way it happened,” said Jernigan.

Austin doesn’t anticipate any big changes for Staktek and is hoping to continue growing the company and then look for an eventual exit via acquisition or IPO.

What does all this mean?

While two buyout deals done by venture firms does not constitute a trend, it could become more common because of all the attractive, more mature companies that have relatively low valuations right now. That is coupled with the fact that a huge number of companies got funded from 1999 through 2001, which has paved the way for all the late stage opportunities.

One venture investor said, “I have certainly heard of other venture investors shifting to later stage, but it’s all driven by the opportunities that are out there.”

Indeed, according to Thomson Venture Economics, the percentage of early-stage investments as part of the venture pie dropped roughly 20% between 2001 and 2002, while expansion- and later-stage buying increased by 20% over the same period.

Another venture investor added: “In general venture firms are recognizing that there is not a dramatic increase in valuation during early stages of a company, accordingly they are looking for investments in companies that have hit key milestones. There’s no point in getting involved in a company when the company is going to have a flat round, so many more are waiting until the companies get to a later stage.”

Despite the situation, buyout pros don’t seem too worried. Douglas Newhouse, a managing partner from Sterling Investment Partners, said that venture firms are definitely moving into the buyout space, but that it doesn’t bother him.

In fact, Sterling is currently working on a deal with an undisclosed venture firm. “We’re doing a deal with a VC fund now. The firm has spent 30% of its fund that was raised in 1999, six or seven of their deals are already wiped out. So now they are looking at buyouts,” he said.

Newhouse said he doesn’t think venture players will hurt traditional buyout firms. “It doesn’t bother us, but buyout deals are different than venture deals and the venture community comes from a different place in terms of deals. They are used to having one or two deals that are big hits and eight that aren’t. It doesn’t work that way with buyouts and they don’t have experience with the lending community.”

However, on the other hand, Newhouse said buyout deals are not rocket science and that VCs are capable of being successful in the space. “It’s just a mental switch, but they are bright guys and can do it. They raised a lot of money and they have to put it somewhere, so why not buyouts.”

Jay Jester, a senior vice president with Audax Group, also isn’t being too territorial. “It’s not necessarily something I’m losing a lot of sleep over. The last thing I want is more competition, but as long as these guys have a good head on their shoulders they are welcome to join the fray.”

Jester also agreed that the game is a little different. “It’s interesting because five or six years ago buyout guys were looking to be venture guys. The groups have always moved in similar circles and looked for money from the same bucket. Right now, there’s been a period of dislocation in the venture market. Some groups will make some subtle moves while others will make more drastic moves to find their place in the market, whether they’re paying back capital to investors or looking at buyouts,” he said. “It’s a very different mentality, though. You’re going from looking at potential market share to focusing on cash flows. But I think you’ll start to see the two worlds begin to merge. A lot of these guys are pretty smart and they will probably find success in whatever kind of investing they pursue.”

It seems that whether buyout folks agree with venture players coming into their space or not, they understand the overhang. As one buyout source said: “I would say there is a lot of overhang in the venture industry, and it won’t be able to absorb all that capital, so a VC has two options-return capital or shift gears and invest in bigger, later stage deals.”