Sunday, November 20, 2011
The VC World's Best Kept Secret
Quick, name the largest venture capital firm in the world. If you didn't come up with New Enterprise Associates (NEA), you're not alone. Although it has over 100 employees in eight offices, big-name investments such as Groupon and Diapers.com, and a fantastic track record, NEA keeps a very low profile -- on purpose. "We don't really have a star culture here," says Patrick Chung, one of NEA's partners.
For starters, NEA is based on the wrong coast, with headquarters in Chevy Chase, Md. It has never hired a celebrity partner, as Kleiner Perkins did with Al Gore. Not one of its 25 partners has a personal blog, just four have Twitter accounts -- and only one has actually tweeted since July. It's the antithesis of today's attention-seeking VC industry, where what you know seems less important than who knows you.
"The way I've always thought about our job is that entrepreneurs are like artists, and we're behind the scenes," says Chung, who is based in Silicon Valley. "The artists are talented people with a vision who are a bit temperamental or slightly irrational. It's our job to harness that."
In its 33 years in business, NEA has done that job quite well. Besides the controversial Groupon, its investments have included 3Com, TiVo (TIVO), Alkermes (ALKS), WebMD (WBMD), Fusion-io, and Fisker. And before founding NEA, chairman Dick Kramlich was one of the first to invest in a little startup called Apple (AAPL).
Overall, NEA has 285 active portfolio companies, and its investments range from less than $1 million to more than $50 million. It has 13 funds in total, eight of which have been raised since 1994. Of those eight, research firm Preqin says, six have performed in the top quartile of venture capital firms, based on an industry metric called internal rate of return (the 2009 fund hasn't been assessed yet). Says Jonathan Roth, president of longtime NEA investor Abbott Capital: "To the outside it's an index, because they've got a single fund doing all sorts of different things. But when you look at the returns to investors, you realize that it's much, much better than that."
In every investment decision at NEA, the process is the same, led by small teams of staffers with detailed knowledge of a particular sector. If that team wants to invest, it will bring it to the full NEA partnership, which meets every Monday in a windowless conference room. After intense discussions, there are two votes. In the first, the industry expert partners vote either YE (yes enthusiastic), YS (yes with reservations), or NO (no). If a majority votes YE or YS for a new deal, or a supermajority does so for a follow-on investment, the deal then moves to a final vote by the firm's 18 highest-ranking partners.
That's what happened with NEA's 2008 decision to invest in the small Chicago startup that would become Groupon (GRPN). Championed by NEA's managing general partner Peter Barris, who has led NEA since 1999, it was called The Point, with a vague focus on collective activism; phone company customers, say, upset about a surcharge, could connect online and exert pressure.
Two previous VC firms had turned The Point down, in part because it wanted a high valuation without any real strategy for generating revenue. "There was a lot of heartburn around the table," recalls Barris. "Some people worried there would be negative ramifications from collective action. And even if we could mitigate that risk, how would we monetize it?"
Barris pushed forward: The idea of collective action was powerful, and The Point's founder had previously made money for NEA with a company called InnerWorkings (INWK), a print-technology company.
When it came time to vote, all of Barris's partners said YE. NEA cut a $4.8 million check the next day and got to work helping shape the business. "We were supporting different experiments, including a feature where people in the building could sign up to get a discount at a burger place on the first floor," Barris explains. "Once that model got traction, I became a pain in the ass, pushing [CEO] Andrew Mason to grow quickly. I told them they should be expanding to four cities a month, which they did. Until they began expanding to 10."
Groupon has stumbled since filing to go public this past June, using accounting methods some found overambitious. But it still managed to raised $700 million in its IPO last Thursday night, and close its first day of trading at a valuation of nearly $17 billion. That represents a massive return for NEA, which invested just $14.8 million for a 14.6% ownership stake and already has received $75 million via a dividend and private share sale.
The key to NEA's success is not only its decision-making process but also its commitment to maintaining very deep pockets and its ability to invest across both sector and stage. When rivals like Benchmark Capital and Sequoia Capital cut back on fund sizes in the early 2000s, NEA stayed big. It is the only firm to have raised more than $2 billion for a fund since the dotcom bust, and it's done it twice, in 2006 and 2009. For context, the average VC fund raised just $105 million in 2009.
When health care investors began de-emphasizing costly drug development deals, NEA kept scouring hospital labs. "We're entering an era where scale matters," says David Mott, an NEA partner. "There aren't many other firms left out there that can do it from beginning to end."
NEA also has maintained a single fund that invests across company stage, geography, and industry sector, oscillating its focus depending on macro trends. This is at a time when many of its peers have raised multiple smaller vehicles. Accel Partners currently is managing an early-stage fund, a growth fund, a China fund, an India fund, and a Europe fund. Suzanne King, NEA partner in charge of investor relations, thinks the flexible nature of the fund helps. "When we first raised NEA 12 [in 2006]," she says, "we thought we'd have more in ... energy companies than we ultimately had because valuations got very heated. If we'd gone out and raised a $500 million energy-only fund, we either wouldn't have been able to invest it or would have felt pressure to do deals we otherwise weren't comfortable with."
Although NEA's funds are huge, the company has also gone small, launching a seed program, NEA Seed, that can invest as little as $50,000 in hopes of getting in early with consumer Internet companies.
Can the venture capitalist keep its track record going? Groupon's performance will certainly make a difference. But there's more to NEA than one hot IPO -- even if they don't tweet about it.