Running out of time

“Industry consolidation” is a phrase that has seen a fair amount of exposure in this year of global financial crisis.

Associated in developed markets with “survival of the fittest” and in emerging markets with “sorting the wheat from the chaff”, it has at times been seen as a natural, if brutal, consequence of the downturn – and one that will ultimately lead to a better and more streamlined industry.

But in the Australian venture capital industry the word “consolidation” carries no sweetener. In fact, the threat of it hangs over an industry only populated by around 30 firms which feels it is being squeezed before it has really had a chance to take root.

“I think everyone is pretty prudent and commercial and would recognize that consolidation does need to happen at times, but you don’t want unnecessary fallout of really skilled and talented managers that have been developing for the last decade or so and that’s quite a real risk unfortunately,” said one Australian venture capitalist.

Jenny Blinch

It will come as no surprise that the single biggest challenge facing the Australian venture capital industry is fundraising. Fundraising in venture capital markets the world over has dived in the last year, but statistics from the Australian Private Equity & Venture Capital Association and Thomson Reuters paint a particularly grim picture.

Only one Australian venture capital fund has closed in 2009 – the $125 million GBS Bioventures IV Fund, which closed in March. Fundraising over the last three quarters of the Australian fiscal year (which runs from July to June) dropped from a peak of A$189 million in the December quarter (when the $185 million Starfish Technology Fund II held a final close) to $20 million in the March quarter and only $14 million in the June quarter.

The Australian venture capital industry relies on a mainly domestic LP base for funding. However, that domestic LP base – mainly composed of superannuation funds – has been turned off the VC industry partly through its own exposure to the downturn and partly through what it sees as the poor returns of the industry over its roughly ten years of existence. Poor returns, and high management fees, are also concerns shared by the government – the other major potential source of capital for the cash-starved industry.

But the venture capitalists themselves say it is too soon to judge the returns of an industry which had its birth around the time of the Asian financial crisis, its baptism in the midst of the dot.com boom and is now being pummeled by the economic downturn. It is, they say, a long-term game – much longer than the decade it has had so far to prove itself.

More pertinently, the argument being made is that venture capital is crucial to enabling Australia to stay at the forefront of innovation – and not just relying on natural resources for its prosperity.

While the debate continues, the timing is becoming increasingly critical. According to an AVCAL estimate, around a third of current active funds (representing a fifth of VC capital under management) will be wound down over the next two years – meaning that unless more capital is forthcoming, many managers will be unable to continue in business.