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PE & VC News

Given that the Trump Administration plans on lowering the individual income tax rates and corporate income tax rates for pretty much all taxpayers, economists and other observers have been debating what type of effect this might have on economic growth (hint: the debate will never end).

Within this vein of discussion on the overall effect of taxes on economic growth is one area intricately related to the private equity and venture capital universe.  The question is whether taxes matter for company startups and startup company valuations.

The Left Side of the Debate

On the left side of the debate are individuals who simply argue that startup companies tend to be headquartered in what are typically classified as high income tax areas.  For instance, a recent report from the left-leaning group Policy Matters Ohio argued that there’s no evidence that a higher income tax rate lowers the presence of so-called “unicorn” companies (unicorn companies are firms with a valuation of at least $1 billion).

As shown in the following graphic, 55 of the 87 unicorns studied by the Policy Matters Ohio group were located in California, well known as a very high tax burden state.  Other members of the exclusive unicorn group include 10 companies in New York, 6 in Massachusetts, 4 in Utah, 3 in Illinois, and 2 each in Washington and Florida.  Of these states, only Washington and Florida don’t have an income tax.

The obvious inference, according to this group, is that tax policy doesn’t matter for startup companies to set up shop.  Rather, what matters is a vibrant and educated workforce.

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The Right Side of the Debate

On the other side of the debate are individuals who clearly see a connection between income tax rates and economic growth.

As shown in the following graph, states with lower corporate tax rates generally experience stronger employment growth across time.  This is shown by the linear regression line through the two series.  On the left (vertical axis) is the employment growth across time by state.  On the bottom (horizontal axis) is the corporate tax rank.  A state with a lower number is a high corporate tax state.  A state with a lower corporate tax is closer to the right side of the graph.  The line through the two measure shows that as corporate income tax burden goes down, employment growth is generally higher.  The flip also holds.  As corporate income tax goes up (movement to the left on the graph), employment growth is generally lower.

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Who’s Right?

So, who’s right?

Well, the answer lies in who you want to believe and how complex you think the relationship is between employment growth and corporate income tax rate.  With this said, there are at least two arguments why the Policy Matters Ohio study is potentially misleading.

First, startups, including the 87 unicorns included in the Policy Matters Ohio study, generally don’t make much money.  Their valuation is based on expected profit.  So, when you’re an owner not making any taxable profit, then the tax rate probably doesn’t matter.

Second, taxes are imposed when owners start selling their stock after an initial public offering.  Owners surely think carefully about tax policy when it actually comes time to sell their profitable shares.

Conclusion

In thinking about whether the individual income tax rate affects unicorn companies, the answer lies in a complex discussion about when taxes matter and what owners do to address taxation.

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If you work in the world of finance, return is everything, perhaps the only thing.  We decided to take a look at which cities are winning in the venture capital return game.

If you’re like most, you might guess the San Francisco area – after all that’s where a large – very large – percentage of venture capital activity takes place (by some measures perhaps a quarter to a half of all venture capital funding in the United States takes place in Silicon Valley).  Perhaps you’re of the view that the deluge of investment dollars concentrated in such a small geographic area might lower the expected return.  After all, when there’s a greater supply of investment dollars, expected return might be lower (by lowering the amount a startup business has to offer to an investor).

Well, take your guess.  The Pitchbook results follow.

Fascinatingly, Washington D.C. comes out on top, offering investors a 11.04 multiple on invested capital (MOIC).  This is surprising given the non-innovative nature of the area and the generally unfavorable regulatory and tax environment of the area.

The other four cities in the top five are Los Angeles at 10.89, the Bay area at 8.23, Chicago at 8.17, and Raleigh/Durham at 8.13.

On the bottom end of the cities presented, Austin, Texas comes in on the bottom at 3.97.  The other five “bottom-dwelling” cities include San Diego at 6.73, New York City at 6.94, Seattle at 7.04, and Atlanta at 7.48.

Interesting, interesting.

Cities Ranked by Average Return on Capital

One Important Caveat

Pitchbook didn’t release industry or company specific data behind their study, but one important caveat is probably worth mentioning – the sample size is small.

The following is the count of the number of exits included in Pitchbook’s study.  Unsurprisingly, the Bay area is by far the leader at 613 exits.  The next closest is Boston at 196 and New York City at 98.

With such small sample sizes, it’s certainly possible that the average MOIC reported by Pitchbook has a large range, perhaps lacking any statistical relevance.  With that said, it’s still interesting.

Number of Exits

Conclusion

Interestingly, although the San Francisco area (i.e. Silicon Valley and surrounding parts) is considered the king of startup locales, there are many vibrant startup communities across the globe.  When looking at the cities where investors earn the highest returns in the U.S., the Bay area doesn’t come out on top.  Of the cities of Chicago, Raleigh/Durham, New York City, Los Angeles, Philadelphia, Austin, Atlanta, the Bay area, Seattle, Boston, Washington D.C., and San Diego, interestingly, Washington D.C. comes out on top, at least in terms of multiple on invested capital.

 

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It’s always interesting, every now and then, to take a look at who the top venture capital investing firms and corporations are.

Top Corporate Venture Capital Investors

Before taking a look at the top corporate venture capital investors according to VentureDeal, which companies would you guess would be at the top?  Would it be tech companies like Google and Microsoft, companies which have well-known venture capital arms within the respective corporations?  Would any so-called Main Street firms show up on your list, such as GE or Exxon Mobil?

Here’s the list.

Perhaps surprisingly (although probably not), Intel Capital shows up on the top of the corporate venture capital investors.  In the past 12 months, Intel has invested in 44 companies.  The remaining members of the top four include Comcast Ventures (37 investments), GE Ventures (36 investments), BDC Venture Capital (36 investments). Rounding out the list are Salesforce Ventures (33 investments) who tied with GV (33 investments), followed by Samsung Ventures (23 investments), Bloomberg Beta (20 investments), Cisco Investments (19 investments), and Alexandria Venture Investments (16 investments).

Some notable missing companies include Apple, Microsoft, Google, and various other big American companies.

venture capital corporates Source: VentureDeal

Top Venture Capital Investing Firms

Moving on to the top venture capital investing firms, here’s a look at the top firms over the past 12 months and the top firms since 2003.

Before looking, take a guess.  Do you think the most famous venture capital firms, such as Andreessen Horowitz or Sequoia Capital show up on the top?

Interesting, over the past 12 months, the top venture capital investing firm is New Enterprise Associates, with 82 investments.  New Enterprise Associates far outpaces second place Accel Partners (57 investments), and the remaining members of the top five.  The remaining firms include Adreessen Horowitz (53 investments), Greycroft Partners (49 investments), and Khosla Ventures (48 investments).

Other members of the top 10 include Sequoia Capital (48 investments), Index Ventures (47 investments), Kleiner Perkins Caufield & Byers (46 investments), Bessemer Venture Partners (45 investments), and First Round Capital (44 investments).

vc investors12months Source: VentureDeal

Would you guess list is consistent since 2003?  Here’s that look.

Perhaps unsurprisingly, many members of top investors of the past 12 months show up on the top investors since 2003 list.

In first place is New Enterprise Associates at 960.  New Enterprise Associates comes in first in both lists.  Other members of the top five include Kleiner Perkins Caufield & Byers at 710, Accel Partners at 585, Sequoia Capital at 569, and DFJ at 560.  Interesting.

vc investors Source: VentureDeal

Conclusion

In looking at the top corporate venture capital investing companies, Intel Corporation comes out on top at 44 investments over the prior 12 months.  The remaining top five corporate investors include Comcast, GE Ventures, BDC Venture Capital, and Salesforce Ventures.

In looking at the top venture capital investing firms, the leading firm is New Enterprise Associates, followed by Accel Partners, Andreessen Horowitz, Greycroft Partners, and Khosia Ventures.

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Is 6 Years the New Normal for Private Equity Holding Periods?

November 29, 2016

In an interesting new paper from a couple of young business school professors (Makiaho and Torstila (2016)), recent evidence from the European equity buyout universe suggests that the holding period of private equity investments has lengthened, from about 2.6 years in 2000 to about 6 years in 2015.  What’s behind the shift?  Is the shift […]

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With Donald Trump On Deck, Here are 3 Economic Indicators to Watch

November 14, 2016

With Donald Trump surprising many in his astonishing rise to the American presidency, now seems like a good time to review how the economy might perform in the coming first year of his presidency.  In what follows are three topics on the 2017 horizon, including the American consumer, business investment, and Federal Reserve interest rate […]

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5 Observations Based on the Merrill Corporation’s Most Recent Mergers and Acquisitions Survey

November 1, 2016

This week the Merrill Corporation released its most recent survey results of 30,000 Mergers and Acquisitions (M&A) professionals across the world.  Many of the findings probably aren’t all that surprising, but some might be. The Broad Infographic First Before delving into the details, here is Merrill Corporation’s broad infographic of their survey results. Shown in […]

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Do Venture Capitalists Add Value at the IPO?

October 17, 2016

It may seem like an innocuous question.  On the one hand, why would venture capital companies add value to an IPO?  Perhaps the presence of venture capital companies could drag down the value of a company’s IPO because the market could view such presence as venture capitalists attempting to exit from a “peaking” investment.  On […]

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Mergers and Acquisitions through August 2016

October 3, 2016

The Merrill Corporation recently released its monthly update of mergers and acquisition (M&A) activity through the first eight months of 2016.  The report provides an interesting view of where business has been and where it might be heading.  On the whole, the overarching theme through the first eight months is one of lukewarm growth – […]

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What’s Up with Private Equity-Backed Companies in the Consumer Products Space?

September 19, 2016

In some respects, the American consumer is key to global economic growth.  This week we’ll get another reading on the state of retail in the U.S.  No doubt markets will respond feverishly. The question here is related to the American consumer.  What do the 2016 Retail Sales figures for the U.S. portend for private equity-backed […]

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PE-Backed IPOs in 2016 Could Be the Worst in a While

September 5, 2016

If you are involved in the connection between initial public offerings (IPOs) and the private equity business, you know that 2016 has been weak, real weak. According to the private equity data provider Pitchbook, through the end of August the market has seen 42 private equity-backed IPOs. Is 42 private-equity backed IPOs weak?  Here’s a look […]

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