Sand
Dollar Report 2002 Executive Summary
by
Victor
Hwang and Rohit
Shukla
In
2001, venture investments nationwide declined significantly,
in keeping with the weakness in market demand, worsening
business conditions, decline in technology stock values,
and the failure of Internet-oriented business models. Consistent
with the national picture, the Greater Los Angeles Metropolitan
region (or "Southern California," as we call it
in this report) also witnessed a rapid decline of venture
investments, as we predicted in last year's Sand Dollar
Report. From 2000 to 2001, there was a 54% drop in the number
of investments and a 73% drop in the dollars invested. Despite
this, however, the venture industry of Southern California
has emerged with newfound strengths that may serve the region's
technology industry well.
Larta's
Sand Dollar Report 2002 finds that widely mentioned indications
of the relative economic strength of the region are borne
out by the facts. The broader view of the seven-year economic
cycle from 1995 to 2001 points to a stronger fundamental
position at the end point of that cycle than at its beginning-an
increase of 284% in venture capital dollars and 118% in
the number of investments.
Eight
years after the initial Larta report on venture capital
(1994), the venture capital industry of Southern California
has undergone a considerable transformation, reflecting
the sea change in the regional economy itself. Southern
California is one of the most diverse economies in the country,
and, not surprisingly, has the most diverse venture capital
investments of any comparable region in the country. And
while venture investors in the region have been on a recent
roller coaster of rapid growth and even more rapid decline,
many remain optimistic, yet realistic, about the opportunities
ahead. Perhaps more importantly, the community of investors
in the region now appears to be better networked (both internally
and externally), more mature, and more aware of and attuned
to the region's fundamental sources of innovation.
Southern
California's venture industry, however, still faces challenges.
Despite the clustering of technology firms that has emerged,
active venture investing in the region is significant. The
region's technology clusters are spread throughout: the
Ventura Freeway Corridor, Santa Monica and the West Side,
Orange County, Pasadena and the San Gabriel Valley, and
the South Bay, to name just some of the major clusters.
In addition, the Greater Los Angeles economy counts increasingly
in its economic sphere Santa Barbara and San Diego, and
for the first time, we highlight those regions in this year's
report. On the one hand, this massive geography does provide
a world of prospects and choices. On the other hand, it
impedes the formation of tight venture capital and entrepreneurial
networks. And while there are many opportunities for entrepreneurs
and investors to interact, these are so widely dispersed
that investors and entrepreneurs have to work harder to
find each other. In addition, while the region's economic
diversity is a strength that insulates it during times of
market volatility, the relative lack of resident core competencies
often prevents it from being considered seriously by investors
outside the region.
Emerging
from a predictably difficult year for the technology economy,
Southern California's fundamental sources of innovation
are getting some due attention. Chief among these are the
many universities, research institutions, and the homegrown
defense industry. Potential spin-offs from the defense industry
have generated some excitement in recent months. The technologies,
knowledge, and talent from that industry can have a significant
impact on communications technologies, while new materials
and nanoscale techniques are of considerable interest as
a new wave of innovation is anticipated by the broader technology
industry, and thus by the venture industry itself. Linkages
between leading research universities (of which Southern
California has a lion's share) and the venture industry
are now regarded as a critical component for sustainable
innovation by increasing numbers of academics and investors.
What remains unclear is the aftermath of September 11, 2001.
Will new demand for defense-related technologies by governments
outweigh or complement demand by commercial customers? Will
the urge to meet such demand cause a refocusing by traditional
government contractors and sub-contractors, causing them
to slow or to accelerate efforts to spin-off commercially
viable technologies? Will there be a critical mass of innovative
companies drawn to new commercial opportunities as the technology
economy recovers? The answer is a critical one for the future
of Southern California, as individuals with technical skills
and experience gained from defense-related industries have
fueled much of the region's innovation in recent years.
The danger is that the comfort of increased government contracting
may be too tempting to resist for technologists who might
otherwise have contemplated starting risky, new ventures.
A
key challenge noted by a number of venture capitalists again
this year is the relative scarcity of executives with significant
experience in growing and managing companies. Historically,
investors have generally felt that Southern California executive
teams overall tended not to have the same level of relevant
domain expertise and experience compared to Northern California
teams. The Southern California trend line, however, is a
positive one: the recent economic cycle served as a real-life
boot camp for many technology entrepreneurs, who seem to
have emerged the wiser for it. Investors generally concur
that seasoned executives are much more willing than before
to locate to Southern California from other regions, especially
the Bay Area. The "stigma" associated with Southern
California may be abating, partly due, perhaps, to the resource
limitations (whether real estate, traffic, or otherwise)
that became apparent in areas like Northern California in
recent years.
Networking
events and organizations relevant to the growth and nurturing
of an entrepreneurial culture and contact base have grown
remarkably since 1994, in various parts of the far-flung
region, thus leading to greater clustering of companies
and investors. Venture capitalists depend on networks to
spot new ideas, evaluate technologies, and find entrepreneurs.
In Southern California, the networks formed by angel groups
and entrepreneur clubs continue to increase in importance
and prominence. By nature, these types of groups rely on
networks of individuals to source deals and provide advice
to budding entrepreneurs. Entrepreneurial networks are particularly
important in Southern California, given its large and distributed
nature and the relative lack of centrally organized forums
for exchanging high-level ideas. Thus, creating focused
opportunities and meeting points for venture capitalists
to interact with one another and circulate with entrepreneurs,
service providers, and potential executive recruits remains
an important activity for the region's venture capital system.
Core
competencies have grown considerably well in the broader
region since 1994. San Diego, for example, has well-regarded
companies and entrepreneurs (in wireless and the biosciences)
that have made it a world-class player, with specialized
venture capital firms establishing themselves firmly in
the area. The West Side has been recognized for digital
media for several years, and the Ventura Freeway Corridor
is now being recognized for its communications technologies.
Still, some core competencies that do exist are not fully
recognized in the public eye (such as biomedical devices
in Orange County), while other clusters specialize in too
many sectors to be recognized in any particular sector (such
as Pasadena and the San Gabriel Valley).
Southern
California has transformed dramatically over the past decade,
moving from a technology economy dominated by Department
of Defense spending to one which is increasingly centered
on innovation and entrepreneurial-led development. Stronger
connections between research institutions and the commercial
sector, a growing number of seasoned entrepreneurs, and
increased activity of angel and networking groups indicate
strong prospects for the future of the venture industry
and the broader economy. Despite the nationwide decline
in venture activity and despite continued challenges, the
region has developed an infrastructure that-more efficiently
than before-connects entrepreneurs and startup companies
with the capital, experience, and connections of professional
investors. Although the economic recession and terrorist
attacks of 2001 have resulted in some shifting of resources
and focus, this infrastructure remains capable of creating
new and innovative companies. The challenge for Southern
California is to sustain and maintain its venture capital
and entrepreneurial system, now at the beginning of a new
economic cycle and with a significantly stronger base than
before.
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The
Sand Dollar Report 2002: An Analysis of Venture Investing
in Southern California
(featuring Data from the MoneyTree survey)
sponsored
by 
Eight years after the initial Larta report on the venture
capital industry of Southern California (1994), the region
has undergone a considerable transformation, reflective
of the sea change in the regional economy itself. Southern
California is one of the most diverse economies in the country,
and, not surprisingly, has the most diverse venture capital
investments of any comparable region in the country. And
while venture investors in the region have been on a recent
roller coaster of rapid growth and even more rapid decline,
many of them remain optimistic, yet realistic, about the
opportunities ahead. This report on the venture capital
industry of Southern California features comprehensive new
information and data (including regions of San Diego and
Santa Barbara), with interviews from leading investors in
the region.
Interviewees
Include:
Brad
Jones, Founding Partner, Redpoint Ventures
Joel Balbien, Managing Member, Smart Technology Ventures
Ted Alexander, General Partner, Mission Ventures
Bridget Karlin, Senior Director, Redleaf Group
Sydney Edwards, Principal, TL Ventures
purchase
the report >
