Noubar Afeyan, PhD.

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What are private equity investors looking for?

• Noubar Afeyan, PhD.
• Senior Managing Director, Flagship Ventures
• Senior Lecturer, MIT Sloan School
• MIT Enterprise Forum
• June 2003

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Need for Change in Venture Capital

• Tradition of venture capitalists helping build
  great companies replaced by momentum investing
• Conflict between focus on short-term apparent
  value (1-2 yrs.) vs. long-term sustainable
  shareholder value (5 yrs.)
• Potential conflict between LP and GP interests
  when fee replaces carry as motivation
• Large legacy portfolios impact capacity for and
  attitude toward new investments
• Tradition of teamwork and true partnership in
  decision-making replaced by individual
  practitioners (superstar syndrome)

Easy to be pessimistic much harder to create
returns!
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So how do we make money in todays environment?

• Building great companies with sustainable
  advantage transcends macro environment
• Focus on essential technologies, not just
  enabling technologies
• Identify emerging themes before others, and build
  companies that are early leaders with barriers to
  entry
• Efficient capital deployment employ sources of
  leverage
• Engage firms network to assist in early customer
  traction

Think Macro Act Micro!
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Introduction to Flagship Ventures

• Entrepreneurship and venture capital firm
• Managing 405M in funds raised during 2000 and
  two earlier funds (150M)
• Interdisciplinary team of 24 professionals with
  entrepreneurial, growth management and investment
  experience
• Investing 4 forms of capital Intellectual,
  Experiential, Relationship, Financial
• Balance across Life Science and Information /
  Communications Technology (ICT) sectors
• Venture creation strategy
• Proprietary sector themes drive deal generation

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Entrepreneurial Challenges
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Why Are Start-ups So Hard?

• Because so many things can go wrong
• Consider the minimum needs for success

• a strong entrepreneur to lead the effort
• a good business concept
• a good (typically new) technology to implement
  concept
• sufficient capital (typically 30MM to get to
  IPO stage)
• a good management team for
• RD
• Marketing
• Sales
• Financial
• Engineering
• Manufacturing
• Etc.

• test of technology
• test of market acceptance
• test of management/ organizational recruiting
• proof of ability to operate profitably
• proof of ability to respond to competitive
  threats
• proof of ability to sustain profitability for
  long term (many quarters)
• proof of ability to develop

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Finding a Profit Zone
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Challenges to starting

• How can you know you will raise money to move
  forward?
• Is your venture and team investable?
• Opportunity
• Experience
• Competition
• Path to further funding or liquidity
• Design for investability vs. profitability,
  growth and sustainability
• Should you build towards a great company or one
  that can raise money in the beginning?

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The Dilemma

• The more revolutionary, unconventional or out
  there your idea
• The harder it is to point to
• tangible market potential
• path to sustainable profitable growth
• appropriate team composition
• The less the business can be guided by
  comparables
• BUT, the easier it is to differentiate, prevent
  competitive threats, excite extraordinary team
  members to join, envision the potential to build
  another Microsoft, excite investors
• And vice versa

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Elements of Success

• Sustainable competitive advantage
• Large growing market
• Perfect execution
• Persistence/Patience
• Luck

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Venture Capital Opportunities
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What are VCs looking for ideally?

• Companies with significant market opportunity
  (1B) and rapid revenue growth prospects
• Management teams with appropriate experience and
  track record
• 35-50 ROI and 5-10x multiple on invested capital
• Multiple liquidity options within a reasonable
  timeframe
• Proper fit with firm objectives
• Deal size
• Industry focus
• Deal type
• Also, subjective goals
• Opportunity to make a difference
• Chance to be associated with transformer/emerging
  leader

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What VCs are looking for in a new venture?

• Is there a problem worth solving?
• How many customers? At what price?
• Why now?
• Why you?
• Can you, with partners/channel, deliver a whole
  product solution?
• Can you create, or do you have, an unfair
  advantage?
• Is there a pricing/channel mix that makes sense?
• Can the weaknesses be fixed in a timely fashion
• Introduction to the right team members, including
  a CEO

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How VCs assess the entrepreneurial team

• Integrity
• World-class understanding of the problem to be
  solved
• Intellectual rigor/objectivity
• The self confidence to accept coaching, without
  losing sense of direction
• Bias towards action
• Orientation towards customers, rather than
  technology
• Ability to recognize, and hire to, weaknesses
• Ability to attract world-class talent
• Leadership

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Views on the Current Environment

• Challenging time to grow revenues
• New capabilities less valuable than cost savings
• Maturing IT industry coincides with economic
  slowdown
• Increasing cost, time and uncertainty of drug
  development compounded by pharma ills
• Essential Technologies vs Enabling
  Technologies
• Profitability and market leadership require
  sustainable competitive advantage
• No easy exit options
• Back to test tube to tank car in 7 years

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Do Entrepreneurs and VCs mix?
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Entrepreneurship and Venture Investment

• Entrepreneurs Paranoid Optimists

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Entrepreneurship and Venture Capital

• Entrepreneurs Paranoid Optimists
• Venture Capitalists Skeptical Optimists

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Entrepreneurship and Venture Capital

• Entrepreneurs Paranoid Optimists
• Venture Capitalists Skeptical Optimists
• Early stage venture capital needs to combine
  both
• Paranoid Skeptics?

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Entrepreneurship and Venture Capital

• Entrepreneurs Paranoid Optimists
• Venture Capitalists Skeptical Optimists
• Early stage venture capital needs to combine
  both
• Paranoid Skeptics?
• Cautious optimists!

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