Here's a graphical representation of his point:
Head to Noah's site to get all the details of the study.
(The study seems to be across ALL industries - with biotech/life sciences composing only a fraction of the investing universe for these VCs, but the core lesson probably holds for biotech: VC returns have plummeted.)
The explanation for the plummeting VC returns is an oversupply of risk-capital (and risk-capitalists!), beginning during the dot-com bubble. However, it isn't clear if this is because deal pricing and other investing terms have changed post-bubble, or if the oversupply of capital led to the funding of marginally rewarding portfolio companies, or any of a dozen other explanations. Perhaps it is simply that there had been an artificial constraint on risk capital before the bubble, allowing VCs to earn rich returns by cherry-picking only the best deals.
One commenter at Noah's site provided evidence that VC returns also tend to correlate with the history of the VC team. (In other words, long-term VC groups have done much better than Johnny-come-latelys.)
Whatever the explanations, there are implications for life sciences:
-we're in the midst of a correction in the VC market - many marginal VC players will disappear, and with that, pricing power will begin to return to the survivors.
-if they weren't already, VCs are desperate for returns. Expect them to ALWAYS take the option that cashes them out now at a lower price, than later at a higher price. (If you thought they were short-term thinkers before……..) This is good news for strategic buyers.
-seeing these returns, LPs (those who invest in VC funds) are more likely to "go direct" by investing in PIPES and follow-ons and forego investing with VC funds that 1) don't deliver risk-approproate returns, and 2) charge 2% a year, plus a carry. If this is true, there's more hope for older small cap biotech's, and less hope for early stage companies.
-I'd guess that a side effect will be a decline in risk appetite, which would be a nudge towards tools and tech platform companies, and away from discovery pure-play companies. I'd also guess that target discovery is no longer a viable business - if there's an over supply of VCs, the last thing they'll want to do is add to the oversupply of targets.
-seek quality. All else being equal, the life science VC firm in its' 2nd decade of investing is likely to be a better choice than a firm just beginning in biotech investing.
-as before, there is still a big opportunity for corporate (Big Pharma) VC$.
Hat tip to Tyler Cowen's Marginal Revolution blog for pointing out Noah's post.