Want to Know Why There’s No IPO Market? Look in the Mirror, Says Prominent Investment Banker to VCs


Last week, Paul Deninger, the vice chairman of the investment bank Jefferies & Co., flew from Boston to Silicon Valley to present his views to NVCA board members who are trying to understand why, exactly, the tech IPO market is so crummy.

Deninger pointed a scolding finger at them — then gave them an earful. We spoke a few minutes ago about why he’s blaming the venture industry.

You’ve been railing against global investment banks for a long time, despite that Jeffries is a global investment bank. What gives?

Certain global investment banks are no longer investment banks and haven’t been for a long time. They’ve been working not for their clients for but themselves. They are the largest hedge funds in the world. But no one would listen.

And now?

Given the events of the last few months, they’re listening. They see evidence of what I’ve been saying on the front page every day.

How should they be reacting, in your view?

VCs have to ask whether they want to build great companies or just flip companies. The tech market is now 90 percent dependent on M&A. That’s not healthy. It feels good; it’s like a crack hit. But the reality is that we’re in the eight straight year in which the number of public companies on Nasdaq is declining. That’s apocalyptic. You have to go back to ’88 and ’89 for two consecutive years of declining companies, and that was a generation ago.

“Apocalyptic” is a dramatic word.  Are fewer publicly traded companies such a terrible thing if they’re still acquiring companies?

Yes. As a VC, you’re doing a short-term good for yourself and your investors, but a long-term bad. We need more public companies. There are only so many startups that can sell themselves to Microsoft and Google. There’s been a hollowing out of companies with a market cap of between $20 billion and $40 billion. The ten acquirers now have an average market capitalization of $100 billion.

I’m sorry; I’m not following your point.

My point is this: what if Google sold to Microsoft, or Cisco sold to IBM, or Intuit sold to Oracle? If we were doing 10 years ago what we’re doing today, those companies wouldn’t be around anymore. The M&A market would be horrible today. Well, VCs need to wake up. It’s going to be horrible 10 years from now if every year there are fewer buyers. Eventually, those numbers are going to matter.

But big companies acquire companies in order to stay competitive, and they employ a lot of people, if that’s a secondary concern.

First, government data suggests that the majority of job growth comes from small companies. Number two: we’re talking about the VC ecosystem. I think what’s kept our economy vital for the last 30 years is innovation, and innovation is better capitalized in terms of growth and employment in a venture capital business model. Apple didn’t invent the GUI; Xerox did. But Apple capitalized on it. Intel didn’t invent the microprocessor; AT&T did, but it didn’t capitalize on it. Intel did.

It’s sort of like we’re on the second or third generation of success, and we’ve forgotten the lessons that got us here. We’ve forgotten that the venture capital industry is focused on building great, innovative companies, not quick flips.

Right now, the Intels, the Microsofts, the Googles — they’re allowing the VCs to stay in business by buying startups, but that’s not going to last forever. Do you think Yahoo will be an independent company one year from now?

Cognos, Business Objects, Hyperion were each business intelligence software companies, but each was acquired, by IBM, SAP, and Oracle, respectively. That’s three buyers that used to be in the marketplace that are now gone. Would you rather have an auction with three buyers or six?

So you blame VCs for working with investment banks that were quick to steer them to M&A. You think that’s the root of the IPO problem?

Yes. In 1998, 1999, smaller investment banks led these great IPOs: Alex. Brown, Robertson Stephens. They went away but there are companies like Jeffries, Thomas Weisel, and Piper Jaffray that are in some cases larger than those investment banks were, but CEOs and VCs won’t take advice from us. They’ll only take advice from Goldman Sachs. It’s all about the brand. They believe that these firms are oracles who manage the market and they aren’t. They’re hedge funds in drag, and their capital needs are the direct result of their massive overinvestment in volatile or long-term investments, with highly leveraged capital structures.

And you don’t take any proprietary positions?

No, we don’t take proprietary positions the way they do. We don’t get revenue by investing off our balance sheets. We’ve never been seduced by the desire for these quick profits.

You must feel a little rewarded by the implosion on Wall Street. Is your business already getting a lift?

Nobody is doing anything right now. The buy side is on strike because no one wants to catch the falling knife. But when when things settle out, I think we’ll be in a good position.

Have you been on a hiring spree?

During the course of this year, we’ve added 20 managing directors from a bunch of these firms — not just in tech but in telecom, media, retail, energy, aerospace, defense. We’ve definitely been adding talent, from Bear Stearns , Goldman, Lehman, Wachovia. We do see this as a unique opportunity to bring aboard some talent.

When was the last time you underwrote a tech IPO?

In the first quarter. We did IPC Hospitalist, a healthcare technology company.