San Francisco Business Times
February 2005

Merger activity involving venture-backed companies is on the rebound, and that's good news for bankers putting the deals together.

Mergers and acquisitions - the primary way venture capitalists cash out of their investments - were up sharply last year after three years of steady decline.

Of the 333 companies that were acquired in 2004, 181 disclosed the details, revealing the deals had a total value of $15.1 billion. The average disclosed value was $84.5 million, up from $62.8 million in 2003, according to Thomson Venture Economics and the National Venture Capital Association.

"The venture-backed acquisitions market turned itself around in 2004, without fanfare and hype, but with considerable certainty," said Mark Heesen, president of the NVCA. "The public tends to focus on the IPO market as the more visible liquidity event, but acquisitions are truly the bread and butter of venture capital exits."

Corporate buyers as well as private equity firms are in the hunt for young entrepreneurial growth companies that can boost growth rates of large corporations in a so-called strategic sale. Some small companies are also turning to buyouts of young companies to bulk up and try to hit the radar screen of institutional investors. Private equity investors are turning to buyouts to help generate substantial investment returns down the road.

"We are experiencing the perfect storm for a high volume of buyouts and acquisitions by private equity firms," said Walter Kortschak, a managing partner in Summit Partners' Palo Alto office. The firm, which makes both venture and private equity investments, sees the economic expansion, low interest rates combined with the availability of bank financing and the growth of pension funds pouring money into the coffers of private equity firms as all contributing to that perfect storm.

Summit exited from 13 investments last year, three via IPO and 10 by acquisition. Already this year, the firm has seen two of its holdings go public and one, Sybari Software, Inc., be acquired by Microsoft.

"That pace is likely to continue," said Cabot Brown, a partner and co-founder of San Francisco-based Seven Hills, a San Francisco emerging-growth bank that focuses on M&A advisory services and private placements.

Companies are also partnering with large corporations or being bought outright at an earlier stage.

Pleasanton-based Advanced Stent Technologies, Inc., for instance is being acquired "pre-revenue" by Boston Scientific Corp. this year because the young company's proprietary technology can enhance the larger company's medical device business.

The entrepreneurial dream is often to one day run a public company. That picture is changing with the rising cost of being public under the Sarbanes-Oxley Act and institutional investors focusing on larger growth companies that can provide trading liquidity and enough growth to move the needle on their multibillion-dollar portfolios.

Many entrepreneurs are now telling angel investors at the very earliest stages of company formation, who likely buyers of the company will be, and in some cases, negotiating early partnerships with these prospective buyers.

"People realize that the majority of private companies will be sold, usually in a strategic sale," said Kathryn Coffey, a partner at Seven Hills. "Term sheets and valuations are being structured so they don't impede a sale."

That's keeping Seven Hills and its rivals busy negotiating partnerships and buyouts involving the region's young growth companies.

So will we see a shakeout anytime soon among San Francisco's flurry of emerging-growth investment banks?

"There's too much opportunity and too much action for that to happen," said Seven Hills' Brown