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Excerpted from the book Done Deals, edited by Udayan Gupta, Harvard Business School Press
Institutionalized venture capital began as capital pools funded by wealthy Eastern families, and, to be sure, as somewhat of a social experiment. In the aftermath of World War II, many wondered whether it was possible to restructure the economy, make a profit, and do good all at once. The Rockefeller family, the Whitney family, and the Phipps family were among the first to establish separate venture capital programs. Laurance Rockefeller provided the initial spark in the 1930s. His interest in aviation and his access to capital helped him finance two seminal businesses: Eastern Air Lines and McDonnell Aircraft. After World War II, Rockefeller continued to invest in entrepreneurs but mostly on a deal-by-deal basis, by which time his reach extended from aviation to electronics and emerging technologies. In 1969, Rockefeller decided to make the process of venture investing more institutionalized and created Venrock Associates to serve as the venture capital arm of the Rockefeller family. Founded with $7.5 million of funds from the Rockefeller family and several non-profit institutions that had long-standing relationships with the family, by 1998 Venrock had financed 262 companies which together employed some 440,000 workers and had total revenues of $110 billion, resulting in a market capitalization in excess of $600 billion. The task of running the fund for nearly three decades fell to Peter Crisp, a Harvard Business School graduate, who had been intrigued by the idea of venture capital and entrepreneurs. While Laurance continued to invest in those areas that he found interesting, Crisp began to lay the groundwork for an organization that eventually became a formal fund. Many see early Venrock as a product of Rockefeller's eclectic interests in technology and entrepreneurship, but it was Crisp who turned the family office into a lasting organization.
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| Building Companies | A New World Today | A New Venrock |
I joined the Rockefeller family office in 1960, straight out of Harvard Business School. At that time the people involved in venture capital were a handful of wealthy families and a couple of institutions, such as American Research & Development and Boston Capital, that were trying to formalize the process.
I had been an undergrad at Yale, then in the Air Force for three years. Once I got out, I went to Harvard Business School. I wasn't sure what I wanted to do with my business life. I enjoyed aviation, but I was thinking about philanthropic work.
Between my first and second year at Harvard Business School I was working for Swissair. They asked six of us to come and rank prospective capital investments using present-value techniques. While I was in Zurich I saw a one-page article in the international edition of Time magazine about Laurance Rockefeller, venture capital, and aviation. It sounded interesting to me, and I thought I might combine all my interests together. So from Zurich I wrote a letter to Laurance. He shared my letter with his colleagues and decided that I might make a good addition to the group.
The Rockefeller's investment effort at that time was led by Laurance. He had graduated from Princeton, where he had been a philosophy major. But he was also a gadgeteer and very interested in aviation. In 1938 Laurance made two investments. He responded to Eddie Rickenbacker's request for capital to acquire Colonial Airlines from General Motors. That became the start-up capital for Eastern Air Lines. About the same time, J. S. McDonnell, a young aeronautical engineer from St. Louis, came to Laurance and told him that with the invention of the jet aircraft engine he would like to design a single-engine fighter plane. Laurance indicated to him that he was interested, and if he would go back to St. Louis and put together a business plan he would respond favorably to the idea. That was the start of McDonnell Aircraft, which eventually became McDonnell Douglas—now merged with Boeing.
Laurance invested equity capital in very early-stage companies and worked with their management teams to try and help them. When World War II came he joined the Navy. In 1945, at the end of the war, he was discharged from the Navy. He concluded that many technologies that had been developed for the war effort could be applied to commercial purposes, such as blind landing systems, navigational instrumentation, and power systems. He decided to put together some companies, some investments, that would be reflective of such a strategy.
He assembled a staff of three people. One was a banker from Chase, another was General Arnold's top procurement officer, and the third was an MIT aeronautical engineer who had been a lieutenant colonel in the Air Force. That team and Laurance went looking for deserving investment opportunities—companies to start or companies to invest in—where they could do something worthwhile and provide enhanced returns at the same time.
Laurance's effort and staff was dedicated to creating and supporting early-stage companies with equity investments. His aim was to build companies for ten to fifteen years, then sell them or have them go public. Laurance invited his brothers and sister to participate. David, John, and Abby were regulars. Nelson and Winthrop pursued their own interests, though they were certainly aware of Laurance's exploits. Venrock's successes provided the participants with securities with low-cost bases, which could be used to support various charities and philanthropic activities.
There were people who tried to argue throughout the early '50s and '60s that if Laurance had left all this money in Standard Oil Co., he would have done better collecting his dividends. But the fact of the matter is that his investment results were quite outstanding and far exceeded the returns from his oil holdings.
In the pre-World War II era, he made three investments. In the post-World War II era, until 1969, he made fifty-six investments in different kinds of early-stage companies that included Alaska Airlines, Reaction Motors, and the Marquardt Aircraft Co. Itek was introduced by Richard Leghorn, who worked at Kodak and said Kodak wasn't interested in the high-altitude cameras that he had developed. Laurance invested in Itek after receiving Kodak's blessing and encouragement.
I joined the group in 1960 and from '60 till '69 Laurance was the quasi-family "underwriter" in all investments, always inviting his brothers and sister to join in the program.
Venture capital in those days was not focused on technology. Venture capitalists were all investing in small companies in industries that ranged from aviation and oil and gas to a smattering of electronics, instrumentation, and computer technology. In the business those days were J. H. Whitney & Co., ARD, the Brady Family Office, Joan Payson, and the Burden family.
Everybody worked very closely together and shared deals. We didn't make any moves or take any action without the advice and consent of our partners. We were very collegial, not competitive. Company mortality was high, but our results were excellent because we bolstered the companies we invested in with experienced managers.
As part of every deal, we met every entrepreneur and their spouse. We visited with them at their homes and spent weekends with them. We knew them very well indeed.
We believed in building companies. We were seeking early-stage ventures with the potential for growth. Often we financed companies with three to four years of sales and a stable management team. Among the characteristics we were looking for were increasing revenues, increasing profits, and a stable management team. So when the company went public there was a high likelihood that it was viable and public shareholders would be investing in a real enterprise.
Often the due diligence process took weeks, followed by extensive discussions about the best financial structure. We took pains to be certain that the management felt well rewarded with ownership incentives.
We calculated that if a company required $3 million before the liquidity event we didn't want to dilute the management by putting it all up up front. So we used to stage the investments towards mutually agreed-upon milestones. We would put in $500,000 to get the company through the product development, then another $500,000 for testing, and another $2 million for introduction to the markets.
I like to think that we have kept our standards high, that entrepreneurs recognize the value of our network and our experience, and that we are quality, patient investors, not out to take advantage of the relative inexperience of entrepreneurs.
Venrock has a reputation of sticking with its companies longer than most other firms. This policy may have affected our returns as we didn't quit the bad ones, but stayed with them until their problems were solved or until we could find an appropriate merger partner.
In today's world if there is a hot project, there will be a lot of venture capitalists competing for it. Entrepreneurs are savvy and can control the financing. Decisions are made much more quickly and on the basis of far less information. Founding investors no longer have to participate in later-round financings as others often willingly step up at higher valuations.
Years ago there wasn't a deal that we didn't see. Today that is clearly not the case. There are 300 to 400 firms that have funds ready to commit.
In today's world investors are pushing money into the hands of venture capitalists. A typical venture firm has five to six partners and won't expand because they do not want to reduce the carry for each partner. They simply don't have the bandwidth so they are much more hard-nosed and cutthroat about cutting their losses and going on and doing something else.
Venture capital has become more of a portfolio management business than it was. Investors are willing to shut down companies that are underperforming and that's unfortunate. But if you look at the overall picture and see how many companies are getting funded and the entrepreneurial opportunities that are being created in software and on the Internet, you'll have to say it's a wonderful engine for America. It has exceeded everyone's expectations.
Venrock has changed. We still believe in backing great people with worthy ideas. We are looking for large hits with relatively small amounts of money. Relatively small thirty years ago was $300,000 to $500,000. Relatively small today for the first round is probably $1 to $3 million with an ultimate investment of $4 to $5 million.
We are doing our homework faster and more efficiently, but we are also committing more quickly and making many more investments than we did before. We are making fifteen to twenty investments each year, as opposed to two or three.
Do we still have the same values and the same desire? Yes, indeed we do. We are always on the cutting edge of something that is new and important.
Do we make mistakes, or get lured into quickie investments by people who aren't up to the mark? We feel we have less of a missionary role today. We feel that to be competitive we have to be responsive, but we also have to get down and compete aggressively in order to get the deals. If an entrepreneur—however loyal he is—gets a 20 percent better deal from others, we must prove that we can add more value over the long term. Entrepreneurs today have greater self-confidence and are better equipped to accept the challenges that are inherent in building companies with significant lasting value.
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Done Deals