How public markets can help address venture capital’s limitations

European VCs see value in floating themselves

British venture capital firm Draper Esprit recently moved its listing from the AIM to the main board in London, the LSE. The investing group also moved its secondary listing from Dublin’s Euronext Growth Market to its larger sister exchange, Euronext Dublin, which makes sense given its long connection to Irish capital.

Draper has always felt like something of an anomaly from our perspective, a generalist venture capital firm that was itself public. But this July, Forward Partners listed its shares on the AIM, and there are other venture firms in Europe that are also listed.

At first blush, the setup may seem odd; venture capital firms invest in companies that they hope to see go public one day — why would they float themselves? But Draper Esprit co-founder Stuart Chapman told TechCrunch in an interview that he finds it shocking “that venture capital backs some of the most mind-blowing tech advances in our history over the last 70 years, using the same legal structure as a 1958 property vehicle in New York.” It’s a reasonable point.

Perhaps fundraising success is part of why the venture model has not seen much disruption in recent decades, apart from rising fund sizes. But the model is not perfect. It can foist artificial time constraints on investors and force them to focus their deal flow into particular stages for fund-construction reasons. As we found out researching this piece, the public venture model highlights some of these limitations — and may be able to alleviate them in part.

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And yet we can’t come up with a single U.S. venture capital firm, for example, that has publicly listed in the same manner as Draper Esprit or Forward Partners.

To better understand why we’re seeing European VCs float, and not their peers in other markets, The Exchange reached out to Draper Esprit, Forward Partners, and fellow listed venture investors Mercia and Augmentum Fintech. From the group, we’ve learned that there are plenty of reasons why the model may be popular in the U.K. and not in the U.S.

But there are also reasons why being a public venture capitalist can make the VC game a rather different, longer-term effort. The firms in question did not go public on a whim.

So let’s talk about the good, the bad, and the regulatory concerning publicly listed venture capital firms. The future? Or just a regional quirk?

From exception to trend?

Following its move, Draper Esprit is now the largest “purely tech VC” listed on London’s Main Market. Its initial listing had also been a market milestone: “Listing Draper Esprit five years ago was a radical and unusual step for a venture capital business,” Chapman said of Draper’s 2016 dual-listing on London’s AIM and Dublin’s Enterprise Securities Market (ESM) — now Euronext Growth.

Just last month, two tech-related investment funds IPO’d on the London Stock Exchange: space-focused Seraphim Capital and Nic Brisbourne’s Forward Partners. In both cases, Draper Esprit was happy to assist with information, Chapman told us, adding that the firm also invested in Forward via its fund-of-funds effort.

The news adds up to a roster of listed investors that also includes fintech fund Augmentum Fintech, asset manager Mercia Asset Management PLC and intellectual property commercialization company IP Group. “We’re supportive of others following in our footsteps and we will be big fans of having much wider diversity,” Chapman told TechCrunch in an interview, which you can read in full here.

Having recently joined the club, Forward Partners’ founder and CEO Nic Brisbourne gave us a good overview of the three high-level reasons that could lead a fund to list: open opportunities to create more value from new initiatives that sit outside traditional investment capital; breaking the cycle of fundraising; and opening access to the early-stage venture capital asset class. Let’s take a closer look.

A different fund logic

When alluding to opportunities that are typically out of reach for venture capital, Brisbourne was referring to investments that require long-term thinking. For a venture firm, this is one of the main benefits of being listed: It joins the realm of “patient” capital — or even what Brisbourne calls “permanent” capital.

“In the long term, we see permanent capital as the key to innovation, to building faster and to making longer-term bets,” he said.

This is both a reference to how public markets can free funds from usual venture capital cycles and how capital at public venture firms can be recycled into new investments. The rigidity and artificiality of venture capital cycles was a key driver in Augmentum Fintech’s decision to list on the LSE in 2018, its CEO Tim Levene said. The dominant feeling was “frustration at the life cycle of traditional GP/LP structures and the requirement to deliver optimal return within a finite period, versus just optimal return.” This was particularly problematic in fintech, “where businesses can take longer to mature.”

In contrast, being the U.K.’s only pure-play fintech-specific listed fund potentially gives his firm a competitive advantage “in investment situations where founders can see in Augmentum an investor that can stay for the long term and where interests really can align.” Why? Because the fund “can keep investing throughout a portfolio company’s life without considerations such as being outside an investment period” — and regardless of stage.

Interestingly, the fact that listed funds don’t need to align with typical VC cycles also works in the other direction, as deals “can be IRR-driven rather than multiple-driven,” Levene said. “Traditional funds get one chance with each check they write — an opportunity over a short time frame that generates a high IRR but low multiple would not really suit a traditional fund; whereas for listed funds, where recycling is built-in, it can be very attractive.”

Recycling is another key concept when it comes to listed funds. Here’s how Draper Esprit explained it in its press release: “Unlike private VC models, which would distribute returns to their LPs, Draper Esprit’s model enables it to deploy them right back into new investments, ensuring more of Europe’s best startups can raise funding.”

This also explains why you shouldn’t necessarily expect to see them raise more and more capital. “In a perfect world,” Chapman pointed out, “realizations equal investments, so you are self-sustaining.” This seems to have worked out reasonably well for Draper Esprit, which between its initial AIM listing and its move to main markets “has grown to a market value of approximately £1.4 billion, a more than elevenfold increase from its listing value of just over £120 million.”

During this journey, Draper Esprit bumped into the limitations of smaller markets.”We spent five happy years on AIM, raising money annually — until we crossed over the billion [sterling] capitalization mark. By then, it was quite obvious that if we want to fulfill the same ambition and growth over the next five years, we were going to need to step up onto a bigger market that was going to give us wider access to funds and [expand our] attraction to a much larger group of people,” he explained. Attracting a much larger group of people is indeed one of the key elements of listed VC funds.

Democratizing venture capital

There are impacts to the public venture model that go beyond just what it may be able to do for venture investors and founders. The model can open up venture capital returns to regular folks by allowing them to buy into a VC fund without having the asset base that doing so tends to require in markets like the United States. U.S. accredited investor rules and often tightknit LP-VC relationships can make nearly every venture capital fund unreachable for retail investors.

As Mercia’s Stephen Johnson notes, venture capital has historically been a “both opaque and relatively inaccessible asset class.” But publicly listed venture groups are just a click away in a brokerage account for your average bloke.

Augmentum’s Levene raised another reason why traditional venture fund setups keep many smaller investors out of major venture funds. The investor said that the public-venture model allows retail investors to gain exposure to both startups and growth-stage companies without the “minimum check sizes that are necessarily part of LP structures for administrative purposes.”

Some firms take things even further. Forward Partners’ Brisbourne told The Exchange that “opening access to the early-stage venture capital asset class is incredibly important” for the firm, its shareholders and the larger U.K. startup market.

The expectation by listed venture capital firms that retail investors would want to participate in their offerings, and own shares in their companies, is coming true so far. Brisbourne said in an email that the demand his firm is seeing “from retail investors is strong and our listing was oversubscribed.”

And Draper Esprit itself recently announced a plan to raise around 111 million pounds by selling equity on the PrimaryBid exchange, where retail investors could buy into the offering. (PrimaryBid is a Draper investment, we should note.) Per the investing group, the now-closed offering was oversubscribed and saw 603,500 shares sold to retail investors out of a total of 13,299,278. That’s just under 5 million sterling from retail out of the whole.

For the Americans reading this, imagine being able to put your next investment check not into an index fund, say, but the next Index or Sequoia fund. Would you? Perhaps. That’s the possibility we’re discussing. And yet we may not see listed U.S. firms in the same number as in the U.K.

Why not the U.S.?

The U.K. and U.S. regulatory worlds are different. One distinction that came up in several interviews for this piece is the U.K.’s Enterprise Investment Scheme (EIS). Created in 1994 to boost investment into smaller, unlisted companies, it was designed to encourage private investment. Draper Esprit, for example, has 150 million pounds in EIS vehicles.

But more important may be how onerous it is to go public in the United States. Per Chapman, the “junior market in London was very helpful” in their listing process. While the United States has worked to make the process of going public easier — private S-1 filings, for example — it appears that the AIM and related European exchanges offer an on-ramp to the public markets that the United States largely lacks.

And the requirements of going public in the United States are heavy. From regulatory expectations to the pace at which financial details are shared, listing on the Nasdaq is different from pursuing a flotation on the AIM. To paint broadly, when Chapman was discussing the fintech market with The Exchange, he noted that “regulators in Europe … are very positive toward innovation and incumbents and challengers,” while his “American colleagues are less complimentary about the SEC.”

The U.S. model of handling public companies did not arise from nothing; different examples of high-profile fraud helped craft them. But that doesn’t mean that they are perfect — or helpful in attaining the level of public market innovation seen on U.K. exchanges.

So will we see more listed VCs in time? Yes, it appears so. There are enough advantages to encourage more firms to float. But for now, it appears to be a European phenomenon. Perhaps in time, the regulatory structure in the United States will loosen, but until then, we don’t expect to see the domestic venture firms that so often litter our pages to file paperwork for their own IPOs.