In key shift, Austin Ventures drops plans for early-stage fund

Decision by local VC giant could limit capital availability for Austin entrepreneurs, area experts say.


In a dramatic sea change for Austin’s venture capital sector, Austin Ventures — the firm that seeded the region’s first generation of tech startups and helped put Austin on the map as a leading software center — has abandoned plans to raise a new fund for early-stage investing.

The move is not good news for Austin entrepreneurs, local economics experts say, as it eliminates a dedicated source of capital that has helped dozens of early-stage Austin companies grow.

Austin Ventures instead will create an affiliate fund that will invest on a deal-by-deal basis using investment dollars from its network of tech executives and others.

The change marks a major shift for the 30-year-old firm, which has invested $3 billion in 280 Texas-based companies and has been a dominant source of money for Central Texas startups. The firm has backed some of Austin’s biggest successes, including Tivoli Systems, Silicon Laboratories and HomeAway, and backed the region’s first generation of Internet and chip design companies.

“It’s a change, it’s a unique model, and we’ll see if we can pull it off,” said Joe Aragona, a general partner at Austin Ventures. “The bottom line is AV is not shutting down. The partners don’t have issues among ourselves. It’s confusing to those on the outside, but it’s change. It’s not bad, it just takes some time to understand it.”

The early-stage affiliate fund, which is expected to operate under a new name, will be led by Austin Ventures veteran Chris Pacitti. Austin Ventures executives have committed $25 million to the fund, and the rest will come from outside the firm, such as from wealthy individuals who want to get in on a particular deal.

Meanwhile, an Austin Ventures team, including Aragona, is expected to raise a separate fund dedicated to later-stage deals. Officials declined to provide details, citing securities regulations. The fund is expected to keep the Austin Ventures name.

Austin Ventures raised its last fund in 2008. The fund, its 10th, totaled $900 million, with $300 million dedicated to early-stage technology companies.

The disclosure of this new direction comes at a crucial time for Austin Ventures, which has tapped out the new-investment capacity of its three currently active funds and has not yet closed a new fund to expand its portfolio.

Aragona said the remaining balance in the current funds will go toward managing the 50 companies already in Austin Ventures’ portfolio. The affiliate fund can start hunting for new deals, with the $25 million already committed.

Venture capital firms raise money from limited partners — primarily pension funds and other big institutions — and then invest it in promising companies. The goal is to get a healthy cut of the profits as the companies are sold or go public.

Austin Ventures has been trying to raise its latest fund for months but has yet to close, perhaps in part because of the dual focus on early and later stage companies. Limited partners generally want more control over how their assets are allocated, said Patrick Chung, founding partner of Xfund, which was initially founded as an affiliated fund by New Enterprise Associates.

“They want to more finely dial their exposure up or down on early stage, or China, or India, or late stage, or enterprise,” Chung said. “It’s not the lack of control, but the lessened control that comes with an all-singing, all-dancing fund” that gives some limited partners pause.

Austin Ventures has posted a mixed track record over the past decade or so, but its three most recent funds have performed well, according to data from the University of Texas Investment Management Co.

As of Sept. 30, its ninth and 1oth funds were valued by UTIMCO at $1.33 for every $1 invested. Its eighth fund was valued at $1.63 on the dollar. Those funds probably won’t reach the returns Austin Ventures generated in the mid-1990s with is fourth and fifth funds — the fourth generated $8.40 for every $1 invested. However, the three latest funds mark a rebound from what will likely be losses or, at best, break-even returns from the sixth and seventh funds, according to UTIMCO data.

Any full measure of Austin Ventures’ results must also include the impact it has on the Central Texas economy and community. Over the past three decades, the firm has invested more than $1.6 billion in more than 185 Central Texas companies and helped establish Austin as a high-tech center.

Aragona said the firm initially planned to continue its investments in the startup community through a traditional $150 million to $250 million fund targeted at early-stage investments. But around the beginning of the year — with the new fund not yet closed — Austin Ventures officials decided to shift to this different model.

“We decided it’s better for the partners at AV to put our own capital to use along with our network and a few institutional investors that are willing to do this on a deal-by-deal basis,” Aragona said. “This means we get to invest at our pace and not the pace based on ‘You have $300 million in a fund, you have to get it invested.’”

Kirk Walden, an adjunct business professor at Texas State University, said Austin Ventures’ move eliminates a dedicated source of capital that helped dozens of early-stage Austin companies grow.

“For Austin’s entrepreneurs, it’s not good news,” he said. “They were a source of capital when you needed a big chunk of money. They were there, and they played.”

In addition, Austin Ventures often co-invested in deals with firms outside of Texas, which helped draw money here that might have otherwise have stayed on the East or West Coast.

“They are a legitimizer for the Austin venture market, and they have always been,” Walden said. “For them to no longer be playing in early stage in a big and meaningful way really reduces the stature of the Austin market.”

But Joshua Baer, founder of technology incubator Capital Factory, said Austin Ventures’ shift might encourage outside investors to take another look at the region.

“Austin Ventures has helped build many of the successful companies that we have, but Austin is doing awesome, and more investors outside of Austin have their eyes here,” he said. “Quite frankly, this may create some oxygen to make other investors from the (Silicon) Valley feel more comfortable in coming in because they don’t feel like AV has a lock on it.”

Austin has seen an uptick in early-stage venture funds in recent years, with fresh pools of capital managed by firms such as Silverton Partners and Live Oak Partners. Virtually all of those managers have worked closely with Austin Ventures over the years.


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