This story is featured in the 4Q 2019 issue of the PitchBook Private Market PlayBook.
Marc Andreessen and Ben Horowitz first crossed paths about a quarter-century ago, when Andreessen was the soothsaying co-founder of Netscape and Horowitz was a product expert quickly ascending the ranks at the web-browsing pioneer. At first, they clashed. But before long, the two men developed a certain kind of chemistry.
After AOL acquired Netscape for $10.2 billion in 1999, Andreessen and Horowitz began to poke around for what was next. That same year, they teamed with two other entrepreneurs to create LoudCloud, later known as Opsware, an innovative web-hosting startup that later pivoted to offering Software as a Service. In 2007, Andreessen and Horowitz inked another billion-dollar exit, selling the company to HP for a cool $1.7 billion.
With their bank accounts well-stocked, Andreessen and Horowitz turned their focus to investing full time.
For a while, they were among Silicon Valley's most prominent angels, striking deals on their own. Before long, they decided to formally reunite. And in 2009, the new firm of Andreessen Horowitz launched its first fund, a $300.0 million effort focused on the software space.
In the summer of 2011, Andreessen published his now-famous essay on why software was eating the world. In the ensuing years, the ideas in the piece formed the basis for a16z's strategy. With early investments in companies such as Facebook, Lyft, GitHub, Slack and many more, the firm put its money where its co-founder's mouth was, staking a whole generation of companies that were using software to transform the way people interact, get around and do their work.
In the process, Andreessen and Horowitz turned a16z into one of the most respected VCs in Silicon Valley, a sought-after backer whose presence on a term sheet signaled to the rest of the world that a young startup was on the right track.
This year was supposed to be a triumphal one for the firm, with four of its highest-profile portfolio companies planning public debuts as part of an unprecedented group of unicorns taking the IPO plunge: Lyft, Pinterest, Slack and PagerDuty. All four successfully went public. But the result of those listings hasn't gone quite as planned.
The wave of high-growth but still unprofitable unicorns crashed onto Wall Street just as public market investors began to reevaluate how eager they were to invest in such companies at the sky-high valuations previously bestowed by venture capitalists. One might call it the WeWork effect. Both Lyft and Slack have seen their share prices plunge downward after their public debuts. Pinterest and PagerDuty both showed initial promise, but more recent months brought steady regressions down and to the right.
In the midst of it all, tech watchdog The Information published an in-depth report indicating that a16z's fund returns have also been falling off, with three of its past four flagship vehicles ranking in the bottom half of their respective benchmarks. The sale of shares in companies such as Lyft and Slack was supposed to offer a major boost to those IRR figures. But now, that boost doesn't seem as if it will be as big as it did a few months ago.
All that flux comes during what's been a very busy year for a16z on several fronts. In addition to all those exits, the firm has closed multiple major funds, made dozens of new VC investments and revealed plans to transform its legal structure. It's a cascade of changes that could represent the end of one era at the firm—one marked by its devotion to software startups and its shepherding of a cohort of longtime unicorns toward IPOs—and the beginning of something new.
If that's the case, what will the new era look like? Will software deals continue to be the firm's driving force, or will a16z alight on a new world-eating investment thesis? And after a decade in which it's transitioned from Silicon Valley upstart into a VC powerhouse, can it maintain its place at the forefront of the industry?
The firm declined to comment for this story. So instead, we'll turn to the data to see what a16z has been up to—and what might come next.
Changing tidesIn retrospect, 2011 was a clear inflection point for a16z. It was both the year Andreessen published his famous software essay and the year the firm began to greatly accelerate its investment activity—a16z's VC deal count leaped from 24 in 2010 to 58 the following year, per PitchBook data, and that figure has never dipped below 60 deals in any year since.
In the future, we may look back on 2019 as another moment of transformation.
In early April, Forbes published a lengthy feature story on a16z that included two very newsworthy nuggets: One, that the firm was abandoning its traditional venture capital structure to become a registered investment advisor, and two, that it was seeking to raise as much as $2.5 billion for a new late-stage fund. A few weeks later, a16z made the new fund official, announcing a $2.0 billion close for a vehicle called LSV Fund I. At the same time, the firm closed its sixth flagship fund on $750.0 million, which it will use to continue making its usual early-stage investments in the enterprise, consumer and fintech sectors.
Together, the two funds represented the latest steps in a general diversification in fundraising tactics, moving away from its almost exclusive focus on early-stage software deals. In the two years prior, a16z also raised $450.0 million for its second specialized biotech fund and $350.0 million for a first-of-its-kind crypto vehicle, collecting a total of $800.0 million to devote toward two areas the firm has identified as having the potential for explosive growth—much like they set their sights on software at the start of the decade.
As it turns out, that crypto fund may have been one of the first indications that a16z's days as a true VC firm were numbered. Led by general partner Chris Dixon, a16z has emerged as one of Silicon Valley's most prominent cryptocurrency evangelists; in 2018, the firm made 17 VC investments in the space that were together worth more than $750 million, according to PitchBook data. But being registered as a VC made it difficult to delve too deeply into the sector.
In the US, VC firms are required by the SEC to invest a certain amount of their capital in the equity of private companies. RIAs, on the other hand, can devote as much of their money as they want toward cryptocurrencies, public companies, mutual funds or other assets. As operating partner Margit Wennmachers described it in an interview with CNBC, opening up more investment options was the primary motivation for a16z's structural shift.
"As a firm, we have this massive ambition to be the best investor period," Wennmachers said in April. "[We] want the flexibility to invest in what we think is the best investment."
Taken together, a16z's move to the RIA model and its launch of new fund strategies dedicated to crypto and late-stage venture deals represent the firm's desire to remain on the cutting edge. The world of venture capital is changing. Companies are staying private for longer and relying on VC funding much later into their lifespans. For a16z to ignore such developments would be for the firm to do its LPs a disservice.
It's also not the only firm making such changes. In October, reports emerged that Founders Fund was raising $1.5 billion for a new growth strategy that, like a16z's LSV Fund I, is designed to allow the firm to continue investing in its most successful portfolio companies as they mature.
Scott Kupor, a managing partner at a16z, put it succinctly earlier this year in a note announcing the firm's nearly $2.8 billion worth of new funds.
"As the industry evolves," he wrote, "so do we."
IPO hangoversAgainst the backdrop of those developments, a16z was in the process of shepherding four of its highestprofile portfolio companies toward IPOs. Lyft led the charge, conducting a debut in late March that raised $2.3 billion and valued the company at about $24 billion, up from the $15.1 billion figure it achieved with its final private funding. After a first-day pop, a16z's 6.3% pre-IPO stake in the ridehailing company was worth more than $1.1 billion.
It was PagerDuty's turn two weeks later, with an IPO that valued the IT software developer at nearly $1.8 billion, in turn valuing a16z's pre-IPO stake at $284.0 million. A week after that, Pinterest took the plunge, going public at a $10.0 billion valuation, a multibillion-dollar dip from its last private fundraising. Still, the listing left a16z with a stake worth some $827 million. Slack completed the hectic stretch in June with a rare direct listing followed by a first-day pop, resulting in a market cap of $19.5 billion.
The workplace messaging company presented the biggest windfall yet for a16z. At Slack's reference price of $26 per share, the firm's holding was worth more than $1.7 billion. After a stellar first day, that figure leaped to nearly $2.6 billion.
All four of these companies were highly valued unicorns with businesses based largely on software. All four were also losing large amounts of money. For its fiscal 2018, Lyft posted a net loss of $911.3 million. PagerDuty's 2018 losses were much more modest, at $40.7 million, while Pinterest lost $63.0 million. Slack, meanwhile, was about $140 million in the red.
The logic behind their lofty valuations was based much more on revenue and growth than on current profits. But as 2019 progressed, it became clear that public investors were more worried about that than the companies' VC investors had been. Then, in late summer, the WeWork horror show began. More and more recent unicorns saw their stocks slump.
As of early November, shares of Lyft and Slack were selling for roughly half of what they were around the time of their respective debuts. Pinterest suffered a major dip in the wake of its 3Q earnings report, and PagerDuty stock was in the midst of a months-long decline.
For a16z, all four investments are still unabashed winners. But the reversals of fortune could raise questions about the wisdom of investing in lossmaking unicorns late in their private lifespans, once their valuations are already inching into the billions— the sorts of late-stage deals, in other words, that a16z just raised a $2.0 billion fund to pursue.
The next generationThose sorts of late-stage mega-deals have been a major part of a16z's activity during 2019, with the firm participating in more than a dozen VC rounds worth $100 million or more. But that's far from the whole story. It's also stayed active as ever at earlier stages, and it's remained focused on the kinds of startups it knows best, with 66.0% of its investments targeting companies in the software sector, per PitchBook data.
Most notable, perhaps, was a16z taking the lead role in a pair of investments in Big Data specialist Databricks: First, a $250 million Series E in February, followed by a $400.0 million Series F at a $6.2 billion valuation in October. The firm has also been busy reupping with other late-stage portfolio companies. It helped lead a $310.0 million investment in mobility darling Lime and took part in a $300.0 million round for social media site Reddit and a $250 million funding for Stripe that valued the fintech company at more than $35 billion. It's also staking new unicorns, leading a $318.0 million deal at a $1.7 billion valuation this year for Carta, which makes software used to manage cap tables.
The firm also devoted capital in 2019 to several smaller, buzzy startups that have captured Silicon Valley's imagination for one reason or another. In September, it took part in a $126.6 million investment in Anduril Industries, a developer of controversial border-control technologies founded by Palmer Luckey, the VR whiz kid who sold Oculus VR to Facebook for $2.0 billion. In June, the firm led a $33.0 million round for Superhuman, the exclusive email startup that's turned into a sensation in Silicon Valley.
And then there's what might be the firm's most interesting move of all. In August, it took part in a $50.0 million Series B in the Long-Term Stock Exchange, an ambitious effort to create an alternative stock market that's concerned more with a company's long-term health than its ability to create immediate profits. One proposed feature of the LTSE is that shareholders could see their voting power increase the longer they maintain a stake in a company; another would be certain restrictions on the sort of payment incentives a business can offer its executives.
It is, quite literally, the sort of thing that VCs would create if they were building their own exchange from scratch. Considering the rest of a16z's year, one might wonder if the firm wishes the LTSE had been an option for companies such as Lyft and Slack. Perhaps by the time companies such as Anduril and Superhuman are mulling over IPOs of their own, it will be.
Predicting the future is difficult, of course. The ability to do so is largely what's fueled a16z's rise to its current position of Silicon Valley preeminence. Just as Marc Andreessen told us it would, software has long since started eating the world.
Look at what a16z was up to in 2019 and you can see the outlines of where the firm thinks the VC world is going in the next decade. As giant buyout firms have evolved in recent decades to encompass credit, real estate and more, so too will VC firms begin to expand, broadening their scope to invest in different kinds of industries and asset classes. The biggest VCs will raise larger funds and deploy that cash at later stages. They won't abandon early-stage deals. But those sorts of traditional fundings will turn into just one arrow in the venture capitalist's quiver.
Will it come to pass? Will a16z be proved right again? Check back later. Maybe sometime around 2030.
Featured illustration by Mara Potter/PitchBook