SV Life Sciences, Flush with $523M Fund, On the Hazard of Having a Lot of Dough

3/23/11Follow @xconomy

You’d think that when the venture capital industry is going through a historic shrinkage, life must be pretty good at SV Life Sciences.

This $2 billion diversified healthcare fund, with main offices in San Francisco, Boston, and London, was one of the fortunate few VC funds that was able to reload with a $523 million fund last year. This was especially newsy, since SV secured its windfall when many established funds were biting their fingernails, hoping to eke out an IPO or portfolio company acquisition before hitting up big pensions and endowments for more money.

There’s no doubt that SV Life Sciences was fortunate to nail down that money in 2011, SV’s Mike Ross told me when we met earlier this year at an investor conference in San Francisco. Having money when money is scarce means that SV is facing less competition from other investors looking to bet on promising drugs, diagnostics, devices, and healthcare services companies it covets.

But there is a downside to being flush, too. One of the biggest worries SV has these days isn’t the usual risks about whether a company’s technology works, whether it has a good regulatory strategy, or whether the management team has the right stuff. One of the big concerns now is whether SV is confident it has enough venture capital partners, over the long haul, who will be strong enough to help finance a promising company all the way to the point it can generate liquid returns. Given that new drugs, devices, and diagnostics take years to develop, and a lot of money, it requires an entire venture syndicate to have money today, and a lot more money tomorrow.

“The good side of being in our position is that we are in a great competitive position because we have capital, and several years of capital. There’s less competition now for good ideas,” Ross says. “The bad news is, we always syndicate our deals, and there are fewer people who can syndicate. The last thing a company needs is financing risk on top of everything else. You want to make sure the financial footing you are providing is strong.”

The main narrative in venture capital hasn’t changed much since the financial crisis in September 2008. The national picture for venture investing still hasn’t completely recovered, but 2010 did represent an upswing in investment for the first time since 2007. Yet venture cash reserves are running low in many places, as few firms dared to try to raise new funds in 2009 and 2010, when the pensions and endowments who fuel the industry were feeling stung by losses in the stock market. Many VCs anticipate there will be a stampede of fundraising activity this year and in 2012, and that at least one-fourth or one-third of firms will simply fade away because they can’t raise the dough.

Given the amount of turmoil in venture capital, I was curious to hear about how this might change things for Ross and his fellow partner in San Francisco—Lutz Giebel.

For a couple of guys who just raised $500 million, they sound pretty humble. SV did raise its latest fund for a reason—-it has generated wins like Phase Forward, Solexa, GlycoFi, and Third Wave Technologies in the past.

The strategy, as Ross described it, is pretty straightforward. SV looks to invest in chunks of between $1 million and $40 million. About half of its money is aimed at therapeutics, and about one-fourth in medical devices, and another one-fourth in healthcare services (although diagnostics get filed under the therapeutic category, and health is classified as part of healthcare services). Staying diversified is important, Ross says, because it enables the fund to shift from one sector to another when valuations get too bubbly in a certain area.

“When things get out of whack in the economy, we can cool off a certain sector,” Ross says, while investing in others so SV doesn’t end up “sitting on our hands.”

While my colleague Ryan McBride has reported that SV is looking to dial up its health IT investing, Ross was pretty coy when I asked him about specific areas of emphasis or where he sees the big ideas. SV says it likes to back proven entrepreneurs, especially people it has successfully invested in before. The firm banks heavily on the management horses.

“We tend not to play the innovator,” Ross says. “We don’t try to be the smartest guy in the room. We look for the best ideas, best market potential, best clinical or platform potential, one at a time. Those ideas tend to come from entrepreneurs. That’s different than some other funds that decide they are going to be visionaries. Our vision has to do with how good the vision is of the people we back.”

While there are certainly entrepreneurs who fit the bill, I couldn’t help but come back to the point about peer venture firms that SV feels comfortable investing with. Ross didn’t want to name them, because he said he’s afraid he’d accidentally leave someone out. But he said only about three or four life sciences funds remain of a similar size, similar ideas, and a similar diversification strategy. There are some smaller funds that SV can syndicate with on certain deals, and large funds it can work with on certain deals.

It will certainly be interesting to see who invests with whom in the next couple of years as the venture capital shakeout continues. It used to be that a venture investment was a sign of validation for a company—but now it could also be a sign of mutual confidence among investors that they have staying power.

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