Mutual Fund Fun

One of many interesting changes in venture capital in the past few years has been the emergence of mutual fund companies investing in very late rounds. In many ways this makes sense — technology companies are delaying IPOs, and a late-stage investment gets a mutual fund pre-IPO equity at a slightly better price (they hope) and often with significant  downside protection not available in a public offering.

But good intentions have unforeseen consequences, for mutual funds have to publicly price their holdings in a way that venture capital firms do not. And that has lead to some very high profile discrepancies in the way different mutual funds value private shares. An analysis by the WSJ found a dozen private companies — including high flyers Uber, Dropbox and Cloudier — valued differently by mutual funds, with discrepancies sometimes as high as 50%.

This broke though in early November when several fund publicly disclosed that they had revalued shares, including Fidelity marking down its Snapchat holdings by 25%. Dan Primack at Fortune explained why this portends trouble: among other reasons, venture firms going to LPs for a new fund would have to justify the discrepancy of any internal valuation, and startups could have trouble attracting talent or new investment with shares that were not similarly priced.

A number of VCs chimed in, including Glenn Solomon at CCV, who summarizes the key question: do you really want public disclosure of equity value prior to an IPO? Before public information is disclosed, many companies depend on momentum — the signal that a mutual fund believes value is declining is a substantial risk, and not one that can be easily addressed. Rising tides lift all ships and shareholders, but when (not if) the market turns, this is one strategy that will create quite a wake.