The first time I encountered the issue of inadvertent disclosure of venture capital / private company information was back in 2004, when this ground-breaking Wall Street Journal story hit, Venture Capitalists Scramble to Keep Their Numbers Secret.
The issue was pretty simple. If public money were being invested in venture funds, then a conflict emerged between non-disclosure agreements required by the venture funds and the FOIA requirements of those funds to disclose their holdings. In this case the issue wasn’t the valuations of individual holdings, but the performance of the funds themselves. In the end FOIA appears to have won and it looks like CALPERS, for example, no longer invests with either Kleiner Perkins or Sequoia, though a quick search here shows that GGV and Khosla were seemingly willing to put up with the disclosure requirements.
I had two takeaways from the situation:
- I was surprised that people didn’t think of it in advance. The issue seemed to sneak up on the VCs.
- When there is a disclosure conflict, the rules governing the investing party will tend to win.
I guess not everybody got that memo because recently we’ve had a similar issue with publicly-traded mutual funds that have invested in privately-held, venture-backed companies.
A series of stories by Dan Primack in Fortune discussed the markdowns of companies including SnapChat (25%), Zenefits/YourPeople (48%), DataMinr (35%), or e-cigarette maker NJoy (90%+). The second story showed that MongoDB has been cut in half since Fidelity’s original investment, while Domo has doubled. The third story discussed the consequences of all this including
- It will presumably be harder for Fidelity and other funds to get into these private deals
- There will be pressure on the VCs to mark the holdings to similar levels in their portfolios
- It presumably hurts the startups themselves via reputation damage and could hurt their ability to recruit new talent (though lower valuations can actually help here for sophisticated people)
But the more interesting question is did this take any of the companies by surprise? Was it an overlooked detail in a pile of closing documents? Did the Fidelity’s of the world have a right but not an obligation to disclose (e.g., materiality)?
It’s like we went public without even knowing it.
So it seems to me that in the hurry to these mega-round, unicorn-round deals that nobody paid attention to the lawyers — or maybe the lawyers didn’t speak loud enough — about the disclosure risks when taking money from publicly-traded mutual funds.
I’m guessing the answer to my question is “not so good” and startups are going to think twice, maybe three times, before taking money from this class of investor, even if it’s “dumb money” at a high valuation.