Crescendo Ventures: To Raise or Not To Raise

Last month, there were some online rumors that Crescendo Ventures was planning to follow Worldview Technology Partners and Mobius Venture Capital into the dustbin of VC history. Such speculation was likely based on Crescendo’s dismal track record and subsequent inability to find many takers for a new fund, but was disputed by both GP and LP sources. They told me that Crescendo would restart fund-raising late this year, with an eye toward closing by mid-2007. This is all well and good, but doesn’t really answer the larger question: Should Crescendo bother? 

Let me preface what follows by saying that I personally like David Spreng, the founder, managing general partner and sole key-man at Crescendo. Few other VCs are as forthright when their firms have organizational troubles (of which Crescendo has had a bunch), and he neither yelled nor screamed last night after hearing that I had obtained Crescendo’s most recent quarterly report to limited partners. He made his case, to be sure, but did so as transparently as possible. He truly believes that Crescendo is poised to turn the corner, despite having “dug a huge hole.” 

Crescendo Ventures raised around $640 million for its fourth fund in September 2000, of which 97.5% was called down as of June 30. This means that it has just over $15 million in pure dry powder, but also has around $37 million in cash on-hand and the ability to recycle another $58 million. This gives Crescendo a grand total of $110 million to make around five more new investments (two term sheets nearing signatures), plus continue to support follow-on rounds for 18 of its 25 active portfolio companies. Among those portfolio companies not expected to need additional cash are BroadSoft (considering an IPO) and SOISIC (has received acquisition offers from ARM and Soitec). 

Both BroadSoft and SOISIC, however, are currently valued at substantially less than Crescendo originally paid for them. This isn’t terribly surprising, since Fund IV is deeply underwater. Of the 25 active portfolio companies, only six are being held above-value (Crescendo only marks to recent financings or realizations). The remainder is either below-value (8) or being held at cost (11). Crescendo also has disposed of 21 companies, not including a handful of “pre-seed” deals that got written off at around $0.33 on the dollar. Of the disposed companies, 12 were written-off completely, while most of the others represented steep losses. In fact, Crescendo only has one positive realization: Sistina Software, which was acquired by Red Hat at around a 3x return for Crescendo. Moreover, Sistina was led by former Crescendo partner Jeff Hinck, who since has moved on to Vesbridge Partners (which is having its own fund-raising troubles). 

It would be easy to dismiss these troubles by pointing out that Crescendo IV was raised just before the bubble burst, but that wouldn’t help explain why its previous fund – closed in 1998 – also is underwater (as is 1997’s World Fund). So how does Crescendo plan to tempt LPs? 

The answer is twofold. First, Spreng is issuing a flurry of mea culpas. Not only does this mean apologies for a drifting investment focus that has occasionally included both med-tech and telecom, but also for creating an investment team that was painfully short on operating experience (since resolved). Second, and more important, Spreng will argue that Crescendo actually has performed well since fixing the two aforementioned problems in late 2002. 

“We drew a line in the sand in 2002, and basically restarted out firm and portfolio,” Spreng explains. “We dug a huge hole for ourselves, but have been working diligently ever since to climb out of it.” 

He claims this post-2002 portfolio is top-quartile, and I have not seen any IRR numbers that either validate nor invalidate the claim (although top-quartile claims should always be met with skepticism). Of Crescendo IV’s active portfolio companies, nine received their initial Crescendo investment prior to the “line in the sand,” while the other 16 19 got funded afterward. At first glance, Spreng seems to be correct. After all, eight of the early companies are being held below-cost, while just two of the later ones are. What this neglects, however, is that the later portfolio also includes just two six companies being held above-cost, while the remainder are at-cost. In other words, the new strategy has proven more break-even than breakout. 

So should Crescendo bother to raise another fund? It’s too early to tell. 

The firm does have some promising portfolio companies (Pure Digital, for example), but cannot successfully pitch Fund V by talking about revenue growth and customer acquisitions. Instead, it needs a bunch of positive realizations, and needs them fast. This also means that the firm should reconsider its plan to keep making new deals, since it smells of desperation. Give money back to LPs instead of recycling, and pour all efforts into the existing portfolio. I realize that Crescendo’s LP base is largely dumb money — some U.S. public pensions sprinkled among overseas backers – but gullibility only goes so far. 

As an LP recently told me about Crescendo: “Get some positive realizations, or get out.” That’s sage advice for Crescendo, and for the VC market at large.