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VC Focus Turns Away From Chips, Systems

It's just one move by one VC firm, but it's a sign of the times: Morgenthaler has stopped actively pursuing deals to fund chip and systems startups, turning its investment eye instead toward services and applications.

Among other things, that means Drew Lanza, a Morgenthaler partner and longtime Light Reading contributor, will soon be out of a job.

And while Morgenthaler isn't alone, its decision bears particular weight on the Light Reading universe. The firm was a longtime believer in telecom and one of the last to keep up a strong presence at tradeshows like OFC after 2000, as the downturn began to slide.

Lanza says the decision came after lengthy, soul-searching debate among Morgenthaler's partners. In the end, the company decided that chips and systems -- expensive businesses that usually require long commitments -- aren't the gold mines they used to be.

"We are shifting to lighter-weight business models (e.g. Siri Inc. which was bought by Apple Inc. (Nasdaq: AAPL) weeks ago) and de-emphasizing investments in traditional semis, especially Series A," writes Ching Wu, Morgenthaler marketing director, in an email to Light Reading.

Morgenthaler certainly isn't giving up on the companies it's already funded. Cortina Systems Inc. and Peregrine Semiconductor Corp. are still going strong, for instance, and Morgenthaler did drop $2 million on chip startup R2 Semiconductor a year ago.

"Like the rest of the industry, we are not optimistic about new chip startups because of their huge capital requirements and the fact that many VCs have already chosen to de-emphasize this sector," Wu writes. "We however believe in our existing chip companies, almost all of which are shipping products, and those of our VC brethren."

Lanza would have preferred to see the company keep the faith in chips and systems, but he can understand the decision.

"Maybe that means there are one to three chip companies [funded] per year, but not enough to build a practice out of," he says.

Silicon Valley chip investment dried up some time ago. Lanza searched for local Series A deals for fabless companies and found R2 was the only one in 2009. He found none in 2008.

The implication is clear: Silicon Valley's startup machine has become a creature of software.

Plenty of questions spring up from this trend. Can large companies keep up the innovation pace that startups once did? Or, has hardware technology reached a point where all the truly hard work is on the software side for a while?

For the venture industry, there's a question, too: Can services and software absorb all this money that's sitting around?

"How do we take $20 billion a year in venture capital and stick it into iPhone apps or the next Facebook? Something is very broken here," Lanza says. "And I don't have a solution. In fact, I think I'm as much a part of the problem as anything. I keep saying 'Let's do chips,' and maybe that is the wrong thing. But where does it all go?"

— Craig Matsumoto, West Coast Editor, Light Reading

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Pete Baldwin 12/5/2012 | 4:34:02 PM
re: VC Focus Turns Away From Chips, Systems

For those who'd asked for an update on Lanza... here it is. Quite a bombshell, just given how strong a player Morgenthaler had been in the optical space, especially.


Drew and I talked quite a bit on a philosophical level about the future of the industry. Lacking a large-scale VC machine, chip and systems development would seem to become the purview of the big companies like Cisco. Doesn't seem like a healthy thing for innovation.


Or, maybe this opens some kind of huge opportunity for the Israeli startups, or eventually Chinese ones.  I don't know.

paolo.franzoi 12/5/2012 | 4:34:00 PM
re: VC Focus Turns Away From Chips, Systems

 


I would have said that the Israeli's have already taken on the mantle on the semiconductor side, at least in my small world.  Broadlight, Passave, Ethernity, Wintegra, and about a zillion more are/were over there.  It is just one of those things where they have an active VC community and an infrastructure for investment and a base of people to start things.


I think China has a long way to go on the semiconductor side.  They seem much more prepared on the systems side.


seven


 

shygye75 12/5/2012 | 4:34:00 PM
re: VC Focus Turns Away From Chips, Systems

Great reporting here, Craig. Development work will not stop, but as you suggest the center of innovation will most likely be elsewhere. Drew's comments about where exactly "software" funding will go are worth serious thought.

^Eagle^ 12/5/2012 | 4:33:58 PM
re: VC Focus Turns Away From Chips, Systems

Craig, 


Nice article.  You know this is a subject near and dear to my own interests.  


I will see can I track down Drew over the next few weeks.  Might be interesting to talk with him.


sailboat

Drew Lanza 12/5/2012 | 4:33:56 PM
re: VC Focus Turns Away From Chips, Systems

Craig:


Thanks for the well written article. It was great having lunch with you and happy to hear that your family is doing so well.


Sailboat and brookseven:


Always happy to hook up for a beer and discuss how our world continues to change.


Others:


Please let me know if you disagree with any of the point's in Craig's article. I've been noodling this for a few years and would love to debate.


Drew

Stevery 12/5/2012 | 4:33:55 PM
re: VC Focus Turns Away From Chips, Systems

"How do we take $20 billion a year in venture capital and stick it into iPhone apps or the next Facebook? Something is very broken here," Lanza says. "And I don't have a solution. In fact, I think I'm as much a part of the problem as anything. I keep saying 'Let's do chips,' and maybe that is the wrong thing. But where does it all go?"


You're not gonna like my answer:  Back to the limiteds.


I'm sure you've looked at other innovation waves.  There is a time where things are wild and wooly, and there is a time of consolidation.  Investing in airplane manufacturers in 1970?  Why would you do that, the wave was past.



It is also worth noting:  Returns were severally goosed by Greenspan and cheap money pretty much from the time of Reagan.  Money supply now is going the other way (and there's more to contract) which is going to play hell with VC returns for the foreseeable future.



It was a good run, now go build a legacy with the time that remains.


DCITDave 12/5/2012 | 4:33:51 PM
re: VC Focus Turns Away From Chips, Systems

Isn't Google also competing to fund deals in the social media, search, and Internet apps space? Seems that would signal that the party was hitting its "Let's get one more drink and run before the fire marshall shows up" stage.

wentriken 12/5/2012 | 4:33:50 PM
re: VC Focus Turns Away From Chips, Systems

How do you invest in apps? Buy into the iFund.


http://www.kpcb.com/initiative...

^Eagle^ 12/5/2012 | 4:33:49 PM
re: VC Focus Turns Away From Chips, Systems

Drew,


Can you still be reached at Morgenthaler?  Or, is there a better way to reach you?  


Sailboat

Pete Baldwin 12/5/2012 | 4:33:48 PM
re: VC Focus Turns Away From Chips, Systems

Good point, 7.  Israel has the infrastructure, the funding, and the will to support these companies.


Where all these companies go when they grow up is a question, though.  Some of them are so specific in what they do, I can't see them becoming IPOs.  All acquisition targets, I suppose - it's worked for Passave and others already.


But that's exactly part of the reason why Silicon Valley is losing interest in the silicon. The days of chip companies becoming Broadcom seem to be past, or at least we're in a low point of the cycle.

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