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Jeff Osborn Explains The Facts Of Life
The Birds & the Bees, And The “Real Deal” On Financing Ideas To IPO

(McLean, VA -- September 20, 2000)  Most funders will tell you not to look for money too far away from your business.  They want to be close so they can check in every once and while, but not Jeff Osborn.

“There’s someone who showed up here tonight,” said Osborn, speaking to a crowd of Internet entrepreneurs at this evening’s Netpreneur.org Coffee & DoughNets meeting, “I've put six figures into his company and I’ve never met him before tonight.”  It’s one of several companies Osborn said he has funded, sold and cashed out of, and, “still never seen the faces of the people who did it.”

Osborn is the founder of Osborn Capital, a seed capital investing firm that has done deals in over 40 startups, including such successes as Aptis, which was sold to Nortel Networks; Compatible Systems, which was told to Cisco for $567 million; and ArrowPoint Communications, which was also sold to Cisco for $5.7 billion dollars.  In addition to Osborn Boats, a manufacturer of racing crafts that Osborn also founded, Osborn Capital has invested in local netpreneurs including Broad IP Networks, eHarbor, EyeCast, Netwhistle.com and altaVoz.

Granted, he may be atypical in his ideas about distance, but it’s that kind of iconoclasm that has powered his success.  And his straight-talking style is why his topic was “The Real Deal” about financing a startup company.

Take the subject of valuations, for example, something that bedevils all entrepreneurs. When you’re an unfunded startup going for your very first round of money “One of the rules you learn with VCs is that you have to be absolutely confident that your pre-money value is now [for example] $1.7 million.  Why?  For all the analytical reasons discussed in your business plan.  You are making it up.  He knows it.  You know it.  You just have to act like you are not making it up.  There is no magic to it.  Everybody makes it up.”

With similar pointed comments, more than a few wise cracks and only a modicum of confusion, Osborn took listeners, step-by-step, through the arcane process of calculating pre- and post-money valuations and ownership shares, round-by-round.  His ultimate objective?  To shatter an erroneous bit of conventional wisdom that too-often plagues first time entrepreneurs in their search for cash.  “Somebody wrote a book once,” he joked, “and left it in a public bathroom that said never to go under 51% [ownership for the founders].  Nobody has been able to track down who wrote this book, but the guy ought to be taken out and shot because this is what people all get upset about.”

Osborne’s point, once he finished stepping through his calculations, is that, in most cases, by the time a first-time entrepreneur gets to his first VC round, the founders’ interests will almost certainly drop below that mark.  Get over it, he advised, and, if it bothers you, go to therapy.  “Everybody wants grandkids, but nobody wants some guy sleeping with their daughter.”

“That's how it works,” he explained, “If you want to raise money and not give away any of your company, the Commonwealth of Virginia runs a lottery.  I suggest you buy tickets.  They will not ask for equity; they will just give you money.  It's a longer shot than raising VC money, but you won't have to give anything away.”

But if you’ve done the process right and found the right investors, giving up equity is a good thing because, although you have a smaller piece, the whole pie is worth a lot more.  Of course, in the best of all possible worlds, you find a way to get the cash to stay in business and keep ownership, but that’s also atypical.  One way to do this kind of bootstrapping is to follow the lead of Gold Wire Technology, an Osborn Capital portfolio company that was able to bring in money through consulting services while they built their eventual product.  According to Osborn, “That's the kind of company that doesn't need a VC.”

While some might take issue with elements of Osborn’s view, his no-nonsense approach is something netpreneurs need to hear, especially in today’s funding climate.  The Internet space has always been in flux, but never more so than now when entrepreneurs, VCs, angels and everybody else are still reeling from Wall Street’s plummet in April and subsequent gyrations.  Netpreneur.org’s Fran Witzel opened the meeting citing recent data from PricewaterhouseCoopers MoneyTree™ survey, which reported that while the overall amount of VC money invested for the second quarter of this year increased, the number of seed and early stage investments dropped by 25%.

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There are changes going on in both the public and private markets, and everyone’s trying to figure out what they mean for the future.  B2C and B2B plays, each, in turn, once the darlings of the industry, are now out of favor, and VCs seem only interested in the most esoteric infrastructure deals, such as optical networking.  What’s more, as dizzying IPOs have become a thing of the past, investors struggle with a dilemma: they have more money to invest than ever before, but their exit strategies are drying up.  That means that they have to support companies through additional rounds of funding that they thought would go public much sooner.

Washington Post business reporter and columnist Shannon Henry, who moderated the question and answer session following Osborn’s talk, noted, “I have heard a lot of the VCs start to say there is denial going on.”

Entrepreneurs have always found the funding hunt arduous, but now it’s downright precarious.  The money’s out there, but entrepreneurs will have to work harder to get it.  Investors are choosier, and Osborn said that the private market is currently in a deflationary period.  “While it was all going up,” he observed, “there was a big incentive to buy quick.  If you didn't put your money in early, you were going to miss the next step, the next uptick.  I think that the general feeling now is that it's all drifting downward. . . . In a deflationary time, there is every incentive in the world to wait.  Why invest today when it's going to be cheaper next week and the week after and even cheaper the week after?”

Osborn believes that not only will things get tougher and valuations go lower, he is even predicting a recession by the end of the year.  For netpreneurs, this all means that the largesse of the Internet’s early days are over.  It’s back to scratching tooth-and-nail to keep your enterprise afloat, like entrepreneurs had to do traditionally.  And it means finding creative, outside-the-lines techniques for finding capital.  In April, Osborn’s team began making phone calls to their portfolio companies advising them to develop plans for how they will succeed if they aren’t able to raise more money.

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“If you don't have a plan to end up making money without raising another nickel, you really, really need to think about just what it is you are doing, the livelihood of the people working for you, the security of your marriage and all those other pieces.”

His words may sound ominous, but entrepreneurs of earlier days would simply recognize them as a return to “normalcy.”  Osborn knows what it’s like in a world where VCs don’t stand in line with ready checkbooks.  He was a serial entrepreneur himself, starting out in the early 1980s with seminal networking and data communications companies.  That was back when you had to sign an agreement not use the Internet for commercial purposes before you could get online.  (Don’t forget, that was only a few years ago.)  One venture he started, Wilder Systems, which failed for lack of capital, cost him a bankruptcy, his car and a home foreclosure.  That part is not atypical.  Statistics show that most first-timers fail, which is why the good ones have resilience, courage and a seemingly endless well of optimism.

The sixth startup Osborn worked at was a little startup called UUNET, now the country’s largest ISP and part of WorldCom, where he was that company’s first VP of Sales & Marketing.  “Here is the Horatio Alger portion of my little story,” he told the crowd, saying that three years later, “to the day,” that they foreclosed on his home, “I made about $10 million in one day.  Yes, because this is America.”

The secret?  Know your industry.  Osborn spent more that 15 years in data communications before hitting it big at UUNET.  What he knew about his industry is what helped Wilder Systems get off the ground and kept it going for as long as it did.  It’s how he got hooked up with UUNET in the first place, and it’s one of the few ways that you’re going to find angels for those earliest funding rounds.  “If you know your industry really well, then you are a known entity in it.  You can talk to people in your industry who have become successful and moved on and are funding little companies.”

The stories about overnight mega-wealth for 22-year olds like Marc Andreessen may get all the headlines (although fewer now than a year ago), but entrepreneurship is a “grinding proposition.”  In the recent years of the Internet gold rush, people have forgotten some of those basic rules of business.

“There is such a correlation between people crashing their companies and not having known squat about their industry beforehand that I'm amazed more people don't figure it out,” Osborn said, “If you have been a librarian for 20 years and you now want to do optical networking switches with forward-looking routing, that's probably a bad idea.”

Today, Osborn sits on the other side of the deal table and tries to help first-time entrepreneurs navigate the complex path to startup success.  At tonight’s event, the edited transcript of which is available at the Netpreneur.org site, he discussed topics that ranged from pre-money vs. post money, incubators vs. incinerators, how to lie with stock shares, why “stealth mode” is stupid and why pizza guys make the worst investors.  It was hard-won advice for any entrepreneur trying to navigate a shifting landscape.  And if some of it goes against the flow of conventional wisdom, as Osborn said, “Never go on the advice of one person.  Try to get a little consensus because there is so much information about this running around right now, and you have just heard a bunch of it.”  Good advice regardless of the topic.

Copyright © 2000 Morino Institute. All rights reserved.

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