an inside look at the venture industry
venture capital confidential
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Mr. Burke: That goes to what we always tell the entrepreneurs: Focus on the VCs
who have the expertise in what you're trying to do.
Mr. Wade: It's one of the key things that we look for.
Mr. Wilcox: Even so, it's unrealistic to expect most VCs to know your technology as
well as you know it. You've
been living that technology for years, presumably. They're going
to get outside help. They can't know it as well as you do.
Ms. Burkett: And technology isn't the only thing. We're counting on our venture
capital firms to build companies that are going to provide
Mr. Wilcox: Technology is actually secondary. When we invest in funds, just like
when funds look at entrepreneurs, they're looking first at the
people, then, second, at the product or the technology. We do the
same thing when we look at funds. We're more interested in the
Mr. Burke: I have some questions on cards from the audience and some sent by
email. Here’s one: What is your time horizon for profitability?
Mr. Biddle [Laughing]: Before we run out of money.
a difficult question. If you've got a company that's burning $30
million a year and co-investors who aren't particularly strong or
haven't done a good job, the company needs to be profitable
tomorrow or I'm going to lose all my money. If I have a strong
syndicate and a company that's got a manageable burn rate, it
could be three or four or five years.
The thing we're
trying to do in venture capital is build what I call a “magic
box” where you put in a dollar, turn the crank, and two dollars
come out. That's what we do. We invest before that box is built.
Once the box is built and it works, you want to pour money into
the machine because it works. I have companies and they can lose
all the money they can raise because the model works. It varies.
Mr. Burke: During the
rigorous due diligence process, what considerations or weightings
are given to the strengths and weaknesses of the management staff,
both from the company's standpoint and then when the LPs are
looking at the funds?
Mr. Biddle: It depends on what they're trying to accomplish. There's usually two or
three things that are the “secret sauce” in a deal that have
to be pulled off. Those are the things we've got to focus on. If
we have an inventor who has come up with something that's just
over the top, we'll build a management team. If we have somebody
with a pretty good idea and they haven't been top of their class
in everything they've ever done, we're probably not going to make
the investment. It depends what the secret sauce is. Most
companies have a good idea, they've got an advantage, they've got
a year. The management team is going to be the key.
Mr. Burke: From the LP’s perspective I would imagine there are fewer secret
sauce ingredients. How would you view the management team?
Mr. Wilcox: For us, it's the people -- their character, honesty, integrity. Do they
have some entrepreneurial scar tissue? That's important. Beyond
the people, it's the track record. Do you have some exits you can
Mr. Wade: One of the things that's important for us is whether this group has
worked together previously. Is the track record such that they're
not coming together in one cohesive unit for that present fund?
Ms. Burkett: In the process, we ask what they do to build management teams, and what
their success record has been in building management teams or
filling certain slots. Do they work with headhunters? Do they have
good networks among the entrepreneurial community to fill those
Q: I’m Ike
Broaddus with GURU NETworks.
We are a software company. We have products, customers, revenue,
and we're looking to raise a number that seems to be somewhere in
No Man's Land between the angels and the VCs. I'm wondering, do we
pare down the business plan and go angel, or do we bulk it up and
go for VCs? We're looking for $1-$1.5 million. What is the
dividing line and has it changed in the last year or so?
Ms. Burkett: I've heard the angels flew away.
Mr. Biddle: One of our investors has the expression: “The tourists have left.”
If you've got
$1 billion, it's not economic to make investments at that size.
The numbers don't work to write a small check. However, you've got
a lot of funds in the area with $50 million, $100 million, $200
million. We've invested as little as $50,000, and I want to be
able to get $1 million to $5 million into the company over time.
That's part of
the reason why we're small. Our definition was: If 10X on a $1
million investment is immaterial to your returns, you can't make
million dollar investments. With a $125 million fund, $10 million
is material to me and my limited partners. We'll make $1 million
dollar investments, just getting traction. It's fashionable
compared to a couple of years ago, but it's not enough.
most of the people who got rich in the computer industry were
software people, and they couldn't raise any venture money. Before
1990, venture capitalists wouldn't touch software companies. They
had to build it themselves and they ended up owning 30%-40% of
their companies, whereas the hardware people, the Gene Amdahls of
the world, ended up owning 2% of their companies because of the
capital requirements. In a business like you're talking about, you
should be able to grow the business and be profitable without me.
I'm just gravy.
Q: Good morning.
My name is Keith Bickel with The
Bickel Group. Could you comment on this term that seems to
have crept into the lexicon, “dry powder?” Everyone is talking
about dry powder, meaning that there’s lots of capital sitting
on the sidelines. From a limited partners’ point of view, is
this becoming a bone of contention, particularly with respect to
management fees since these guys are still paying themselves a
nice, rich management fee without having deployed the capital? Is
there enough capital leaving that it will be business as usual
going forward in the next decade? Could we see another boomlet on
the horizon because there's a ton of dry powder waiting to be put
Mr. Burke: Before you answer that, does anyone have an idea of how much dry powder
is actually out there on the sidelines?
Mr. Biddle: The number I see is $150 billion.
Mr. Bickel: So, it is
emerging as a point of contention?
Ms. Burkett: It is.
Mr. Biddle: Let me address the dry powder issue, because the rules here have
changed a little bit. Back in the 1980s when we had a meltdown
like this in a much smaller industry, you hunkered down and found
a rancher where you would put a quarter of a million dollars and
the company stayed alive. Today, if you're burning $1 million, $2
million a month, there's no rancher who's going to finance that;
it's got to be venture capital.
today are brutal. There's a router company in California that
raised $150 million. My understanding is that this thing works and
it's incredible. They just raised $100 million as a Series A at a
$5 million valuation. The $150 million turned into $5 million
dollars worth of common stock. The hot money who put up the $150
million, they're wiped out. The big franchise funds who put up a
lot of that money, the new $100 million, they wiped themselves
out, but now they own the whole company.
In areas like
communications, every financing that's being done today is a
restart financing, so all the prior money gets wiped out. If
there's another financing after this, that money will get wiped
out. The last guy left is going to own the whole company. You
can't do that without dry powder. We're not allowed to crossover
I've called 92%
of my 1997 partnership. The fact that I have a lot of money, if
you're in my '97 fund, means that I've got reserves for you, but I
can't put $5 million or $10 million dollars into a deal. Each
fund, when it runs out of money, is dead. They will be wiped out
in future financings. If
I have the ability to threaten to write a check, to say, “The
terms you're offering are ridiculous, I'm going to do it
myself,” then I may not have to. The ability to write that check
potentially can protect you in the future financing.
another side to this. If I wipe out the prior investors that
includes the company’s management who are left with no
incentive. That's terrible, so the management gets reloaded. In a
lot of these companies -- maybe they raised $70 million of
preference that we get first before the entrepreneur sees a nickel
-- well, when the VCs get wiped out, the entrepreneur moves way up
the food chain. As a result, these are good for the entrepreneurs,
but they're terrible for the investor who ran out of money.
Q: I’m Bill
Wakefield with Hypergrowth Advisors. It was mentioned earlier that
a lot of VCs are going to have difficulty raising a future fund.
What sort of due diligence should entrepreneurs do on the funds
that they're targeting in order to make sure that the VC will be
around in the future?
Ms. Burkett: You can go to their websites and find out a lot of information about
them. Most of them will tell you the kinds of investors that stand
behind them, and, if they have good, strong institutional
investors, the chances are that they're going to hang in there
with that fund.
Mr. Biddle: You can also look at the co-investors in their deals. The really good
investors in good companies usually have their pick of whom they
want, and they'll pick the best groups. Look at the syndicates
that they invest with. The fact that you can raise another fund,
as I said before, is not going to save you, however, because
you're in the last fund. The important thing you want to
know is where you are in the fund. How much capital have they
called? What are their reserves? Do they have dry powder for you?
Mr. Burke: A number of funds are affiliated with a strategic LP or partner with an
interest in a particular space. How does this impact the decision
by other LPs to invest and how does it impact the way those funds
Ms. Burkett: For me, if I'm in a fund with a
corporate or strategic partner, I have to be concerned about it
because they have an agenda that's different from mine. Mine is a
return agenda; I'm not looking for opportunities to broaden my
base of business the way they are. The mix of limited partners
that I am involved with makes a difference to me because of their
Mr. Wade: Historically, we haven't made very many investments in funds that have
a strategic limited partner or some kind of strategic focus. I
don't see where that would really be a good fit for us going
Mr. Wilcox: We may be in a few funds that may have a few strategic limited
partners, but I agree that they sometimes have a different agenda
that may conflict with ours.
Mr. Burke: Jack, looking out 18 months, where do you see the bulk of the
investment dollars going?
Mr. Biddle: Into Series A rounds and promising companies that have raised $100
Part of the
problem with the business is that startups are built on the
Fortune 1000. You can't make money selling to little guys or
schools; you have to sell to Caterpillar and DuPont and Rockwell,
and it's hard to do. A lot of VCs and a lot of entrepreneurs have
forgotten who their customer is. They think their customer is
Goldman Sachs, then Fidelity Funds for their IPO. That's not your
customer. Your customer is Caterpillar. We should be investing in
things that a $60,000-a-year programmer at Caterpillar will bet
his job on. He’s willing to bet it on a startup if you can make
his life better. People who have value propositions to the Fortune
1000 can build real companies, and, at the end of the day, if you
have a real company, you will get paid. The focus is on real
companies. What you're hearing about “traction, traction,
traction,” is people remembering who the customer is, and
showing that this guy at Caterpillar will bet his job on a
startup. He is betting his job because there's no other
employer in Peoria. It's not trivial. The investor is saying,
“Prove it. Prove that the guy will bet his job.” Historically,
the IBMs of the world were successful because people literally bet
their jobs if a supplier went out of business. It has to be a heck
of a value proposition for you personally to take that kind of
Mr. Burke: We've talked a lot about early stage companies. A couple of people in
the audience want the panelists to comment on the opinion that VCs
are not doing the best job in transitioning companies from early
stage to later stage. Do you agree with that opinion?
Mr. Biddle: It's very true. VCs have different backgrounds, and some are very good
at helping companies with systems and control in the later stage.
The hardest thing in the business is knowing when to step on the
gas, and that comes from experience.
We focus on the
early stage, and, as our companies get to be pretty big, other
investors have come in who are probably better at that than we are
and tend to take the lead. We have companies that are $100 million
companies. That's a different animal than the two guys in the
garage we backed earlier. We're not as active there as we were in
the earlier stage because we're not as good at it.
Mr. Burke: From the LP’s perspective, you have the portfolio with early stage,
later stage, and mezzanine funds. How does it break out for you,
and how do you think through weighting the stages?
Mr. Wilcox: We see it as three stages -- early, expansion, and later stage -- and
we try to weight each stage equally. Again, we watch them closely
for style drift, because we don't want the early stage guys
becoming expansion stage and we don't want the late stage becoming
Ms. Burkett: We overweight on the early stage with the theory that we're going to
buy low and sell high. Historically, the later stage is where we
started, but it has not been as successful for us of late, and a
lot of my late stage funds are telling us that they're getting
early stage pricing on their deals. I'm happy with the
over-weighting on the early stage with less on the later stage
because, in our portfolio, those are our bigger funds and they
have more capital to put to work.
Mr. Wade: We have a balance, but, as of today, we're looking to underweight the
later stage. If we were to add a new general partner it would be
in the early stage because we think that's where the upside and
the better opportunity would be.
Mr. Burke: One last question from the mail bag. How valuable are the intangibles
from the LP perspective and how much of this is just a dollars
game? How much do you pay attention to the funds and the people in
the companies versus it just being a returns game?
Mr. Wade: It's very important to actively develop relationships with your general
partners and to pay attention to what they're doing; specifically,
to try and hone in on whether or not there is some kind of drift.
When I get in a large setting like an annual meeting, I typically
don't try to talk to the Jack Biddles of the firm, I talk to the
senior associates, find out their insights, and see how things are
going from that level. I enjoy the opportunity, and I think it's
Jack, I shouldn't have told you that, but it's served me pretty
well in the last couple of years.
Mr. Burke: What do you hope to find out by talking to them?
Mr. Wade: What they're really doing, how things are actually working in the
organization, and where they think the opportunities lie.
Ms. Burkett: The entrepreneurs are also important in that mix. They can tell you
where the fund is going, how they're performing, and how their
different investors are contributing to the growth and value of
Mr. Burke: So you will actively seek out entrepreneurs who have been backed by the
fund that you're looking to invest in?
Ms. Burkett: When they give me the chance, yes.
Mr. Burke: I'm curious. With a show of hands from the audience, how many of you
have actually talked to the portfolio companies of a venture fund?
A pretty small number. It's some due diligence that I want or
for us. Thank you, all.
Ms. MacPherson: I think it's
interesting to look at the parallels between entrepreneurs who are
looking for private equity funding and the funds that are looking
for institutions to invest in them. Listening to the panel, I
observed a number of similarities.
LP’s perception about first-time funds is much like the way
funds look at first-time entrepreneurs. They both look at focus,
discipline, performance over time, the right people, market
dynamics, and the competition.
entrepreneurs know that the rules have changed for them, and we
heard today that the rules have also changed for the VCs. For
both, cash is king. The entrepreneurs look as it as “runway;”
the funds look at it as “dry powder.” They are two things that
you don't want to run out of.
right people are so important for both. Whether it's Jack trying to get the
right LPs into his fund, or entrepreneurs getting the right VCs
into their companies, it all turns out to be about the people.
Thanks to our
panel, and thank you all for coming. We look forward to seeing you
at the next event.