Looking for money to launch that great entrepreneurial idea of yours?Good luck you'll need it. Venture capitalists and angel investors who less than a year ago were throwing money at even harebrained ideas have almost completely shut off their cash spigots. They're no longer spending their days and nights poring over business plans. Instead, VCs are busy steering their pre-existing investments away from the rocks, and angels, well, many have returned to their "day jobs."
"The days of, 'If you build it, they will come' are over," said Paul Nadel, managing partner with East West Venture Group.
Still smarting from the dot-com collapse, L.A.-area venture capitalists are now shifting to patentable technologies that have a clear short-term path to profitability.
"If you're not hitting milestones, executing well, getting the proper traction, you're not getting money," said Jeff Anderson, managing director of Mellon Ventures Inc.
Of course, the number of startups achieving all that is miniscule compared to the once-plentiful number of e-commerce and online content startups that in recent years past were clamoring for and getting funding.
The firms getting the attention these days are those that boast sexy, potentially groundbreaking and most importantly patentable technologies.
"I'd say there's been a move towards harder, more intellectual property-rich companies," said Anderson. "Deals that are getting done now are bulletproof."
One such "bulletproof" company is Photobit Corp. of Pasadena, which has licensed patents from NASA's Jet Propulsion Laboratory. It just completed a $25.6 million capital infusion led by Basler AG, Hitachi Ltd. and Intel Corp.
Photobit supplies complementary metaloxide semiconductor (CMOS) image sensors, which are used in the PC video camera market, in dental technology and in the automotive industry.
"We've always had a straightforward business model, and it hasn't changed at all," said Sabrina Kemeny, chief executive of Photobit. "What has changed is that now it's in vogue."
Others agree.Core technology gets hot
"There's definitely a focus on how unique and protectable the technology is," said Brad Jones, managing director at Redpoint Ventures. "You can analyze a core-technology business, figure out how much money it will save the customer and determine how big the market will be. With non-core-technology businesses, the analysis is more difficult because you can't objectively analyze (those factors)."
For core-technology businesses, the current environment may even be favorable than the recent past because there are now far fewer companies that are deemed worthy of consideration by VC firms.
"If anything, it probably would have been more competitive (to get funding) a few months ago," said Gerard Casale, chief executive of X-Laboratories LLC, a technology operating company that closed a $1.5 million seed round in December. The L.A.-based company, currently in the process of negotiating a $2.5 million round with undisclosed investors, makes equity investments in "protectable" (but not yet patented) technologies.
Essentially, it mines fresh ideas from affiliate research-and-development facilities with the hopes of spinning new technologies off into separate companies, in which it would maintain a stake.
Even companies, like X-Laboratories and Photobit, that succeed in getting venture backing, still have a much tougher road ahead than their predecessors did.
A tech company working on the next new thing may take about 18 months in product development to get a device or application to market and gain initial customer traction. If all goes well no small feat in a slowing economy it would take at least another two years before it's ready for an initial public stock offering, said Dave Lavinsky, president of Growthink Inc., a Los Angeles-based think tank that tracks the venture market.
Just as well, because it may be that long before Wall Street regains its appetite for tech-related IPOs, some industry observers said.Tending the flock
As for the venture capitalists, they're spending much more time as hands-on managers of their existing portfolio companies, and far less time conducting due diligence for new investments. In fact, many venture firms in Southern California haven't made any new investments since the second quarter of last year.
"They are allocating all of their funds to existing portfolio companies and they're not investing in any new companies," said Nadel of East West Venture Group. "These funds need to protect their existing companies that need more capital and are unlikely to receive it from outside sources."
Entrepreneurs confirmed that VCs are focusing on shepherding their existing portfolio companies toward profitability, rather than investing in new companies.
"You found many of the VCs hadn't made an investment in six months," said Alex Nesbitt, president and chief executive of Sameday, a developer of rapid-response product distribution software, which closed its $20 million third round of funding in mid-December. "Venture capitalists have spent a lot more time with us."
Sameday's backers include TH Lee Putnam Internet Partners, IGNITE Group, Accel Partners and Idealab.
It's evidence that money is still available, it's just harder to get.
"Actually, now is a great time to fund and/or start new technology businesses," said Lavinsky of Growthink.
It's a great time for entrepreneurs, assuming their technology is solid, because there are fewer acceptable business plans competing for cash. And it's a great time for new VC funds to enter the market because competing VC firms are so preoccupied tending to troubled earlier investments.More buying power
Also, valuations of VC-recipient companies across the board are much lower now, said Beth Kinsey, manager of the technology group at City National Bank, a division of City National Corp. That means VCs now get a larger equity stake for the same amount of cash.
For example, Kinsey said, a $5 million investment today might buy a 40 percent equity stake, whereas eight months ago it might have only bought a 15 percent stake.
With further signs of economic decline in 2001, it's not surprising that many local investors are predicting that trend will continue.
"The general sense is that the market has not gotten better (for venture capitalists), although I would say that this whole process is positive for the VC industry," said Todd Springer, a managing director at Trident Capital in Los Angeles. "From 1999 to 2000, there were a lot of marginal-quality deals. Those same companies are returning to the market for more funding, but are having difficulties (raising capital)."
Most VCs are turning their noses up at Internet commerce deals, whether business-to-business or business-to-consumer. But the better-established e-commerce outfits have been attracting equity investments from Old Economy corporate investors that are involved in the same or complementary lines of business.
For example, Ford Motor Corp. was among the investors that put $13.5 million into JoeAuto.com Inc., a Houston-based company seeking to open service centers nationwide.
Expect to see more such deals in the months ahead, Lavinsky said.
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