VALLEY VIEW

Back to Contents of Issue: December 1999


Winning venture captial -- it's not as easy as you think

by Tom Spargo

Whenever I tell someone in Japan that I am president of an Internet startup here in Silicon Valley, they usually congratulate me and say something like, "Great timing. There is so much money in the U.S. right now. It must be easy to get an Internet venture financed these days." The standard reply I have developed is: "It's not as easy as you think." The advice I give Japanese entrepreneurs trying to locate financing is to realistically assess their chances with VCs by gaining a deep understanding of how the VC industry operates in both the U.S. and Japan.

It is true that venture capitalists in the U.S. have set records this year for investing in startups. According to VentureOne, $11.4 billion was invested by VCs in the first half of 1999 -- exceeding the total amount invested in 1997 and equaling 90% of the investment total for 1998. Much of this investment has gone into e-businesses in staggering amounts. Webvan.com, for example, received $75.1 million for expansion of its online grocery business. What's more, new VCs are arriving at Sand Hill Road everyday, making it certain that this trend will continue.

However, just as an increasing number of new VCs are arriving in Silicon Valley, more and more entrepreneurs are emerging with creative new e-business plans in record numbers-making it just as competitive as ever to win venture capital. The statistics I have gathered from my colleagues in the venture capital industry tell the tale. Garage.com is an online service focused on connecting seeding to early stage startups with private equity investors. I have been told that they received 13,000 business plans in the first year of operations. Of those 13,000 ventures, 20 have been funded and Garage.com is looking to fund 10 to 20 more. Traditional VCs on Sand Hill Road have similar numbers. One VC I spoke with said they get 1,000 business plans a month. More popular VCs claim to be getting up to 1,000 business plans per week. VCs typically fund just 20 to 30 ventures in a year.

With so many of their business plans chasing VC, e-business entrepreneurs now have to compete on qualities that some of the early Internet wonders-including Yahoo!, eBay, and Amazon.com -- did not have to possess. The management team is where many VCs start. Do you have some IPO experience? Do you have "gray hairs" (older, more experienced managers)? How much of your own capital have you contributed? Many e-businesses today are started by ex-Netscape, AOL, or Cisco managers with experience, money -- and most importantly -- connections. Another important question is about barriers to entry. The Internet was once thought of as the great equalizer -- allowing hot young startups to compete with established brick and mortar operations. Today, many areas of the Internet are saturated with competition, making it more like the old analog world of business. Fresh startups have to compete with earlier Internet players who've staked out first -- mover advantage. If your e-business is truly unique, VCs want to know that your model will successfully exclude newcomers. Finally, VCs want to see a product. It is rare that a VC will fund a company with only a business plan and a management team. E-businesses that are already in operation with a list of customers and revenue coming in the door make a much more attractive investment.

In Japan, the same positive trends in venture financing appear to be occurring. Many major corporations in Japan now feature venture finance arms, with a presence both in Tokyo and here in Silicon Valley. Companies such as Softbank and the Netyear group have announced the creation of new funds for Japanese Internet ventures. Even foreign VCs such as J.H. Whitney and Warburg Pincus have opened up shop in Japan to look at promising new ventures. But my guess is that the same rules for U.S. VCs are going to apply with even stricter criteria for risk-averse Japan. As more and more business plans begin to circulate in Bit Valley, Japanese VCs will look carefully to find ventures with a sound business plan, experienced management, and a working product.

If I were an entrepreneur in Japan, I might look for opportunities to partner with existing e-businesses with successful operations in the U.S. Many areas of Japanese e-business remain open to new entrants. The entrepreneur who proposes to do e-business in Japan based on the technology and business model of an existing successful U.S. partner would surely be well received by Japanese VCs.

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