Emerging Enterprise Center Blog - Commentary and Analysis For Entrepreneurs and Startups

Here is post from Clickz on December 21 in which the FTC tries to explain what it means by do-not-track.  Here is the key paragraph:

The recent FTC report envisions a do-not-track mechanism that lets consumers opt out of third party tracking for behavioral advertising, which is one of the most common forms of online tracking. If companies wish to share personal information with third parties for purposes other than online behavioral advertising, we think some greater form of user consent should be obtained. The system as currently envisioned would not apply to ordinary first party tracking or to a first party's use of a service provider for website analytics, assuming the service provider makes no additional use of the collected data.

It is important to keep in mind that the FTC is not proposing a blanket ban on all tracking.  Having said that, it is still not clear to me that the proposal is not based upon the perceived creepiness of tracking and the emotional response of many people to the idea that they are being tracked. 

The reason that third party tracking is “one of the most common forms of online tracking” is that there are substantial economic benefits to it.  No one has really answered the question:  What happens if do-not-track actually results in many people opting out?

One thing is likely, the people who make money as a result of this kind of tracking wont any more.  So, whatever “free” content is being supported this way will either disappear or will be paid for some other way.

Another thing that might happen was suggested to me by a well known entrepreneur and investor here in Boston.  A great deal of effort and ingenuity will be expended getting people to opt in.  If this happens, it could have a lot of ramifications.  One consequence that he suggested is that once people opt in, they will have expressly agreed to the use of their information and there is likely to be much more far reaching and free ranging use of their information compared to the current system in which abusers are likely to be outed unpleasantly one way or another.  A second consequence that he suggested is that businesses will try to position themselves as first party providers in various ways and thereby evade the ban.  Finally, he suggested that the cost getting people to opt in will simply be added to the cost of innovation.

One thing is for sure, there is significant money to be made through behavioral advertising.  Until the cost of getting to good quality behavioral advertising becomes so high that it become uneconomical to go there, the money will be seeking ways to get there. 

We just sent out the client alert below.  I thought it was important enough to reproduce in its entirety.

The Federal Trade Commission (FTC) just published its preliminary Staff report setting out its proposed framework for protecting privacy in the digital economy. View the FTC’s press release here. The FTC is seeking comments on its proposed framework by January 31, 2011 and expects to issue a final report in 2011.

Every digital media business that attracts advertising revenue online and/or through mobile devices, as well as the venture capital and private equity funds that invest in them, has a stake in the outcome of this proposed framework. It can affect current business models, future financial performance and potential exit opportunities for current and potential companies that rely on collecting data from consumers.

The final report, and possible new regulations and/or federal legislation to follow, will help shape substantive law, enforcement policies and commercial best practices regarding consumer privacy practices that will need to be followed.

Notably, the FTC staff cites flaws in commercially available, privacy-related plug-ins and browser features, and supports a more uniform and comprehensive consumer choice mechanism for online behavioral advertising than currently exists. This is often called “Do Not Track,” in a nod to the currently mandated “Do Not Call” registry that restricts the activities of telemarketers. FTC staff identified and requested comment on a number of issues concerning the formulation and adoption of any such “Do Not Track” mechanism.

Other important components of the proposed framework include:

• Scope: The proposed framework would apply to all commercial entities that collect or use consumer data that can reasonably be linked to a specific consumer, computer or other device. Here, the FTC staff recognizes the erosion of the distinction between personally- identifiable information (e.g., name, address and social security number) and supposedly anonymous information that may be collected without the knowledge of the web- or mobile device-user.
• Promotion of consumer privacy: The proposed framework would require companies to promote consumer privacy and security protections into their daily practices and to consider privacy issues at every stage of design and development of products and services. Suggested steps include:1) providing security for consumer data; 2) limiting data collection to the relevancy of a specific business practice; 3) enforcing sound retention policies; 4) providing assurances of data accuracy; and 5) implementing comprehensive data management procedures throughout the lifecycle of products and services.
• Consumer choice: In addition to the “Do Not Track” mechanism described above, the proposed framework would require companies to provide consumers with a notice-and-choice mechanism at the point when the consumer is providing data to the company. This would not be required in the context of commonly- accepted practices, such as order fulfillment or first-party marketing, however.
• Transparency and Access to Data: The proposed framework would require vastly- increased transparency with respect to data collection practices and allow for increased consumer access to data collected. As part of implementing this component, the Commission suggests a level of simplification and standardization for currently loosely governed website privacy policies.

Before this framework is submitted in final form to the FTC for a vote by its commissioners, which will accelerate the process further, the FTC is requesting comment by interested parties on a variety of key related issues, including:

• Scope: Are there practical considerations that support excluding certain types of companies or businesses from the framework?
• Substantive Privacy Protections: What substantive protections should companies provide, and how should the costs and benefits of such protections be balanced?
• Comprehensive Data Management Procedures: How can the full range of stakeholders be given an incentive to develop and deploy privacy-enhancing technologies? 
• Consumer Choice; “Do Not Track”:
  • How should a universal choice mechanism be designed for consumers to control online behavioral advertising?
  • What are the costs and benefits of offering a standardized uniform choice mechanism to control online behavioral advertising?
  • What is the likely impact if large numbers of consumers elect to opt out?
  • Should a universal choice mechanism include an option that allows consumers more granular control over the types of advertising they want to receive and the type of data they are willing to have collected about them?
• Transparency of Data Practices: With respect to website privacy notices, is it feasible to standardize the format and terminology for describing data practices across industries? Should companies inform consumers of the identity of those with whom the company has shared data about the consumer, as well as the source of that data?
• Notifying Consumers of Changes in Data-Use Practices: What is the appropriate level of transparency and consent for prospective changes to data-handling practices?

The Dodd –Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) came about as the government responded to the Wall Street meltdown and the recession.  In it however were some pet projects that did not seem connected to the issues that caused the recession in the first place, one example - the originally proposed “Revised Accredited Investor Standard”.  For a recap of who is an Accredited Investor read my fellow blogger, Dave Broadwin’s exhaustive feature on the same subject.  Also, see Fred Wilson’s blog and the Xconomy article on the start-up community’s concern that perhaps the bill would penalize and cripple the ranks of an important part of the start-up ecosystem, the angel investor. 

In the end, when it comes to the new Accredited Investor definition - it’s not that bad.  The new standard for accredited investor does raise the bar (but not by much).  To qualify under the new standard an individual’s net worth (or joint net worth with their spouse) must be greater than $1,000,000.  However, the net worth must exclude the value of the person’s (or couple’s) primary residence.  Perhaps the government does not want people to make investments based on the purported value of their house.  Why should you be able to claim that you have the ability to make a liquid investment in a speculative investment when most of your assets are illiquid?  The alternative income test of annual income over the last two years of at least 200K annually (or 300K if factoring in a spouse’s income) stays the same.  As a tangential thought, should someone who meets the income test but not the new net worth test be making what is in reality a speculative investment?

I spoke about the new standard and its impact with one the firm’s senior securities lawyers, and his response: “Sure they raised it, they have been talking about doing that for ages, and frankly I am bit surprised that they only raised it the amount they did”.  On the other hand, there are good arguments as to why the old standard was sufficient given how the world has changed over the last three decades and the ability for more investors to protect themselves via access to information and services that was once only available to the very wealthy (see Dave’s blog on this very subject).  At the end of the day, any way you slice it a higher bar means less people who can invest in start-ups without going through the cumbersome registration process which mean less angel financers and unfortunately harder time for start-ups to raise capital to bridge the valley of death.

Check out Foley Hoag’s official advisory on the Revised Accredited Investor Standard and talk to your lawyer to see how the new standard applies to you.

Fred Wilson has a nice post on net neutrality. Here is the gist of what he has to say:

Somehow net neutrality got painted as "regulating the Internet" when it is really all about not regulating the Internet. Net Neutrality is about keeping the way the Internet works today; an open Internet where innovation is allowed and freedom reigns.

While I agree, here is how I think of it: The internet can only exist with the consumption of limited public resources. A clear example of this is its use of broadband spectrum. Spectrum exists in nature, but there is only so much of it.  In order for all of us to benefit from it, we have permitted many companies to exploit the resource (and they need to get a return – which they are doing).

Unlike oil, for example, we don’t know how this resource may be used in the future. In the last 20 years the uses have both expanded and changed dramatically. In the case of oil it is still basically electricity, heat and gas (not much change since way before WWII). The story of the last 20 years is that the internet has grown to bring ever greater numbers of people into it for ever greater and more diverse uses.

To permit a few companies with a vested interest to control a limited public resource would put an end to the growth and evolution of the internet. Here part of the comment I put on Fred Wilson’s post:

Here is a bit of a tangent -- a different kind of tragedy of the commons. Would your cow get any grass if a few big herd owners were allowed to control access to the commons? The commons needs to be available to all on some fair basis. It can't be controlled by a few whose economic interest is to exact a toll for use of a resource that isn't theirs in the first place. (I know carriers (and others) invested in the infrastructure and need a return so it isn't as simple as I am making it out, but this is the gist of it.)

BTW: Metcalfe’s law says that the value of a communications network grows exponentially with the number of users. According to Wikipedia it can be state as follows: Metcalfe's law states that the value of a telecommunications network is proportional to the square of the number of connected users of the system (n2). To the extent that we put an end to growth in the internet, we will pay for that with lost value.

There has been surprisingly little (any at all?) buzz in the entrepreneurial and venture community around the joint meeting of the FCC and the FDA at the end of last week. 

There is surprisingly little buzz around the combination of broadband and medical devices. 

But, there is surprisingly much R&D in the space (and it will grow massively, I predict). There are today heart monitoring, glucose monitoring and responsive intervention devices that use broadband. All these devices, and many more that exist or will exist, are subject to regulation from the FCC and the FDA. If these two agencies don’t coordinate, it will be really bad news for med device entrepreneurs and investors.

Well, they (the FCC and the FDA) are trying. The joint meeting (a first of its kind between these two agencies) is a start. But here is something even more stunning: The FCC and the FDA have announced and published a memorandum of understanding between them. This is the beginning of a collaboration in which they “agree to work together to promote initiatives related to the review and use of FDA regulated medical devices…that utilize radiofrequency emissions or otherwise fall under the jurisdiction of the FCC.” The purpose of this collaboration is to “increase regulatory predictability and understating of regulatory requirements for medical device providers.”

This is an excellent example of where regulation can do some good and actually grow the market for these new medical technologies. If there is a clear regulatory process that makes the approval process for these types of so-called convergent devices predictable and (hopefully) short, it will reduce uncertainty and risk and, as a result, the cost of innovation in this space. It will also mean more access for more people sooner. In effect, it will grow the market. But no regulation or uncoordinated regulation will lead to chaos, increased uncertainty and increased risk. All of which is anathema to entrepreneurs and investors. 

According to Wikipedia, Metcalfe’s Law states that the value of a telecommunications network is proportional to the square of the number of connected users of the system (n²). Done right, this regulatory process can enable Metcalfe's law to operate and grow the power and value of the network; done wrong it can stifle growth and innovation.

Stuart Brotman referred to this MOU as an “historic” event. There might be a touch of hyperbole in there, but he is probably not far off.

This type of cross agency collaboration is rare, but given the fact that so many industries will be using broadband for more and more activities, collaboration will be needed across way more agencies in the near future. 

If you are innovating in the medical device space, the educational space, the security space, and others or, if your revenue model involves targeted mobile (or on-line) advertising, watch out the regulatory wave is coming. 

Andy Payne put me on to this blog, which I admit is not one that regularly read, but Paul Kedrowsky wrote a post and it, with the attendant comments, gives a good picture of the debate around the supersede phenomena. My subjective sense is that a lot of the action is in fact at the superseed level.

Chris Sacca, who dropped a comment, has this to say about the superseed investment world:

While we are at it though, what your piece doesn't really recognize is that companies backed by Super-Seed funds don't have to IPO or see extraordinarily remarkable exits for everyone involved to have had a great outcome. This week, for example, I sold a company for $20m which I backed at a $2m post two years ago. I will take returns like that all day despite how dreadful they would seem to a traditional VC.

This is half of the question that I left on Andy Payne’s blog about certain kinds of investment just not needed “traditional” VC investment. In the end they don’t make sense for traditional VC funds.

At the other end of the spectrum, investments that consume large amounts of capital and need a long lead time to exit also don’t really make sense for “traditional” VCs. The best examples I can think of for this type of situation is renewable energy projects. Without a robust IPO market to pass these companies onto (after some level of initial investment and business progress), these investments don’t make sense in a 10 year fund.

This might account for what I believe is the low level of investment in the cleantech and renewables space.

We need more diverse fund structures to address the current opportunities.

Mark Suster wrote a compelling post on Chartbeat  on the 18th (also look at the comments – I was all set to try it when I found out Chartbeat was going to ask for my credit card before the trial period). Chartbeat provides real time analytics for blogs (instant Google if you will). The issue that I am interested in however is how important are the numbers and do you really need to know them instantly, daily, weekly, monthly or even quarterly? My thesis is that you don’t.

Numbers are always fun, especially when they are positive. Some people watch the Dow, in Houston they follow the rig count, some people obsess over how much venture money was put to work last quarter. There must be a lot of well earned satisfaction in having a large and growing audience. I don’t know how 100,000 uniques per month compares to traditional print media, but it sounds like a lot.

Neither Mark Suster nor any of the people like him who write on the general topic of VC stuff are selling subscriptions nor are they (generally) advertising. Nor, frankly, is it likely to benefit them a lot professionally. Although, I suppose in their business visibility and profile may increase deal flow and access to fellow investors. So, there is a possible motive there.

Having said that, I wonder if Suster, Wilson or any of the other successful VC bloggers would stop posting if their numbers were say 8,000 uniques instead of 80,000 uniques. I am going to guess that they would write anyway. If something else is true.

Again, I don’t have any idea what their motives are, but I am going to guess that the kick is more from the comments than the anonymous numbers. My bet is that it is the interaction with the 10, 20, 40, 80 or more people who comment and provide insight and interaction around topics that keep the writers juiced. The tens of thousands who merely read are nice, but it you just wanted readers you could write for the print media. 

My guess: It is the interaction, and you don’t need cool analytics to see and feel it.

Although my usual stomping ground is in the mobile/IT/web space/storage/cloud space (with some biotech and cleantech as well), I have a number of clients building businesses in the materials space using carbon fiber, aerogels and other materials. Some of them are clearly green companies, but these companies don’t necessarily fit the “traditional” tech company profile that VCs like to invest in. They are really platform technologies with applications in many huge markets across a variety of industry verticals. These entrepreneurs are trying to build very big businesses.

So, trying and get something like that financed can be a challenge. The usual VC suspects don’t often have the domain expertise. 

Anyway, the point of this post is that I am interested in meeting VCs (and other investors) who have an interest in material technologies. 

This should be of particular concern to directors appointed by holders of preferred stock. 

At the recent NVCA document group meeting there was a lot of discussion around a recent Delaware case (Trados) that pushes the law of fiduciary duty owed by directors generally in the direction of common stockholders. Jeffrey Wolters of the well known Delaware firm Morris, Nichols, Arsht & Tunnell LLP, recently sent around an email to the group noting another recent Delaware decision (QuadraMed) that is consistent with the Trados case. 

This is not going to be a lawyer's discussion of the case and the fact and the holding. We may prepare a client alert separately (and I am happy to discuss it with anyone who wants to).

The larger point is that the way Delaware law is trending is that the directors owe their fiduciary duties to the holders of common stock and the holders of preferred stock will have whatever rights they bargained for and that is that.

While those of you who “represent” the holders of preferred stock may not like this result, it does lend conceptual clarity to fiduciary the obligations of directors. Companies enter into contracts (and preferred stock is a contract albeit one among three parties the company that issues the stock, the purchaser/holder of the preferred stock and the State of Delaware whose corporation laws define certain rights limits etc of the preferred stock), and companies have a legal obligation to meet their contractual obligations. 

If companies fail to meet their obligations, bad things happen: They get sued for breach. But companies are not obligated to do more than is required under a contract. You fulfill the contract and that is the end of the obligation.

Once the company has fulfilled its contractual obligations, the board owes a duty to the common stock to run the company with the interest of the common stock in mind.

While this seeming conceptual clarification leaves a lot of questions to be decided and worked out, at least it starts to get us away from a world in which directors could, potentially, have conflicting duties to holders of preferred and common.

Having recently had a pretty bad skiing accident that required surgery and will require a long recovery (while chasing my son down the lift line at Ninety Nine 90 in the Canyons), I have not been able to write many posts, but now that I am past the initial stages of recovery, I have had some time to think about the tech world again.

Here is one of the somewhat intractable issues that have troubled me. I know, from internal research at our firm, that the average life of a venture financed client (from the time the company becomes a client until exit) is about 10 years. I also know from discussion with a VC friend that the average time to exit for companies in his portfolio is 8 years (at least that is what he is telling people). Remember, these are average numbers, so many investments take longer to get to exit. Also remember that our firm’s numbers reflect investments from a broad variety of VCs from the top tier to the little know funds. My friend is with a top tier firm, so their results may be somewhat better than those for the industry as a whole.

OK, so why waste time thinking about this number? Well, most funds have a ten year life. Ideally during that term, the fund is fully invested and fully liquidated. Most (all?) funds provide for extensions to liquidate laggard investments. Even still, limited partners in VC funds would like to get their return in ten years – that’s the plan.

If you know that your average time to exit is 10 years, then you know that investments made in years 3, 4, and 5 (let alone anything after that) are, on average, going to run way over. This accounts, in part, for the phenomena that many VC fundss will linger long after they are unable to raise new rounds.

But, it also may have an impact on investment style. Except in the earliest years of a fund, VCs will almost always be in the position of being under pressure to look for an exit. I am sure there are many ways in which VCs try to mitigate this pressure (doing follow on investments in new funds might be one, but that is a hassle for other reasons).

I suppose it is impossible to know how much pressure this situation exerts upon VCs to favor tightly defined business plans with a clear path to an exit over grander visions? I have commented elsewhere that VCs seem to me to favor narrowly focused tightly defined business plans that address clear pain points and have obvious exits. VCs also seem to me to have become very focused on domain expertise within their investment portfolios. This makes sense, why invest in something you don’t know about? But it also leads to a certain orthodoxy in the nature of investments.

In some sense the life of a normal fund is not suited to the life of a normal company. As a result, VCs are structurally driven to favor narrowly focused investments over grand visions.

David Wessel’s recent article in the Journal, “A Prozac Economy has its Costs,” asks: If we were able to invent the economic equivalent of Prozac – something that would take away the high-highs and the low-lows of our current economy (think the tech bubble of the late 90’s and the current recession) – would we elect for a prescription? Would we, given the choice between a dynamic, volatile economy with painful depressive phases, and a more mellow economy with fewer crises but a slower growth rate over the long term than its manic doppelganger, settle for a calmer existence? Though my understanding of economics is limited to my college-level macro and micro courses, from an entrepreneur’s and VC’s point of view, I think my answer would be: give me manic any day.

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Should you jump on a plane to look for money on the west coast?

Last Friday David Bell (from Fenwick & West), Sarah Reed (Charles River Ventures), Lizette Perez-Deisboeck (Battery Ventures) and I were the panel for a Dow Jones sponsored Webinar on the subject of "The Evolving Venture Term Sheet: What VCs & Execs Must Do To Secure the Best Deal." This Webinar was built around the deal statistics published by Fenwick (a west coast law firm) and Foley (an east coast law firm). As you might expect, the numbers appear to confirm that there are some identifiable differences in practices between the west and the east.

David Bell summed it up better than I can, and I know I can’t now recreate his exact words, but the gist of what he said was that activity and valuations are picking up on the west coast sooner than on the east coast and that deal terms are slightly better on the west coast than on the east coast. In essence, the east coast lags the west coast a little bit in good times and bad. So, in bad times terms are a little less draconian on the west coast than on the east coast, and in good times terms are a little better on the west coast than on the east coast.

This observation is, I think consistent with the statistics gathered by Fenwick and by Foley. It is also consistent with anecdotal information. On the west coast there are more deals with stronger valuations than on the east coast. Also, one the west coast there are relatively fewer deals with terms like a 1x preference and full participation. It is not that there are wildly different practices, but there does seem to be a small but consistent difference.

This persistent difference seems all the more odd because the VCs (who presumably drive all this) do deals on both coasts. Battery and Charles River both have offices in Waltham and Palo Alto. It is hard to account for this difference. One facile answer is to say that it is cultural. But, that seems too easy. Also, I would think that if this were the case, west coast firms would bring their attitudes east and grab lots of good deals. Perhaps it has to do with the relative mix of industries – the east having a relatively higher percentage of biotech and life science. Biotech being relatively more expensive and requiring a relatively longer investment horizon than, say, IT, might breed more conservative practices.

While I don’t really know, I am guessing that the explanation is more along the lines of some economic factor than a purely cultural one. I think getting a west coast VC into your mix is probably a good thing, but I would not stop looking for investors in Boston.

There is a frenzy after every quarter during which various blogs and others comment on the industry numbers as they come out.  We are about to publish our next issue of EEC Perspectives (I will post a link when we actually publish.)  Unfortunately, most of the news is not good:  fewer funds raising less money, etc.  Mike Feinstein's recent blog sums it up nicely.

While I don't think there is a limit to entrepreneurial innovation (good ideas around which good businesses can be built), I wonder if there is a limit to the rate of absorption (the rate at which the world economy can embrace good new entrepreneurial businesses).  If there is, then this rate would define the outer limits of what entrepreneurs and the people who invest in them can achieve at any given moment.

I can't believe there is a scientific way of figuring out what the rate of absorption might be, but it might be possible to have a subject insight into it.  Unfortunately for me, one of the best things that can happen to my clients is to be acquired by some Fortune 500 company.  (I say unfortunately for me because they then cease to be my client.)  However, in the process  I get a glimpse of how the largest companies in the world integrate newly acquired companies and technologies into their existing operations. 

Integrating newly acquired companies is a real challenge, even to the very largest companies.  As a result even Fortune 50 or Fortune 5 companies can only do a limited amount of it.   So, I suppose you could figure out what a company the size of Microsoft, IBM, Google or GE does in a year and extrapolate from that.  You would have to include the possibility that some of these companies remain stand alone companies. 

My hypothesis is that there are not now (nor indeed have ever been) enough exit opportunities or opportunities to exist as profitable stand alone companies to support the size of the venture capital industry as it existed in 2007 (and probably now as it exists now).

In a way this approach is just looking at the problem "from the other end of the telescope" from the paucity of returns and the incredible shrinking number of funds and amount of dollars being allocated to them.

We had a great kickoff to the new "season" of programs at the EEC on Tuesday night, when we hosted the IEEE Boston Entrepreneurs' Network (ENET) September meeting "Launching Your Successful Company."  There are many more upcoming events of interest to entrepreneurs at the EEC in September, so check out our events calendar.

The slides from the presenters will be posted to the ENET website shortly, so I won't try to summarize them in full, but some interesting take aways from the three presenters:

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VentureFizz is a web site that came to my attention though its viral marketing campaign.  Having now visited it a few times and checked out a couple of features inlcuding their sections on fundings, news and blogs (which, by the way does not list this blog), I think it is an excellent addition to the information side of the entrepreneurial ecosystem.  You should take a look.

In a recent press release Mark Heesen of the NVCA had this to say:

"The venture capital industry will evolve significantly in the next few years as the asset class responds to a Darwinian contraction resulting from the recession, the rise of innovative industry sectors such as clean technology and the continued interest in venture capital outside the United States," said Mark Heesen, president of the NVCA. "As the survey results suggest, we will see more globalization in the next decade, not only in terms of investments but also in fundraising and exits as well. Those countries that can nurture entrepreneurs and investors as well as offer attractive exit opportunities have the most to gain economically in the next decade."

This comment causes me to think back to my trip to China of a few months ago. While in Tianjin, I visited an incubator where 930 tech companies were being incubated. I don’t know about India, never having been there, but at lease one of our competitiors is working on a scale that is hard to comprehend.

Beyond the comment about venture capital outside the United States, is the comment about offering attractive exit opportunities. Exits have been few and far between in the last year and more. In the end exits drive the whole investment model and somehow, directly or indirectly, the deployment of new technology in business and personal life drives the rate at which companies will be acquired or go public. Obviously other factors impact it as well, but I wonder if the aging of the U.S. population doesn’t slow down the rate at which, as a country, we can/do absorb new technologies. Is demographics a drag on innovation?

Consider how comfortable your grandfather, father, you, your children are with Facebook, iphone apps, or whatever. I still have not programmed the automatic garage door opener in my new car. I write this blog and I send the occasional tweet, but if the world has to depend upon me to drive adoption of the next big thing, you could be waiting a while.

One of my favorite quotes is from Steve Jobs. I believe he said, "those overnight successes sure take a long time." As I, and others, have noted, the VC investment model is based on a ten year cycle of fund raising, investing and exiting. This model works well for a lot of companies, but one size does not fit all. A quick look at my client base, suggests a couple of issues with the time dimension of the VC model. (There are, of course, other dimensions to be considered such as the amount of money needing to find a home etc.)

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The Sunday Globe had an article on the subject of green energy firms ramping up lobbying. The whole stimulus package is in the process of igniting a mad scramble for money (and not just in the clean and green spaces – as I have pointed out elsewhere, telecom is another space where the scramble has begun. Helathcare as well – no doubt.) To my mind there is some feeling that the pendulum has swung far in one direction. But, I don’t want to write about the mad scramble, at least not today. What caught my eye was a paragraph on page G-5 and more particularly the following sentence, "And the hope is that the federal government’s stimulus funding will help spark a similar kind of explosive growth [similar to the internet] for the green energy sector – even if it takes a decade or two to really pay off." It is the decade or two part that interests me.

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My entirely subjective sense is that in the U.S entrepreneurs are like weeds – no economic conditions will stamp them out. This view is the result of 26 years of representing entrepreneurs in all kinds of economic conditions and in all kinds of industries. I have never had any statistical evidence to support this conclusion, until I ran across this article about the Kauffman Foundation study of entrepreneurship. The gist of the article is that entrepreneurship has been steady (perhaps rising slightly) over the last 12 years. In addition, it is spreading across gender and ethnicity (Latinos along with Asians has the largest growth rate in the recent period).

Below you'll find my article from the March '09 issue of EEC Perspectives, entitled The End of Gloom and Doom.

I like my gloom and doom as much as the next guy, but a whole year of unrelenting gloom and doom is overdoing it. Looking back on a year’s worth of numbers, it occurs to me that there is a lot to say that is not in the numbers.

Entrepreneurs are like weeds

If you just look at the national numbers you could come to the conclusion that there are fewer deals than last year, that the VCs are taking longer to invest and are investing at lower and lower valuations, and that all of this just acts as disincentive for entrepreneurs to start new ventures. But, anecdotal evidence is to the contrary. I polled some of my partners, and we all agree there is steady stream of new start-ups in all industries. They are not necessarily getting financing from VCs. In fact, the pattern that I see evolving is that entrepreneurs spend a bunch of time (many months) hiking up and down Winter Street to no avail. After that, they figure out other ways to keep moving forward by self-funding and going to family and friends or others with special affinity, and they make do with less. In a number of cases, they seem to me to be happier and more productive once they accept that there will be no VC money and they figure out something else. Entrepreneurs are like weeds; it will take more than a long dry spell to kill them off.

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Yesterday I moderated a panel on the subject of the venture investment climate in 2009. The panelists were Axel Bichara of Atlas Venture and Austin Westerling of Charles River Ventures. The big picture take away from this event was that the investment climate is not as bad as advertised in the press.  In each case, Atlas and CRV have made a number of investments in the last year and continue to be actively looking for new investments. If I can generalize, their advice was (1) be prepared for a thorough diligence and, perhaps, a longer than normal process and (2) be realistic about valuations.

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This morning  I attended a “CEO Breakfast” with Don Bulens, former CEO of EqualLogic (here's a video interview of him from YouTube), sponsored by The Massachusetts Network Communications Council. He commented on a couple of things that are recurring themes in this blog. 

Don made reference to slide 49 from the now famous (infamous?) Sequoia Capital’s 56 slide presentation of doom. This slide has a red line labeled “Death spiral” which shows a hypothetical company that does not trim its burn rate falling off a cliff to presumed extinction some time in ’09. It also has a green line that shows a hypothetical company that trims its expenses right away, then grows at a slow but steady rate and survives the downturn. Don’s point was that the same kind of thing happened at the end of the dotcom bubble. He notes that some companies did hunker down and survive. Constant Contact was an example that he pointed to.   His general advice is don't fall into the trap of thinking you will be the one who captures the market by maintaining spend -- if you don't make it to the other side you will be the red line.

Don also made reference to the difference between east coast and west coast VCs. As he put it (1) Silicon Valley “celebrates” risk taking in a way that is foreign to New England and (2) the significance of this difference of style between the two coasts is way overplayed. 

There is a lot of money sitting on the sidelines right now. 

According to the National Venture Capital Association, 235 venture funds raised nearly $35 billion in 2007.  This is after a string of steady growth years beginning in 2002.  Furthermore according to the NVCA, 130 venture funds have raised more than $16 billion so far in 2008.  This seems to me to be a very high number.  It provides support for the anecdotal evidence that a lot of funds, including early stage funds, have been raised in the last few years.

The National Venture Capital Association also reports that venture capitalists invested $7.4 billion in 990 deals in the second quarter of 2008.  This number does not seem consistent with the general economic climate, but there may be an explanation for it that is consistent with the downturn in the general economy.  As with the amount of funds raised, I suspect that the NVCA measure includes many transactions that are not  "traditional" early stage venture investments.

I will do a little more research over the next few days and try to get a more granular focus on the activity level in the early stage fund space.

The NVCA clearly agrees with what we are experiencing that there is a crisis in the world of exits.  According to the NVCA, there have been 5 IPOs so far in 2008 compared to 86 for all of 2007, and there were 120 total M&A transactions in the first six months of 2008 compared to 169 in the first six months of 2007.

My belief is that there is a lot of money that has been raised that needs to be put to work and will not be until either or both of (a) the general economic/financial crises is behind us and/or (b) the crisis in exits passes.  When these things happen, and it could be a while, the flood gates should open because many of the funds will be several years into their 10 year life and will need to put the money work quickly.