Deals continuing, but VCs take more cautious approach

EDITOR’S NOTE: This is the second of a two-part series on how new start-ups are finding funding in today’s bear market. By Anjanette Mudd

Starry-eyed start-ups pitching their worth only on visions of success are discovering a much more difficult environment for raising venture financing than some of their older, wiser predecessors with actual products and services.

“Not every VC wants to pay for their early mistakes,´ said George Deriso, managing vice president of Gartner Solista, a Boulder-based arm of Gartner Consulting. “Some avoid early stage, some lead and some don’t. All those things have an impact.”

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Deriso said companies today are likely to get more attention from venture capitalists if they have referable customers or strategic alliances in their back pockets, and if they can show a clear path for growth with a high level of return.

Pete Bloomer, a partner at Colorado Venture Management (CVM), a Boulder-based VC firm that focuses on early-stage technology companies, said competition is stiff and funding is getting difficult for first-stage start-ups. “Everyone is taking care of their portfolio companies and not looking to new investments,” he said.

But Bloomer warned that if venture capitalists continue to send out signals they’re not interested in early-stage financing deals, it could stall growth of new, entrepreneurial ventures.

According to a new study released by the Venture Capital Association of Colorado, gaining access to VC funding is a significant challenge to entrepreneurs here. Of those surveyed, 76 percent said they do not think there are sufficient sources of venture capital in Colorado. The majority of companies surveyed were in the tech sector.

Despite these findings and waning investor confidence, venture capital investments in Colorado companies still increased last year to $2.1 billion, compared with $1.9 billion in 1999, according to PricewaterhouseCoopers MoneyTree survey for the fourth quarter 2000. Companies in the communications and high-tech sectors accounted for 96 percent of these investments.

Ed Messman, vice president of the emerging growth division at Imperial Bank in Denver, said venture capital firms have raised new funds and have money to invest, but they are investing that money cautiously and in companies that merit new investments.

“New companies are still being funded but not to the extent that they were a year ago,” he said. And while there could be a shift in focus to more later-stage deals, Messman said there is no clear indication that this is the case.

Brad Feld, principal managing director of Softbank Venture Capital’s Colorado interests, said his firm, backed by a $1.5 billion fund, is continuing to do new, very early-stage investments.

Headquartered in Mountain View, Calif., Softbank VC is the venture capital arm of Japanese Internet investment firm Softbank Corp. The firm shares an office in Superior with Hotbank Colorado, the Internet incubator it supports.

“We’re looking for classical parameters such as strong market opportunities and strong founders,” Feld said. Softbank VC also backs and places strong faith in entrepreneurs it trusts, something repeated often by other venture capitalists.

“We look for people, people and people,´ said CVM’s Bloomer, adding that his firm would much rather do a deal with good people and mediocre technology than the other way around. CVM looks for opportunities, Bloomer said, that will bring the best possible return to investors, and people make it happen.

Elliott Bouillion, a partner with Murphree Venture Partners, a new entrant to the Boulder VC market, said a good management team is imperative whether a company is looking to secure a first or subsequent rounds of funding. “We like to see a good technical team that’s focused on some of the new markets we’re looking at,” he said.

For companies chasing later-stage financing, Bouillion said potential investors are going to see if they’ve been tracking against their plan. VC firms also are taking a more realistic approach now, he added, to assist start-ups on business models that actually will produce revenues and profits.

Despite the continuing bear market, Bouillion said the size of investment rounds remains steady. VCs are trying to give entrepreneurs a longer “runway” so they’re not forced to seek another round soon after the first. “We’re trying to understand what they need for 12 to 18 months out,” he said. “We will not let the market beat us down.”

Companies in optoelectronics, wireless, Internet infrastructure and data management markets are attracting today’s investments.

Circadence Corp., a Boulder-based provider of Internet software solutions, closed a third round of financing totaling $10 million from Pacific Century Cyberworks, a Japanese company that established a relationship with Circadence with the purchase of its gaming unit, VR-1.

Finali Corp., a Westminster-based provider of automated and live customer service solutions, recently closed on a second round of financing totaling $20 million.

Finali secured its second round through investments from Softbank VC, Sequel Venture Partners of Boulder and Boulder Ventures Limited, also of Boulder. All three investors contributed to Finali’s initial round as well. In addition, Finali secured second-round funds from three new investors: The Hillman Co., Hexagon Investments and Tucker Anthony Sutro.

Tim Connor, a partner at Sequel Venture Partners, said every VC firm has its own strengths, and partnering with other investment companies creates a more diversified funding team.

Bob Burgin, president and chief executive officer of Finali, said his company brings three fundamental factors to the deal table: technology, market and management. “We’re a counter-cyclical business,” he said. “Outsourcing of customer service tends to grow faster during slowing economies.”

In a slowing economy, the last thing companies want to do is deduct from their bottom line, Burgin explained. “It costs between $5 million and $50 million to build the capability Finali brings in-house,” Burgin said. And while 18 to 36 months is the norm for getting most systems operating correctly, Burgin claimed Finali can bring its service to customers in 90 days.

Good technology alone does not attract funding.

The quality that’s been essential to Finali’s fund-raising success is the strength, experience and credibility of its management. “Our executive team built 38 of the Fortune 1000 call centers outsourced in the United States, including General Motors and Toshiba,” Burgin said.

“The industry we’re in is exploding,´ said Burgin, who noted that Finali recently signed a contract with one of the nation’s largest online retailers. Although he could not yet name the customer, Burgin said Finali’s technology will save the company nearly $4 million in customer service costs each year.

Contact Anjanette Mudd at (303) 440-4950 or e-mail amudd@bcbr.com