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The power of money

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If money equals power, the nation's venture capitalists wield colossal clout.

In the first three quarters of this year alone, venture capitalists poured almost $22 billion into U.S. companies, in more than 2,720 deals, according to a PricewaterhouseCoopers Money Tree survey. Drawn by expanding technologies, exploding markets and phenomenal investment returns, these venture capitalists poured more than half of that money into computer networking, communications and the Internet.

Consider these Money Tree numbers:
  • As of Sept. 30 - the latest figures available - venture capitalists invested $11 billion in 1,121 Internet-related deals and $6 billion in nearly 600 communications and network deals. (Some of the deals cross over, so it's not accurate to combine the numbers).
  • In the third quarter of this year alone, communications and network deals were up almost threefold from the same period last year (228 deals for a total of $3 billion). Internet deals were up fivefold (471 deals for $5 billion)!
  • In 1998, there were only a little more than half the number of Internet deals - 641 - and those received less than one-third the venture capitalist money - $3 billion - than in the first three quarters of '99.
  • In 1998, there were fewer communications and network deals than for the first three quarters of 1999, and those 1998 deals received about half the amount of venture capitalist money.
"Over the last three years, venture capital firms on average have returned between 25% and 35% per year," says Kirk Walden, director of PricewaterhouseCoopers' Money Tree project in Austin, Texas. "Some are returning 100% or 200% in a given year, and they're not even Ponzi Schemes. They're legitimate businesses." Plus, the funding frenzy shows no sign of abating.

"We wouldn't say that next year would match the three times [growth in communications and networking], but we wouldn't be surprised if it did," says Steve Meisel, global practice leader of PricewaterhouseCoopers' computers and networking practice."It's red hot today. It's likely to get even more intense over the next 12 months," says Jim Breyer, managing partner of venture capitalist powerhouse Accel Partners in Palo Alto. Accel has $1.4 billion invested in communications and Internet businesses, and Breyer himself has backed two big winners this year, Foundry Networks and Redback Networks.

Venture capital beneficiaries

So what types of start-ups will venture capitalists likely be funding in 2000?

Bandwidth is what's driving the tremendous growth rates in venture capitalist funding, says Jim Stapleton, PricewaterhouseCoopers' global director of networking communications.

"People need broader bandwidth and faster access speeds to drive applications. People want to add other applications onto the Web, and that would include long-distance telephony, video and sound compression. So, any technology that speeds the access rate and broadens the bandwidth is very welcome and it's very hot," Stapleton says.

Just look at the recent hot initial public offerings (IPO) of Sycamore Networks, which makes optical switches, and Akamai Technologies, which provides an Internet content delivery service. And consider that within the last three months, Cisco has forked out $7.4 billion to buy optical transport companies Cerent and Monterey Networks. "They have very easy plug-and-play black box devices that allow huge speed-up of bandwidth," he notes.

"One of the things that drives the huge investment of venture capital is that the very large telcos and data network equipment companies treat these venture capitalist-backed companies as a sort of de facto R&D lab because they create all these marvelous, wonderful technologies," Stapleton says.

"It's essentially the same thing as outsourcing R&D," Money Tree's Walden concurs. "And it's growing in popularity." (See sidebar, page XX).

Be that as it may, money is the least of what a venture capitalist provides a start-up, says Todd Dagres, general partner with Battery Ventures in Wellesley, Mass. "One of my entrepreneurs calls me the blue-collar venture capitalist because I roll up my sleeves and I come to work and I fill in and do whatever I need to do," he says. "My first hat is that of a financier. My second hat is that of a headhunter, and my third hat is typically working on positioning."

Dagres must be on to something: One of his companies is Akamai Technologies, whose October IPO turned Battery's $5 million investment into $1.8 billion in a year's time.

Venture capitalists today are raising bigger funds and entrepreneurs are taking more money from them at slightly higher prices, Dagres says. That translates into inflation in terms of the amount of money available and the amount of money being invested. And, as venture capitalists scramble to get into the first round of funding these start-ups, competition intensifies.

Some venture capitalists have a get-in/get-out strategy - fund a start-up, work with it until it goes public or is bought out, then make a quick and profitable exit.

Other venture capitalists tend to stick around. "The very biggest returns are often well after the initial public offering," says Accel's Breyer. "Just this year, Redback Networks, Foundry and Real Networks are all up more than five times. The right economic decision is very often to stick with a company and build it over time. Where else can we make five times our money in 11 months?"

Accel's goal, Breyer adds, is to make 50 to 100 times its money over a five- to seven-year period.

New Enterprise Associates, a Menlo Park, Calif., venture capitalist firm, also stays with its companies, says co-founder C. Richard Kramlich. He points to NEA's relationship with Ascend Communications as an example.

NEA invested in Ascend in 1991, and even after the firm made distributions to its partners, Kramlich remained on the board. Lucent bought the company this year for $23 billion. "That's kind of the all-time high watermark for a technology deal," says Kramlich, who also worked with venture capitalist elder statesman Arthur Rock from 1969 to 1977 in Boston.

"What I think has been notable about this year is the realization of liquidity events earlier in the companies' life cycles," he says. Companies such as Juniper and Cerent go public and are acquired by the major players at younger stages and at higher prices, he continues.In the company of billionaires and angelsAll this money going to Silicon Valley and beyond also has left its mark on venture capitalists' personal portfolios. A number tally their wealth in hundreds of millions of dollars. A few rank as billionaires. That includes the legendary Rock; this year, Forbes ranked the 73-year-old No. 174 on its list of the 400 Richest Americans, with an estimated net worth of $1.4 billion. Among his successes are Apple Computer, Fairchild Semiconductor, General Transistor, Intel, Scientific Data Systems and Teledyne.

Another billionaire - new to the Forbes list for '99 - is high-profile venture capitalist John Doerr, a partner at Kleiner, Perkins, Caufield & Byers in Menlo Park. Forbes ranks Doerr No. 243, with an estimated net worth of $1 billion. KPCB has had its hand in the creation of more than 100 publicly traded companies and has raised more than $1.2 billion in capital that it has invested in companies with more than $80 billion in market capitalization.

Today, more than 500 active venture capitalist firms and thousands more "angel" investors, people who sink their own capital into ventures, are funding companies. Angels can be "friends and family," as one venture capitalist analyst puts it.

Besides money, they give advice, says Jim Dow, founder of MicroCom, which he sold to Compaq in 1997. Dow, now a Boston-area angel, funds telecom and Internet infrastructure companies. He invests anywhere from a few hundred thousand dollars to a few million dollars in a company, then generally sits on the board of directors and often mentors the CEO. Two of his investments, Omnia Communications (bought by Ciena Corp. in July) and Nexabit Networks (bought by Lucent in July) were started by former employees, he adds.

"The venture community I think has a role that tends to be strategy, and of course it provides most of the capital to these early-stage companies. The role that the angel investor provides is a smaller amount of capital but I would say a larger amount of day-to-day operating advice."

Another angel is Paul Allen, Microsoft co-founder and billionaire - he's No. 2, behind Bill Gates, on Forbes' Richest Americans list. The 46-year-old Allen, net worth $40 billion, may not be an angel in the purest sense because he also invests through his venture capital firm, Vulcan Partners. But, his pockets are deep and he's willing to invest in technology. An example of his largesse: In June, Vulcan and MCI WorldCom anted up $300 million to help Metricom, a leading provider of mobile data networking and technology.

Some other Silicon Valley angels include Ron Conway, founder of Angel Investors LP and its two venture capitalist funds totaling $175 million; and Gary Bowen, a former Bay Networks executive.

Any list of 1999 venture capitalist notables also would have to include Bandel Carano with Oak Investment Partners - his résumé includes successful funding of a range of network companies, from Actel to Wellfleet Communications; Paul Ferri at Matrix Partners - his scores include Cascade, Sycamore and Wellfleet. And then there's Geoff Yang, a founding partner of Redpoint Ventures, a Menlo Park firm launched this fall from a merger of Institutional Venture Partners and Brentwood Venture Capital. He's a power player, with deals such as Foundry and Juniper.

Many of today's venture capital power brokers hardly fit the traditional mold that generally comes with the term "old timers." And, they likely will be around wielding bucks and brains for a long time. Nonetheless, a new crop of venture capitalists is popping up.

"What we are seeing is a new generation of venture capitalists who have very specific expertise within networking and communications," says Accel's Breyer. He cites Accel's own Peter Wagner, a 33-year-old general partner who led the firm's investment in Northpoint Communications; his network franchise focuses on service businesses and optical networking.Another example is Peter Morris, a 40-year-old general partner at New Enterprise Associates who specializes in data networking. Other names and faces worth remembering are Roland Van der Meer of Communications Ventures and Steve Jurvetson at Draper Fisher Jurvetson.

The money guys, they keep a comin'.

Related links

Marks is a freelance writer in Littleton, Colo.

Venture Capital Database
Search through more than two years' of data from the quarterly PriceWaterhouseCoopers/Network World VC survey.

Recent reports from that survey:

Q3 funding tops $6 billion
VC firms heaped money on business-to-business e-comm, 'Net infrastructure firms. Network World, 11/22/99.

Internet start-ups still rolling in venture dough
Network World, 8/23/99.

Where has all the cool net gear gone?
Innovation has slowed to a crawl in the enterprise network equipment market as money flows into dotcoms. Network World, 8/2/99.

Dispatches from the heart of venture capital country
Network World Fusion, 6/30/99.

VCs still nuts about nets
Network World, 5/24/99.

Other articles:

Cisco spends $7.4 billion on optical push
More on Cisco's purchase of Cerent and Monterey. Network World, 8/26/99.

Keeping up with the Sycamores
Industry Standard, 12/17/99.

Recent Network World articles on networking IPOs

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