A Band of Early Stage Brothers

By Alex J. Stockham
PrivateEquityCentral.net
September 13, 2002

Times are tough for professionals in the early stage venture capital arena. Good thing they have a support group.

Members of The Early Stage Venture Capital Alliance, which began in 1988, say that while early stage deals may be in a funk, the issues faced by firms that pursue these investments remain the same as in years past. As indicated by the topics discussed at their recent meetings, issues related to syndication, management and pricing remain at the forefront. Not that war stories from the late 1990s don't get told.

Perhaps one of the most interesting facts about the Early Stage Venture Capital Alliance is that G.P.s didn’t think of it. It was started by a limited partner in venture capital manager The Woodside Fund, which was founded in 1983 by Vincent Occhipinti, Robert Larson, and Charles Greb. The limited partner had placed money with quite a few early stage funds and thought it might be a good idea for those firms to meet with each other to see how different firms handled their investments and dealt with other issues typically encountered by early stage firms. That limited partner has since left the venture capital world, but Occhipinti liked the idea so much, he stuck with it and has chaired the alliance for the past 12 years.

The alliance usually meets once per year, with the latest conference held in July. There are also occasional meetings in a more social setting – with golf tournaments and cocktail hours occurring throughout the year. The next full meeting will probably be held next summer. The meeting typically involves 35 to 40 managing partners of early stage firms in a round table discussion. This is in stark contrast to the typical venture capital conference where, as any participant knows, the real issues often take a back seat to marketing messages. “There are so many conferences that trumpet what people are doing, but there’s no real forum where you could keep press and L.P.s out and have more candid discussion,” Matt Bolton, an analyst at Woodside Fund who handles a lot of the planning for the ESVCA, says. “It’s like a really large partnership meeting.”

Candor is something the VC world could use more of. There’s no doubt that it’s a tough time right now in the early stage world. More money has recently been given back to investors than raised. The $1.8 billion raised for 30 venture capital funds in the second quarter of this year was more than offset by the $2.7 billion by G.P.s. Firms returning money to investors included Charles River Ventures, Walden International, Austin Ventures, Atlas Ventures, Accel Partners, Redpoint Ventures, and Kleiner Perkins Caufield & Byers.

Despite the fact that the early stage world has changed dramatically since the alliance was formed, and especially in the past five years, the same topics tend to dominate the conversations, according to John Occhipinti, Vincent’s son and a managing director and Woodside Fund. Questions of terms, pricing, recruiting, and the rationale of syndicating on deals are always discussed, even if the ways firms handles those issues change.

One topic that arises at most meetings is how G.P.s recruit management for portfolio companies. One story Occhipinti remembers from a meeting a few years ago recounts the lengths venture capital firms would have to go to to attract top talent in the late 1990s - when it was scarce. An unnamed venture capital firm had a portfolio company in San Francisco that needed a chief executive. The executive they wanted lived on the East Coast, and in order to move west, he and his wife wanted to live in a place they felt matched their lifestyle on the East Coast. After visiting the area and touring houses, the only place in the Bay Area the manager and his wife wanted to live was an exclusive area called Blackhawk. But Blackhawk was three hours from the company's offices. So the venture capital firm agreed to pay for a chauffeured limousine, available 24 hours per day, with a computer, satellite dish and other "necessities". "This guy basically had a mobile office," Occhipinti said.

Contrast that story to today, when talent is readily available. The conversation has shifted from what it will take to get a manager into a portfolio company to what it will take to keep recruiters, who are now starving for business, out of the venture firm's offices.

Another topic that also continually arises is syndication of deals. A few years ago, many VC firms believed that the best thing was to go it alone on deals, especially in the seed and early stages. Syndication wasn’t necessary. Today, Occhipinti says, those same funds are coming back and saying that syndication of deals is critical. Now, he says, the question isn’t, “Should you syndicate?” It is, “Who should you syndicate with?” This question is particularly important to those firms who’ve syndicated deals with corporate venture capital groups or younger firms, because a lot of them aren’t even around any more. “Those groups aren’t always supportive of future investments,” Occhipinti says.

Surviving the downturn has been especially hard for firms that have never had to go through a recession. “When times are good, everyone is always positive,” Bolton says. “But you don’t know how new funds react when there’s a hiccup at the portfolio company.”

At the latest meeting, one thing everyone wanted to know was who had actually done a deal this year. Only 30% of the attendees raised their hands, Bolton says. In years past, especially during the Internet boom, most every firm would raise their hand to that question, and most would have completed several deals. Despite the slowdown in deal execution, there were still some firms investing at a quick pace. For example, Occhipinti says, Dick Kramlich of New Enterprise Associates said this was the best time to invest in early stage deals in the 26 years he’s been in business. His firm had done six deals in six months. The more experienced firms think this is a great time to be investing, while the newer funds are more apprehensive and are looking to invest in companies with solid revenues.

The G.P.s who attended the last meeting also said that the stage of investment they focused on reverted back to mostly early stage deals, whereas in past years, firms participated in many different stages. Most firms have gone on to focus on either very early stage deals or very late stage deals. “The B-round stuff, people now don't want to touch,” Bolton says. He says the reason for this is because you can now invest in an earlier stage and have the same amount of risk. “The same risks you get in the B round, you can get at an early state now,” he said. “You have time to craft a business and navigate the waters [at that stage].”

Indeed times have changed. A quick glance through the alliance’s past agendas shows speakers from entities that don’t even exist anymore. In 1998, the head of Internet services at NationsBanc Montgomery Securities, Steven Horen, spoke about how to value Internet companies, which he argued had different business models that couldn’t be looked at through the traditional methods of analyzing revenue streams and profitability. Now, traditional methods of valuation has come back with a vengeance.Even though the early stage venture capital industry has slowed considerably, memebers say the need for a forum like the ESVCA is even greater. G.P.s need a place to discuss what works best in slow times. The alliance shows that good business practices are important no matter what investment environment is prevalent – indeed, they can make rough times easier to get through. The alliance also shows that the best way to improve business is by learning the tricks of the trade from peers.