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Who Wants To Be a Millionaire
The VC meat market comes to New Haven
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Business New Haven
6/18/2001
By: Lisa Micali
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These are tough times for new ideas. While layoffs and roller-coaster stock prices continue to grab headlines, local entrepreneurs have been busy trying to corral money for their fledging companies from a mostly preoccupied venture capital (VC) community more focused on licking its own wounds than in gouging any more potholes in their war-torn portfolios.
Like their more established tech brethren (powerhouses such as EMC, Oracle, Cisco, to name just a few), start-ups are encountering a much more hostile marketplace in their quest for growth. Faced with severe funding and revenue woes, they've tightened their belts and slashed costs to bolster bottom lines and build momentum. All this in the interest of convincing deep-pocketed investors to support the next big killer app.
Whatever the current economic indicators might suggest about the economy, it didn't deter the mass of hungry entrepreneurs and venture capitalists who gathered at Crossroads 2001, the Connecticut Venture Group's (CVG) annual venture capital fair, held at the Omni New Haven Hotel May 21-23.
Even the unrelenting rain couldn't dampen the spirits of entrepreneurs as they pitched to a somber ballroom filled with suit- and tie-wearing bluebeards, and then later, dog-tired, as they cruised up and down Chapel Street during a pub and restaurant “crawl,” one of the networking events designed to showcase the Elm City as a burgeoning tech hub to potential investors and tech-minded visitors.
Now in its eighth year, Crossroads was designed to help entrepreneurs get exposure to a variety of professional venture capital firms as well as service providers such as accounting firms, law firms and hardware providers.
By holding the fair in New Haven, CVG and its sponsors - including the city and Yale University - hoped to sell investors on the Elm City as a fertile hotbed of new ideas stemming from cutting-edge research and fueling emerging growth companies.
Turns out they might have something there. Propelled by a surge of biotech start-ups in the area, New Haven, almost unnoticed, is showing signs of emerging as a technology player, if not exactly a juggernaut.
While the state can claim some recent success for the region's growing concentration of venture-backed companies, as illustrated in PricewaterhouseCoopers Money Tree Survey, the numbers tell a more sanguine story on private equity placement. With just 67 last year in the entire state, totaling slightly more than $1 billion, some entrepreneurs feel the activity level is not nearly enough to encourage young companies to call New Haven - or, for that matter, Connecticut - home.
Fred Whitridge calls New Haven home by default. The founder and CEO of Hippo Inc., which has developed a voice-over-Internet phone, Whitridge located his company in New Haven because of proximity to Yale's engineering community.
Nevertheless, the Greenwich resident and 1983 Yale School of Management grad laments: “While the state has an abundance of resources, including Connecticut Innovations [Inc., CII] and its programs to encourage start-ups, it falls short of neighboring state's programs such as in the Route 128 area up near Boston or Silicon Alley in New York.
“When I look at the numbers [in the PricewaterhouseCoopers survey], I would have thought I'd see 500 or 1,000 companies that got funding. It also included companies such as DSL.net [also in New Haven], who have already gone public, which I wouldn't deem 'venture-backed,'” Whitridge adds.
“Until the state has a solid number of success stories and they have more infrastructure like Connecticut Innovations, Enterprise Zones and training, it's not really going to be the most favorable environment for start-ups,” he says.
Certainly, Whitridge acknowledges, the state and the city are encouraging start-ups by establishing outreach programs through the state's Department of Economic & Community Development (DECD) and New Haven's Enterprise Center. But he thinks Connecticut and New Haven are in only the earliest stages of supporting emerging ventures - and still have far to go.
Yale's commitment in the mid-1990s to commercialize the output of the sciences through technology-transfer programs and its increasing support of entrepreneurial activity have permitted many area biotech startups to leverage the university's resources and take advantage of Yale's federal research endowment, which tops $300 million. Since it has taken a more active role in nurturing start-ups, Yale's Office for Cooperative Research completed 270 licensing agreements last year alone.
Certainly the city itself, in large part through the efforts of city development czar Henry Fernandez, has been pushing the vision of “Tech Haven” for all it's worth.
“New Haven is a great place to do business, especially in the high tech and biotech arenas,” says Fernandez. “Our mission is to facilitate the seeds of economic revival through emerging enterprises.”
But while Yale brainpower and business-hungry city and state officials might be driving much of the change, local entrepreneurs are working behind the scenes to shift perceptions and attract the attention New Haven deserves.
“Clearly, we've witnessed a remarkable change in Yale's outreach to the business community as evidenced by the [venture] fair's presence here in New Haven,” observes Diane Daych, a principal in Hartford-based Conning Capital Partners, a private equity firm with more than $600 million currently under management. “Yale's gotten traction in its support of the biotech community, working actively with CURE [Connecticut United for Research Excellence], CVG and driving their tech-transfer processes which is turning this region into a hub of exciting new ideas.”
William Rice, CEO of Achillion Pharmaceuticals in New Haven, believes that “The support of both the local as well as the state agencies, has been extremely beneficial” to his enterprise. Rice brought the company here from Maryland in January last year - in part due to a $3.4 million financing package from CII.
Another factor in Achillion's decision to move to the Elm City instead of Princeton, N.J. was the high concentration of biotech and pharmaceutical companies in the region, as well as a desire to be close to Yale, another major investor in Achillion.
A member of Rowland's Council for Economic Competitiveness & Technology, Rice also works closely with New Haven officials to advance the city's biotech agenda. He is also active in such organizations as CURE, of which he is a director, helping to propel the vision of a tech-rich region.
Identifying key people, “high-impact” people, as Rice put it, is another key challenge for growing enterprises in the New Haven area. “We've been able to pull people from California, New Mexico, Washington,” Rice explains. “When people come here, they're pleasantly surprised. With New Haven's proximity to Boston and New York, its own thriving restaurant and nightlife scene just steps away, attracting people to New Haven hasn't been a problem for us.”
Finding the right person with the right skills is always a challenge, but the sheer numbers of the local university population has eased some strains, Hippo's Whitridge acknowledges. “This is a much easier market than California,” he notes. “There's a bigger talent pool coming out of the mid-Connecticut area and there's much less competition with other venture-backed companies than in Silicon Valley.”
Adds David McGirr, Hippo's chief operating officer, “While the area has an abundance of high-tech workers, we'll probably have to open an office in Fairfield County to be able to attract New York media and marketing people.”
As the biotech community continues to grow, the region itself has morphed into something of a safety net for people who relocate here but whose initial job may not work out. With four major pharmaceutical players and dozens of biotech and technology start-ups in the area, relocating workers know that they're not going be alone and there are many opportunities here, notes Achillion spokesperson Amy Enders.
CEO Elaine Price of Cya Technologies, a Trumbull software company, says her company has had no problems recruiting people from failed dot.com start-ups in Fairfield County. In fact, the reverse commute on the Merritt Parkway has been an attractive ancillary benefit of the company for many of her new employees.
While the Elm City might not be the weakest link, most out-of-state Crossroads attendees were pleasantly surprised by the caliber of companies present - as well as what New Haven had to offer.
Barnett Suskind, a self-proclaimed “knowledge capitalist” and CEO of New York-based International Technologies and Finance (ITF), heralded Crossroads' arrival in New Haven.
“It's about time Yale has stepped up to the plate and started participating in spawning the growth of an entrepreneurial culture here,” he says. “I found most of the presenters and their ideas very interesting, well-developed and well-presented. [Most were] looking for 'C' round financing, which is what we do.”
Suskind and others from ITF, which he calls “industry agnostic,” were impressed by the number of high caliber companies presenting. He says he typically attends larger VC meat markets in high-tech hubs such as in Boston, Austin and Atlanta. But he's more concerned with growth and opportunity - that's why he came to New Haven - than where a company's home base is. He plans no change in his investing strategy this year. Indeed, he confides optimistically, “I heard from all the major television networks that advertising revenues are on the rise - a sure sign of recovery.”
“Exposure to different entrepreneurial communities is a necessary component of great fairs,” observes Bryan Pearce, a member of the Venture Capital Advisory Group of Ernest & Young's Boston office. “Clearly, there's a lot of activity going on in the New Haven area, particularly in the biotechnology sector. We're seeing a nice mix of companies from the services side, and some very exciting technology ventures in molecular electronics.”
Approximately 850 attendees walked through the doors of the Omni over the course of the two-day Crossroads event - a steady climb from the approximately 100 in 1994, the event's first year. Says CVG Executive Director Mike Roer, “It's an indication of the upbeat mood among investors. There ready to begin investing again.”
Roer acknowledges that it's a daunting challenge for Connecticut to compete with VC showcases in Massachusetts and New York. Connecticut, he observes, doesn't have a city offering anywhere near the critical mass of capital found in Boston or Manhattan.
While he doesn't want to use the word “gamble” to describe the event's relocation from Stamford to New Haven, he does offer, “We don't have a Manhattan. New Haven is the biggest strength we have. The city is very progressive, it has a world-class university and intellectual assets.
“This event shows we are all holding our own here in New Haven,” adds Roer. “There's a great deal of innovation and new technology emerging from New Haven and Connecticut today - as there was 200 years ago.”
Says Crossroads chairman Frank Marco, managing partner in the New Haven office of the law firm of Mintz, Levin, Ferris, Glovsky & Poppeo: “The response in terms of participants, the tremendous quality of the companies present and the good turnout by the VC community indicates an early success for us. Companies I spoke with had amassed stacks of business cards and made some great contacts. That attests to the conducive energy of the fair.”
A secondary objective of this year's Crossroads, Marco explains, was to showcase New Haven itself as a vital venue for innovation and ideas. An investor-only evening reception at the Yale Center for British Art attracted close to 100 venture and institutional investors. And the Chapel Street restaurant and pub crawl “really impressed people with New Haven,” he observes.
“While it's a tough market for emerging growth companies and capital-raising at this time, we need to provide a networking venue and help companies so that they can pursue all available options and avenues,” Marco says.
Fair sponsor and attendee Brendan Sullivan, a business-development manager in the Norwalk office of EMC Corp., says he was particularly happy to see the event move from Stamford to New Haven this year.
“We're very attracted to New Haven for a lot of reasons,” Sullivan explains. “First, the impressive number of biotech and pharmaceuticals in the area, the involvement of Yale and the caliber of start-ups emerging here. Without question, this area is a future growth market and an exciting, hot new market as well. [The move] is certainly timely, considering New Haven's economic transformation into a biotech hub.”
The creative pipeline, unquestionably, is alive and well in the Northeast, as evidenced by the 75 diverse companies who showcased their technologies, products and services.
While some of these new ventures will get funded, most of these new businesses will eventually wither on the vine, merge or be acquired by similar businesses. Others will just keep chugging along, embarking on more traditional funding avenues rather than forking over equity. Others, like Wallingford's VBrick Systems Inc., will need to make hard, strategic choices in order to get funded and reach their business goals.
Noticeably scarce in the bullpen were newly minted MBA CEOs. These once-mythical icons of the New Economy were nevertheless represented by two up-and-coming firms, looking a bit bedraggled, more like stigmatized bears than the seasoned equity bulls huddled in far corners with a cell phones glued to their ears.
New Haven-based OneTrace, a seed-stage venture out of Yale, winner of CVG's annual collegiate business plan competition, was the last to pitch its real-time tracking device for motor vehicles to the audience. Another young New Haven firm, Higher One, offers financial services to the higher education market. Likewise an offspring of Yale's Entrepreneurial Society, Higher One secured a booth as an 'Ignite' company, signifying that it had raised about $1 million in venture capital. (The other Crossroads handle, for more established firms, was “Quantum.”)
Given the reduced prospects for recent MBA graduates to get funding, VC investors provided anecdotal evidence that the deal flow from young entrepreneurs was on the downswing simply by their absence. Moreover, “Business-plan competitions at leading MBA programs are also drawing reduced interest,” explains Emily Sweeson of New Jersey-based Plum Capital. “From a long-term perspective, the reduction of early entrepreneurial activity means that there will be less innovation than there was three years ago, and it's a by-product of this downturn.”
Computers, the software that runs on them, and the networks that connect them are the key enabling technologies of the new economy. IT is now the single largest sector of the U.S. economy, accounting for about 11 percent of the GDP. But high-tech growth alone is not what the New Economy is about. On the contrary, it's the use - not merely the making - of new technology tools that's most critical.
During the transformation to a technology-driven economy, early-stage to middle-market growth companies needed information, strategy and equity/debt capital to power business models. This fueled the rise and power of the venture capitalist.
VCs are sometimes portrayed as vultures - hard-headed money men who cheat unworldly entrepreneurs out of the just rewards of their creative endeavors. The VC industry's recent Achilles heel, of course, was its propensity to mistake a trendy or unusual business model - be it high-end electronic fashion retailing or online groceries - for true innovation. As a consequence, Daych, a principal in Conning Capital Partners, foresees the industry going back to basics - evaluating companies by the quality and importance of the technology they provide, rather than by the superficialities of their business plans.
“Before 1995, core technology was what venture capitalists looked for,” explains ITF's Suskind. “I think you'll see firms coming back to that. Without core technology, the only differentiator is money - there's no barrier to competition.”
Daych, who has responsibilities for five companies in Conning's portfolio, seeks new investments from e-learning technologies in the financial and insurance industries to HR/benefits administration outsourcing, which links internal and external processes to create a unified front and back end, says she hasn't noticed a change in her schedule. “I still get 50 to 100 business plans a month, but the mix has changed from unsolicited, early-stage ideas to riper, more mature ventures.”
While nationally the deal flow has ebbed in volume, on the bright side, venture capitalists say that they're seeing more hits than misses. “Entrepreneurs who take the risk of starting a company at a time that's perceived as being tough are more committed to building a strong company,” says Bud Enright, vice president of corporate development for Compaq Computer Corp. “The industry has started to self-select for quality.”
In general, the assembled VCs seemed to agree, the strong will survive. But while they're understandably mute when it comes to discussing their own firms' miscalculations, venture capitalists seem more willing to own up to the fact that there was something amiss in the larger VC world.
“In the last five years, everyone and your brother in-law raised money for venture capital funds,” says Daych. “Getting hosed by the dot.com fallout has separated the wheat from the chaff. Those investors who succumbed to faulty business models are not going be around in the long term.
“Funds that have had a good sustainable track record over a long period of time will remain, others will fall off the vine and rot - along with their investments,” adds Daych. “A lot of institutional partners have reached their allocation maximums of what they can invest. There is still tons of money out there. VCs are looking at how their returns have rationalized. Now, in private equity, they're looking at a lower number of funds to invest in per year rather than take risks on more funds. That's a positive sign.”
Hedging its bets on catapulting its business into the epicenter of DVD-like quality video with its MPEG-embedded video network appliances, Wallingford's VBrick Systems brought in a top-tier Silicon Valley veteran to boost its chances of obtaining funding and eventually, reach out to the public markets.
An enthusiastic horticulturist and a semi-retired lemon farmer, VBrick CEO Fred Geyer has a long and colorful history of working for such high-flying companies as Kodak and Texas Instruments developing businesses with leading-edge technologies.
Selected in April by the editors of Red Herring magazine as one of the top 100 public and private companies, VBrick is seeking $10 million-plus to fuel marketing and sales as well as push through its third-generation product. While he hasn't wavered from his mission, Geyer admits it's a tough time for start-ups.
“It's a difficult time, sure” he says. “I'm more scared right now of the guy creeping out of his basement or garage than what I see coming out of more established companies.” Confident of obtaining funding, he says, “We're keeping tight control over our expenses in real-time so we can monitor where we are at any minute. I know in 27 minutes where our revenue is. Even the big guys can't project with any certainty in this environment. We are gaining traction and right on track, which makes us very desirable.”
Cya Technologies CEO Elaine Price is one of a new breed of female CEOs taking on tech's not-so-old-boy network. Although her search for funding has been impacted by the downturn in the economy, Cya's revenues have continued to grow - which has allowed her to be choosier when it comes to backers.
“Our company is focused on the back-end of the Internet,” Price explains. “We don't have that front-end, flashy type of environment that doomed so many. Originally, when we looked for funding, it was difficult because we weren't considered hip. We continued to focus on the business and grow sales. Now, going back to the market to look for funding, we're being seen as a survivor. I've noticed investors are looking for closeout sales. But we're not on our last leg.”
Finding the right type of VC is a difficult process. VCs are more than just a well of money who write checks and count the days until their portfolio companies hit the jackpot in the public markets. “Six months ago, VCs weren't responding,” says Price. “They were too busy nursing their own companies. Now, we're getting responses and interest from almost everyone we contact. The market's changed completely. It's a difficult process because we aren't a fire sale. We're still searching for the right partner who can bring us to the next level. It's more than just money we're after.”
Financing is always a challenge for young companies. While Hippo Inc. has had a working product since last fall, it's been difficult for the company to get funded. VCs famously shun hardware companies because of the capital-intensive structure of the companies that develop it. Even so, this year's Crossroads was a bit too quiet for Hippo CEO Whitridge.
“It's not a reflection of New Haven,” he says, “but an indicator that the VC community is still reeling from its own losses and focusing upon finding funding for their portfolio companies.” He would have liked to see more VCs at the New Haven event. Nevertheless, “We made some very good strategic contacts like Compaq. We couldn't have made that without this venue.”
Having raised $5 million to date, Hippo is looking for strategic investors, such as Compaq, to provide not only much-needed capital but access to joint sales and marketing programs. It also needs the attention (and Rolodexes) of medium-sized venture investors who can hook up it up with marketing, sales and technical leads resulting in accelerated time to profitability.
Struggle - and the perseverance needed to overcome it - eventually make people stronger and wiser, says Compaq's Enright. “It's more a matter of managing well and with foresight under the current circumstances.” He and his colleagues receive around 2,000 business plans a year and anticipate about the same number of deals as last year.
“We enter equity relationships based on how it fits our business,” he says. “There's a certain element of risk on both sides. But the company that does their homework and understands our business, our products and services has a much better chance of getting funded.”
Achillion Pharmaceuticals, a company committed to the discovery and development of new molecular targets and new drugs to treat infections, earned the fair's Quantum Award, bestowed on the company with the best commercial prospects.
Bill Rice founded the company in Maryland in August 1998 and completed a first round of financing in February 2000. Rice believes the region's nascent reputation as a biotech hub is evidenced by the quality of investors present and described the fair as “oversubscribed. The equivalent of being 'oversubscribed' in our business is getting more money than you sought. That's what I told [Crossroads Chairman] Frank Marco because they had such a good turnout.”
Companies pitched to an audience that varied from 150 to less than 50 at times over the two days. While this was old hat for some like Rice, who gives a 100-plus presentations a year, anxiousness was apparent in some presentations.
To get across the compelling story of your company in eight minutes isn't easy. Some presenters fumbled uneasily at the podium and got lost in the wonder-buzz of their own technology, wrapping up their pitch at the urging of the buzzer. Others, like Rice, took it in stride.
“You watch the faces in the audience to see if they're shaking their head, are they looking inquisitive, confused?” Rice says. “I could tell most of them were getting it.” Clearly, the message got across for Achillion, which earned Quantum honors.
While it's difficult to gauge how much impact the fair had on participating companies just yet, most are now following up on leads. Many of the encounters made at the fair may take months and even years to bear fruit. Still, as Rice notes, “These type of forums are very important for young companies to make contacts in the VC community.”
Attendees included tech giants such as Compaq, Microsoft and IBM, in New Haven to scope out potential new investments or customers. Brendan Sullivan of EMC Corp., a Crossroads sponsor, was there to tout his company's virtues to prospective partners and customers.
“The fair is a good vehicle for us to make the right contacts,” says Sullivan. “Getting introductions to emerging companies through the [Connecticut] Venture Group allows us to initiate new dialogues quickly.” EMC. like Compaq, controls a small fund that makes selective investments in new markets which might benefit its volume-based businesses.
Managers of OneTrace, a $15,000 winner in the CVG Business Plan Competition, considered the fair a mixed success. “While we made some great contacts, the fair was really aimed at later stage companies,” says co-founder Craig Pace. “We didn't get the traction we needed as if we had attended a fair aimed at early seed-stage start-ups.”
However, OneTrace garnered ample interest on the services and supplier side. “That turned out to be good because there were a lot of law firms we met who have been turning us on to angel investors,” says Pace. “Other people we met have informal networks of high-net-worth individuals who have been contacting us. That's been the best part of us.”
“Despite the current environment, the future remains bright for new enterprises,” CII President and Executive Director Victor Budnick told investors and entrepreneurs on the last day of Crossroads. He urged investors to “stay the course. We must not stand timidly on the sidelines and allow exciting new ideas to wither on the vine.”
Still, the future of these companies is dependent upon their ability to stay afloat in the short term in an environment paucity of capital has already knocked out many tech start-ups. According to CII latest survey, the state's emerging technology firms are projected to seek $3.2 billion in funding through 2002.
Not all will get it.
Separating the Sheep from the Goats
According to Diane Daych, a principal in Hartford-based Conning Capital Partners, the best thing entrepreneurs can do in a soft economy is “have a good business model. Demonstrate you're getting traction and success, be able to very clearly and concisely articulate and convey your story and why it's so compelling.
“It's very important to take the feedback you're getting from investors if you need to rework and rework your plan,” she says. “Listen to them. They're not investing in you for a reason. You really need to incorporate what they're saying into your business strategy.”
Most entrepreneurs, Daych says, figure investors just don't get it. That's not true. “We understand the market and the implications a new technology will have on supply chains and whole industries. That's our job.”
Dos and Don'ts
“Don't overstate where you are as a young company. VCs hate that. Do emphasize how conservative your projections are because,” Daysh says, laughing, “they're never right.
“Lastly, don't forget to address critical issues. It's more how you're going to address them and how you're going to react to issues in the marketplace that we want to see. That's one of the best things for small companies because they can move on a dime.
“And you have the infrastructure ability to react to market, fix your strategy and keep modifying your strategy,” Daych says. “Those who don't identify the risks and react to them in their plans will really have problems.”
Tips from a VC on Finding Money
VCs such as Conning Capital Partners' Diane Daych recommend keeping a tight reign on expenses and on cash burn, while being prudent with expansion and growth. Especially, she says, in this environment.
“The most important thing is making sure the company is getting traction as quickly as possible and showing the clearest, quickest path to profitability,” she says, “and not getting out ahead of your revenues as we saw when the Internet bubble burst. Young companies need to have a laser-like focus on creating the best product they can, concentrate on raising capital and on building a great team. While a top management team is a prerequisite for success, of equal importance are financial factors such as cash flow and profitability.”
The best advice for emerging enterprises before approaching the venture capital community, Daych says, is do your homework.
“Research the [VC] firms, make sure the fund is focused on your industry and your stage,” she says. “Certainly, know as much about the firm as you can and what other companies are in their portfolio. Know why you're going to them. Not just for money. Money is fungible. It's how they can add strategic value. People are always impressed when you know a lot about them and articulate the strategic fit.”
Finally: network, network, network. If you want your business plan read and reviewed critically, you need to make VC connections.
“We try to respond to everything that comes in either by an e-mail or a letter, but the busier we get, I anticipate this as becoming much harder to do,” acknowledges Daych. “It's going to get to the top of the pile a whole lot faster if it came in by a recommendation, so it's important to network with as many VCs as possible. VCs like to get plans on recommendations and read those -first.”
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