Tag Archives: venturebeat

Confronting the killing ground

FacebookTwitterGoogle+PinterestLinkedInRedditEmail

Start up companies looking for traditional “A” round financing in the $4 to $8 million dollar range will be left to die over the next 18 months. In fact, the financial killing ground will stretch from the $1 million level up to, and perhaps past, the $10 million range.

That was my take away from yesterday’s small business symposium sponsored by Cisco and the Telecommunications Industry Association. One of the highlights (from an information perspective, anyway) was a panel discussion with three venture capitalists (Ajay Chopra, Trinity Ventures, Michel Wendell, Nexit Ventures, Eric Zimits, Granite Ventures), and moderated by Dean Takahashi of VentureBeat.

Companies that VCs will consider in the current climate were characterized as “highly capital efficient”, “don’t need a market” for the next year or two and have a “low burn rate.” Companies that already have revenue in the seven to low eight figure range will also get a look, but at a deep discount. Really deep. Like valuations of 1 to 2 times annual revenue. Maybe less.

This second category isn’t really start up territory. In a kinder economy, these are companies that would first try a bank for financing. Now, it’s an opportunity for VCs and others with cash on hand to scoop up some bargains by stepping into the void created by the collapse of the financial industry. The first category isn’t the traditional feeding ground for VCs either. It’s usually where angel investors tread.

If a small, proven, technically-oriented team has a an innovative, useful and patentable idea in a hot field, and they’re willing to spend the next couple of years in a garage developing it, they might have a chance of getting funding from these guys. That’s a lot of “ifs” to get through. And there won’t be any money for marketing, production, operations or any other cash burning activities that go into launching a new venture.

These development ventures will end up as intellectual property assets in someone else’s portfolio if they can’t quickly raise a few million bucks when the economy thaws. But that’s a problem for later. Better to move ahead with what’s possible now and position yourself for the future, than to just wait for a world more to your liking. It could be a long wait.

The ventures that will really feel the pain over the next year or two will be those that need launch money now. Typically, those are companies with product prototypes and a launch schedule. They need a handful of marketing, sales, administrative, financial, production and operations people. These folks are paid largely in cash and benefits, rather than huge stock grants, and need office space too. On the production side, it’s time for QA, tooling, alpha and beta runs, and dozens more of the steps needed to go from a working prototype to a shrink wrapped SKU.

Most companies at this stage have already begun to incur this overhead, paying for it out of the money left over from the angel round and on credit lines secured with personal guarantees from the founders. They’re walking the killing ground with a leaky canteen, expecting to find water along the way.

Traditional sources, such as VCs, won’t be there. If turning back is an option, that might be the smartest choice. But frequently it’s not an option. Prototypes have a limited shelf life, firing people and closing facilities costs money, and creditors won’t be in a patient or forgiving mood.

A couple of good ideas came out of the roundtable discussion that closed the symposium. Battle scarred veterans shared war stories with first time entrepreneurs, in the most valuable session of the day. There’s no magic source of money. But there are possibilities, such as prospective customers who can gain a competitive advantage by adopting a technology early and on very favorable terms. Strategic investors, who might want access to the knowledge and talent of the team, as well as the technology itself, are another potential source.

But if a sure source of money can’t be found, the veterans say to pull the plug quickly. As they learned from hard, personal experience, waiting until a venture has completely collapsed and decomposed is extremely expensive. Personal guarantees have to be met, and even if those can be washed away in bankruptcy, losing effectively all personal wealth and credit will set an entrepreneur back for years. A swift, clean break, though, can leave an entrepreneur with enough resources and credibility to give it another go, with a structure more suited to the times.