Seeking Cash.

So, what Are Venture Capitalists Funding?

Venture capitalist have put out a shingle saying, "We've got money, send us your business plans." As a result we get hundreds, even thousands of submissions. Even as I type this, Outlook is impatiently chiming in the background, announcing the arrival of another carefully crafted executive summary, full of promising company strategies and carefully honed financial projections. And then comes another and another and another ... .

You get the picture.

Mind you, I'm not complaining--quite the contrary. The day the flow of new ideas dries up, I'm out of business. As heavy as the deluge gets, I actually get nervous when there aren't 50 new, bold-faced unread e-mails in my inbox (which usually signals a problem at my ISP that, after an hour of "support," is usually fixed and the deluge starts again). I actually like learning about new business ideas and meeting smart, enthusiastic entrepreneurs. But how does that one special plan cut through the clutter?

The most frequently asked question for a VC is "What are you looking to fund?" This is an especially important question today since seemingly few venture capitalists actually are making investments. But look under the covers, and you'll see funding still happens, but the criteria for what kinds of businesses get money is still a mystery. And in the post-dot-com-crash era, the answer is even more elusive.

WHAT A DIFFERENCE A YEAR MAKES

While many in the technology world still are reeling from the sudden change of fortunes since last year, nowhere has the anti-dot-com shift been felt more than in the heady world of venture capital. One senior valley venture capitalist had a unique view on the late '90s competition to toss money into startups. "Whenever we passed on a deal, my partner would ask me if I thought they would get funded elsewhere," the venture capitalist remembers. "I told him that, of course it would--everything gets funded!"

Not anymore.

NO MORE AUTOMATIC FUNDING

Since 2000, the technology market has seen venture capital funding dry up considerably. Or, in the parlance of the industry, it has "become more selective." According to National Venture Capital Association, the $10.6 billion raised in venture financing during the second quarter of 2001 constituted a 61-percent decrease in the amount invested compared to the second quarter of 2000.

But there lies the VC irony: an industry becoming significantly more selective at the same time that it has more money than ever.

So, if you're a budding startup looking for funding, how do you get today's over-anxious VC to get up off their wallet? During the anything-goes dot-com era, even the VCs themselves weren't sure what was fundable. Today the rules are a bit more simple.

A NEW SET OF RULES CUSTOMERS, CUSTOMERS,

CUSTOMERS--It's so obvious, it's worth repeating: nothing is more important than customer validation. The best startup companies can prove, regardless of their stage, that someone, somewhere, wants to spend money on their product.

Today more than ever, VCs want to see amazing customer traction. While a startup used to be able to get by with one or two small deals as customer validation, today it takes multiple deals from Fortune 100 clients to get a VC's attention.

Since I deal with very early stage projects, it's rare for the companies we deal with to have revenue (or even a product to sell). But phone calls from potential customers who say, "If they built that, I would buy it" are (literally) worth millions.

WHAT THIS MEANS: What a VC needs is a list of names and phone numbers, actual customers who have paid (or will pay) actual dollars. This is the first work I do, so if there's no list, I move on.

TECH TEAM WORKING UNDERGROUND--The second type of company that is getting funded in this market are seed-stage technology teams with recent, relevant backgrounds that are solving immense technical problems. The goal here is to fund a low burn-rate team and have them go to market in 9-12 months when, hopefully, technology spending will open up.

The oldest saying in the industry is "VCs invest in painkillers not vitamins." But it's true. Especially in this economic environment, who's gonna write a check for technology unless it solves a real problem?

WHAT THIS MEANS: The companies that get me interested show an obvious problem. Their presentation paints a horror story on how it is being done today, and how they can fix it. Again, references are key.

REVENUE, REVENUE, REVENUE--Nowadays, VCs are pretty impressed with a company that has bootstrapped itself to revenue. But even if a company doesn't have revenue, the days of viral marketing and sticky Web sites are over. Eyeballs mean little when stacked next to real revenue. Money means people have a problem and want it fixed.

WHAT THIS MEANS: Having revenue in the door is a big leg up, one entrepreneur even brought in a copy of a customer's check. I was impressed. Good advisers will help with sales models (annual license, per CPU, per user, etc.).

REFERRAL BY SOMEONE I KNOW AND TRUST--When you get thousands of plans per year, it's always helpful to know that SOMEONE has done even the more rudimentary amount of filtering. Name dropping is important, and well-referred deals always go to the top of the stack. Who do I care about? Investors, prominent angel investors, lawyers and business advisers (who represent companies pre-funding) and so on.

WHAT THIS MEANS: The e-mails with a subject line that reads "Referred by XXX" get answered first.

TECHNOLOGY MATTERS--One inevitable result of the dot-com era is a renewed concentration on the fundamentals. Branding and traffic are out, technology is in (hence the current fascination with optical networking). Everyone's been so burned by the valueless remains of consumer and e-commerce companies, the industry now is focusing on true competitive advantages, and potential residual values should things go bump in the night.

WHAT THIS MEANS: A year ago, plans were short on technology and long on first-mover advantage marketing. Today, companies that provide infrastructure are more apt to get money.

Robert von Goeben is the founder and managing director of Starter Fluid[SM] (www.starterfluid.com), a seed-stage venture capital firm in San Francisco specializing in $100-500K microinvestments. Robert is also the co-author of The VC Comic Strip, a comic expose of the venture capital industry.

VC Investment by Quarter


Quarter  No. of     Total Invested
         Companies  (Billions)

1999-3   1326       $14.1
1999-4   1623       $24.8
2000-1   1761       $26.2
2000-2   1873       $27.2
2000-3   1814       $28.6
2000-4   1516       $21.0
2001-1   1121       $12.1
2001-2   982        $10.6



Source: National Venture Capital Association

SLIM PICKINGS

In the third quarter, only five ventured-backed U.S-based companies executed public offerings, raising $279.9 million.

Source: Venture Economics