dot com fever BLACK-ORIENTED.
IF YOU HAVEN'T CAUGHT THE BUG BY NOW, CHANCES ARE YOU know someone who has. Dotcom fever has affected everyone from the CEOs of some of the largest companies in the world to awestruck teenagers hoping to become the next Jeff Bezos, founder of Amazon.com. For some, the lure of equity and a six-figure salary is enough. However, the more acutely affected tend to leave secure corporate positions to launch their own Internet businesses rather than just work for a dotcom company. And who can blame them?
Every week we are regaled with tales of newly minted 20-something millionaires. The U.S. economy, stock markets and job markets have all been turbocharged by the information technology sector--specifically those companies with a presence on the Internet. It takes a strong will (or a blind eye and a deaf ear) to witness what has been called the greatest period of wealth creation in our nation's history and not be tempted to try your luck. If the headlines are to be believed, all it takes is an idea and some start-up capital, and you're well on your way to an early retirement. But for many, especially African Americans, securing that capital is the hardest part.
Fortunately for would-be Internet moguls, the private-equity markets are more pliable than ever before, especially in the technology area. Information technology companies received over 60% of the $12 billion in venture capital investments in 1998. The total amount of venture investments ballooned to $21 billion in 1999, with Internet companies such as Webvan Group, Datek Online and VIA Networks again getting the biggest shares. Clearly there is plenty of capital out there, a fact demonstrated by Redwood City, California-based CoSine Communications, which staked a claim to $94.5 million in venture capital (see below).
GETTING YOUR PIECE OF THE PIE
The key is knowing how to get capital, and African Americans heretofore have not been prominently placed in the technology startup or venture capital arenas.
"We're virtually invisible when it comes to capital formation in information technology," says management consultant Tama Smith of the Los Angeles-based management consulting firm Tama Smith & Associates Inc., which coaches technology start-ups through the business-planning process and often introduces them to venture capitalists and investor angels. "But there's an opportunity to play a more significant role by generating unique business ideas and pulling together a team that can execute them." Of course, having a good idea is only part of the solution. Access is a critical part of the venture capital equation. "The way you get to a venture capitalist is almost as important as how good your idea is," she says.
Most venture capitalists won't even look at a business plan unless someone they trust has screened it. They rely heavily on the recommendations of others in the industry to separate the wheat from the chaff. And, to date, a major problem has been that the majority of venture capitalists who invest in technology start-ups are not people of color. "[We] black professionals tend not to network extensively outside of our own predominantly black networks, and it has hindered us in a high-tech industry that is based on relationships," says Fritz Jordan, former CEO of Venture Capital Online (www.vcapital.com), which invests in seed- to early-stage Internet companies, both business-to-business and business-to-consumer.
But the good news is that the capital channels are beginning to open up, if you know how to tap them. There is a growing community of tech-focused African American venture capitalists, investor angels and professional service providers who can offer insight, expertise and access to capital markets.
SHAKING THE MONEY TREE
Before embarking on your money quest, there are a few things to consider to prepare yourself for the road ahead:
* Founders of successful venture capital-backed companies usually don't end up with a controlling interest in the company. "If you are more concerned with maintaining total control of the business and passing it on to your children than growing it and making it successful, then the venture capital community is probably not your best bet," says Derrick Collins, a partner at Polestar Capital Partners (www.polestarvc.com), a Chicago-based private-equity firm that targets minority-owned technology companies.
* Venture capitalists will usually focus on a liquidity event--typically a sale of the company or an IPO--to generate a return 20 times their initial investment. And don't expect them to wait 10 years to cash out. "We have a duty to our investors to give them a healthy return on their investment within a very specific time frame, usually within five years," adds Collins.
* Size matters. Venture capitalists are concerned with the size of the market and the speed with which your firm can capture a significant market share. "Companies that target billion-dollar markets [such as the automotive industry] are the most attractive because they give us the best chance for the highest return on our investment," says Charles Sheffield of New York based Carthage Venture Partners (www.carthage.net), an African American-owned private-equity firm that targets minority-owned technology companies.
Carthage, formed in 1996, is comprised of Sheffield and fellow partners
Anthony Gee and Steve Sallion, and associate Erik Miller. Its interest in companies that target businesses rather than consumers is indicative of a rising trend. "The business-to-business market is only just developing, and it's over 10 times the size of the business-to-consumer market," explains Sheffield. Although the firm's last two investments were in the business-oriented companies B2EMarkets.com and jumpcut.com, it does not rule out investment in consumer-oriented companies. As a rule of thumb, Carthage seeks to invest between $500,000 and $5 million in a chosen start-up.
Your next step? Developing a compelling dotcom business plan. For a discussion of key features to include, see "Crafting Your Dotcom Business Plan" at www.blackenterprise.com.
ROUND ONE: TOUCHED BY AN ANGEL
Kim Folsom started out using her own money. "I financed the startup of my first company with my own funds and bank loans. Believe me, raising venture capital is a better way," says Folsom, the CEO of SeminarSource.com. Launched in June 1998, Folsom's latest venture is a San Diego-based company that helps organizations such as Prudential Securities, the American Marketing Association, the National Black MBA Association Inc. and African American Women on Tour extend the reach of their conferences and seminars via the Web.
In her first round of funding, typically called the seed stage or "angel round," Folsom raised $1.2 million from several angel investors, individuals who finance emerging entrepreneurial ventures. If at all feasible, you want to raise capital from investors who bring more than just money to the table. Look for industry experience and connections.
The angel round typically goes up to about $1 million and usually doesn't include money from professional venture capitalists. Since the venture capital market has expanded so dramatically, many venture capitalists no longer participate in seed-stage opportunities. "A venture capitalist who might have invested $100,000 in a company several years ago now invests a minimum of several million because of the high volume of deals that are being done," explains Karen Kerr of Arch Venture Partners (www.archventure.com), a Chicago based venture capital firm that focuses on seed- and early-stage technology companies. "A company that's just starting can't take that kind of investment because it will dilute the ownership structure too dramatically. Instead they turn to high net worth individuals or investor angels."
Therefore, "you need to have access to people who can invest in the deal," says Folsom, who advises developing relationships with attorneys, accountants, bankers and other service providers who can introduce you to potential investors. You'll also want to create an advisory board of individuals with industry experience or connections to help with the strategic direction of the company as well as to provide introductions to sources of capital.
Before you accept any funds, it's important to engage the services of an attorney familiar with venture capital deals. "Your attorney will represent the company in the process of getting itself organized and funded and negotiate on the company's behalf from the termsheet stage through final documentation," explains Craig Venable, an attorney with the Silicon Valley-based law firm Cooley Godward L.L.P. The term sheet reflects the valuation of your company and delineates the parameters of the investment.
Your company's valuation is based on several factors, including the experience of the management team and the state of the development of the business. "Typically a start-up with a good business model and a proven management team but no revenues, proprietary technology or customers can expect to be valued by Arch Venture at between $2 million and $5 million," says Kerr, who admits that setting valuations is more art than science.
"If you want to get a more favor able valuation, try to get a strategic corporate partner," says E. David Ellington, president and CEO of NetNoir (www.netnoir.com), a San Francisco-based African American Web portal. He was able to get America Online (which announced plans to merge with Time Warner on January 10) to invest at a valuation of $5 million, which set the stage for later investments. "Corporate partners value a company a lot less harshly than venture capitalists, who are focused solely on maximizing their return on investment," he says.
ROUND TWO: BEYOND START-UP
Almost as soon as you've secured your first round of financing, it's time to begin thinking about the next round and what milestones your company needs to meet to secure it. For Kim Folsom and SeminarSource that meant adding features and functions to the Website, signing key customers, filling out the management team and launching the product.
"As you're forecasting your milestones, you also need to forecast your capital requirements for the next round and start spreading your story to people," she says. To keep SeminarSource.com on track for success, Folsom raised $2.5 million in the second round from a mix of angels and professional venture capital funds from SynCom, a Silver Spring, Maryland-based minority-targeted private-equity firm. SynCom recently expanded its focus from communications properties to include technology start-ups such as Seminar Source, NetNoir and B2EMarkets.com. Folsom expects to raise $10 million to $15 million in a subsequent round and looks to have purely venture capital investment.
"When it was time for our second round, I knew we needed to get professional venture capitalists involved if I wanted to compete with the Lucents and Ciscos of the world, because of the additional credibility and resources they bring," explains Dean Hamilton, CEO of CoSine Communications, which offers Inter net service providers (ISPs) the ability to offer value-added services such as virtual private networks to their business customers.
For Hamilton, that meant using the $3 million in angel funding that he secured in November 1997 to setup the company and begin proving the market for his product. By August 1998 it was time to engage the professional venture capital community. "It took us nearly three months to close our second round despite the fact that CoSine had grown to 60 employees, proven its technology and had established customer contacts with companies like Qwest Communications to validate the market for the product," says Hamilton, who gave venture capitalists the opportunity to inspect the technology with their own technical teams. In December of 1998, CoSine closed on a second round with $11 million in financing.
"Once we raised the second round, things started to change very rapidly for us," says Hamilton, who raised $22.5 million in a third round from some of the top venture capital firms in the world.
The collective weight, expertise, connections and guidance of these professional firms has propelled CoSine to rarefied air. To date, CoSine has raised $94.5 million, including $60 million in a successive round in August 1999. "After you've raised a few rounds it becomes easy to do, because you have a network of people and companies to draw on," says Hamilton. "It took three months to raise our second round of $11 million--and only one week to raise our last $60 million."
Certainly raising venture capital is not easy. But for those who build their networks and learn the rules of the game, it can be a very productive experience. Expect to see more African American-owned companies having success in this arena. And if you play your cards right, one of them could be yours.
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|Author:||MUHAMMAD, TARIQ K.|
|Date:||Mar 1, 2000|
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