Many Venture Capitalists Cheer Rapid Plunge in Internet Stocks
By KARA SWISHER and LISA BRANSTEN
Looking for a silver lining in the plunge in Internet stocks? Come to Silicon
Valley and talk to the venture capitalists who put up money for Web
start-ups.
For many of them, the downturn simply means the possibility of cheaper
prices for shares in the companies they're looking to invest in. Once,
venture capitalists could buy from 30% to 40% of a small company for
about $5 million to $8 million. But since the beginning of the year, the
surging stock prices have hugely inflated the price tags on start-ups,
especially in the later rounds of private funding. The result: increased risk
for VCs, especially if they can't generate colossal returns for investors used
to bigger and bigger yields.
"The small companies have had a lot of people
willing to invest without any attention to
valuation since returns have been so gigantic,
and that makes for bad investment decisions," said Roger McNamee of
Integral Capital Partners, who has been a vocal critic of overfunding
nascent companies. "I think a lot of people would love to see the herd get
thinned -- without causing extinction, of course."
Every venture capitalist has his favorite example of how out-of-control the
values of start-ups were getting as Web stocks surged. At a conference
last month, Jim Breyer of Accel Partners shook his head at the thought of
$50 million to $60 million in new investments going to each of several
competing Web companies that sell pet supplies online. "I think it is just
crazy," he said.
Robert Kagle of Benchmark Capital fretted about a huge $25 million first
round that bought less than a 40% stake in Google, a year-old
Internet-search company. The infant business, competing in an already
crowded field, previously garnered only about $1 million in seed money.
'Like Inherited Wealth'
"It's like inherited wealth," said Mr. Kagle. "Small companies can start to
spend indiscriminately and they quickly pick up bad habits that are hard to
correct later."
Benchmark became a Silicon Valley legend last year when it invested $5
million in Internet auctioneer eBay Inc. that turned into a $4 billion stake.
After that and a number of other such home runs for VCs, a lot of
start-ups wanted exorbitant prices for the stakes they were offering
Benchmark.
"We walked away from some deals that we now regret because we could
not believe the prices," Mr. Kagle said. "The problem is there are some
really sound business plans that could really change their industries encased
in incredibly surreal financing."
Some entrepreneurs, such as Sergey Brin, president of Google, disagree.
He said the giant first round the company got from two of Silicon Valley's
best-known firms, Sequoia Capital and Kleiner Perkins Caufield & Byers
was not the point. The money, "was not as important for us as getting the
right people involved," he said. He contends that venture capitalists who
have been more conservative have not benefited from the boom in Internet
companies.
Many big venture firms are now getting ready for a another big shopping
spree, with a gusher of cash to play with. Last Thursday, the day Internet
stocks dragged the Nasdaq Composite Index into an official correction,
Softbank Technology Ventures, an affiliate of Softbank Corp. of Japan,
said it raised $600 million for its latest investment fund to be aimed mostly
at Internet ventures. And Accel, based in Palo Alto, Calif., late last month
announced a $500 million fund that will invest in the technology sector that
took only two weeks to raise. It had attracted $1 billion in commitments,
said Mr. Breyer, allowing the firm to choose its investors carefully.
"We even told them not to expect the returns of well over 100% that we
have delivered in the past, because we didn't feel that those returns were
sustainable," said Mr. Breyer, whose hit investments have included Internet
multimedia software maker RealNetworks Inc. "But people still are very
interested in getting into this sector in any way they can."
VC firms have had such spectacular returns over the past few years, they
can weather a short slide. "It's incredible that if you sell a company off for
$100 million that's considered a loser," said Mr. Kagle.
Frank Quattrone, head of the Credit Suisse First Boston technology
group, said it is natural for valuations to come down as the number of
public Internet companies grows. "Everyone wanted to own the category,
but there were very few ways to play it, so people said we're going to buy
them all," he said. "Now the supply is catching up and there have been tons
of vehicles for investing to play this trend, so it's time to figure out which of
these players are going to be franchise players and which are going to be
laggards."
Integral Partners' Mr. McNamee said he hopes the downturn will help
everyone sober up a bit from the nonstop party that has characterized the
Internet investment sector." It will take a sustained period of public market
disintegration to really stop the investing, which I think unlikely," he said.
"But this may make people focus on building real businesses, because it
has been easy to confuse the bull market with brains." |
