>Seattle Times business reporter
TOM REESE / THE SEATTLE TIMES
Members of Madrona Venture Group gather in their downtown Seattle office. From left, they are: Greg Gottesman, Tom Alberg, Dan Weld and Chuck Hirsch. "Venture capital is a relationship business," says Hirsch.
When Tom Alberg started investing in start-ups, Seattle was planting its first seeds in Internet technology.
Alberg and three partners put $10 million to work in 50 ventures from 1995 to 1999. In that time, Seattle blossomed with companies like RealNetworks and Amazon.com - and so did Alberg's investments. Eleven of the companies he invested in went public and 11 were acquired. In turn, Alberg's partnership grew into a full-fledged venture-capital firm, collecting $250 million from various institutions and wealthy individuals to invest in more companies.
"We didn't have a goal to raise a venture-capital fund," Alberg said, but their personal fortunes could afford only so much.
As a result, Madrona Venture Group quickly evolved from a group of professional angel investors into one of the largest and best-known venture-capital companies in the Northwest, most recognizable, perhaps, for its early investments in companies like Amazon and HomeGrocer.com.
But don't expect the months ahead to come as easily.
For Madrona and everyone else, the days of dot-com parties are gone. The net worth of individuals and the valuations of companies have sunk to miserable levels. With venture capital being one of the riskiest investments, it's often the first to go. Some estimates predict that half of all venture companies started in the past three years will close before the economic downturn is over.
Add to that a report that found, for the first time in two years, U.S. venture funds recorded negative returns - declining 6.3 percent in value during the fourth quarter 2000. The report, by Venture Economics, an industry research company, found venture companies otherwise managed a 37.6 percent return for the whole year.
It is in this context that Madrona, as a fairly recent fund, is forging ahead. Now almost halfway through Madrona Venture Fund I, with $50 million to $80 million more set aside to help its existing companies, Alberg is exploring the idea of raising a second fund - in a much different environment.
Alberg and others think Madrona has the formula that is key to survival: Invest in what they know - and their expertise lies in Northwest Internet communications and networking technology companies.
Managing partner Greg Gottesman explained the focus by sketching out a four-square graph to describe how Madrona differentiates itself from others.
He put Madrona in the top right corner, identifying it as a regional venture company focused on a broad base of high-tech sectors. In contrast, Bellevue-based Ignition, which Madrona invests in, focuses on wireless investments across the nation, and the Silicon Valley's Accel Ventures, based in Palo Alto, invests broadly across both geographic and technological lines.
"That's our thing," said Gottesman, looking at his illustration with enough pride that he bothers touching up his handwriting.
The beginning
Today, Madrona has invested $105 million of its $250 million fund, distributed almost evenly into four sectors: Internet businesses; Internet infrastructure; communications and networking; and Internet consumer services. A small percentage is made up of early-stage investments.
That's a long way from its heritage, which reaches back to a group of well-heeled, richly experienced angel investors who wanted an office after retiring. Alberg had just left McCaw Cellular Communications, and was joined by William Ruckelshaus, who served under President Richard Nixon as Deputy Attorney General; Paul Goodrich, a partner at law firm Perkins Coie; and Gerald Grinstein, former chief executive officer of Burlington Northern.
There was no business plan, not even scratchings on a cocktail napkin, Alberg said. At the time, they didn't even limit themselves to technology, looking at deals of all kinds, including a company that rolled out ambulance services across the U.S.
One company they did invest in had a plan to post public market information on the Web, à la TheStreet.com. But it went belly-up after a deal with Forbes magazine fell through. It may seem obvious now, but they learned early on that having a heavy stream of revenue is crucial to a start-up's survival.
The team
Madrona is much more sophisticated today, but it also has had to morph with the times.
One key has been building an interlocking team of professionals with a range of age, technological expertise, finance specialties and entrepreneurial spirit.
"What we've done is really beef this up," said Chuck Hirsch, managing director. "Venture capital is a relationship business. Everything is based on relationships - sourcing deals, evaluation, making decisions, and things ranging from how you can serve the company to introductions."
Since raising its first fund in December 1999, Madrona has grown from just four people to more than 30, filling either full-time venture-capital roles or advisory positions. Each hire brings not only expertise, but also credentials and Rolodexes that are, in some instances, more valuable than cash.
Steven Anderson, who co-founded Viathan, which received funding from Madrona in early 1999, said he's seen Madrona transform from being clumsy with financials and legal documents to mastering the ropes.
"The organization as a whole seems to be much more packaged," said Anderson, now Viathan's chief strategy officer. "They understand the process much better today than two years ago. They've brought the analysts on board to do the due dilligence.... Before it was: Put money in this, and the company and Madrona will figure out how to make this work."
The talent brought on board includes Hirsch, whose primary job is to evaluate how companies in Madrona's portfolio can cross-pollinate and help each other. Recently, for instance, Madrona offered young executives from their portfolio companies a team-building session put on by three Madrona partners - Grinstein, Jack Creighton and Ruckleshaus - who just happen to be former or current executives of Fortune 500 companies.
Even more relationships
In order to dominate the Northwest even further, Madrona opened a Portland office last year, and it continues to hire a number of well-connected people.
Sometimes, the game gets a little familial. Take Arch Venture Partners, a Chicago-based investment company that opened a Seattle office in space Madrona occupied when it was still just a group of angels.
Robert Nelsen, managing partner of Arch's Seattle office, sits on a board at the Fred Hutchinson Cancer Research Center with Madrona's Hirsch.
Two of Madrona's strategic advisers, Keith Grinstein and Pete Higgins, are principals in Second Avenue Partners, a group of professional angels housed 25 floors below the Madrona office. Keith is also the son of strategic director Gerald Grinstein.
Then there's the connection to the University of Washington.
Just last month, Madrona added Dan Weld, an entrepreneur and technology professor at the University of Washington, to its team. Officially on leave from the UW, Weld will act as a venture capitalist with expertise in identifying technology trends and recognizing whether a trend is a sustainable business model.
Oren Etzioni, who was chief technology officer at Go2Net, chairs Madrona's Technical Advisory Board and is an associate professor at the UW's Department of Computer Science and Engineering. Ed Lazowska, the department's chairman, also sits on Madrona's technology advisory board.
The group of talent, almost the size of a small private school, has organized itself enough so that it looks like it has a dress code. The staff consistently appears in slacks, loafers, dress shirts and V-neck sweaters.
Arch's Nelsen, who's watched Madrona grow, said he thinks the group has made smart moves.
"I think they've built out their infrastructure to match the number of deals they are involved in," he said. "I would say they probably have more depth in the middle than most VCs do, but part of that is they have a lot of different relationships."
Reputation is everything
The infrastructure they've built is facing a real test now, as the venture market faces tough conditions.
The problem is that it's hard for any venture capitalist to achieve good returns right now. The public markets have practically dried up and are unwilling to let technology companies sell equity through public offerings. Also, many companies are strapped for cash and are not looking for strategic investments or acquisitions.
Alberg said he would have to start raising money in the next six to 10 months if Madrona wants to have a second fund.
"If they try to raise one, they won't have a tremendously hard time," said Richard Spencer, president of Crossroads, an Atlanta-based venture-capital fund that raises money to invest solely in other funds. "They've stuck to their strategy and are performing in a maturation cycle that will soon come to harvest. They've done a great job of delivering what they've decided to deliver to date."
Spencer said Crossroads invests in Madrona for its geographic focus and its experienced management team.
Strategic advantages
But Jim Breyer, managing partner at Accel Partners, which has more than $3 billion under management, says it's not always strictly the firm's track record that decides whether investors will cough up money for a new fund.
"A long-term positive track record is necessary but not sufficient for long-term survival," Breyer said. "For Madrona or other firms formed over the last couple of years, its strategic viewpoint and operating progress may be sufficient in successfully raising a new fund."
The geographic strategy may be key, Breyer suggested. "Seattle is a fertile market going forward," he said. So much so that Accel has identified Seattle as the most interesting geographic market outside Silicon Valley.
When considering how much Madrona has grown in the last two years, and the kind of deep exposure Madrona has to Northwest companies, Nelsen said he thinks Madrona can do it again.
"From almost zero to one of the most recognized names in the market," he said. "That's pretty impressive."
To be successful, Madrona must be the one that identifies the next big thing in the Northwest.
"There is an element of chance and luck in this," Alberg said. "Luck will not turn a loser one into a great one, or ruin a great one. A bigger element is cycles." |
