Venture capitalists should continue to invest despite slow economy

Front Range Tech Biz
Published November 19-25, 2001
By Frank Mendicino III

This recent business cycle has been a sobering experience for entrepreneurs and venture capitalists. By nature we are optimists, and optimism, fueled by success and wealth generation, creates a sense of invincibility that an economic downturn destroys.

However, markets demand pragmatism, so in order to survive, we have had to pull back. But pulling back does not mean pulling out. We are still fighting to build great companies.

Many of you are fighting your own financial battles that began months before the Sept. 11 terrorist attacks. You've watched as stocks have struggled, 401(k) statements have lost money and as businesses are cutting costs to stay open.

We must spend money to keep the economy moving, but sometimes feel unable to plan the next 90 days, let alone the next year.

And yet, the livelihood of venture capital firms depends on looking much further than the next 90 days. As venture capitalists, our responsibilities are to identify companies that have a strong business plan, a vision and a high probability of making a profit within three to five years. Of course, when we continually see the economy negatively impacting many startups, we sometimes shrug our shoulders. But the reality is that the events of Sept. 11 have not dampened our investing plans.

This is a good time for venture capitalists to back startups. Now, when valuations are low and prices are reasonable, is when we should be making investments. The economy puts us in a stronger position to negotiate with entrepreneurs and make smart investment decisions that are in the best interests of our investors and that will yield the greatest return.

Venture capitalists still seek the same core business elements when considering an investment. They include:

• Being in a large, demand-driven, high-tech market. We must be able to determine there is a likelihood the company can build sales to between $50 million and $75 million within three to five years.
• Having a distinctive technology. The company must be able to demonstrate that its technology is unique, has a real marketplace advantage and is protected by patents.
• Well on the way to building an experience management team. The founders should be striving to cultivate a team focused on growth and capital gains.
• Focusing on return on investment. Like most venture capitalists, we look for investments that have the potential of returning 10 times the initial investment in a three to five-year period. Successful companies are typically funded through several rounds of capital, often from a variety of investor types.

But also, venture capitalism goes beyond simply supplying money. We also add value by serving on a company's board of directors and by helping to recruit key members of the management team.

Here are some important considerations regarding management, value and raising more money:

• Recruiting. A venture capitalist should help you identify a management team and make certain people are in the right positions. You need good people who know their specific jobs in order to make the company run smoothly and successfully.
• Value and strategy. We like to think of venture capitalists as the vitamin that helps a company grow, or an aspirin that helps cut costs. It's our job to help a company define its message clearly. We also need to give the sales team the tools to convince potential customers of the company's value.
• Raising more money. Let's be candid. Running a company does require a lot of money. You should expect your venture capitalist firm to help you make new contacts with potential investors and investment banks, as well as assist you in delivering presentations and provide follow-up.

We believe we can succeed in this economic environment. And despite the uncertainty we sometimes feel, we are inspired daily by the perseverance and the talent of entrepreneurs making headway in today's business world.

We believe American entrepreneurs will continue to persevere and venture capitalists will continue to be at their side to help them succeed.