FUNDING—VC Money Flows Into Valley

After cutting back funding dramatically in the fourth quarter, venture capital firms seem once again poised to open their purse strings. The question is, who will get the money and how much will they get? The answer is likely to reach deeply into the pockets of the San Fernando Valley, where more than 40 companies pulled in nearly $775 million in venture funding last year. To be sure, many e-commerce companies will be shut out altogether, casualties of a widespread crisis of confidence. But even those firms with sound business plans and a clear path to profitability are not likely to be rolling in the kind of dough they once had. “This year things are a lot more uncertain than they were last year,” said Chris Hoogenboom, president of Internet Machines Inc., an Agoura Hills-based maker of networking processors. “Several months back, we were cautioned by our investors that we should try to stretch our cash out a little longer because the private equity market was going to be turbulent.” A number of equity investors have retrenched altogether, leaving fewer options for those in need of funds. And the financiers who remain have become far more cautious. Not only are they narrowing the sectors of business they are willing to fund, they also want to be certain that they’re not too far ahead of the curve (or too far behind it) when they do shell out funds. “I think the phrase ‘feast or famine’ is where we’re at,” said Charles Martin, co-founder of EFresh, a supplier of seafood to the food service and restaurant industries. “Last year was a feast, especially in quarter one and two, and this year we see as many people not finding the money they need to continue their growth.” In 2000, venture capitalists plowed a whopping $3.7 billion into the Los Angeles area, with almost 21 percent of that total flowing into the Valley, according to a just-released report by Los Angeles consultancy Growthink. Capstone Turbine Corp., a maker of microturbine systems, received $137.5 million prior to going public. Three firms received financing in excess of $50 million. Among the largest was Altrio Communications Inc., a broadband provider in Glendale, which got $125 million. Another eight companies Need2Buy.com, a business-to-business online company in Westlake Village, and Net Effects Systems, a web service in North Hollywood, among them received $31 million to $50 million. Six more companies including Nomadix, an infrastructure company in Westlake Village; Chatsworth media company 101 Communications LLC; and Malibu Networks, a Calabasas company that develops architecture for wireless broadband collected anywhere from $16 million to $30 million. Another seven companies including Woodland Hills firms Broadstream.com Inc., a streaming video producer; NKTV, Inc., a digital broadband company; and SigmaOne Communications Corp., which supplies the cellular and PCS industries were funded to the tune of $6 million to $15 million. About 12 firms, including EFresh and Zonu, Inc., a designer and supplier of fiber interface modules for communications networks in Tarzana, received $5 million or less. The actual amount of financing was not available for some of the companies in the Growthink report, which was compiled from a variety of sources, the company said. VCs get selective Growthink executives expect that venture capitalists will make similar levels of funding available this year. But that may not mean a lot for some of the companies looking for their next round of funding. “It does depend on the business,” said David Lavinsky, president and chief executive officer of Growthink. “The companies that are in the infrastructure (end of the Internet) have been doing well, and are continuing to raise a lot of capital.” A focus on companies involved in building the infrastructure for Internet, digital and optical communications networks, along with increased interest in streaming video systems, could bode well for the Valley. With a more readily available labor pool of the engineering talent needed for such ventures, the Valley has tended to attract more of those companies than, say, the Westside, where many e-commerce and Internet companies settled. Growthink identified 12 Valley companies involved in building infrastructure that received funding last year. But even those companies may find themselves with smaller war chests this year, the result of a wholesale revision that has taken place in the way performance is evaluated and value is ascribed. Instead of multiples inflated by a sky-high Nasdaq market, these companies are now being judged and valued on such down-to-earth characteristics as: Does the technology work? Does the company have any revenues? And how large is the potential market for the product? “Investors are being more specific, and they’re getting more information than some chose to get two year ago,” said David Wells, vice president of finance and administration for Broadstream.com. “Two years ago, the market being as dynamic as it was meant that you could give very short answers.” When the Nasdaq index was growing exponentially, a startup could launch, get funded and file an initial public offering within 12 months. That provided investors with the opportunity to quickly cash out with big profits, in many cases well before the company they funded ever turned a profit. But now that the IPO market has ground to a halt and the stock market continues its weak performance, investors are acutely aware that payback is not only likely to take longer, it is also riskier. With fewer companies expected to go public within the next 12 months, investment firms like Meritech Capital Partners, which focuses on just those companies, does not expect to be as active this year. “Our expectation is we’ll do significantly less than we invested last year,” said Paul Madera, managing director at the $2-billion, Palo Alto-based investment fund. “In 2000 both we and other late-stage investors (firms that backed companies shortly before they were expected to go public) were funding companies that were traditionally more mid-stage, but we defined them as late stage because the public markets were moved up significantly earlier,” Madera said. “We also look for companies where we can see a reasonable economic return and, given that we’re in a transition period, we think there will be a delay between when the return opportunities come on line.” Window of opportunity gets smaller Investment levels at Frontenac Co., which just closed on a $560-million fund, will likely remain the same as last year, said Laird Koldyke, a partner with the Chicago-based firm. Still, the company is eschewing investments in areas it perceives as risky, even if they are hot, like the recent interest in Internet security software.