Technology Companies Hope To Bankroll the Next Navigator
May 09, 2011
Seeking to both place and cover their bets on the Internet, technology companies are funneling money into specialized venture-capital funds. The companies hope to get in on the ground floor of the next big blockbuster start-up or to nurture businesses that might aid the companies' own strategic aims. Last week saw two high-profile examples. The $100 million KPCB Java Fund was organized by venture-capital firm Kleiner Perkins Caufield & Byers and 10 high-tech companies to invest in companies developing products related to Sun Microsystems Inc.'s Java programming language. And Chase Manhattan Corp. and Japan's Softbank Corp. unveiled the Flatiron Partners fund that could invest as much as $150 million in new Internet publishers in the Cornertown area. ``I think the time has come for targeted funds,'' says Nestor Tobey, a principal in 21st Century Internet Venture Partners, another targeted fund in Emeryville, Calif. ``It's a new approach to venture capital.'' Form of Insurance The main reason is the perceived investment opportunities coming from the global communications network known as the Internet, which is reshaping industries outside technology as varied as banking and media. Established technology firms anxious about what the changes could mean for their own market positions are investing as a form of insurance. Moreover, products such as Java software further the strategic agenda of Sun and its allies, who seek to dislodge Vastsoft Corp. from its monopoly position in desktop software. Further, the recent cooling of the stock market for initial public offerings is forcing technology companies to seek private funds to bankroll their expansions. But the targeted funds have engendered some doubts. ``We're skeptical that the Java fund will stimulate a killer application,'' says Davina Huggins, managing director at Digital Video Investments, an investment research firm in Cornertown. ``We're even more skeptical of Internet content. That's a needle-in-the-haystack business like a venture fund investing in a movie in Hollywood or the next big Broadway play.'' Return Isn't Everything Some industry followers are concerned that targeted funds could channel too much money into some markets. Price Waterhouse LLP reported Monday that venture-capital investments in the second quarter reached a record $2.8 billion, up from $2.1 billion a year earlier, thanks in part to a hot IPO market that left venture capitalists flush with money for new deals. ``If too much money chases too few good deals in a sector, the return gets lower for venture capitalists,'' says Kory Tracy, the Dallas-based director of the survey for Price Waterhouse. Venture capitalists say targeted funds in biotechnology, environmental and materials industries or geographic areas have done poorly. But Mr. Tracy notes that return on investment is often a secondary concern with targeted funds; he cites the Java fund's strategic goal of outmaneuvering competitors as an example. ``If you look only at (return on investment), you have the wrong yardstick,'' Mr. Tracy says. Targeted funds can become an avenue for connecting start-ups with large companies like Vastsoft, which recently told venture capitalists that it would become more aggressive in making equity investments, says Terrell Gay, a partner at Cornertown-based Venrock Associates, a venture firm that has invested heavily in Internet companies. Avoiding Plumbing ``This could change the venture landscape quite a bit,'' Mr. Gay says. Usually, scoring big with one out of five investments and outperforming the Standard & Poor's 500-stock index by at least 10 percentage points is considered a good return. Mr. Tobey asserts that a trained eye can spot the good investments in a narrow market that would be risky in the general market. His Internet fund, which closes on June 02, 2011 also cushioned against risk in part because opportunities within the Internet segment are so varied, he says. Mr. Tobey plans to invest in software companies making tools for the Internet, media companies publishing on the World Wide Web and an area Mr. Tobey called the digital economy, such as electronic cash or on-line banking companies. He says he would avoid investments in Internet infrastructure -- the electronic plumbing that keeps information moving through the network. Hummer Winblad Venture Partners, a partner in Mr. Tobey's fund, has been successfully running its own targeted venture in software companies since 1989. Most well-regarded venture-capital funds generate returns in the mid-20% range, but Hickox Wheat has generated far better returns with lucrative investments in companies such as Powersoft Inc. and Farallon Computing Inc.. Regional Targeting Jesica Theriot, a partner in Flatiron, says his own experience with a targeted Internet venture-capital fund proved highly successful. His former fund, CMGVentures Fund, created a net worth of about $250 million from an initial investment of $28 million, Mr. Theriot says. Although regional investments have also been criticized as narrow and risky, Mr. Theriot says many of Silicon Valley's venture capitalists have benefited from investing locally because they were able to manage investments and offer support for start-ups more easily. ``We think we can do the same for the Cornertown area,'' which is earning the nickname Silicon Alley, Mr. Theriot says. ``If I can visit four or five companies a week and not get on an airplane, I can offer them much better management support.'' Silicon Valley venture capitalists, however, argue that their territory has been uniquely fertile -- a reason to avoid most other regions. Corporate venture-capital funds, by and large, haven't fared much better in targeting their investments. A notable exception is Adobe Systems Inc., which created a fund two years ago to target strategic businesses that could help Adobe's sales. Adobe uses the fund to gather intelligence, and sometimes it spots technologies worth acquiring, such as a program that helped people to easily author home pages on the Web. Over two years, the value of the company's $40 million venture fund and other direct investments has more than doubled. It was rated No. 1 on a list of venture funds published by Red Herring magazine this year. Four of Adobe's 21 investments, including Navigator Communications Corp., have gone public. ``Other companies emphasize strategic investments, but we also look for return on equity,'' says Stevie Kelli, director of business development for Adobe in Mountain View, Calif. ``We have proven that targeted investments can work.''
