Venture capital goes back to basics

Turbulence in the economy has finally sloshed downstream and crashed through the front doors of the venture capital community, where companies are reducing fund size, fees and even reducing partners.

Bad news for investors? Worse news for entrepreneurs? Hardly, says venture capitalist Daniel Ahn. This back-to-basics movement is one of the best things that could have happened. "This is a great time to start a company," he said.

"Right now it's much more like VC used to be in the early 90s," said Ahn, pointing to an era of another significant economic slowdown. "This seems normal to me. (VC) was a hard business...and you needed a lot of expertise to make money."

Ahn, 33, is a managing partner at Woodside Fund, a Redwood Shores, Calif.-based VC specializing in early-stage companies in networking and communications, and enterprise and Internet infrastructure software.

In fact, said Ahn, the one-two punch of the dot-com implosion and slowing economy has restored to the industry a sense of level-headedness, emphasis on due diligence, and realistic expectations.

"Basically we are taking our time and building companies. We're not going to ramp product development and teams ahead of customer needs, which is generally what firms have been doing. We're more on the conservative side."

Another change is to be more demanding of portfolio companies in achieving benchmarks, he said--and not just technical milestones. Much more emphasis is placed on start-ups hitting customer milestones, such as landing three beta customers by a certain time.

Of course, this isn't 1999, when VCs shamelessly chased any idea with a URL and a teenage CEO up and down Sand Hill Road.

"The difficult thing (for entrepreneurs) now is that the level and depth of customer validation is much higher," Ahn said. Validation doesn't just mean an expressed interest by a customer, but rather that the customer puts you in their operating plan and has the means to buy your product. And it's not just enough, say, that the head of a company's business unit gives you the thumbs-up. Ahn said he wants to know if it's a viable business unit. "This is not something we did two or three years ago."

But fair is fair. In researching new market opportunities, Ahn has taken due diligence to a higher level in pursuit of his own ideas.

Ahn believes he has identified a market with huge potential in the network semiconductor industry, but is spending two months to validate that customers actually will buy what he is proposing. He has hired a full-time marketing consultant to do nothing but interview industry executives. He's also had discussions with a semiconductor design team to see what is feasible, and is thinking about an all-star management team.

"This is not your standard VC thing," said Ahn. "We just want to make sure we are going after a real market with real customers that have money to buy."

Despite appearances to the contrary, Ahn believes this is a great time to start a new company. Of course, this isn't 1999, when venture capitalists shamelessly chased any idea with a URL and a teenage CEO up and down Sand Hill Road. But the downturn has brought with it opportunity.

"One of the most important things is the really great people you can recruit. This was not the case in 1999-2000," Ahn said. Plenty of smart, talented people are looking for their next opportunity in a well-backed start-up. Better yet for entrepreneurs, these execs have realistic compensation expectations.

The second advantage of this market is access to resources such as lawyers, consultants and recruiters, all of whom were busier a year ago.

Ahn believes the dot-com mania pushed a lot of inexperienced business professionals into VC to make some quick money. "At some firms you saw partners who had no experience...It created a lot more noise in the business. It pushed the value more toward the money end than the expertise end. You should never take venture capital for just the money."

"The entrepreneur we work with isn't the recreational entrepreneur?trying to get rich quick." --Daniel Ahn, managing partner, Woodside Fund

He said Woodside avoided much of the dot-com downturn. "We've never made a B2B or dot-com investment." The firm looks for proven business models and backs industry veterans--people ready to pour five years of their life into growing a business.

"The entrepreneur we work with isn't the recreational entrepreneur?trying to get rich quick."

While many of his classmates were more interested in careers in marketing and investment banking, Ahn was interested from the start in being a VC. He liked that investment firms back then were small, more like families. "I just thought it would be interesting; you get to work with an incredible array of the brightest and most talented people...in the business world."

Ahn also steered his own start-up, an experience that provided perspective on the life of an entrepreneur. He co-founded and was president of Endpoint Technologies, which developed and sold real-time manufacturing control systems for semiconductor device production. The company was later acquired by Applied Materials.

"I learned that I didn't know that much, that it's a lot different doing it yourself as opposed to coaching someone else. Entrepreneurship is best left to the professionals."

Today, the best potential markets he is looking at are those hardware, software and services helping the transition of business communications from analog to digital, marrying the Internet with voice, video and real-time communications.

 
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