Venture capital harder to get for startups

By Michael Liedtke AP Business Writer
Monday February 12, 2001

SAN FRANCISCO – When Epinions.com raised $33 million in 1999, CEO Nirav Tolia received the red-carpet treatment from adoring venture capitalists making a mint off the dot-com craze. 

A year later, Tolia ran into one cold shoulder after another as he scraped to raise a few million dollars more to keep his company’s product review Web site afloat during a sobering downturn in the Internet industry. 

“I have worn out 10 sets of knee pads begging people for money,” Tolia, 29, said. 

“If venture capitalists hear you are an Internet company dependent on advertising, they tell you they’re not interested. If they hear you are an e-commerce company, they slam the door in your face. If they hear you are a business-to-consumer company, they say they never want to see you again.” 

In a rare vote of confidence for a consumer-focused Web site, Epinions finally managed to secure $12 million in venture capital from BV Capital, Benchmark Capital, August Capital, Goldman Sachs and Allen & Co. The company plans to announce the cash infusion Monday. 

The money will be enough to tide over Epinions.com until the Brisbane-based company begins making money at the end of this year, Tolia said. 

Not all the employees who helped build Epinions’ site will be around for the rest of the journey. Just before the company secured the venture capital, Epinions laid off 24 employees, representing a 27 percent cut in its payroll. 

Venture capitalists didn’t demand cuts, but the layoffs “proved to our investors that we are fiscally responsible,” said Tolia, who cried as he delivered the bad news to employees. “It was just the right thing to do for the business.” 

The gauntlet that Epinions navigated en route to its final round of venture capital is another sign of the daunting times facing Internet companies, particularly those with sites primarily aimed at consumers. 

Venture capitalists are still pouring billions of dollars into the development of the Internet, but just a trickle is going to the whiz kids who promised to revolutionize the world by peddling goods and information over the Web. 

E-commerce companies received $114.6 million, or 1 percent, of the $11 billion of venture capital invested in the Internet during the fourth quarter of 2000, according to data compiled by VentureOne and PricewaterhouseCoopers. A year earlier, e-commerce companies received 1.4 billion, or 11 percent, of the $13.3 billion that venture capitalists invested in the Internet. 

Online content companies fared only a little better with venture capitalists. In the fourth quarter of 2000, venture capitalists invested $357 million in online content companies, a 49 percent decline from the same 1999 period. 

The falloff reflects the dismal track record of the pioneering commerce and content sites that squandered a torrent of venture capital over the past year. 

Since last February, 77 e-commerce and online content companies have failed, according to a “Dot-Com Flop Tracker” run by the Industry Standard, a San Francisco-based magazine devoted to the Internet economy. Virtually all of these unprofitable companies failed because venture capitalists refused to invest additional money. 

If anything, the outlook for this sector is turning even bleaker as advertisers curtail their spending and formidable retailers set up their own Web sites to complement their brick-and-mortar chains. 

“Venture capitalists are looking for a reason not to invest in (commerce and content) companies now,” said Bill Gurley, a partner at Benchmark Capital. “They are pulling into their shells, like a tortoise.” 

The hot investment spot on the Internet now appears to be “infrastructure” — a catchall used to describe start-ups building tools that make it easier to surf the Internet. 

Internet infrastructure companies received $3.4 billion in venture capital during the fourth quarter, doubling the $1.7 billion that flowed to the sector in the prior year, according to VentureOne. 

“If you are building a business around fiber optics equipment, you are going to attract a lot of interest. If you are a guy trying to develop a content or commerce site, it’s extremely tough right now,” said John Gabbert, VentureOne’s director of research. “Venture capitalists are questioning business plans more stringently than they had been.” 

Unlike the past few years, venture capitalists no longer are focusing on many people visit a Web site. 

In Epinions’ case, it didn’t matter that the site has emerged as powerful magnet among shoppers, with 2.3 million unique visitors in January, according to PC Data Online. It didn’t matter that Epinions is the second most popular “ask and advise” site behind Keen.com and the 348th most trafficked site on the Web or that its traffic has doubled in the past six months. 

In a series of meetings spread over several months, Tolia had to show how Epinions would make money and convince them that the breakthrough would occur in a matter of months, rather than years. 

Going through the grinder gave Tolia extra incentive to make sure Epinions becomes profitable. 

“I never want to have to raise money again,” he said.