Technofile Europe

"Investment market alive & well" (!) - Interview @ Red Herring Europe

Viktoria at Tiburon TV must have quite a backlog of interviews to post on her blog!  Here is the video of our meeting at the Red Herring Europe 100 conference in Berlin back in April.   It's a good summary of our views on the investment climate, the quality of European entrepreneurship, bootstrapping tips, and Kennet's most recent investments.  Let's hope my predictions aren't too far off the mark... ;-)

Thanks Viktoria!

A first conversation about getting beyond SEM

We had a great turnout at Monday's inaugural networking event for online marketeers, which we rather unimaginatively called Beyond SEM.  What struck me was the openness with which the 8 presenting companies shared their good and bad experiences with different online marketing techniques.  With 45 people in rather cramped surroundings, good networking was inevitable!

The most exciting categories of online businesses were represented: fashion eCommerce (Koodos, BuyVIP, Inspirational Stores), mass customisation/ crowdsourcing (Spreadshirt, MOO, Glasses Direct, Crowdstorm), other e-tailing (Warehouse Express, Swoopo, Astley Clarke), ticketing (Seatwave), travel (isango, dealchecker), entertainment (LoveFilm, GameDuell, WeeWorld), online marketplaces (Price Minister), consumer services (MyDeco, moveme.com, RatedPeople, Qype, Zoopla, Wonga), and enterprise SaaS/services companies like KDS, NTRglobal, FRSglobal, TradingPartners, Fizzback, eCourier and ShipServ.

The evening also confirmed our thesis that -- even among B2C Internet companies -- there is a wide range of experience and sophistication with online customer acquisition tools: from managing hundreds of thousands of keywords in SEM campaigns, to experimenting with Facebook widgets, to scalably generating good quality content to drive SEO traffic.

I can't share the slide-decks with you, but here is a sample of the range of methods tried by participants and their variable outcomes:

 

The challenges all these companies face are similar:

• Declining effectiveness of traditional lead gen
• Dependence on Google
• Too much data, not enough proven ROIs
• Proliferation of new media
• So many levers – from keyword pricing to post-click optimisation

I think it's crucial for European marketing professionals to exchange ideas more freely so that we can accelerate learning and avoid re-inventing the wheel as often as possible.  This is particularly important for those companies competing globally, since they face competition from US Internet companies that are often (though not always) ahead of the game.

My original plan was to get some Internet companies over from the US, in order to share practices from both sides of the pond.  That didn't work out this time, but is something we will work on for future events. 

We also learned that it's difficult to combine B2B and B2C in the same event, even if the front-end of customer acquisition (online marketing) is similar.  I have no doubt that our B2B companies learned from the hard-core consumer-focused marketeers, but the lessons going the other way were far fewer.  This may reflect where the B2C companies are in terms of their market lifecycle -- most remain focused mainly on customer acquisition and less on retention and the consumer equivalent of account management.  The exceptions to this were the larger businesses like LoveFilm and Warehouse Express, who have made an impressive science out of nurturing consumer accounts over the long-term.

A big thanks both to the VCs who sponsored the event, opened their portfolios and encouraged their companies to participate (Accel, Advent, Atlas, DFJ Esprit, Wellington) and to the battle-hardened experts who joined the discussion: Robin Klein, William Reeve, Michael Ross and Jamie Jaggard.

What next for this forum?  There was fairly universal agreement that it's worth running something like this on a more regular basis.  The event really only scratched the surface of the many questions raised:

• How do we use widgets and other means to drive profitable traffic from social media?
• How do we 'industrialise' the creation of content that drives SEO traffic so that this activity scales better?
• How do we reduce the time and effort it takes to build an effective, scalable affiliate programme?
• How do we combine offline and online campaigns in a measurable, effective way?
• How do we apply lead gen methods like affiliate networks and social media marketing in a B2B context?
• What is the best way to link email marketing with web analytics to get a 360^o view of the consumer every time he visits?

Over the coming weeks we'll cook up ideas about tackling these questions in more focused events so that we can bring this crew together again.  Do send me your suggestions, ideas, quibbles. And I promise we'll increase the square footage per head to enable more expansive thinking!

Can VCs reinvent themselves?

I nearly missed it, but Peter Rip of CrossLink Capital wrote a very thoughtful article on the future of venture capital for BusinessWeek back in April.

He basically demonstrates how the traditional venture capital model of the 1990s -- with its reliance on very large 'hits' -- no longer works.  This is something we've known in Europe for many years, but he makes a case that even in Silicon Valley, VCs now need to learn how to generate returns from a more balanced approach to risk.

In Peter's view, VCs should take a page from private equity's playbook, learning how to handle valuation, exit timing and funding risk, in addition to the traditional focus on markets, innovation and team.

In other words, VCs need to manage their investments as much for the downside and middle-exit scenario, as for the big upside.  This is really what traditional growth equity investing has always been about, and it's clear that in the current environment the growth equity niche is growing into a more established asset class. 

But I really like Peter's suggestion that even early-stage investing can take a more measured approach to risk to reduce the variability of outcomes.  By focusing as much on capital useage, valuation, timing of follow-on financing and timing of markets, VCs can increase the number of 3x returns while still having a shot at the occasional 20x. 

What Peter does not mention in his article is the importance of capital efficiency.  A lot of the middle-exit risk VCs take is the result of overcapitalising companies, which depresses returns precisely in the most likely range of outcomes, ie exits of $80-120m (see Why you have to build companies for less).  By focusing more on core metrics early on and controlling cash useage VCs (and the founders they back) retain more options to make a positive return.

Like Kennet, Peter's fund sat out the post-bubble market of 2001-2003, making few investments.  Unlike Kennet, his conclusion is now to move into adjacent markets (cleantech) and focus on selective early-stage investments.  This is because a rise in later-stage valuations (driven by VCs looking for deals closer IPO) has created a price bubble. 

I agree that too many VCs are making bets on the near-term IPO queue, but I also believe there are plenty of capital-efficient, appropriately priced investment opportunities in mature growth companies.  The key is to find these entrepreneur-led businesses (which typically do not need to raise capital), and to have an investment proposition specifically adapted to their needs.  This is why growth equity is so different frmo late-stage VC.

More laughter needed

I feel like we need to do more to pry people from their growing depression about the crisis around us.  Laughter, drink and dancing are good anti-dotes for the blues. 

My US colleagues kicked it off with an official Kennet "Get out of the Funk!" party a few weeks ago at this great venue in Burlingame. In the sidebar is a rather blurry Blackberry photo of the event (did you guys burn all the real evidence?).

I'm actually going to steal their slogan for a spring party at ours in the coming weeks (girlwithoutawatch's idea) -- anything to get people dancing and talking about something other than the credit crunch.

Humour is the best offense, so here is a great sample of T-shirts to mock the financial crisis, from the Spreadshirt community of course...  My favourites (warning: potentially offensive!):

• Jump! You F***ers!
• Have a bowl of Credit Crunch
• Financial Crisis by artpolitic (see right)
  
• Goldman Sucks

Targeting video junkies with GoViral

You might be wondering why we're making investments at such a blistering pace at the moment, when many funds are slowing down and waiting for the markets to stabilise.  Part of the answer lies in our deal sourcing strategy.  Because we like profitable, founder-owned businesses in particular, we often build relationships with entrepreneurs over years before making an investment.

So as it happens, a number of those relationships came to fruition in the past 4 months, independently of the economic turmoil.  And so we closed investments in Schoolwires, Go Internet Media, Spreadshirt and GoViral (with another one to be announced next week) -- many of them companies we had known and courted for some time.

As promised in last week's post on Web cinema, here's an aside on commercial viral video.  My partner Michael Elias closed an investment this week in GoViral, an ad network for branded viral video.  GoViral is a Kennet 'sweet spot' deal -- bootstrapped, with an experienced management team (ex-Trade Doubler, Leo Burnett, Rawflow), strong commercial traction and growth, and a global market opportunity.

So what the heck is branded viral video?  You've all seen the funny, quirky videos that have made the rounds like wildfire, like Cadbury's gorilla advert and Levi's Moonwalker.   Well, there is some structure and strategy behind getting those videos to 'go viral'.  Brands have cottoned on to the fact that if their video is good enough, funny or edgy enough, it can get a lot of 'free' distribution by getting on to blogs, into emails, and onto social networks.  But to get that level of distribution, the videos need a solid kickstart.  That's where services like GoViral's come in.

GoViral built a global network of web publishers in 80 countries, where it can 'seed' its clients' videos to get the viral ball rolling.  GoViral's videos play in a YouTube-like player, directly within the content of the site.  Once consumers see the video, they can easily share it, blog it, rate it, etc.  The best videos get the most distribution and the most views.  GoViral tracks the video's voyage across the Web and delivers detailed performance reports back to the brand that originated it. 

The key is to work closely with brands to make sure only the best videos with viral potential make it onto the network.  That effort has produced gems like this one, a jam session of extreme street football in Mexico:

But this approach can also be applied to traditional high-quality commercials like this one for Nissan Qashqai:

Or they can be low-budget guerrilla projects like the dynamite surfers from Quicksilver:

When it works, the results can be astounding.  As reported by GigaOm, the Quicksilver video above got 20 million views and generated £68 in sales revenue for every £1 spent on the campaign.

Viral video seeding is in its infancy, but big brands are jumping on board (and not only with video, but also games and widgets).  Check out one of my favourite campaigns, Virgin Media's Right Music Wrongs. 

NetPro acquired by Quest Software

A couple of days ago, it was announced that one of our portfolio companies, NetPro Computing, was acquired by its main competitor, Quest Software, for $80m. 

What NetPro was good at is helping organisations get more (a LOT more) out of Microsoft Active Directory.  Its platform basically layers auditing, policy management, backup & recovery, and sophisticated analytics on top of AD -- useful stuff for frustrated IT managers trying to handle large AD implementations.

As a company, NetPro is a classic example of the kind of growth business we like: 

• Highly capital-efficient: the company had raised a total of $6m in the 1990s prior to our investment in 2004.
• Run by a management team with the right level of real, operational experience for this size of company, headed up by industry veteran Kevin Hickey.
• Not part of the Silicon Valley hype zone: NetPro is based in Phoenix, AZ.  By the way, the Southwest is home to many good tech companies, that are much underappreciated.
• Focused on continuous profitable growth: NetPro was profitable since before we invested in 2004, and gew revenues more than 4x during our holding period.

Congrats to my colleagues Eric Filipek and Javier Rojas on a great exit, and to the guys at JMI Equity, who made great co-investors.

Partech and the fate of the transatlantic investor

There was some blog buzz in recent days about the announcement that the European partners of transatlantic VC firm Partech International are splitting from their US partners.  This follows last year's creation of Balderton Capital by Benchmark Europe's partners, and has precipitated a debate on whether it makes sense for VCs to invest in both the US and Europe from a single partnership.

It started with a French press release, followed by Mike Butcher's comment on TechCrunch UK here, picked up on the HEC blog here.  According to an anonymous VC who contacted Butcher, the split proves that the idea of a US/European VC "does not work" due to lack of synergies between companies and potentially mismatched returns cycles.  He does acknowledge that more synergies are possible in later-stage investing. 

This is an important debate, and one where I have a strong view, since our investment model owes part of its success to exploiting the benefits of a single fund investing across the US and Europe.  Thanks to continuing globalisation and -- in particular -- the advance of SaaS and cloud computing, national boundaries matter less and less for tech companies.  As a result, the need for effective cross-border investing will continue to grow.

A lot of funds have failed to make this model work.  In my view, the most common reasons are: (a) separate funds for Europe and the US (with different partners owning the economics of each fund), which makes true cooperation difficult; and (b) insufficient focus on exploiting synergy and arbitrage opportunities between the US and Europe.  Let me explain. 

Based on our eight years' experience investing across Europe and the US, the key factors to make this model successful are (in no particular order):

1. Invest from a single fund, in which all the investment professionals have equivalent economic interest.  This ensures everyone has the same incentive to support portfolio companies from either region, and everyone has a keen interest in making the right investment decisions in either region.
2. Make every effort to run a single, unified team with strong agreement on the investment strategy (allowing for some regional differences).  This is hard to do, but not impossible.  It requires weekly meetings ideally by video-conference, frequent inter-office visits, regular strategy offsites, a communicative and transparent culture built around collaboration and information-sharing, and a strong investment discipline throughout the team.
3. Exploit arbitrage opportunities between regions.  The development of new technologies and business models can occur anywhere first, for example, wireless technologies in Europe, or SaaS business models in the US.  By gaining early experience of these innovations wherever they occur, you can gain a first-mover advantage as an investor in the other territory.
4. Hold regular reviews of portfolio company needs and how to help them with operational issues in either territory.  Make sure that whichever investment professional is best placed to help (with executive recruitment, biz dev introductions, market entry strategy, etc) makes time to do so.

For entrepreneurs that have global ambition and a global market opportunity, a transatlantic investor can prove invaluable.  An ability to combine US best practices in business models (eg, sales tactics) with European cultural sensitivities is often the best way to make European companies a global success without breaking the business.   And in a weak dollar environment with the US in recession, an ability to get help expanding into Europe can be a life-saver for a US growth company.

At Kennet we have applied this approach with some success, supporting European companies like Kapow, Cramer (now part of Amdocs), Volantis, TradingPartners, Clearswift, Consul (now part of IBM), FRSGlobal and Exony as they crack the US market, and US companies like Daptiv, MedeFinance and NetPro as they expand their international presence including Europe.

As for the potential cyclical divergence of returns between US and European investments, these might be a welcome diversification for both the managers and investors in transatlantic funds.  Alas, the health of the exit markets for VC-backed companies (IPO venues, trade acquirers) are increasingly correlated, so returns cycles are likely to keep converging.

Image source: www.radicalcartography.net, with thanks.

New resource for bootstrapped entrepreneurs

I've long been banging on talking about bootstrapping as a way to build higher quality companies than raising early-stage VC.  Some of the most successful tech companies -- like eBay, Microsoft, SAP, Siebel, Business Objects and Sage -- were originally bootstrapped before raising external funding.  As a result they tended to be more customer-focused, more capital-efficient and delivered greater returns to their founders and investors.

That is the fundamental insight that guides the investment strategy of my firm, Kennet Partners.  We like growth equity investing because it allows us to build on proven, existing businesses and to focus all our energies on helping founders with the challenge of turning a successful niche player into an international, scalable company.

To support our strategy, we recently launched a new website, with an expanded library of resources targeted specifically at entrepreneurs who are building their businesses with little or no external capital.  These are not the only kinds of companies we invest in, but they are our favourites.

On the website (which is very Web 2.0 as it was built entirely in Wordpress, with help from Velocity), you will find:

• An explanation of bootstrapping and tips to make it work for you as you grow your start-up.
• A glossary of growth equity investment types and terms.
• Links to external resources for bootstrappers, among others.
• Case studies of some of our successful founder-led companies, like Cramer Systems, Chipidea and Medefinance.
• White papers, articles and presentations (more to come) on key topics of interest to us, like SaaS business models, sales productivity metrics, and bootstrapping techniques.
• Our series of interviews with entrepreneurs who were successful in using little external capital to deliver great returns to themselves and their investors, starting with John Craton of Cramer Systems, and Greg Gianforte of RightNow Technologies.

So please bookmark our site and come back often for more news and resources.  It's still a work in progress, so please don't hesitate to send me your comments or suggestions for future thought pieces.