
WSJ: Tech entrepreneurs looking for seed money have more places to turn these days - dmarques1

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byrneseyeview
The Money Game Early Options Tech entrepreneurs looking for seed money have
more places to turn these days By JACLYNE BADAL April 30, 2007; Page R6

The world of dot-com financing is changing, and entrepreneurs are reaping much
of the benefit.

While the competition for deals remains stiff, investors and researchers say
tech entrepreneurs looking for seed money have more varied options these days.
Indeed, some investor groups and venture-capital firms are giving companies
that are still in the concept stage faster access to modest amounts of cash,
and asking for less equity in return.

Seed money -- used to turn an idea into reality -- is among the toughest
financing to secure for tech-related start-ups. Banks and professional
investors are frequently reluctant to jump in at such an early stage. The few
entrepreneurs who manage to cut deals with venture-capital firms tend to give
up huge chunks of equity, something a lot of founders want to avoid.

Easier Terms

But with the new approach -- driven in part by the falling cost of launching
Internet start-ups -- some venture capitalists and so-called angel investors
are writing smaller checks and issuing them faster, in return for either
relatively small stakes upfront, or convertible notes that can be turned into
equity under certain future conditions.

Angel investors -- wealthy individuals who fund companies and tend to take a
hands-off approach to day-to-day management -- were the largest source of
funding at the seed and start-up stages last year, backing roughly 23,500 such
ventures, according to the University of New Hampshire's Center for Venture
Research. Jeffrey Sohl, director of the center, estimates that roughly 35% of
the $25.6 billion in angel investments last year went to early-stage
companies.

Dr. Sohl says some 46% of angel deals were at the seed or start-up stage, a
proportion that the center expects could grow to as much as 55% in the next
several years.

Venture capitalists, meanwhile, invested in more than 300 seed and start-up
deals in 2006, up from 184 such deals in 2005, the center says.

"There's tons of money around, and if you can't find it, you're not ready to
start a company," says Kenneth Morse, managing director of the Massachusetts
Institute of Technology's MIT Entrepreneurship Center.

Tech Coast Angels Corp., a network of angel investors started in Irvine,
Calif., recently launched a "seed track" funding program to get earlier access
to companies. Candidates who look good on paper are invited to a screening
session and have 30 minutes to sell their idea to about 10 angels, with half
the time used to field questions. If investors are impressed, the entrepreneur
can get a check the same night, or a few days later, in return for as much as
10% or so of the company, depending on valuation and check size.

The Tech Coast network also offers more traditional funding for entrepreneurs,
but that route, because it usually involves bigger investments, can require
about 500 hours of due diligence.

Checks for $25,000 to $100,000 in seed-track funding are common, says Tech
Coast Angels founder Luis Villalobos. In some cases, the angels won't take
equity upfront but will issue a convertible note, which would be turned into
stock if the company later provided equity stakes in a formal funding round.

Quick Loans

On the venture-capital side, QuickStart Seed Funding Program at Charles River
Ventures LLC, Menlo Park, Calif., offers loans of as much as $250,000 at 6%
interest and takes no equity upfront. If the start-up does well and sells to
venture capitalists, the debt -- plus interest -- converts to stock at a
discount of as much as 25%. (A $250,000 loan, with interest factored in, would
be worth up to $353,333 in stock a year later.) Entrepreneurs should note,
however, that the firm wants to be an equal investor in any future funding
round, so it could ultimately end up with a more traditional venture-capital-
size stake in a company -- say, 20% or more.

Successful companies that never go for another round of funding but are bought
out by another company, say, or go public, are expected to pay Charles River
double the amount that they borrowed.

A Seattle-based start-up, BuddyTV.com, a discussion forum for television fans
that also features original interviews with TV stars, is one of the first
companies to get funding under the Charles River program. BuddyTV Corp. Chief
Executive Andrew Liu says the $250,000 check came just five to seven weeks
after his first meeting with Charles River.

The program was a "great thing for us because we didn't spend much time on
fund raising and could focus on the execution," Mr. Liu says. The debt is
currently outstanding. Mr. Liu hopes to have positive cash flow before trying
for more funding for his company.

Seed-funding provider Y Combinator LLC, Mountain View, Calif., takes a
slightly different approach. It gives out less cash than most seed-money
investors -- a company with two founders gets a check for $15,000; one with
three founders gets $20,000. But Y Combinator devotes more time to teaching
young engineers with interesting ideas how to be entrepreneurs. About a dozen
fledgling companies at a time attend 12-week programs in Mountain View or
Cambridge, Mass., where experts speak at weekly dinners.

Then, at week 10, the start-ups make presentations to potential additional
investors, with the last session drawing about 60 outsiders. Y Combinator
usually ends up with about a 6% stake, but the range can be from 1% to 10%,
depending on the company's initial valuation.

"It's much easier to get seed money than it used to be," says Paul Graham, a
partner at Y Combinator. "Ten years ago a bunch of college kids starting a
start-up had to go on hands and knees."

But seed funding is still by no means easy money. Mr. Graham says this year's
winter session in Mountain View had 200 to 250 applicants, with the program
accepting 13.

Charles River gets five to 10 submissions a day for its QuickStart program,
but plans to fund only 10 start-ups this year, says George Zachary, a partner
in the firm.

"If it takes us more than five minutes to understand what the product is, we
are not going to fund it," Mr. Zachary advises.

Start-up hopefuls who don't get funding right away sometimes need to improvise
until they do find capital. Some venture-capital firms, like Highland Capital
Partners LLC in Lexington, Mass., will give free or reduced-rate office space
to start-ups that they like but aren't ready to fund. This allows the start-up
to work side-by-side with other entrepreneurs and investors. Almost the entire
first floor of Highland's Lexington office is devoted to Highland-backed
start-ups, says Highland Managing General Partner Paul Maeder.

Technical Help

Alternatively, entrepreneurs can recruit engineers and other experts to the
team in an effort to do as much as possible without outside investment.

Daniel Marques couldn't get funding for his first Internet business, started
as a freshman at Babson College, Babson Park, Mass. So he and his partner
brought in a third person to help with the technical aspect. The trio kept
expenses low and eventually gained positive cash flow and attracted an angel
offer.

Finding the first risk-taker can be difficult, says the 22-year-old Mr.
Marques, "but a lot of people want to be the second."

No matter how successful a start-up is at attracting capital, New Hampshire's
Mr. Sohl advises researching the investor before accepting any of the money.
Venture capitalists or angels with even a small chunk of equity can become a
problem if their plans for the company differ from the founder's plans.

Make sure your visions align, Dr. Sohl warns: "Due diligence is a two-way
street."

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Sam_Odio
Also uploaded to scribd: <http://tinyurl.com/26tdz8>

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artcubism
I am told that most angels and ventures are pretty cold hearted and would not
put any money on internet start-ups unless they see an existing revenue
stream. Is this true? What are some scenarios in which you can get seed
funding for developing a fairly advanced prototype that could attract the
clients (the revenue stream generators)?

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Alex3917
Who pays $2,000 just to have a chance to pitch angel investors? That's insane.

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juwo
It reminds me of a pyramid scheme.

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dmarques1
Article is titled, "Early Options: Tech Entrepreneurs looking for seed money
have more places to turn these days."

Not sure where to find a public copy on the web?

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Mistone
great article - nice to see the "launch on the cheap, fail on the cheap, small
investment" model is garnering so much press. Charels River and Y Com sure
have reaped the rewards of taking a lead role in this new model.

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transburgh
I just read the article (I get the WSJ in the office). Nice mention, congrats!

