Avram's Past / Intel / Venture Capital

How I evaluate early stage companies


My blog originated when I realized that I was writing the same things to different people over and over again, only at different times. For instance, I found myself giving advice about Prostate Cancer to many men because I had been diagnosed and treated for this. Once I began blogging about prostate cancer, I could just send links to various posts when people reached out to me.

These days, I find myself getting a lot of requests for business advice especially from entrepreneurs who are starting up companies. I have decided to expand my blog topics to include advice on business matters. I may also add some posts dealing with financial and tax advice. Not sure about this yet.

This post is about how I evaluate early stage venture businesses. Anyone that is interested in getting my help and/or investment must follow a specific format when presenting to me (of course I make exceptions). Not only is it helpful to me in terms of understanding the business proposed, but I have found that it becomes very helpful to those seeking my advice. I make them break down their business into four parts – Opportunity, Strategy, Execution, and Reward. They have to convince me about the merit of each section before proceeding to the next. For instance, if I do not believe in the opportunity, I am not really interested in the strategy. Many entrepreneurs actually have trouble distinguishing between these sections.

Many potential investors in early-stage companies will take a different approach, clearly my approach is not the only one or even the best one.   It has served me well and I have the track record to prove it.

The Opportunity
First, I need to understand the opportunity. In fact, I should say that I need to believe in the opportunity. In some cases, the opportunity involves a new market while in other cases it might be a new approach to an existing market. It does not make sense to create a business if there is not a great opportunity, and you can’t really create the opportunity. It has to be there! But, you can recognize it before others.

I often use an analogy that I find helpful. Opportunities are like waves. Companies are like surfboards. You can’t make a wave, but you can ride one if you find the right beach, you have a surfboard and know how to use it.

Since many of you may be Shark Tank fans, let me describe the opportunity that Mark Cuban and Todd Wagner presented to me when I was Vice President of Corp. Development at Intel and Co-Founder of Intel Capital. Their company was Audionet, which later became broadcast.com and was eventually sold to Yahoo for $5.7 billion dollars. This made Mark and Todd extremely rich, and also provided Intel with a great return.

Mark and Todd explained that there were lots of college sports games that alumni would like listen to on the radio, but at that time (1997) there was no way to connect to local radio stations unless you were in that location. Their idea was to connect to these stations and make them available via the Internet to those interested, no matter where they were located in the world. I had no interest in college sports, but I could immediately understand this opportunity. I knew that the internet was a perfect medium for distribution of college radio, especially since the audio did not require much in the way of bandwidth and could even be supported over dial-up networks.

Another opportunity was when I met with Stratton Sclavos, the CEO of the newly formed Verisign. Verisign was a spin-off of RSA, which was the company that owned the patents for the Public/Private Key Encryption system, which now forms the security foundation of the Internet (SSLS). Intel was a first investor in the spin-off in 1995. The company went public in 1998. Intel owned about 5% of the company at that time. I knew about RSA and Public/Private Key technology when the meeting took place. Stratton was able to explain that his company, Verisign, had an exclusive license for certain applications and would be able to provide a certificate capability that would become the backbone of things like commerce on the Internet.
I knew that this was essential and was sold on the idea immediately. We made our investment decision very soon after.

The Strategy
For every opportunity, there exist many potential strategies for taking advantage of it. Of course, some strategies are better than others and some are easier to execute than others.

Geocities was one of the first of what we would now call “Social Networks.” The Opportunity was to create a platform for social networking that included commerce capabilities. The Strategy was to create virtual real estate – neighborhoods with themes could be set up. The Individuals were called homesteaders. I can’t go into the history of all this here – although it is very interesting. I think we invested in the company in late 1997. The company went public in 1998 and was sold to Yahoo in mid-1999 for $3.5 billion dollars. Unfortunately, it did poorly under Yahoo’s management but we had sold our investment by then.

The Execution
You can have a great opportunity and a brilliant strategy but if the execution is poor, it will not matter. When thinking about execution, I want to make sure that the talent to execute the strategy is either in place or can easily be attracted. The plan has to be realistic and financeable. Most companies that get to this stage do not have adequate finances. Particularly, if they have a great opportunity and strategy, they are not willing to have the kind of dilution of ownership required to assure that they will have enough money to deal with unexpected delays in either product or market development.

Broadcom was an early stage semiconductor company focused on networking. Its first products were designed to provide ethernet connectivity for the nascent home network market. Intel invested in the company around 1990 I believe, and then did a follow-on investment later. Broadcom correctly identified several major market opportunities. The first was home networks, the second one was Digital Cable Television and the third (which I helped them understand) was high-speed residential broadband. Their strategy was to put as much capability in their chips as possible and then sell them to original equipment manufacturers (OEMS) that would incorporate the Broadcom chips into their products. Their objective was to become the Intel of networking chips. They had serious competitors in every market, but they out-executed them all and offered the best products. Intel should have acquired them, but they believed that they could our perform Broadcom (same thing happened with Qualcomm).

I now will give an example of bad execution in the face of a major opportunity and a great strategy. In the spirit of full disclosure, I have to say that I was responsible for the strategy which I believe could have been successful although we will never know. The company is @Home. The opportunity was the use of the Cable TV infrastructure to provide high-speed broadband connectivity to homes in the USA. As readers of this blog will know, I played a leading role in the creation of residential broadband. I worked on all aspects of the infrastructure, from the chips to content and everything in between.

I had been concerned that the cable companies were not technically capable of becoming a Broadband ISP. Then, as now, they had a terrible reputation for customer service. In the early days of broadband cable, the modem was installed on the actual computer. This required a cable service tech to open the computer. Do you get the picture? Later, the modem was external and connected via ethernet but home computers did not normally have an ethernet capability. I got the idea to form a company that would take over all the support for the Cable Companies as well as operate the ISP services. I proposed that this company be created by a consortium of cable companies along with General Instruments, a company we were working with to create the broadband cable technology at Intel. For a number of reasons, I was unsuccessful in getting the cable companies to agree to my proposal. In December 1994, I ran into John Doerr and Vinod Khosla from one of the leading VC firms – Kleiner Perkins at the main Cable Industry Trade Show. I know them very well. I told them about my idea to create a company and they thought it made a lot of senses. I said why don’t you try to make it happen? and they did.

@Home proves that you can have a great opportunity and strategy and even be well financed and still screw up if the CEO and Board are not focused on making the company a success.

Strangely, the first CEO of @Home was Will Hearst, the grandson of William Randolph Hearst, the newspaper magnate. Will was/is a great guy but not someone from the technology world. Will realized this and started looking for his replacement. @home had a very competent technologist, Milo Medin, but later they brought in Tom Jermoluk (TJ) to replace Will. I can’t say anything positive about this man and I will leave it to that other than to remark that there is almost no way a company can be successful without a good CEO. @Home’s main execution problem was that the way the board was set up with respect to governance. The cable companies controlled the decisions of the company and were more interested in their own issues than in seeing the company become a success. Then Kleiner Perkins had some issues with another investment they had in a company called Excite. They decided to merge the two companies which made no sense and became a disaster.

The Reward
If I believe in the Opportunity, Strategy, and the ability of the company to Execute, I am then of course interested in the payoff or the Reward. As an investor, I have a number of things I want to understand. The financing plans of the company need to make sense and that the company will be adequately financed. This is especially important if you are an angel investor because if there are down rounds, you may be forced to either invest more or have your position be wiped out. I look for businesses that can scale with most of the costs being variable. I like to understand cash breakeven before I get too excited at the thought of a blowout IPO or Acquisition. I don’t have hard rules about having to see 10 times on my money. I like to see the risk and reward match. I also do not like to see the payout be too far in the future because the future is too hard to predict.
When I was at Intel, my group was able to generate amazing returns for the company. I did not do nearly that well for myself once I left, which proved to me that there were lots of advantages that Intel had in investing in early stage companies that I did not have personally. By the way, I still did well.

If you have all four areas covered, you will still need to create an outstanding presentation. Perhaps this will be a future topic.

In closing, I want to say, that if there is not a great opportunity, then why bother? While it is not easy, it is possible to change strategies if the one you are on no longer makes sense. It is definitely possible to improve execution even after failures, it may just cost a lot. And the last thing I will say has to do with Reward. Don’t be greedy. After I left Intel, I was very involved with an internet company that was very successful at one time. We had an offer to buy the company that would have made the two founders very rich, but they and a VC board member thought it was too early to sell. The company is still alive but worth about 10% of the offer made over ten years ago.

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