Bill Burnham, Angels + Early-Stage VC in Seattle

This blog post by Bill Burnham has generated a ton of buzz today, but it's worth (briefly) chipping in about how the trend is playing out in the Seattle market. The quick summary of Bill's point is this:

"there is plenty of investment capital available for Consumer Internet companies that have demonstrated significant market traction in terms of traffic or revenues, but there’s almost none available for what, up until recently, would be considered the sweet spot of true VCs: Seed or Series A startups."

When Andy and I started Founders' Co-op, this was exactly the situation we saw here in the Seattle market. As VC fund sizes have grown (both here and elsewhere), partners have found themselves unable to justify putting time toward deals that didn't also consume a big chunk of their capital under management (e.g., $5MM - 10MM over the life of the investment). With the "hard" (cash) costs of starting a web software company fast approaching zero, it has become almost impossible to align the incentives of traditional VC investors with those of web entrepreneurs.

Our primary goal in creating Founders' Co-op wasn't to make a ton of money (not that we have a problem with that, it's just not what we're optimizing for). It was to continue to work together on web startup ideas, but in parallel rather than serially (as we had before at Judy's Book and elsewhere). What we found when we started was that there was (and is) a huge unmet need for transparent, entrepreneur-friendly sources of investment capital for early-stage entrepreneurs here in Seattle. Even more significant, there was (and is) a real hunger for community among the software entrepreneurs in town - a way to connect with peers, swap stories, pass along best practices, and sometimes even do business together. We aren't the only ones working on this issue by any means - Seattle 2.0, Seattle Tech Startups, NWEN, UW CIE and others are critical participants - but we're one of the few groups in town that actually writes checks in addition to providing advice and support.

This persistent early-stage "funding gap" helps explain our excitement about the announcement of TechStars Seattle. By enlisting the support of all the major VC players in town for TechStars Seattle, Andy has forged a powerful bridge between Seattle's early stage and VC communities unlike anything we've seen in other tech cities. While it doesn't typically make sense for these firms to make direct investments in seed-stage companies (for all the reasons Bill describes), they all jumped at the chance to support the early-stage community indirectly via an investment in TechStars. Their bet (and ours) is that the program will have a lasting positive impact on the local early-stage community, creating more and better investment opportunities at every layer of the financing ecosystem.

We may not be able to defeat the economic realities Bill Burnham describes, but with TechStars Seattle the local venture community has stepped up in a big way to fight the trend.

TechStars Seattle + Founders' Co-op

We just announced that my friend and Founders' Co-op business partner Andy Sack will be leading up a Seattle version of the awesome TechStars startup camp program next year. In a slight departure from the program structure in Boulder and Boston (where funding was provided primarily by angel investors), TechStars Seattle is being supported by an amazing co-op of A-list Seattle venture firms: Bezos Expeditions, Ignition, Madrona, Maveron, OVP, Trilogy, Voyager and Vulcan have all signed on for a 2-year commitment to make TechStars Seattle the focal point of early stage software action in the Pacific Northwest.

A few weeks ago I responded to a post by Andrew Chen on Seattle's startup scene with this question:

"If we want Seattle to be the kind of town that fosters a broader variety of software innovation, what kind of investment culture do we need to create? How can we attract entrepreneurs and investors to the Seattle startup community that are willing to pursue + finance different types of risk, based on different patterns of startup success."

It won't happen overnight, but I'm convinced that TechStars Seattle is a critical step toward creating a more vibrant diverse and startup community in the Pacific Northwest. I'm proud of the role that Founders' Co-op is playing in this effort, and I'm blown away by the unanimous support of the local venture community to make this program a success.

A "Scholarship to Life"

My father-in-law - now retired - had two professional careers, spending his first 25 years as Naval officer, and another, equally long stint as a university professor and dean. He loved his time in the Navy, and it also offered a lasting benefit in the form of a military pension - what he likes to call his "scholarship to life."

I love the idea of a "scholarship to life" - it's a perfect description for the amount of capital (or ongoing income stream) that fully addresses the basic needs of life, without robbing you of the drive to build and create. The happiest people I know aren't the ones who made a pile of money and shifted their focus from creating to consuming. It's the ones whose past success has given them a "scholarship to life" (at whatever level they define that), freeing them to pursue their creative dreams and passions with total commitment.

If you're a cash-strapped entrepreneur who hasn't yet had a hit, you still have a path to a "scholarship to life" - it's called cash-flow breakeven, and as soon as you cross that line you can stop asking permission from investors just to stay in business. You (and your customers) get to decide what happens next, and that's a great feeling.

Here's my advice if you want to live the entrepreneur's dream and "follow your heart" for a living: go and get yourself a scholarship to life.

Announcing our newest Founders' Co-op investment: Appature

We just closed a new investment at Founders' Co-op, and it's an unusual one for us in several ways. For starters, it's the first time we've invested alongside much larger venture capital firms - Seattle's Ignition Partners and Madrona Venture Group led the round. In addition, the company - Appature - is much later-stage than we typically invest in: they've been in business since 2007 and are already operating in the black thanks to multi-year deals with customers like Johnson & Johnson. Finally, it's a "big" financing relative to our usual deals, adding $3.5 million to the company's balance sheet to help accelerate growth.

So why is a seed-stage fund like ours participating in a later-stage deal like this? The short answer is that we absolutely love this business and the entrepreneurs who've created it, and we believe the opportunity they're chasing is big enough for us to see the same kind of return on this deal that we look for in our earlier-stage investments.

Starting with the team, co-founders Kabir Shahani and Chris Hahn met at Blue Dot, a Seattle web start-up that cycled through several angel financings and business strategies before calling it quits. Their experience there offered some powerful lessons about building and funding a business that Kabir and Chris have applied with amazing discipline at Appature. With essentially no outside financing they have built an enterprise software business targeting the world's largest medical device manufacturers, beating out billion-dollar competitors in head-to-head vendor selection competitions. Kabir and Chris are exactly the kind of scrappy and capital-efficient entrepreneurs we love to back, and we expect them to accomplish even more amazing feats with a little more room to maneuver.

The opportunity they're chasing is equally compelling. Broadly speaking, Appature competes in the enterprise marketing automation space, a fairly crowded market with lots of well-funded competitors. But by focusing on the unique needs of the medical market, and being disciplined about which segments of that huge and diverse vertical to attack, Appature has been able to bring the tactics and business practices of agile web software to customers accustomed to ERP-scale software deployments. The result has been a devastatingly effective combination of product-market fit, speed and value that has just begun to show its promise. And while additional growth opportunities exist beyond medical, the founders are disciplined enough not to spread themselves too thin too early, even with a venture round in the bank.

The most difficult part of this investment decision for us was the fact that our minority role will limit our participation in the day-to-day operations of the business relative to what we're used to (and prefer) in our earlier stage deals. But Kabir and Chris made it clear to us and the other investors that they wanted our voice to be heard, to help them stay grounded in their scrappy, bootstrapping ways. Equally important, Andy and I recognize that Founders' Co-op is part of a larger ecosystem of investors and advisors dedicated to the long-term health of Seattle's tech startup community. Ignition and Madrona are key players in this community, and we're excited to have a chance to work more closely with those firms on this (and other) deals.

Congrats to the Appature team on this milestone and looking forward to seeing what 2010 has in store for you (we're betting it's going to be a great year).

The iPod Touch, Android and the Carrier-Free Cellphone

Om Malik has a great piece up today on the iPod Touch, calling it the ace up Apple's sleeve. In his words:

"it is just like an iPhone except that it has more storage, is skinnier and has none of the hassles of dropped calls."

In other words, the Touch is a better device than the iPhone because it doesn't have a primary identity as a phone. You can still make voice calls with it (using a VOIP app like Skype), but you don't have to have a service contract with AT&T (or any other carrier) to do so.

In fact, the Touch is a good proxy for the future of mobile communications: it's a really great, really small mobile computer that covers every communications need - IM, email, voice, SMS - equally gracefully and at much lower cost than any contract-based cellphone. If you want to talk on the road you'll still want a wireless data connection, but that's a commodity you can obtain from lots of providers, often under pay-as-you go pricing models.

While the iPhone gets all the press, the Touch represents 40% of the installed base of iPhone OS devices and a roughly equal share of mobile data traffic, according to recent stats from mobile analytics provider Flurry.

With relatively few handsets in market, Google's Android operating system is also climbing the charts as a source of mobile data requests, and - by watching what's happened with the Touch - it's not hard to imagine a near future with tens of millions of Android-powered devices playing a similar role. Some of these will be "cellphones" sold by wireless carriers, but I'm betting an even larger number will be Touch-like entertainment and communications devices that perform all the functions of a smartphone, but without a cellphone contract.

Google is rumored to be building a "Google phone" of its own, but if they do in fact have a hardware product up their sleeve, I'm guessing it's more like a Touch than it is like a phone. And if they don't build it, some smart handset or laptop maker like HTC, Acer or Asus will.

The future of cellphones is already here, and - in Om's words - it's "just like an iPhone except that it has more storage, is skinnier and has none of the hassles of dropped calls."

Beginner's Mind

"In the beginner's mind there are many possibilities, in the expert's mind there are few."
- Shunryu Suzuki

Just about every day - and sometimes several times a day - I get to hear an entrepreneur tell the story of their company: who they are, what they're up to, why they're excited about it. As I listen, I'm aware of a battle between competing mental processes.

My first impulse is to filter what I'm hearing through my mental inventory of patterns from all the companies I've invested in, worked at or gotten close to, looking for similarities and differences that will help me understand the story I'm hearing. But as powerful as this pattern-matching process can be at producing insight, its logic seeks to limit and constrain, and as an early-stage investor my success depends in large part on opening up new possibilities.

So I've been working on nurturing a parallel thread in my mental processes, and the Zen concept of Beginner's Mind captures it better than anything else I've come across. In this mode, I consciously try to listen to each entrepreneur's story as if it were completely new, and to experience their idea as a customer might, encountering it for the first time.

For my purposes, neither of these processes alone is as effective as the two together. The pattern-based approach is an extremely powerful way to filter out execution risk - weaknesses that stem from the *way* the founders are going about building their business. Cultivating beginner's mind is a great way to recenter on the business idea - imagining what it would feel like to encounter the product or service as a new user, without knowledge or judgment of the mechanics or economics behind it.

My continued reliance on patterns means I'll probably never become a Zen adept, but the more I use it the more I appreciate that Beginner's Mind is by far the more joyful method: the world always looks brighter when anything seems possible...