Tech, Startups, Capital, Ideas.

Like raising money, recruiting a great CEO is a chicken and egg problem. Investors often don’t want to invest in an opportunity until there’s proven traction. Yet it’s often difficult to get traction without investment.

Similarly, CEO’s often don’t want to join a company until there’s proof that the company is scaling and the sales model is repeatable. Yet a great CEO is required to scale.

So what does a startup do if it has early-market traction and a great market opportunity, but has not yet proven an ability to scale through a repeatable customer or user acquisition process?

Focus on investors and executives that both recognize the risk and are willing to take it. As one CEO candidate said, “if there were no risk, you wouldn’t need me.”

Spend time with executives who believe they personally can make a difference. Executives who understand the opportunity and the risk, have a vision for the company’s future, and believe that, with their involvement, the company will be that much better off.

When it comes to attracting executives, some amount of selling is required. But if too much selling is required, that’s often a sign that the candidate and the opportunity may simply not be a match for each other.

Sell the candidate into the opportunity, rather than letting he or she self-select out, and there’s increased risk that candidate won’t stick. Those candidates who have a vision for the company and can articulate where they will add value are the ones most likely to be a great match.

Should You Recruit a CEO at All?

Arguably, having to recruit a CEO at all is a problem. Ideally one would only invest in entrepreneurs who can scale as both product visionaries and CEO’s. Bill Gates and Larry Ellison scaled, after all. But Gates had Ballmer and Ellison, at least in the ‘90’s, had Ray Lane.

Scaling all the way from founder to public company CEO is difficult. The skill sets required for founding/early growth and scaling are different, and individuals are often passionate about one but not the other.

Bringing in a CEO is risky. But done right, as in the case of Google, for example, it can really complement technical and product visionaries and free them up to focus on their areas of interest.

Conclusion

Finding an individual with operational excellence, market insight, and product vision combined with a tornado’ing market makes for a great opportunity. If, however, a company is in need of operational excellence to capture a market opportunity fully, the best bet is to find someone who believes in the opportunity — and in himself.

Venture investors continue to be attracted to consumer internet investments like moths to a candle. VentureBeat and ChubbyBrain (what a name!) indicated that Internet sector investments surged in Q4 of 2009 by 40% over Q3 to $1.5 billion. Yet the distribution of returns to Internet investors remains both highly consolidated. Granted, Internet sector can mean a lot of things to a lot of people, but it begs the question: Why do investors continue to pour money into the segment?

1. The opportunity for hugely outsize returns: The black swan.
2. Visibility. Activity begets activity, and visible activity especially so. It may not directly impact investment return, but it certainly enhances a firm’s profile (unless the investment is unsuccessful, of course), attracting more black swan opportunities, in a virtuous cycle.
3. Scale begets scale. This point is perhaps least appreciated. Unlike in B2B plays, successful consumer internet companies experience a period of growth during which revenue becomes easier to scale with size, rather than harder. This third point, I believe, is what makes the sector so appealing and fundamentally enables the opportunity for outsize returns.

Scaling A Business to Business Company

In Business to Business companies, even those with a SaaS delivery model, scaling revenue goes from very difficult to difficult, then to easier, then back to very difficult. The very first revenue is hard won. Companies can spend a long time trying to find the right product / market / sales model fit, doing under, to pick a number, a million dollars in revenue per quarter.

Companies that get out of this stage and into, say, a million or more of revenue per quarter can often scale their way to between $10M and $50M or even $100M of revenue per year at a “good” growth rate – with the great ones achieving 50 – 100% year over year growth.

But continuing to grow sales at this rate is historically unsustainable in the long run, and investment bankers looking at potential IPO’s have indicated that a growth rate in the 25% year over year range is more believable.

Why Does Sales Growth Slow?

Scaling sales past the $50M – $100M range requires leverage. It requires not only a very large market, but an efficient sales infrastructure to sell into that market, both in the form of new sales and additional sales to existing customers.

That kind of leverage and efficiency comes from a large channel that can support selling to the market – either directly, through the hiring of large numbers of sales people, or indirectly, through existing channel partners that can reach the volume of customers required to obtain that level of revenue – and growth.

Leverage is hard to get and ultimately reaches a limit, leading to reduced year over year growth.

The Consumer Internet Paradox

The appeal of successfully monetized consumer internet businesses (and the promise of those that are scaling users but not yet scaling revenue) is the long period of hyper-growth these businesses experience.

Consumer internet businesses are relatively easy to start, but it’s hard for them to get momentum. But if a consumer internet company can get the flywheel spinning, monetization at scale becomes easier and easier for a much longer period of time than for business to business companies.

That’s because successful consumer Internet companies — particularly those with a viral user acquisition dynamic — get unbelievable customer (user) acquisition leverage. That leverage comes in the form of existing customers (users) acquiring more user, virtually for free: zero cost user acquisition.

In the business world, scale delivers some leverage in the form of customer references and category leadership, but the company still has to sell the product — existing customers don’t sell the product to other customers. In the consumer world, they do.

Scaling A Consumer Internet Company

The challenge for investors is that investing in a great consumer internet company is very hard to do, because consumers are incredibly fickle and behave as a crowd. The right consumer Internet investment strategy? Invest early in a lot (that is, potentially 100′s of deals) with an ultra high probability of losing all the money (but a a very small chance to make a ton) or invest late,  waiting until real traction is proven.

Conclusion
Nassim Nicholas Taleb is well-known for his Black Swan Theory. Although talks about taking advantage of positive black swan events, he often focuses on rare negative events (“avoid being the turkey”).

In venture investing, the weight is flipped. It’s absolutely essential to identify risks, but first and foremost in generating returns is exploiting rare positive black swan opportunities when they occur.

Just as valid as asking why investors continue to invest in the Internet sector given the low probably of success is asking why they don’t make that high beta investment sector their only one in an asset class invested in for its high beta-ness.

The answer might best be called The Brown Swan Theory: Managing large pools of capital requires a strategic framework that allows for identifying and investing in positive Black Swans when they occur, and for doing it at the same time as demonstrating a path to market outperforming returns on a regular basis.

That’s the easy part. The hard part, of course, is not missing too many black swans.

Why should investors take sales risk?

By default, they shouldn’t.

Sales development is by far the biggest cost in venture-backed startups. Some investors estimate that as much as 70% of venture investment goes toward sales development. Few startups get it right on the first try. That frequently means an indeterminate number of additional rounds of funding to remove sales risk.

People have been selling for a lot longer than the professional venture industry has been around. So why does every company have to learn to sell? On the surface, it seems like getting up Mark Leslie’s famous Sales Learning Curve (SLC) should be easily repeatable. Tens of thousands of startups have taken a hard run at the curve, and some have succeeded. Just teach the right process, or better yet, hire an exec that has succeeded before.

The reason replicating sales success is so difficult is because success just isn’t that easy to replicate.

It’s the reason that the same team doesn’t win the Superbowl every year, that the same investors don’t make all the money year after year, the reason top mutual fund managers eventually break their S&P beating streak.

It’s quite possible, in fact highly likely, that an entrepreneur or sales executive benefited the first time from a great market and a great product. Not that they weren’t incredibly talented, but trying to repeat that success is as likely to depend as much on finding a tornado market as on the talents and expertise of the entrepreneur or executive.

Getting up the SLC is difficult because you have to get a lot right. The right market, product, and team. The right market is one in which customers or users want the offering now. They can’t live without it. The right product is one that delivers on its promise. The right team executes — it repeatedly runs experiments — and is expert at rapidly scaling the few that work.

Repeating the process, once developed, isn’t hard. What is hard is getting to a repeatable process.

There are lots of tools available that can help mitigate risk in the sales development process, including methodologies like High Probability Selling. But once the process is figured out, the best way to replicate it is through great hiring. There is little more frustrating than poor execution due to on the job training in a great market.

When Should Investors Take Sales Risk?
Why invest early when you could just wait, especially in markets where multiples are relatively low?

The answer is that, in many cases, you shouldn’t. There are few companies that are going to go from $100 million to a billion or more. The risks of investing later are: being wrong about where a company truly is on the sales learning curve and the opportunity cost of the money invested in a company that never truly has the capability to go from $100M to $500M or $1B+.

So when should investors make these early bets in relatively low multiple markets in which scaling sales is expensive?

• When the investor can buy a large portion of the company and believes he can get leverage on the early money. By leverage, I mean, backing an entrepreneur who will either be able to run a very low burn experiment to reach the inflection point of the curve, and/or has the ability to raise Other People’s Money (also known as OPM) repeatedly to iterate the sales model until the company moves up the curve.
• When a huge existing market is being radically disrupted or an entrepreneur has the ability to disrupt a market. Or put another way, when human behavior is changing (example: the shift from time spent offline to online) and a startup can take advantage of it.

Conclusion
As Chris Chase wrote in his Super Bowl summary, “Super Bowls are usually defined by conservative play. It rarely pays for coaches to be risky in the game. Little good can come from it. Nobody criticizes the safe play, only the bold one that doesn’t work. But when it works, it’s the stuff from which Super Bowl legends are made.”

One might easily say the same about investing.

The debate about investing in startups that rely on cloud infrastructure has long raged within the venture community. Investors are rightfully cautious about backing companies that have a large dependency on another entity that could control a startup’s economics. That’s because platform providers have long been known to encourage startups to build on their platforms, and then once a strong ecosystem is established, to take the majority of the economics out of that ecosystem. That’s not to say that entrepreneurs can’t make a lot of money building applications on other platforms — they can. The question is whether investors can.

• For a startup to be successful building on top of a platform, there are a few considerations. If that functionality is close to the platform, the startup has to believe it can stay ahead of the platform integration expansion curve. This has been done but it is a constant treadmill — think Rational / Microsoft for development tools.
• Another option is to look at verticals, especially verticals that are overdue for disruption or that are highly fragmented. While these can be successful, they are difficult to execute — there’s a reason verticals stay fragmented and it often more to do with channel establishment than technology adoption.
• A startup can build on top of a platform where the application or applications truly are different than the core platform functionality.
• Finally, a startup can build an application that gets deployed on multiple platforms but potentially launches on one platform first. This is difficult in a world of many, many platforms (think client based applications for mobile phones before the iPhone). But in a world of two or three platforms, it is not a bad bet.

The other risk with playing too close to the platform is that over time platforms tend to integrate much of the adjacent functionality delivered by ecosystem vendors into the core platform. In many cases, while the size of a participant’s business while large by itself is relatively small in the context of the platform provider’s revenue total stream for platform related revenue, platforms by their nature add core functionality by going after the next closest piece to the platform.

Risk Mitigation
For those evaluating the risk of investing in companies building on a particular platform, rather than investing in a company that some day has the potential to be a platform in and of itself, the question is whether they can invest in the company and have it get to an interesting size so that it can have a near equal relationship with the platform. By interesting size, I mean, on a path to go public or to actually go public as a tool to have the public markets support its market position and valuation.

While Amazon may change their business model for Web Services in the future, all indications so far point to delivering a great platform for its partners by competing on operational efficiency at scale – as signaled by the recent price decrease. And Amazon is well positioned to deliver on that promise given the scale of the operation it runs.

Other platforms tend to have an innate desire to deliver not only platform functionality upon which applications can be built, but to involve themselves in distribution as well. It goes without saying that platforms, by their very nature, need applications to be successful. A platform without applications built on top of it is much like a tree falling in the forest with no one to hear it. To get these applications developed, platforms build their own applications (Office on Windows) to seed the platform, and then work to get adoption of the platform by others. They help the early ecosystem partners not only on technology but also with distribution, that is, customer acquisition.

Getting leverage on distribution cost is critical to the sucess of a venture backed company. And a platform can be a very appealing partner in getting that distribution, at the beginning. In most cases, in fact, it is simply too good an opportunity to pass up. The risk to the startup comes later when the platform provider has the option of changing the economics of the relationship. Or when the platform provider integrates external functionality that is too close to the platform.

Amazon, one of several in the platform game, is doing an excellent job signaling that it is truly a platform upon which it wants others to build. AWS appears to be about easiest access, low cost utility computing first, and distribution control a distant second, if at all. That could change, of course, but it is unlikely because it would undermine the core value proposition of AWS as a cloud platform.

That’s good news for startups and venture investors alike.

Conclusion
It is typically a bad idea to set out to build a platform company from the get-go. That’s because people buy and use products, not platforms. But those companies that are huge do ultimately become platforms. Salesforce.com was a CRM application first. Now Force.com is endeavoring to become a platform. Amazon was a book-seller first, now it’s a platform. Facebook was an application first, now it too is trying to become a platform. What is common across all these platforms and platforms-to be are that they were products first, platforms second. What will be different is the extent to which new application companies come to rely on them for distribution.

As I wrote some time ago, I’d rather have a company that ultimately defines the ecosystem and owns the customer (or user) than a company that is part of the ecosystem. I’m certainly not against investing in companies that are not ultimately platforms — many valuables ones have and will continue to be built. And by the nature of platform success, you’re a product before you’re a platform.

But those that are able to obtain product success and then make the transition to platform have proven time and again to be most valuable.

Yesterday I met with an experienced executive who had recently left a large and successful local software company. He had spent his entire career at three large companies in succession and was now looking to do something early or mid-stage. He asked me what to expect.

Frankly it’s been so long since I worked at a large, established company that I almost forgot how challenging it can be to make the transition. He had been out networking with a few other VC’s and had received the common wisdom: he should truly expect to get his hands dirty – a lot of the infrastructure one comes to take for granted at the big corporation simply does not exist at the small one.

I certainly support this feedback, although I will say from first-hand experience that asking what it’s like to go from a big company to a small one is a bit like asking someone what a bungee jump is going to feel like – ask all you want but there’s just no substitute for experiencing the real thing.

What is really different at a startup is what I call cycle time. If you remember the days when Intel used to make a big deal about the clock speed of its processors (yes, I’m dating myself – this was in the days when increasing clock speed was still possible, before adding more cores became the answer), startups are just that. At a startup you have to act fast. Very, very, very fast. The best startups are running at ultra-high clock speeds.

Coming from a big company, cycle time at a startup is unbelievable – a question is asked and the next minute someone has run an experiment and has an answer to the question. This is probably the single biggest challenge for an executive transitioning from big company to small.

Yes, infrastructure can be challenging at times, but in today’s world you need little more than a wireless router and an Internet connection to do your work. No need to setup cumbersome servers, run lots of wires, configure email, or deal with all the other tedium that used to be involved in setting up a company. Google Mail, Amazon Web Services, and you’re good to go. Small, nimble teams can work just about anywhere as long as they have high-speed Internet connectivity. After all, just about every enterprise or consumer facing web application is now hosted in the cloud.

But for the experienced executive, adjusting to a startup’s dramatically faster clock speed is no easy feat. After spending years presenting to senior management, asking permission to act, and preserving legacy revenue streams, the switch is often a difficult one. There’s typically no upside in coming in guns a blazing, but conversely, being too cautious at a startup is actually much riskier than taking more risk.

Those startups that cross the chasm and grow into big companies face a prisoner’s dilemma of sorts once they’re wildly successful – defending their legacy revenue streams quickly becomes a higher priority than aggressively creating new ones. Startups, conversely, are all about running offense, and running it fast. Really fast.

So my advice for the executive leaving the big company and going to a startup is this: if it doesn’t feel like the processor is about to overheat, you’re not yet running fast enough.

Forty-three years in, the Consumer Electronics Show (CES) is still going strong. The show has certainly come a long way since the VCR was launched at it in 1970. This year there were 3-D televisions, miniature iPhone-connectable projectors, and eBooks galore. Consumer Electronics, of course, is known as one of the great money-pits of venture investing, chewing up lots of dollars with little to show for it.

So for a venture investor, a visit to a show like CES is good for three things.

First, it is a great reminder that it takes a ton of capital and brand-building, not to mention the ability to deliver products that millions of consumers can’t live without to be successful in the consumer space.

Second, it’s a chance to see what all the “others” are doing. By that I mean, everyone but Apple. Because Apple didn’t participate in the CES show this year, and never has. Yet by any measure, Apple is the undisputed consumer leader. The iPhone, as I wrote way back in 2007, changed everything.

Companies like Microsoft (my employer until 2000) have tried repeatedly to get the sort of cool factor that Apple has. Sony – which has some really nice looking televisions – once had it. Those companies have the huge booths, the flashy displays, and the marketing programs. Many of their products are more feature-rich, earlier to market, and in many cases, cheaper, than competing offerings. Yet when it comes to making consumers fall in love, the only one who has come close is Amazon – by delivering a best of breed online retail experience, and now, an addictive electronic reading experience that is potentially threatened by, you guessed it, Apple.

Finally, it’s an opportunity to step outside, albeit, briefly, my life of digital media and customer facing software and services. Amazingly, even in 2010, not everything is connected to the Internet. And when it is, it still takes a lot of hardware to move all those bits around and to display them to that fickle but ultimate determiner of mass success: the consumer.

The importance of the entrepreneur to the success of a technology company cannot be over-stated.

The holiday season is a terrific time to reflect back on the year, and looking back on 2009, if I can say one thing about the enterprise software pitches we’ve seen, it’s that many if not all started out with, “We’re like Saleforce.com…”

A lot of these businesses do, in fact, look a lot like Salesforce.com, from a growth perspective. There are, however, a few differences, the most important of which is, none of them include Marc Benioff as part of the pitch!

Some might minimize the impact of this missing factor on the potential success of their business. But if you look at the most successful tech companies of the last 20 or 30 years, there are almost always one or two key people you can point to who made the company. The list comes easily to mind: Steve Jobs, Bill Gates, Larry Ellison, Larry and Sergei, Marc Benioff, and Jeff Bezos, to name a few.

So when someone comes in with an incredible idea and the pitch starts with, “We’re like Salesforce.com,” the #1 question in everyone’s mind in the room is not, “Does this revenue ramp look like that of Salesforce.com?” It is: “Where’s Marc?”

Because without Benioff, I would argue, Salesforce.com would not have become the SaaS category creator and market defining company that it did.

There are a lot of differences one can look to when a company pitches itself as analogous to another. Two easily quantifiable factors are capital and revenue. Salesforce.com, no doubt in part due to the market conditions of the time, was able to raise a whopping $64M of funding in its first two years in business. I have argued in the past that the cost of building and delivering product to market has markedly decreased in recent years – due to the very existence of companies like Salesforce.com. Certainly software companies today should require far less capital than Salesforce or NetSuite from creation to liquidity. But the point remains that Salesforce.com had a significant amount of capital to work with to get the fly-wheel spinning — a lot of which it could apply to fund the cost of customer acquisition. The other measurable factor, as shown in the chart below, is Salesforce.com’s revenue growth ramp from 2001 to 2004: from less than $10M to greater than $90M.

More subjective, however, is measuring the entrepreneur whose vision it was to create Salesforce.com to begin with. That factor is a much harder one to quantify, and certainly is more easily measured with the benefit of hindsight. The real challenge of course, is convincing potential investors, as Jobs, Gates, and Benioff were able to, that you are going to be hugely successful as an entrepreneur before you are. When it comes to pitching your own company, the benefit of comparing yourself to Salesforce.com – or any other wildly successful public company for that matter – may be vastly diminished unless you are in fact the next Marc Benioff, Steve Jobs, or Bill Gates. And if you are, then compare away – just be ready to make your case.

When you’re pitching to customers, your product is a piece of software or hardware, a service, or a web site. When you’re pitching investors, the product is you.

It may seem obvious, but a pitch isn’t just about the content. You’re evaluating your potential investors based on the questions they ask and the knowledge they show of your space. Meanwhile, your investors are evaluating the whole product that is you: The market opportunity, your strategy for capturing that opportunity, and you and your team.

When I say you as a whole product, I mean whether you:

• Present effectively
• Can recruit, sell, and communicate a big vision
• Know more about your domain than anyone else
• Think strategically
• Have the appetite to build something really big
• Are a great fund raiser

That last bullet may seem a little bit of a chicken and egg problem. But part of what investors are evaluating is whether they think other investors will want to give you money in the future.

With VC purse strings tight, raising money has become a lot harder than it was in recent years. Since I wrote Perfecting Your Pitch last summer, I’ve seen almost another 200 pitches. My hope is that this entry will give you as much insight into what we look for when making an investment decision as into how to pitch.

Address Your Audience

As with any presentation, it’s critical to consider your audience. Many entrepreneurs and CEO’s present a modified version of their customer deck. It has a few obligatory market sizing slides up front, but ultimately it’s trying to convince someone to buy the product the company sells, rather than to buy the company itself.

It’s easy to forget that potential investors aren’t buying your product. They’re buying a piece of your company – the opportunity, the team to go capitalize on that opportunity, and the customers or users who are going to spend money to use that product.

Some entrepreneurs think of spending time revising their presentations as a waste of time. Each VC seems to want something slightly different and it’s easy to become disillusioned with the process, especially when it takes a long time. That’s valuable time away from acquiring users or selling customers.

As an entrepreneur I found the fund raising process highly subjective and time consuming. But I had to remember that pitching is just like any other sales opportunity: it requires preparation, psychology, and ultimately, a product that people want to buy.

Three Key Messages

Last time I wrote about perfecting your pitch, I described individual slides that might make up a slide deck. This time my goal is to take a step back and articulate three key messages your presentation – that is, you and your deck together – needs to communicate.

1. This category will be big, and the time is now.

It’s all too easy to throw up a slide that says you’re playing in a $20B market. For example, some estimates put the Internet advertising market at $21B in 2008.

Your goal is to tell your investors what part of that $21B you’re going to crack, and why. The $21B is the Total Available Market (TAM). The segment of the market you’re going to own is the Served Available Market (SAM).

To devolve into tactics for a moment, one way to make the case for why you’re going after something big is to show the SAM and the TAM with a colorful pie chart. Make the TAM the overall size of the pie. The SAM is the slice you’re going to eat over the next 5 or 10 years. To show that the market is a growth market, you can add a second pie chart showing the market three or five years out – the value of the slice is bigger, as is that of the pie itself.

At this point in your presentation, you’re not trying to convince the potential investor that you are going to be big. You’re just trying to convince them that there is something big here. Don’t try to reel the fish in yet, just try to get the fish on the line.

This is a big opportunity now.

It’s time to set the hook and lend an air of urgency to what you’re doing. Investors are presented with a number of seemingly big opportunities every day. Make the case for why the time is now.

What big next wave are you riding? What confluence of forces are coming together to make this make sense? Surely people have thought about what you’re doing before, but now is the time. Why?

This is a whole category, and it’s a category that matters.

Participating in category creation is a big part of what venture capitalists look for. If you’re building a feature, or a product that is marginally better in an existing space, that probably isn’t a good match for venture capital. Why does what you’re doing matter? Why is it important? Why is it going to fundamentally change things?

Now that you’ve set the hook, it’s time to start reeling.

2. Show and tell: How you win

Don’t just say you’re going to win. Show it. Inspire confidence.

By knowing more about your industry than anyone else, knowing your numbers inside and out, being clear and articulate, and having the best team possible to build the business, you show that you’re going to win.

Then, try to address the following questions:

What makes you more qualified than just about anyone else to do this?

Why is your offering better?

Why is your offering a must have?

How are you going to win?

What is your unique insight?

What asset are you building up that some other venture capital firm can’t just throw more money at to reproduce? Examples include: a huge mass of users; a database of historical data that can only be created over time, not just with money; customer or user data that once imported into your system would be a real pain for your customer or user to transfer to a new system; or a hardware design that only a handful or two of people in your industry could have a chance of building.

Competition is good. It means that this really is a category that matters. Don’t just leave that competition slide hanging without telling people why you’re going to win. What’s the competition doing, and what are you doing to beat them?

3. This is valuable and strategic

I know from being an entrepreneur just how incredibly hard it is to balance the day to day challenges of operating a business with presenting a long term vision that investors will buy into.

As much as possible, be clear and realistic about your business model, and provide supporting data that this is the right business model for your company. Why will it work?

Try to answer questions like:

How will you get to $100M in revenue in five years? Again, it’s not enough just to show a chart with revenue going up and to the right. It’s critical to articulate how you’re going to get that revenue.

Why are you a must have?

Most importantly, why are you strategic? What is the larger ecosystem you’re playing in? Why will multiple large companies care about you? Why will they compete to buy you if you don’t IPO?

Conclusion

Investors spend a lot of time on the potential risks of an investment. Your goal is to get them excited about the opportunity and demonstrate that you will address the risks.

It’s one thing to tell investors you’re going to be successful. But show them you are and you’ll not only give a great pitch, you’ll inspire them to invest.

The holiday season has arrived none too soon for investors looking to get out of town before they experience any more market volatility. With many saying they’re closed for business until next year – some until Q2 – these are hard times for entrepreneurs who need to raise money.

Having only ever raised money during a recession, I feel your pain. In the new reality, a flat to slightly up round should be considered a victory and a down round not unusual. The days of the 2X or 3X step-up won’t be with us again for some time.

I recently urged a CEO – a company that had doubled its revenue in the last year – to accept a venture investment at a pre-money valuation only slightly higher than the previous round.

He looked me straight in the eye and in a weary voice said, “Do you really think this is our only alternative? Is this the best we can do?” I share his frustration. We’ve all had the experience of working hard – on all cylinders – only to have our efforts go unnoticed and unrewarded.

“For every one of you, there are 10 companies out there that aren’t going to get funded,” I told him. “They’ll need to find some other way to survive. What’s more likely is that they’ll just go away.” He nodded. Could they get by without raising money? Yes. But capital is critical fuel for growth. With money in the bank, a company can continue to build for growth when many of its competitors are struggling.

Investors aren’t known for their optimism. Just that morning a colleague had told me: “We just don’t have any visibility into 2009. It’s going to be a write-off year.”

Ironically, some “high concept” deals, companies with a big vision to change an industry, are raising money faster and more easily than those with revenue. That’s because VCs want to back the game-changing leader with a vision for the future. They want the winner-take-all bet that will deliver a fund impacting return due to its strategic and therefore inherently valuable nature.

The environment is most frustrating for those with revenue. If 2X or 3X multiples are depressing for a public market CEO with $100M in revenue, they are that much more depressing for those still trying to grow out of the law of small numbers. Consider the plight of those with good growth and $2M, $5M, or $10M in revenue being valued on those same multiples.

The good news is that investors seem to be a lot less shell shocked than they were even just a few weeks ago. A month ago they were still reeling from the suddenness of the market change.

Today, some smell opportunity. According to an entrepreneur friend of mine who just raised money from another top firm, a small handful of VCs “are laughing. While everyone else is running scared, they’re doing deals.”

The current environment might most aptly be compared to an emotional journey through the five stages of grief – denial, anger, bargaining, depression, and acceptance. As for me, always the pragmatist, I have reached acceptance. I find myself busier than ever helping our portfolio CEO’s with 2009 planning, working with those who are fundraising, reconnecting with those I haven’t seen in a while.

And, of course, I’m still looking for that next great investment.

Dear Shareholders,

This year we have many things to be thankful for, not the least of which is our hard earned capital in the bank raised just weeks before the crisis. Thank god we aren’t raising money now or we’d be stuck in deep do-do trying to sell our wildly optimistic (some might say delusional) Web 2.0 business model. If you think we have any chance of making money in this lifetime, well let’s just say you guys must still believe in Santa Claus. (Hell, after our first round I believed Santa had relocated to Sand Hill Road.)

I guess now is the time to let you in on the “real” plan. We never planned on building this thing. What we’ve always wanted to do was to raise money from saps – whoops, I mean nice guys – like yourselves – and then flip this sucker to Google or … well, to Google, anyway.

I am very thankful that I’m not Jerry Yang, who, when he was offered a nice piece of change from Microsoft, turned it down even though he had no real business strategy after 392 days as Chief Yahoo and employees were jumping ship faster than I can say “free beer in the lobby.” If Mr. Schmidt comes knocking on our door with money in hand – as I pray he will – you can be sure I will take it.

Now, to my fellow entrepreneurs who are busy raising money, I want you to know that I feel your pain. If only I could share some of that $25 million we recently put in the bank. Some of our investors – now that I’ve let them in on the real plan – might want us to do just that. Although I’m generous with my sympathy I’m a little less so with my money. I mean think of how hard I worked on my story (an epic worthy of the greatest storytellers in history like Homer, Steve Jobs, and P.T. Barnum) to get all that cash.

On a final note, I want to thank our employees, whose dedication to our cause is nothing short of incredulous – I mean, incredible – and we appreciate that you were willing to take a 10% salary cut in order to stay. We firmly believe that despite the public market comps, we will be worth a whole lot more in the not too distant future. Some would say there’s nothing but upside for us. I believe that 2013 is looking like a really great year.

Dear friends, this year has had its challenges and while many VC’s are already calling 2009 a “write off” year, we remain optimistic. We look forward to welcoming Jerry Yang’s replacement. We think our two companies could benefit from working together. They have a service and we have proven ourselves experts at marketing. I can only hope the new CEO is as much of a Yahoo as the old one was.

Happy Thanksgiving.