Too Much Investment Chasing Too Few Opportunities
Special ISPCON Report

Venture capital is becoming available for Internet service and hosting providers. For the right company in the right time and place, it's a buyer's market.

by Ted Stevenson ISP-Planet Managing Editor [October 28, 1999]

At an executive session held on October 26 at Fall ISPCON in San Jose, Calif., a panel of experts discussed debt and equity financing and their role in helping ISPs and related companies grow and prosper.

Summing up the current financing environment, panel moderator Bob Allison, Vice President of the communications and media investment bank Daniels & Associates, said "In the second quarter of 1999, a record $7.7 billion venture capital equity investments were made. One half of this amount went into internet-related ventures."

Traditionally, Allison said, institutional capital in the ISP sector has gone to national networks and consolidators, such as UUNET, PSINet, and Verio. More recently, however, VC investments have focused on niche strategies in the access business. Examples he mentioned are InternetConnect, JATO Communications (DSL access), and SiteLine (shared tenant access).

Nuts and bolts
Panelist Jonathan Penn, Vice President at the communications finance firm The Finova Group, said his organization focuses its Internet access-related investments in mid- to large-size companies. Finova's investments in such a company average about $25 million, Penn said, and the majority of such investments are acquisition related.

Outlining the qualifications Finova looks for, Penn cited:

• Positive cash flow
• Experienced management
• Growth
• Secure market niche

Penn also mentioned that in a number of such investment scenarios, his organization requires an equity contribution from a third party source.

What they need
Essential information Finova requires from a candidate company includes details on:

• Company background
• Services offered and types of subscriber
• Market size and competitive analysis
• Business and operating strategy
• Principals and key personnel
• Historical financials and 3-5 year projections
• Amount of funding sought and use of proceeds

Changing climate
A second panelist, Tim Dibble, of Alta Communications, a venture capital firm out of Boston and San Francisco, discussed current dynamics in capital markets.

"The capital raised has been staggering, and the supply/demand equation has shifted dramatically," said Dibble. Today there's too much investment chasing too few opportunities." As investors, we don't have staffing and resources to do deep research on startups, so we look for companies with experienced management and net equity value." Even the Wall Street "buy-out folks" are now chasing Internet companies. Dibble said.

Regarding Alta's investment philosophy, Dibble said "Our object is to help companies grow—to the point that they can attract massive financing, either via public funding or through huge private investments." By dealing with smaller VC investors like Alta and Finova, Dibble pointed out, "you will keep your company intact; we let you grow at the pace you want to grow."

Finer points
"How do you attract equity," Dibble asked? "Have a sound bus plan, and an honest assessment of your potential versus the competition. Niche and geographical market protection are good, too; you need to limit vulnerability."

"Companies that know what they don't know are good prospects," he continued. "When a venture investor asks you the classic 'What are three things that could go wrong' question, never say 'Nothing.' Try hard to give honest comparables with publicly funded companies. If your understanding of the market you're in is unrealistic, we'll back off."

Highest bidder
Echoing earlier comments about the large supply of equity looking for deals, moderator Bob Allison pointed out that in the current market "You can bid up investors and get the highest possible deal terms."

Tim Dibble agreed: "We almost never have a situation where we're the only investor involved," Dibble said, adding that knowledgeable intermediaries are very useful—a virtual requirement—in auction situations.

In a final comment, Dibble observed once again that the tables have turned in this business arena. He advises financing candidates to "Do your homework on the investors who are courting you," looking for companies where personalities and philosophies mesh.

—End