Venture capitalists are still courting attractive investments, but now entrepreneurs are playing hard to get

Now that windsurfing season has returned to the san Francisco Bay Area, I often find myself driving down Highway 101 to Coyote Point, my favorite launch site. The ride isn't anything like it was last year though. For one thing there's no traffic: I zip from home to harness in half the time it used to take. The only dot-com billboard I see along the way is for Excite, and my guess is, the company has a long-term lease on it. When I make my way home through the South of Market district, I actually see For Rent signs posted on office buildings, and the notices remain there longer than it takes for the light to turn green.

I know: everyone's been laid off, and all the start-ups are now "end-downs." Two years ago, when I founded Qbiquity (née Gazooba) with my buddies Zen and Shanti to provide online-referral marketing services, we would have killed for those conditions. Instead of paying through the nose for office space, a start-up today can hold out for cubicles with a view. With so few billboards on the highway, a newly funded management team can buy 10 seconds of the mostly undivided attention of every licensed Bay Area driver who's still commuting. And all those twentysomethings for whom we used to pay twenty- thousand something in recruiting commissions? Let's just say the Starbucks near my apartment is a lot more crowded at 10 a.m. on weekdays than it used to be.

I wondered, given the new environment, why VCs weren't pumping money into start-ups like gas into an SUV. Sure, the stock market hasn't been great for VC exits, but by the time a 2001 start-up is ready to go public, who knows? I posed those questions to Zen and Shanti over bowls of the #5 Pho at Golden Flower, Shanti's favorite dirt-cheap Vietnamese joint. Since leaving our firstborn, the three of us get together most Wednesdays for "founders lunch," at which we dissect the current business scene, place bets on when each of us will have an income again, and argue over the check. The consensus was that we didn't have the answers, but we might know a few people who did. I offered to get in touch with our VC investors from the Gazooba days. Shanti suggested we talk to a new company founder who was in the position to take some VC money. Zen promised to tap his network to set that up.

To get the investor side of the story, I bought a ticket to Venture Match, a Harvard Business School alumni shindig run by one of our Gazooba VCs. He was holding the event at Stanford, so I drove down to Palo Alto (no traffic again!), caught a glimpse of Chelsea Clinton near the bookstore, and moseyed over to the Faculty Club.

I was immediately greeted by one of Gazooba's angels, a well-known chief technology officer who had started his own incubator and investment fund. I skipped the hors d'oeuvres and started probing. "Have you invested in any start-ups lately?" I asked.

"Andy, we've put out six term sheets this year, and so far every one of them has been rejected by the entrepreneurs," he said.

Entrepreneurs turning down term sheets? That sounded about as likely as a California power utility turning down megawatts. But the angel insisted it was true. He told me about one company that said thanks but no thanks to his $6-million premoney offer, only to accept a corporate investment at $2 million pre. My guess was that the corporate investment was a lot smaller and the entrepreneurs gave up less of their company for it.

I asked the angel for his read on this strange phenomenon.

"I don't think entrepreneurs' valuation expectations have shifted down as fast as the market has," he said. Translation: the entrepreneurs figured they were getting lowballed and walked. Even the angel admitted that start-ups are more patient these days and are exploring a broader range of financing alternatives. "Most of them are choosing various kinds of self-funding instead, like customer funding or doing consulting to pay the bills," he said.

The same angel emceed the ensuing panel discussion, in which three executives portrayed their companies as "enterprise-software plays" (still the VC flavor of the year) "with enough funding to get to profitability." The angel assured the audience that there would be mud wrestling afterward to provide more excitement. I eventually realized he was joking and decided to bail. On the way out I bumped into the Gazooba VC who had organized the event. He confirmed what I'd heard from the angel. "We're getting fewer business plans, though the ones we get are of higher quality," he said. "I guess people are a little shy about asking for money right now."

Meanwhile, Zen had worked one of his Japanese connections to persuade James Hong to attend our next founders lunch. James is the cofounder of Hot or Not (www.hotornot.com), a fantastically popular Web site where people post their photos and are rated on a scale of 1 to 10 by others. We went for Pho again, this time in Mountain View. I chose #5 for tradition's sake, even though at that place it meant I had to gulp down a healthy serving of tripe with my noodles.

Meeting James, I felt as though I were in that Seinfeld episode where Jerry confronts Bizarro Jerry, a character from a sort of parallel universe. Like Shanti, Zen, and me, James and his partners had thought long and hard about what motivates people to send things to their friends online. Like us, they'd gone through several variations of their idea and had been approached about a buyout by bigger fish. Unlike us, they now had a site with more than 7 million page views a day. Revenues from banner ads and subscriptions covered their costs, which were primarily for hosting and bandwidth.

James said he planned to introduce revenue-generating services to his site, so I asked him how he felt about getting VC money to speed things up. "Bottom line is that we're not opposed to taking in venture capital, but first we'd like to have a proven business model and a solid plan covering what we would do with their money," he said. "It makes us think harder and ask, 'Do we really need this money?" He sounded wise beyond his 27 years.

Zen asked if James's thinking had anything to do with the low valuations we'd heard that VCs were dishing out. "In the same way they were irrationally high before, we're afraid that they may be irrationally low now," James said. "It's in our interest to hold off on taking investment as long as possible, so long as doing so doesn't hold us back from an opportunity."

As we walked James back to his office, I couldn't help thinking of something my grandfather once said. In the 1960s he had a chance to take his Brooklyn factory public, but the bankers would give management only 40% of the deal. "They're not particularly interested in what you're doing," Granddad told me. "They just want to know how successful you'll be and latch onto it. It's a game, and a tough game, too."

James seemed to be playing the game well and enjoying it, and that was inspiration enough for Zen, Shanti, and me that day. We talked about going to a café to discuss some business ideas, but then Zen looked at his iWindsurf.com pager. Lulls were at 19, gusts up to 24.

There wasn't much traffic on the way to the Point.

Andrew Raskin is the founder and former CEO of Gazooba Inc., now called Qbiquity, in San Francisco. His photo does not appear on Hot or Not, so don't bother looking for it.

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