Longworth Venture Partners Blog

I spent last week at the Web 2.0 Expo in San Francisco. Predictably, there were dozens of sessions covering everything from developing user communities to building scalable web infrastructure. In addition to attending those sessions, I was looking intently for the Enterprise 2.0 angle, and I was not disappointed.

The sessions were generally targeted at consumer-focused startups - plugins, widgets, user communities, and massively scalable application infrastructure. However, on the expo floor, many exhibitors had enterprises in mind. Wiki and blog companies like Socialtext, blogtronix, Thinkfree, and Mindtouch have been on the conference circuit for some time now, and they continued their high visibility. New to the scene (as far as I know) was a spate of companies focused on enterprise mashups. I counted no less than five companies (Denodo, Kapow, Isomorphic Software, to name a few) working on products that purport to make it easy for enterprises to build their own data mashups. Dashboards. Data integration. Unstructured data. Content-intensive applications. AJAX-enabled data. These were the popular buzzwords being floated around at the expo.

The most surprising new entrant was IBM, which dipped its 800-lb toe in the water with QEDWiki. Actually, the product launched without much fanfare earlier in the year, and this was the first real publicity for the product that I was aware of. A Dow Jones rep showcased an application that a single developer had put together in 48 hours, mashing together several of their proprietary data services with Google Maps. No one mentioned if and when the company plans to open up mashups as production applications, but the demo was a reasonably compelling proof of concept. On the other hand, one data mashup with Google Maps wasn’t enough to convince me that enterprises will buy into tying together more complex and data-oriented web services than maps.

The big question mark is IBM’s long-term interest in the space. QEDWiki was developed by IBM’s Emerging Technologies team, which specializes in designing bleeding-edge pilot projects for some of its larger customers. Right now, QEDWiki has a number of connectors to support external web services like Google Maps or standards-based internal feeds. An IBM rep told me that the adapters to more traditional enterprise data sources like SAP are in development. Until that functionality is available, I can’t see many mainstream companies being interested. Also, despite the ongoing development, I suspect that IBM would move QEDWiki out of its incubator and into a mainstream product group if it planned to make a more meaningful push into the Enterprise 2.0 space. The next logical step after that would be to realign its consulting division to offer related support and implementation services.

It’s not clear today whether IBM plans to take any of those steps to make QEDWiki part of a broader effort. In fact, it’s probable that not even IBM knows what they are going to do with it. I would guess that IBM will continue to quietly sustain the project to see if enterprise customers begin to bite. If and when IBM moves QEDWiki into a mainstream product group, that would signal a significant uptick in customer adoption. Of course, that eventuality would be bittersweet indeed for the half-dozen other mashup providers in the market.

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We’ve been hard at work here leading new investments in exciting early stage companies. Hot on the heels of Cellufun, we recently completed the Scrapblog Series A round of financing. My last post articulated our investment thesis about the disruptive potential of emerging Rich Internet Application (RIA) companies. We believe that Scrapblog will be one of these companies. Probably the easiest way to get a feel for the product is to watch a product demo (the product will be launching shortly).

The Scrapblog product is a free online multimedia scrapbooking design tool, which gives users the power to manipulate their photos and videos with more flexibility than any other tool today. The photo/video slideshow market is exploding, as companies like Slide and RockYou have demonstrated. However, Scrapblog is particularly exciting, because it offers its users significant customization and flexibility while remaining drag & drop easy. Scrapblog is very appealing to a broad segment of the market that is interested in a tool that gives them more flexibility than a choice of several presets and generic templates.

Scrapblog appeals to teen/college users, as well as users that have not been well served by today’s slideshow tools. Those tools narrowly cater their flashy effects to the Myspace crowd. However, pet owners, photographers, newly married couples, and mothers are just some of the groups that are frustrated by tools like Slide that don’t let them really express themselves. Our investment thesis rests on the premise that although the market is already huge, today’s players haven’t even begun to scratch the surface.

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Last week, we closed an investment in Cellufun. Nilanjana Bhowmik will be joining the Cellufun board of directors.

Cellufun is a popular ad-supported mobile gaming portal. They provide free entertainment content and casual connected and multi-player games for web-enabled mobile phones.

For the past several months, Longworth has been researching and thinking about mobile entertainment, communities, and advertising. Mobile content and game revenues continue to grow steadily. Of interest to us has been the evolution of the off-deck / direct to consumer environment and the growth of the mobile web. These days, getting a coveted spot on the carrier deck is becoming a losing proposition for all but the largest players. We see the growth of the off-deck environment as a disruptive trend in the industry that is enabling more players to participate in the mobile ecosystem. While mobile web traffic is currently dominated by the name brands from the Internet/online space, we see an opportunity for new destinations that really get the mobile user experience right.

Our investment thesis further resonated with our take-aways from the Game Developer’s Conference earlier this month. The mobile games industry has been stuck at around 5% penetration and needs to innovate to push that higher. We’re now in an era of big development and marketing budgets and tight margins that are squeezing the smaller developers. The porting problem is not going away and in some ways is getting more difficult/costly. Ad-subsidized and ad-supported mobile gaming will happen.

What we love about Cellufun is that Arthur, Steve and Cary have done a great job growing a loyal community on the mobile web. They have a great mix of fresh high-quality content, technical engineering to deliver a good user experience, and a distribution model that enables them to connect and to serve their user community.

I really enjoyed the due diligence; what’s better than taking care of your mobile pet during those long Monday morning partners’ meetings? Alas, I don’t have enough time to compete with the most dedicated gamers playing Cellufun games. But, we encourage everyone to point their mobile browsers to wap.cellufun.com to try their luck and skill at Cellufun’s free games and other mobile content. We’re excited to team with Arthur, Steve and Cary to continue growing the Cellufun user community.

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Apparently, yes. Whether it’s Adobe with Flash Lite, Apple with its iPhone platform, or the rumors of a Google phone or mobile OS, it seems that big players will continue to pile in to the mobile market with their own platforms, hoping to one-up existing offerings or to carve out a piece for themselves. And who can blame them? Mobile is changing everything, and everyone wants some chips in the game.

So it looks like there will be no shortage of mobile platforms for the next few years. You can add Flash Lite, the as-yet undetermined iPhone development environment, and whatever might come out of Google to the existing smörgåsbord of BREW, Symbian, J2ME/MIDP, Palm, Windows Mobile, Linux, and Blackberry platforms. Each of those platforms further fragments based on individual device capabilities spanning all combinations of screen size, memory, processing power, and inputs. It’s a mess for developers and content providers, who now have yet more headaches on deciding which platforms to support in their design and porting.

The current “solutions” to platform and device diversity are a combination of manual porting and as many clever design and software techniques crafty developers can come up with. Almost every developer has come up with a toolbox for porting, and if not, are throwing dollars at labor-intensive and increasingly outsourced porting and QA.

So what else is the industry doing to alleviate this problem? Continue Reading »

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The blogosphere and conference circuits have been abuzz lately with companies developing RIAs for managing, editing, arranging, and sharing all of the media flying out of our digital cameras and webcams practically faster than we can buy hard drive space for it. With this new set of sites, sharing videos on Youtube is passe. Digital effects, transitions, and mixing are the new “in” thing. However, until last week, it wasn’t clear if and when the “legacy” media sharing titans might get into the game. With the announcement of Photobucket’s new Adobe-built video editing tools, Conde Nast’s launch of flip.com, and open discussion of Photoshop going online, it’s clear that the slumbering media and online sharing giants have officially awakened. Deep pockets, and in the case of Conde Nast, valuable content libraries, make these larger companies serious forces to be reckoned with. All of this is both good news and bad news for startups and VCs.

The good news is that this validates the thesis of those of us who believe that users are creating more content than they have the tools to process properly today. I use the term “process” to include everything from touching up to remixing and creating arrangements. The bottom line is that the amount of digital media is exploding, and moving hundreds of photos straight from memory card to cookie cutter gallery isn’t likely to remain the standard for long.

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Earlier this month we funded our third startup that has a revenue model predicated primarily on online advertising. We’ve signed a term sheet with another one and should close on that soon.

We’re certainly not the only ones going after online revenue. Every VC is looking for ways to get page views, and in many cases, worrying later about how to monetize them (sound like 2001?). And big established companies are going after advertising also. Who ever thought that Microsoft would worry about being a laggard because they get billions of dollars in license fees for their software but don’t get a lot of advertising revenue? And to address the issue, they are starting to give away software functionality to get advertising revenue (Microsoft Office Live)!

We all know why we’re doing it. Most of the biggest hits in venture the past few years have been in advertising and sponsorship companies like Google, MySpace, and YouTube. Clearly Google is not only a phenomenal investment success. It is the most important new tech company in a very long time, maybe the most important one since Netscape. Google is not only using advertising to generate revenue, they are using it as a competitive weapon.

But is there enough advertising revenue to go around? Can our companies get their fair share? Or are there simply “too many mouths to feed”, too many companies generating too many page views, all counting on CPM’s?

I think the data says, not yet. Probably the best online advertising data comes from eMarketer. I like their reports because they cross-check their conclusions against the other respected reports, including the well-respected PWC/IABwww. reports.

The most recent eMarketer report says US online advertising grew 27% in 2006 to $15.9 billion. That’s an increase of over $4B in one year. That’s a lot of new revenue to spread around to fund startups and growth. And if you believe, as eMarketer and almost everyone else does, that advertising will migrate online, there’s plenty of room for growth. eMarketer estimates that in 2006 US online ad revenue was only 5.7% of total advertising revenue. They are expecting the growth of online ad revenue to slow (due to the law of large numbers), but still grow substantially, to $25B in four years. That’s another $10B of spending.

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Why do so many VCs make the trek out to DEMO once, or even, twice a year? For Longworth, it’s primarily to track the latest innovation trends in tech. It’s an inevitable side effect of getting force-fed and then digesting sixty+ non-stop demos. Oh, and we might find a truly interesting company that we may eventually invest in. We definitely look hard, but if you think about the numbers for a typical early-stage VC and the DEMO statistics, it’s really not that likely. (Disclaimer: we’re probably going to invest in a company that we found last year at DEMO. So we can continue to keep our hopes up!) But, the way I think about DEMO is: I burn a week in the desert among golf courses and surgery centers to focus on where people are investing and innovating in tech, and most importantly, to squint hard and see what might be on the horizon.

Between DEMO Fall ‘06 and DEMO ‘07, the makeup of presenting startups was pretty similar. In Fall ‘06, there were 15 from the east, 5 from the midwest, 42 from the west, and 5 international companies (67 total). Last week, the numbers were virtually the same, save for two additional companies from the east. There is also a heavy consumer slant, with 46 of 67 startups in the fall and 47 of 69 last week carrying the “consumer” label. Finally, 33 startups in the fall and 26 last week were either privately or self-funded (the rest have some sort of seed or series A/B from a professional investor, or are public).

I would have preferred to have seen more private/self-funded startups last week. For example, there were 5 public companies demo’ing new products, and I didn’t find any of them that compelling (we are quite familiar with Apollo already, natch).

Here are some of the innovation trends I came away with:

• Social networking “2.0″ - group behavior, activities, tools: Eyejot, Whisher.com, Me.dium, Boorah, Pairup, CircleUp, Nexo, Attendio, DesignIn, MyCurrency, Trailfire, Aggregate Knowledge, Helium
• Mobile - content delivery: Bling Software, Mobio Networks, GoWare
• Video - syndication: Panjea, ClipSyndicate, Magnify.net, SplashCast
• Photo and media – mixing and sharing: Zink Imaging, ink2, Vuvox, Sharedbook, OurStory, Preclick, Mixpo
• Enterprise 2.0 - The Port, Reveal Technology, Zoho, Serendipity

We have been following these trends for some time now. However, some areas in which I was expecting to see more of were tools or platforms for virtual communities/assets, gaming, and advertising. What trends did you see at DEMO and what will you be looking for at DEMO fall ‘07?

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After my last post, I’ve continued to spend time thinking about how an all-encompassing Enterprise 2.0 collaboration/knowledge management product might come together. Again, it’s not at all clear that a comprehensive solution is essential to driving greater market adoption. But I do believe that if this segment ever gets traction, an integrated solution will ultimately win out.
To date, no one has assembled the broad set of tools I mentioned previously into a single, integrated package. How would one go about building that solution? I see two possibilities:

1. Build/buy the individual components and assemble them
2. Build a platform and let other companies build the applications

If you recall, I argued previously that the 5 core features of a broad solution are: blog, wiki, document management, workflow management, rich document editor.

No one has done this so far. Some examples:

• Atlassian has put together a wiki and document management in Confluence so that it’s easier to integrate the everyday Word/Excel/PPT documents we create and exchange with more free-form information. However, there’s no way to create rich documents, spreadsheets, and presentations from within the system.
• Zoho has built individual applications (word processor, spreadsheet, presentation tool, project management, and wiki), but there’s no underlying system to manage and organize a complex body of knowledge composed of multiple document types.
• Koral really has the document management and desktop integration pieces figured out, but there’s no way to create documents on the fly - everything has to be saved locally first, then uploaded.

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I alluded in a previous post to a list of the key features of a comprehensive Enterprise 2.0 knowledge management product. Note that I’m excluding file delivery (YouSendIt), RSS (Newsgator, Attensa), and other useful features that I don’t consider core to collaboration within the enterprise. What follows is that wish list of features. Bear in mind that this is only my opinion from having done a broad market survey, and those with different needs, workflow, and priorities are bound to disagree with me.

So far, I haven’t come across a product that has come close to implementing all of the features below. Most of the products I have seen to date are point solutions to the broad knowledge management problem. I’m not suggesting that it’s not possible to gain broad market penetration without a comprehensive solution. On the contrary, there is already plenty of evidence that businesses are willing to buy such focused products. Indeed, not everyone needs a product that solves the grand collaboration question. On the other hand, I believe a product that effectively ties all the pieces together may well be the key to making Enterprise 2.0 truly mainstream. SuiteTwo takes a few steps in that direction, but it’s still fundamentally a package of disparate products that can’t talk to each other. On with the feature list:

Core features:

1. Blog - allow people to collaborate by broadcasting information inside and outside of the enterprise - i.e. iUpload, MovableType, blogtronix
2. Document management
1. Content-searchable
2. Revisions and versioning - Confluence handles this moderately well
3. Desktop integration - Getting existing documents from the desktop into a repository is still the #1 obstacle to adoption. Koral goes a step further and does an impressive job of tracking files and ensuring version consistency even once files have been saved to the desktop.
3. Workflow/project management - i.e. Alfresco
4. Rich document editing interface - Office apps in the web browser - i.e. Zoho, ThinkFree, iNetOffice
5. Wiki - free-form, on-the-fly document creation in a loosely organized environment - i.e. Atlassian Confluence, Socialtext, Mindtouch Dekibox

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January is the time to add up the numbers from the previous year, and in business, those numbers should explain how happy people are. So let’s look at the numbers and see how happy VC’s should be after 2006.

The name of the game for VC’s is called “exits”. An “exit” happens when a VC sells its ownership in a portfolio company. Venture is really a simple business. You make money by “exiting” a company (either because the company gets sold or it has an IPO and the shares can be sold) at a price higher than what you paid. That’s the bottom line.

VC’s get measured relative to their peers. The best place to get the measurements is probably Cambridge Associates in Boston. They follow all the established funds and report to investors. Cambridge publishes venture capital returns data since 1981. They report that from the period 1981 through the first half of 2006, the average total return to investors for VC funds was 2.84 times invested capital. The typical venture fund pays its management 20% of the profits and an average of about 21% of the fund in management fees. So the fund has to have exits of about 3.51 times contributed capital to make an average return. Cambridge says the funds at the 75th percentile of performance (the so-called, “top quartile”), return at least 3.16 times capital so that means they have to have exits of 3.91 times contributed capital. The required returns for the top quartile of early stage funds is even a bit higher: 3.45 times net to investors requiring a 4.27 times gross return.

So how much is that in dollars? Well if you have a smaller venture fund, say $150 million, that means just to be average over the long run you need to have exits of 3.51 times the money your investors give you, or $526 million. If you want to be in the top quartile you need exits of at least $586 million.

And if you have a larger fund the numbers are more daunting. If you are a $400M fund to be average you need to return $1.40 billion and to be in the top quartile you need to return $1.56 billion.

Now how is a VC going to get the exits that add up to that much money? Well, in the bubble it wasn’t that hard. There were lots of companies going public and getting sold at high prices. In 1999 alone there were more than 70 exits where the company was valued in a sale or IPO at over $500 million and 20 over $1 billion.

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