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When you raise >$100M, bank on an IPO, and fail: The cases of Alien, Vonage

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Alien, the Morgan Hill company that makes low-cost radio identification tags (RFIDs), withdrew its plans to go public, after Wall Street rejected it.

We've mentioned this before, but Mike Langberg has followed up on this story, and it is an eye-opener -- and the story carries lessons for other private technology companies in this hyped valley right now. Alien seemed to bet the farm on pulling off an IPO. Now it is already in retrenchment mode, having laid off an unspecified number of its 240 employees last week. The question is, how did it get itself into that position? Well, it had raised more than $200 million from private investors. More on that a second.

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Money-losing Vonage is an example of a company that must surely regret its IPO, Mike adds, noting that this is all probably good because it is a sign that Wall Street is sane. However, keep in mind that most significant Vonage insider shareholders own shares priced at $5.87 or lower, which they bought when the company was still private. The company's stock is now trading at around $6.54, so major pain will only really begin with another drop of 67 cents. These insiders are locked up for three more months before they can sell their shares, so yes, they may eventually regret this. But as we asked before, did Vonage really have a choice? Not really, after it -- like Alien -- had raised hundreds of millions of private cash. It needed desparately to return money for its big private investors. When no buyers showed up, it had to do an IPO.

Had it slowed down from the beginning, not expanded so quickly, and tried to reach profitability earlier, there might have been less pain for all its investors and employees.

We're just looking for lessons. If you're a private company right now, and are facing investors who want to pump you full of cash -- because they have raise a huge venture fund, and say they "need to put our money to work" -- don't do it. It is hard to do in these easy-money times, but think seriously about a slower strategy.


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Tracked: August 17, 2006 11:46 AM

Comments

As I predicted about Alien and Passive RFID market in my past postings few months back, there will be no takers in IPO market. Not surprised. I think Alien will have diffcult time surviving now, there largest customer Gillette/P&G, will have issues finding there 5 cent tag as they had Alien locked in 5 cent tag price by placing an long term 100 Million plus tag order. reality is tag cost to build today is 25 - 30 cents depending on type of packaging. Well to bad VC's will loose few bucks!

RK on August 16, 2006 8:53 AM
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A wise, superbly talented and experienced VC recently summarized his biggest successes as being partly characterized by $1m or less initial investments. (Silicon Beat had a nice post about this)

While a small initial investment will typically not get one to positive cash flow, it is often a superb litmus test of the motivation and skills of the founders.

Are they Entrepreneurs, or Spendthrifts? Are the Founders skilled sufficently or not?? Can they sell sufficiently or just go through part of the motions...

[sell early, sell profitably and sell often, comes to mind]

The main aspect ignored by some investors who think More money is THE solution (I have heard certain folks say too often - YOU Could Never Compete Against XXX, because YOU don't have the CAPITAL [yet], even if the technology and people were there), is that motivation + skill + EQ (Entrepreneurial Quotient) trumps a whole lot of misspent cash in many notable instances.

The history of tech startups is truly littered with overfunded missteps, where either a key technical issue was overlooked and vainly hoped to be solvable without the necessary hard changes, or management business missteps being optimistically overlooked until too late. A fascinating study really and many many useful lessons to learn from, to hopefully avoid repeating.

A useful proverb or two includes - "Trust But Verify"[honestly], and "Only the Paranoid Survive" (Ed .."with a grain of salt and a bit of humor for balance")

Before one SCALES (ie possibly becomes a spendthrift) it is quite useful to look closely at the early dynamics. Is the "roll up your sleeves and get it done attitude" sufficently present? Are there always expensive pushouts / excuses that conveniently delay the critical business and technical milestones being completed? Is the big MO [momentum] evident, or is there a whole lot of second guessing by know it alls...Which is a larger effect?

And a pet peeve of mine - is physical stature of key folks used a a false crutch for warm and fuzzies about credibility and realism in the effort and skills? IE you might be executing technically, but if you frequently say - it could never be a real business (about possible alternative markets for example) are you a credible Entrepreneur? You might be making lots of progress in the complicated technical milestones, but always pushing out cost effective results, intimating that cost effective results needs more capital?

There are different hints of some of these in both firms missteps. Capital is not a panacea unless the right management execution is present - credentials or no credentials of key staff.

You cannot eat credentials for profits, nor market / revenue growth.

Both firms can have potentially viable businesses, but I suspect a degree of either call it entitlement or complacency is present in both endeavors. Bears learning some lessons from if you want to invest as successfully as desired. More money, can in some instances mean just bigger losses.

Mark Wendman on August 16, 2006 9:29 AM
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Incentives matter. VCs are compensated through management fees and carried interest. If your company is poised for success, they want to increase their ownership % in your company. These days they want to do it enough to make up for all their losses which are a lot. Putting more money means more management fees and also more carried interest for them. As the saying goes, in for a pound, in for ten. This pattern is especially egregious these days with big funds and poor IRRs of earlier funds. VCs on the board will encourage higher spending, etc. to force a financing; they will bring in new management that will be compensated highly; all to increase their ownership and make their returns look better (in the face of their numerous other failures).

If your company isn't doing well the VCs will look for a quick exit. A firesale or a simple shutdown and sale of IP.

The best VCs are those that help a company take flight on a single or few rounds. Google, Yahoo, Cisco, etc. did it on a singe round. Sequoia excels in this as does KP, though there are exceptions (Webvan, Infinera, etc.)

The worst VCs are those that look to invest a lot of money and force/encourage/support companies that want that. Check 3ParData, OnStor, Force10, Infinera and the amounts raised already. $300M raised already for each company and an ever receding timeline for profitability. Explains why LPs at Worldview, an investor in all of those highly capitalized companies, pulled out their support.

Use the ViraMetric to evaluate a company. Total up revenues over the years for a company and see if it is >, =, < the amount of capital raised for that company. What a story it tells!

PragmaticEntrepreneur on August 16, 2006 10:25 AM
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