thoughs from a clearstone offsite

C L E A R S T O N EV E N T U R E P A R T N E R

SCONFIDENTIALCONFIDENTIAL

1

1. The Hot Sectors!

2. The Facts About Exits

3. Sentiment in Ventureland

4. Thoughts on Three Rising Trends



2

Where’s The Biggest Investment Where’s The Biggest Investment Opportunity Today?Opportunity Today?

GreentechGreentech

Internet B2BInternet B2B

Mobile/WirelessMobile/Wireless

Media & EntertainmentMedia & Entertainment

SecuritySecurity

55%55%

23%23%

11%11%

7%7%

4%4%Poll conducted at AlwaysOn Conference Summer 2007



3

Anything Else Worth Anything Else Worth Investing In?Investing In?

• Enterprise equipment

• Telecom services

• Healthcare services

• Biometrics

• Semiconductors

• Financial services



4

Exits: Facts and Myths



5

Private Equity: A Potent Private Equity: A Potent Force Force

• 1st half of 2007– 6 of 10 largest tech M&A done by Private

Equity– Europe no exception

• 2 largest: Freescale, Philips Semi

– Pending PE debt issuance• Jan 06 = $40B• June 07 = $250B



6

Field of Acquirers Has Field of Acquirers Has ShrunkShrunk

• 2006–40% of all tech M&A above $50M

done by 10 companies

–Average market cap of acquirers = $100B

Enormous buying power in hands of a fewEnormous buying power in hands of a few



7

Myth #1Myth #1

The IPO market is back!



8

Tech IPOs Have Become Tech IPOs Have Become RarerRarer

1990’s2001-2003

2004 -2007

IPOs Per Year 130 20-25 55

Today we have less than half the IPOs of pre-bubble 1990’s



9

VC Exits above $50M VC Exits above $50M

Past 4 years

1990’s

M&AIPO

60% 40%

10% 90%



10

Significant “IPO Premium”Significant “IPO Premium”

Technology

IPO Premium 26% 37% 43%

…and investors enjoy continued upside potential

Business Services

Healthcare Services



11

2007 versus 19972007 versus 1997

• VCs deploying 2.5X more capital versus 10 years ago but……

Same # of exits above $100M

500% Increase in M&A exits

80% decline in IPO exits



12

Implications?Implications?

• Buyer concentration = continual tough M&A market

• No re-population of the buyer base– Selling our best companies– Mortgaging our future?



13

A Shrinking Buyer BaseA Shrinking Buyer Base

• 1640 public tech companies today– Down 35% from Peak in 2000!

– 7 straight years of fewer public tech companies



14

Myth #2Myth #2

The bar is incredibly high for taking a company public….easier to sell the business



15

Public Market FactsPublic Market Facts

• 2/3 of names on NASDAQ are < $500M market cap– 80% < $1 Billion Market Cap

• Vaunted NYSE?– Nearly 40% < $1 Billion market cap

• 25% < $500M market cap



16

Non Bulge Bracket RelevantNon Bulge Bracket Relevant

• Bulge Bracket Firms did 25% of Tech IPOs during 80’s and 90’s– 40 to 60 deals/Year– Today do 80% of Tech IPO’s

• ~ 40 deals/Year

• What about the other 100 deals?– Many are not getting done…but could



17

Small Cap IPOs…Not Just For Small Cap IPOs…Not Just For Jeffries & Co; et.al….Jeffries & Co; et.al….

• 1990-1998

• Avg market cap?

• Avg raise?

65 tech IPOs

$197M

$37M



18

Half the IPOs Raise <$100M Half the IPOs Raise <$100M

Note: IPOs from QI 2004 - Q2 2007. Source: Dealogic

>$100M

$50 - $100M

<$50M



19

Clearly Not Just Tech….Clearly Not Just Tech….



20

IPO vs. Sale of BusinessIPO vs. Sale of Business

Business Business ServicesServices

Health Health CareCare TechnologyTechnology ConsumerConsumer

Financial Financial ServicesServices TOTALTOTAL

Number of IPOs 14 44 23 10 16 107

Average Enterprise Value

$224.9M $212.5M $274.4M $270.3M $325.5M $236.1M

Average LTM EBITDA Multiple

16.8x 24.3x 17.4x 11.6x 17.3x 18.6x

All IPOs between January 1, 2006, and June 30, 2007, where the market cap was less than $300 million...



21

Implied EBITDA?Implied EBITDA?

$15.7M



22

Moderate Revenue Bar…Moderate Revenue Bar…

Acme Packet

Allot Comm

Riverbed Networks

ShoreTel Comm

Pre-IPO LTM Revenue $58M $32M $49M $71M

PeopleSupport = $37M…..Compellent = $38M



23

Not Just Web Companies Not Just Web Companies Going Public…..Going Public…..

• Other Tech IPOs in past 12 months….

–Aruba, Bigband Networks, Infinera, Starent Networks, Veraz, Airvana, Mitel….



24

What If…..What If…..

…..AT&T bought Cisco for $250M in 1991



25

Instead….Instead….

• Sequoia chose to take public at a $225M market cap

• Good Decision?



26

Conclusion?Conclusion?

Let’s get smart about the Small Cap IPO market……



27

Data Analytics:Attractive Economics

For Customers and Investors



28

Thinking by NumbersThinking by Numbers

• Goal: turning data into profits• Intuitive and experiencial expertise

losing out to number crunching• Still…..statistical analysis faces

tremendous skepticism– threatens information monopoly of experts

• Money Ball effect could help drive acceptance



29

Analytics Coming of AgeAnalytics Coming of Age

• Retail– Video to assess shopping patterns in stores

• Getting people to stay longer/spend more– Data filtering to lower returns/avoid markdowns

• Web– Too many to list….

• Consumer Marketing– Modeling consumer buying proclivity

• Hospitality Industry – Gary Loveman’s majic at Harris Casino



30

Vintage Wine Price Vintage Wine Price PredictorPredictor

• Princeton economics professor wondered…..– what factors determine wine

prices?



31

Don’t Need to Drink It….Don’t Need to Drink It….

• Professor speculated that tasters were unreliable

• Modeling pinpointed important variables

• Most important determinate of vintage quality?– seasonal temperature– obvious but overlooked



32

““Expert” Backlash….Expert” Backlash….

–Wine experts blasted approach

• Convinced industry publications not to print it

–Gauge has proven far more accurate than experts



33

Still Some Work To DoStill Some Work To Do

• Many failed attempts…

• Companies burned by unfulfilled promises

• Uphill battle to prove efficacy

• But companies remain interested….– Top line boosters > cost reduction tools



34

Managed Services:

A Trend To Bet On



35

Services….Upheaval in the Services….Upheaval in the Equipment SpaceEquipment Space

• New and more effective models emerging– Department managers controlling more IT

spending– IT organizations want to know less and

less– Coupling managed service with purchase– Cisco leading charge



36

Services….More Acceptance Services….More Acceptance From ResellersFrom Resellers

• VAR margins down to 10% to 20%

• Finally learning to sell services

• Europe as a model



37

Services = Customer Lock-Services = Customer Lock-inin

• Services keep customers loyal– Nokia expects $500M in revenue from

SoonR type service in 4 years• Hopes service will keep users on Nokia

platform



38

Operational Benefits of Operational Benefits of Managed Services ModelManaged Services Model

• No legacy platforms to maintain• 3000 Microsoft developers maintain Windows

2000

• Upgrades pushed out daily

• Birds eye view of customer behavior

• Land and expand

• Much shorter sale-to-revenue cycle



39

Service Provider = Service Provider = More Valuable CompanyMore Valuable Company

• Acquirers gain immediate leverage– customers are readily accessible

versus behind the firewall



40

Salesforce.comSalesforce.com

35,000 Customers

1,000,000 Users



41

Software Tools:

Not Entirely a Shitty Business



42

Two Honorable MentionsTwo Honorable Mentions

• Adobe = $25B market cap, 9x rev mult.

• Divx = $0.5B market cap, 7x rev mult.

Stay clear of niche development environment tools

Target consumer friendly apps (i.e Flash, MPEG 4)

Way of playing media & content trend



43

Worth a Second Look?Worth a Second Look?

• Consumer auction site

• Job boards

• Services targeting the aging population

• Virus protection

• Online banking



44

New Fixes to Age Old New Fixes to Age Old Problems….Rarely workProblems….Rarely work

• Verifiable Email

• Better local Search

• Improving marketing response rates

• Targeting the “under-served” SMB

• Fuel Additives?



45

VC Sentiment 2007:

What Are We Thinking?



46

Current Beliefs in Venture Current Beliefs in Venture LandLand

• Early stage has best return profile

• Ad supported businesses scale the best– Enormous $300 billion spend to tap into!

• Search is the driver of economic activity

• Paying up for a hot company is smart

• Emerging markets are hot



47

Indeed….Search is KingIndeed….Search is King

1800 contacts 8.7% 68%

The Street.com 5.1% 64%WebMD 8.6% 63%1800 Flowers 8.5% 62%Blue Nile 6.6% 60%The Knot 7.6% 55%Move.com 4.1% 53%Netflix 13.0% 50%FTD Group 7.2% 48%DrugStore 10.1% 48%Overstock 10.5% 47%CNET 5.9% 46%Monster 7.7% 45%RealNetworks 23.0% 36%

Direct Access Big 5 Search

As of August 25, 2007



48CONFIDENTIALCONFIDENTIAL

48

Positive (but weak) Relationship Positive (but weak) Relationship Between Ad $ and Non Search Between Ad $ and Non Search

TrafficTraffic

Percentage of Visitors from a Nonsearch-Engine Source

Sal

es a

nd M

arke

ting

Spe

ndin

gas

Pct

of

FY

06 R

even

ue

35% 40% 55% 65% 70%

0%

15%

25%

30%

35%

40%

5%

10%

20%

45%

50%30% 45% 60%

RNWK

TSCM

WBMD

FLWS

NILE

KNOT

NFLX

MOVE

DSCM

OSTK

FTD

MNSTCNET

PCLN

REDE

CTAC

Trend line



49

P&G….The Gold Standard of P&G….The Gold Standard of Advertising Efficiency Advertising Efficiency

Advertising as a % of Sales

Org

anic

Sal

es G

row

th

9.0%

R-Squared = .84

9.5% 10.0% 10.5% 11.0%

0.0%

4.0%

6.0%

8.0%

10.0%

12.0%

2.0%



50

Strong Opinions in Web 2.0 Strong Opinions in Web 2.0 Land…Land…

• Web companies should create open platforms

• Users should have access and control of their data

• Social features are the future of all consumer web apps

• E-tailing is not very interesting



51

Have E-Tailers Learned Have E-Tailers Learned Something Since the Bubble?Something Since the Bubble?

Blue Nile 129% $1.3BOverstock 36% $510M1800 Contacts 42% $312M

1800 Flowers 61% $620M

2007 YTD Performance

Market Cap

As of August 25, 2007



52

……And Mobile as Well…And Mobile as Well…

• Mobile apps cannot be monetized with advertising

• Mobile start-ups cannot succeed without a carrier deal

…and yet ABI Research says mobile advertising will be a $19B business in 2011?



53

Opinions Formed About Opinions Formed About Software….Software….

• SaaS is a superior model in enterprise software



54

Heathcare Services…..Heathcare Services…..

Athena Health = $1.1B Market Cap

Trailing Revenues = $75M



55

and yet…..



56

Just a Few Years Ago….Just a Few Years Ago….

• You couldn’t lose …..– following what big company CIOs said– Landing a ‘blue chip’ partner to peddle your

products– Investing in ‘real technology companies’

• Remember Nano?



57

You Can’t Lose With….You Can’t Lose With….

• Millions of users!

• Successful founders doing it again!– Mahalo, Joost, Clearwire

• Alternative energy deals!

• Paying up for hot deals with traction!

• Following Sequoia!



58

You Can’t Win…. You Can’t Win….

• In a web deal with limited user uptake• Being a ‘dumb pipe’• Backing uninspiring founders• In the optical, home networking, or tools

space• Taking on Ebay or Cisco or _______• Selling voice services• Owning a small %



59

Parting thoughts…



60

VCs and Entrepreneurs VCs and Entrepreneurs Seeing StarsSeeing Stars

• Iconic examples used to justify lofty valuations in consumer space…– Facebook– Skype– YouTube– Google

• Enterprise market now has a celebrity too!– VMWare ~ $22B market cap



61

Top 5 Internet Market Cap Top 5 Internet Market Cap LeadersLeaders

Google + Yahoo + eBay + Yahoo!Japan + Amazon

$32B = Nasdaq trough

$325B = market value – 2007

Source: Morgan Stanley



62

2007…….Greed > Fear2007…….Greed > Fear

• Write-offs are rare these days

• Mediocre companies getting funded

• CVP portfolio no exception….– Communicado and SoonR perhaps should

not have been able to raise money



63

Risky to Redline ANY sector….even lowly optical, storage, comm, healthcare services….



64

Perseverance Pays….Perseverance Pays….

1982-20011982-2001 Compound Annual ReturnCompound Annual Return

•All trading days 11.8%

•Minus 10 best days 9.0%



Note: As of Aug. 22. Sources: Investment Company Institute; Journal of the Academy of Finance; Morningstar.



65

Following The Crowd Doesn’t…

Net Inflow into Real Estate Mutual Funds 2006

$9.4 billion

2007 Return of Real Estate Funds

- 8.5%

Note: As of Aug. 22. Sources: Investment Company Institute; Journal of the Academy of Finance; Morningstar.



66

Discussion

thoughs from a clearstone offsite

Economy & Finance