Two of the startups that I had a chance to work with when I was in venture capital had big news lately, and I thought I’d write up a quick post of congratulations.
Isilon Systems (Ticker: ISLN) went public on December 15th, just sneaking in before the new year. They raised $108 million in their offering, and they are trading well above their offering price. Their market cap, as of Friday, January 8th, was $1.5 Billion.
IronPort Systems was acquired on January 2nd by Cisco Systems (Ticker: CSCO) for the bargain price of $830 million.
For me, these two liquidity events provide me with incredible validation, as these were two of my favorite startups that I was able to see at Series A funding during my limited time in venture capital. I can’t take any credit for their success, but I do think that these companies had a lot in common, and recent events give us a chance to reflect on what led these two start-ups to go the distance, when so many others fail.
- Great, technical founders. There are a lot of different types of entrepreneurs, but I’ll admit that I have a bias towards experienced and deep technical founders. Sujal Patel fit the profile, exactly. As an engineer, Sujal had solved some of RealNetworks most complex back-end operational challenges. That experience gave him the insight for a new type of solution, a type of virtualized storage optimized for media. His experience gave him the insight to a real customer need, and his deep technical knowledge gave him the ability to spot a solution not on the market. Scott Weiss & Scott Banister also exemplified the profile. As early pioneers for Hotmail (Weiss) & Listbot (Banister), these two knew the email businsess well. They were also technically deep enough to see the potential for an optimized server for outbound email services. These are the type of founders that you want to see and fund, when possible.
- Leveraging new technology to solve customer needs. Despite the mythology about startups in the press, most successful technology startups do not invent some radically new technology or application that no one has ever heard of. However, they do tend to take today’s technical innovation, and apply it to a real customer need that can now be uniquely addressed in a way that wasn’t possible before. Open source operating systems had become big news in the late 1990s, and into 2001&2. However, both of these companies were technically based on the idea that an open source operating system can allow a very small team to add incredible value by optimizing just a portion of a modern operating system for a specific application. Isilon optimized their threading & file system for virtualized storage for high intensity media use – high bandwidth, long reads, lots of simultaneous sessions. IronPort optimized their threading & file system around Sendmail.
Like most innovations, this insight was not unique to these two companies – Tivo, for example, had done the same thing, and you could even argue that Cisco had gotten its start optimizing an OS for routers. However, it was still relatively early days for this type of platform, and open source operating systems gave entrepreneurs the ability to create incredibly robust, high-end vertical platforms with amazing speed and low cost.
The perfect “next step” usually has to be technically robust enough to be reliable for customers, but new enough that the entire market hasn’t already adopted it. It’s not surprising to me that both of these companies had latched onto this next step.
- Learn & adapt based on customer feedback. If you read the websites for Isilon Systems or IronPort Systems, you’ll see that these two businesses have evolved significantly since those Series A rounds in 2001 & 2002. It’s trite to say that the technology market moves quickly, and that startups have to move quickly as well. The real issue, however, is that no matter how insightful the founder, and no matter how breathtaking the technology, the difference between a great pitch and a great business is a relentless dedication to learn & adapt. If you are smart, and you have a strong technology in a space with an underserved need, you will have opportunities to win. But they are hidden, and good teams know how to listen, move, and take action based on incomplete information.
- Tough funding environment. For people who haven’t worked in financial markets, this reason can seem counter-intuitive. How can a tough funding environment make a company more likely to succeed? Success is about the team, the technology, the product, and getting there first? Right?
Wrong.Well, at least, it’s not completely right. Tough funding markets force entrepreneurs to think harder about potential opportunity. They force investors to focus more on true differentiation and economic potential. And they prevent the funding of 100s of copycat ideas in the same area, which can destroy the economics of a previously viable area through over-supply.
I believe I was extremely fortunate to be in venture capital in 2001 & 2002, extremely tough markets. Believe me, there is just as much BS in a tough venture environment as a strong one – it’s just a different flavor of BS. The reality is that, when times are tough, and everyone thinks that its better to not be doing deals, you need to have the strength, fortitude and intellect to make some investments. Isilon & IronPort are examples of deals worth making in 2001 & 2002, when conventional wisdom said it was OK to not be making investments.
- Limited access.
“I would not join any club that would have someone like me for a member.” — Groucho Marx
Early stage venture capital is a branch of private equity, which has become a household term these days due to the large amount of money involved and the high returns of the funds. However, it’s important to remember that private equity has higher returns than public equity for only one reason – it’s private! Limited access to information, to the investment, to the people, to something. Otherwise, our good friend the efficient market would have reduced rates of return already to something that risk-adjusted wouldn’t look so special.
Whenever you see what you think is a great deal, you have to play Groucho. You have to ask, “Why am I uniquely getting this opportunity?” With Isilon & IronPort, we had concrete answers.
I’ve seen too many eager, young, aggressive venture capitalists who don’t seem to realize that for good teams and concepts, there are ample sources of capital out there. The selection of an investor is a hiring decision, and there needs to be a good reason why the founding team needs you. Money isn’t the answer.
It’s interesting to me, personally, that I saw both of these deals thanks to our Seattle office, now closed. I actually worked the internal diligence and analysis of IronPort Systems, and was extremely positive one team and the company. Although Atlas passed on the Series A, Scott Weiss was someone I reached out to when I left venture capital, because I was that impressed with the company.
The current early stage venture environment is clearly over-heated at this point – too much money still chasing too few real economic opportunities. Still, great companies are started and built in the worst of times, and great companies are also started and built in the best of times. As long as technology continues to turn things that were previously expensive and complex into things that are now cheap and simple, there will be opportunities for entrepreneurs to solve today’s customer problems in whole new ways.
I’ll write about what some of my takeaways were about how to be a great venture capitalist another day. Today, I just want to say a hearty congratulations to the Isilon & IronPort teams, whereever you are. You deserve every bit of it.