PRINT THIS PAGE Internet investing: pitfalls and potential
23/01/2008. Source:IVCJ (Israel Venture Capital & Private Equity Journal). Zeev Holtzman, Giza Venture Capital
In this IVCJ article, Zeev Holtzman, founder and chairman of Giza Venture Capital, says that he sees substantial potential in Israeli internet companies, yet he cautions VCs to keep in mind lessons from the past when investing in the resurgent internet sector. There is an increased level of investment in the Internet sector in Israel. Internet companies attracted 13 percent of total capital raised by technology companies in the first half of 2007, up from 8 percent in 2006 and a mere 3 percent in the first half of 2005. The trend in Israel has been following that of the United States, where Internet investing has also experienced a surge.
As greater amounts of capital are being poured into the sector, valuations are rising. Does this mean we are once again seeing signs of a bubble? Time will tell, but most experienced VC managers are trying to digest the lessons from the 2000 bubble and are asking the right questions. Are the business models realistic? Is there sufficient managerial talent in the Israeli market? Can the Israeli market produce billion dollar companies? What are the advantages of investing in Israeli Internet companies rather than in their US counterparts?
It is clear that one of the major differentiating factors of Israeli high-tech is the high level of innovation. In the case of the Internet, though, innovation is not always the key factor. Often, understanding the market, properly executing plans and coming with a user friendly, first-mover solution are the most important determinants of success.
In the last two years, several Israeli VC funds have allocated capital specifically for the Internet, while others have intentionally avoided the sector. Our view at Giza Venture Capital is that the sector cannot be ignored, as the Internet will play an increasingly vital role in all aspects of business as well as in the private realm of individuals. In Israel, the young generation of entrepreneurs is very involved in the Internet sector and the number of success stories can be expected to grow, following precedents set by messaging company ICQ, which was sold to America Online, and comparison shopping firm Shopping.com, which went public at a healthy valuation and was later acquired by eBay.
At Giza, we are employing a specially developed program to help validate Internet business models and market trends and to help provide answers to the many challenges faced by young companies. We have specifically allocated capital to Internet investments and created a program called Ofek, where we invest up to $500,000 in seed and early stage Internet companies via a relatively quick process. We try to invest in experienced entrepreneurs or, at the very least, to bring a seasoned entrepreneur to the management team. In subsequent months we work closely with the company to validate needs, the business model, markets and technology and to build the management team.
Fulfillment of our expectations leads to the next stage – an investment of $2 million to $3 million depending on need – to continue development as a regular portfolio company. Young companies need extra attention from the VC management team, but the advantages include exposure to attractive proprietary deals as early as possible and validation of a company’s business plan in its true start-up period before higher amounts of capital are invested, so there’s mitigation of risk.
For the entrepreneur, working within the Ofek framework is simpler than a go-it-alone approach. While some companies may flounder during this period and close, others become portfolio companies offering promise of substantial returns.
Even when we invest in the Internet, still we struggle with the issue of content versus technology. We tend to favor technology- focused companies, but we are very aware that there is a new generation of Israelis with creative content ideas. So the issue is still open. We believe creativity in content is just as important as technology in achieving success.
While the outlook is positive, VCs would do well to be cautious in their Internet choices. There’s a tendency by some start-ups to imitate previous success stories, essentially making small changes to a business model or approach. Success is not easy to imitate that way. So be wary of young companies that are followers. Usually the first one or two in a niche will be winners. Others will do well to survive.
A final point regarding Internet investing is that for VCs, some promising Internet companies are just not worth the effort. Internet entrepreneurs can enter the field with relatively small amounts of capital. As a result, when it comes to their considering exit propositions, they may opt for a small exit in which they can make a nice return. The exit, though, may be too insignificant for VCs, which usually spend the same amount of their time nurturing small investments as they do for larger ones. Typically, small investments just don’t justify the risk and time put into them.
To summarize, the Internet is here to stay, and Israeli venture firms will be in the forefront of providing capital to local Internet start-ups, which will account for a growing part of VC high technology sector activities. Business models should be carefully checked to ensure there is revenue generation potential and so as to avoid mistakes which were prevalent during the 1999-2000 period.
This article first appeared in the Israel Venture Capital & Private Equity Journal (IVCJ). IVC Research Center publishes the Israel Venture Capital & Private Equity Journal, a quarterly review of trends and developments in the Israeli-related venture capital industry. IVCJ, distributed worldwide, is dedicated to provide wide-range coverage of Israel's venture capital industry. For more information please visit www.ivc-online.com
|
