Even Successful Firms Can Use Cash

In the summer of 1998, AlphaSmart Inc., maker of a portable "computer companion" device for grade-school students, decided it was ready for the big time.

By:
Daniel Rosenberg
Wall Street Journal

But rather than an initial public offering, investment bankers recommended venture financing to make the six-year-old company more dynamic.

"That’s when it hit home that what the market or the Street wants is a good future," said Ketan Kothari, chief executive and co-founder of AlphaSmart, which went on to receive $20 million in venture financing from Summit Partners’ venture capital arm. "They want to know where you’re going. Summit … told us to go to multiple products and bring in the talent required to get there."

Although venture funding frequently is associated with "seed" companies just getting started, it often doesn’t come into play until a company is already successful. And venture capitalists provide more than financial help to such companies.

AlphaSmart found use for the money it received. But it also benefited from Summit Partners’ advice to diversify its product line.

"We often come across companies that have a main product and initial success in the marketplace," said Marc Friend, a general partner with Summit Partners’ venture capital arm. "An astute management team will look at how to broaden the product footprint so it’s not just a one-trick pony."

Once Summit Partners invested in AlphaSmart, Friend said, the venture firm brought in a chief financial officer and recruited board members.

"It was the board that helped the company focus on an overall strategy and how to extend the brand," Friend said. "It got the company thinking about moving into the software realm. The board helped drive the company into three tiers of educational markets – high school and college as well as the teaching community. They’ve doubled revenue to $40 million year and have a worldwide customer base of millions of students."

Sometimes a venture investment can help a successful company attract talented salespeople to give its products a higher profile.

Opnet Technologies Inc. (OPNT), a network management software provider that went public in 2000, received venture financing from Summit Partners in 1997. At the time, the venture firm felt Opnet had a great product, but not enough of a presence in the market.

"The business was growing profitably," said Michael Balmuth, another general partner at Summit Partners’ venture-capital arm. "It needed increased visibility with the sales force and a top-tier vice president of sales to groom the company for a public offering. They had a thriving company that couldn’t recruit talent on the sales side."

The best salespeople go where the money is.

"If you’re an entrepreneur losing sales talent or having a rough time recruiting sales executives, it’s a warning that you have to improve," Balmuth said. "You need to show a sales executive that you’re a winning company with a high degree of potential that will allow them to sell a lot of product. That can be difficult to do when you’re a small company and other companies have public stock, as well as option plans."

Marc Cohen, co-founder and CEO of Opnet, said Summit Partners’ investment in his company "made it clear to (salesforce) candidates there was a bright future for them as part of a large organization." Opnet posted $46.5 million in sales in its most recent fiscal year.

A Quick Cash Injection

PGP Corp., which makes secure messaging and data storage products, found itself suddenly in great need of venture capital in 2001 when it was broken off from Network Associates (NET). After buying back PGP’s assets from Network Associates, which had purchased PGP back in 1997, PGP CEO Phil Dunkelberger realized he had to re-introduce the company to customers.

PGP quickly secured $14 million in first-round financing from DCM-Doll Capital Management and Venrock Associates. The money helped the firm move from being part of Network Associates to being independent.

"Literally, the transition was seamless," Dunkelberger said. "If we had bought the assets and then had to depend on money coming in, with collection lag time, we wouldn’t have been able to do it that quickly. (Venture funding) helped us keep customers and attract high-quality individuals. Customers would ask us, ‘Who’s working on the software code?’ And we’d say, ‘The same people as the last five years.’"

That was important, he said, because customers in this market don’t like to see any change in their vendors.

In addition, the venture money helped convince customers that the company wasn’t a fly-by-night operation.

"We weren’t out scrapping for funds," Dunkelberger said. "We had money in the bank. People felt secure that the company was backed by venture capital , and they were happy to have deep pockets behind us."

Of course, there was some give and take. Venrock and DCM-Doll didn’t finance PGP out of the good of their hearts. They invested because they saw a chance for the company to grab a big market opportunity with its next-generation product designed to make encryption software more user friendly. "Venture-capital firms saw that as the key to financing us," Dunkelberger said.

Some established companies use outside help to take aim at bigger competitors. Unica Corp., an enterprise marketing management provider, received venture money from Summit Partners in 1999.

"They didn’t just add money, they added expertise and board members," said Yuchun Lee, the company’s founder and CEO. "They made us run like a public company even though we’re private, and held us accountable. That may sound trite, but it’s the bedrock of business."

Now, Unica’s largest rival is out of business and Unica’s sales and profits continue to increase. "It’s not like we had to have the money or die," Lee said. "A lot of great companies receive money and use it as an offensive weapon instead of defensive. "

Steve Bird and George Bischof, general partners at Focus Ventures, concentrate solely on late-stage, or as they put it, "expansion-stage" investing. Most of the companies they fund don’t need help with day-to-day operations.

"We try to help companies with strategic partner and customer opportunities," Bird said. "We have tried to help them expand their boards, looking for industry luminaries who can take on a role as director."

Sometimes all a company needs is cash in the bank. Back in the days of the stock market bubble, many Fortune 500 firms got burned when they established business relations with companies that ended up going out of business. So now they’re extra careful to scope out a company’s financial situation before signing a contract. Money in the bank and a relationship with venture capital can be the key for a smaller company to get business even if it has no immediate need for the cash.

"I showed up at one board meeting, and they said, ‘Thanks, but we hope to never use your money,’" said Focus Venture’s Bischof.