Foundation Capital: Getting in at the Start –

MENLO PARK, Calif. — It has become fashionable for venture capitalists to say they invest only in companies with products, customers and profits — thereby making everyone late-stage VCs. Foundation Capital, however, says it truly enjoys the thrill of backing early-stage, developing companies and molding them into tomorrow’s success stories.

;We love taking risks and winning,” says Bill Elmore, a general partner at the firm. “This means we are very comfortable backing people who just have an idea and are starting a company from scratch,” he adds.

Foundation focuses on early-stage investing because the firm’s seven general partners all have operating experience. They enjoy the heavy lifting that comes with trying to get a young company off the ground, Elmore notes. “We love early-stage investing because in the first two to three years of a company’s life, you work closely with a company’s management team trying to build out the company, refine its strategy and get a product to market.” The excitement of working with a developing company at the ground floor is much different from what later-stage VCs experience, he says, adding later-stage VC is akin to straight financial investing.

In the current venture market, Foundation is beginning to see quality management teams that have realized that the cycle from birth to exit has returned to a more traditional five to seven-year timeframe, Elmore says. This makes the firm even more excited about its early-stage focus, he adds. “These guys understand the time it takes to build a successful start-up and they recognize they need to be frugal, given the current economic climate, so we are very bullish that start-ups will prove to be a good area over the next seven years,” he says.

Founded in 1995, Foundation invests in information technology plays primarily in the telecommunications, networking, Internet infrastructure, enterprise software and semiconductor sectors, Elmore says. The firm focuses on IT because its partners are all originally technology people, he says. Elmore himself worked in a variety of marketing roles at Hewlett-Packard Co. and was president of a software supplier, Visual Engineering.

Foundation has made approximately 12 investments in 2001, with the majority of those deals in the communications and semiconductor sectors, Elmore says. “Even though the economy is not functioning at full speed, we still need more bandwidth; that hasn’t stopped,” he said. One example of a company addressing this need in the firm’s portfolio is Santa Clara, Calif.-based Peribit Networks Inc., which is developing a high-speed data compression solution. The firm also made an investment in Los Gatos, Calif.-based Agile Storage Inc., a next generation storage technology company. “The disk is getting bigger, so we think Agile addresses a fundamental, growing need that is independent of the economy,” he adds.

Foundation largely avoided doing any software deals for most of this year, because it took that sector some time to get over the dotcom flameout, Elmore said. Along with the rest of the venture world, Foundation participated in the flurry of dotcom investing, counting Los Angeles-based CarsDirect.com among others in its portfolio. However, the firm did fairly well with its Internet plays, Elmore said, declining to discuss numbers relating to the firm’s Internet deals. “We created good, sustainable businesses in the Internet. And that is great,” he said, adding “in the business-to-consumer space we made money with ISP NetZero Inc., now United Online Inc., and in the business-to-business space we made money with e-commerce solutions provider Commerce One Inc.

The chief lesson the firm learned from the Internet craze was that simply because a company was Internet enabled, that does not mean it is a technology company. “We know technology and we want to invest in technology companies — just having a Web site does not make you a real technology company,” he adds.

Staying Close to Home

Foundation pursues deals primarily on the West Coast near its Menlo Park offices, with portfolio companies located from Seattle to San Diego, Elmore says. The firm’s major pipeline for deal flow is the network of entrepreneurs funded by Foundations’ general partners. The firm’s favorite companies to fund are those the partners call repeat business, or company’s whose founders have already been funded successfully once before by one of Foundation’s general partners. Jim Anderson, one of the firm’s partners, has funded Judy Estrin, who is currently president of Foundation portfolio company Packet Design, four times in the last 20 years at two different venture firms. While this example is an extreme one, Elmore says approximately one-quarter of the firm’s deals are repeat business.

The firm is usually the lead or co-lead in most of its deals and generally makes an initial investment in the $10 million to $15 million range, Elmore says. Depending on a company’s needs, Foundation will invest as much as $20 million to $40 million in a single deal. While the firm almost always takes a board seat, it is also happy to syndicate its deals and invest with partners, he notes. Syndicating a deal is often the right thing to do, because it makes a diverse number of ideas and contacts available to each portfolio company’s management team.

To date, foundation has raised four funds. Foundation Capital Fund I closed on $75 million in 1996. The $98 million Foundation Capital Fund II closed in 1998, while the $275 million Foundation Capital Fund III closed in 2000. The firm raised its most recent vehicle, the $595 million Foundation Capital Fund IV, in the summer of 2001. New limited partners in the most recent vehicle included Harvard University, Yale University, the University of Texas and Champion Ventures. All of the firms existing LPs, including the Wellcome Trust, Commonfund and FLAG Venture Partners, re-upped for the new fund.

The firm is investing Fund IV at the same pace it has invested its previous vehicles, which is two new companies per partner per year, Elmore said. This means the fund should last Foundation another three years until late 2004 or early 2005, he adds. The fund should ultimately back around 24 to 30 companies, he says.

As for exit strategies, the firm’s goal is always to build sustainable stand-alone companies, Elmore says. “We know that this year’s start-ups are going to be the initial public offerings of 2006 to 2007.”

Agile Storage Inc. (Los Gatos, Calif.) is developing hardware and software solutions for the Storage Networking marketplace. Co-investors include the Mayfield Fund.

Atheros Communications Inc. (Sunnyvale, Calif.) is a new fabless semiconductor company focused on the development of standards-based technology to support ubiquitous wireless connectivity in homes and enterprises. Co-investors include August Capital Management, Bowman Capital, Evercore Partners Inc., Fidelity Ventures, Mitsubishi Corporation, New Enterprise Associates, Star Ventures and TDK Corp.

Commerce One Inc. (Pleasanton, Calif.) real-time electronic commerce product suite seamlessly integrates the business functions of the ‘Commerce Chain’-the complete set of interbusiness processes that link an enterprise, its customers and suppliers. The company went public on July 1,1999. Co-investors include: British Telecom, Canaan Partners, Focus Ventures, GE Equity, SAP, MCI Systemhouse, Morgan Stanley Venture Partners, Rho Ventures, Inc., Star Ventures.

Financial Engines, Inc (Palo Alto, Calif.) provides a service that makes investment advice available to individuals over the Internet. Co-investors include Amerindo Investment Advisors Inc., Charter Venture, Chase H&Q, Financial Technology Ventures, Focus Ventures, Goldman, Sachs & Co., Intel Corp., Merrill Lynch, New Enterprise Associates, Oak Hill Capital Management Inc., E*Trade Group Inc., Washington Mutual Inc., State Street Global Advisors and Thales Corporate Ventures.

Interwoven Inc. (Sunnyvale, Calif.) develops enterprise-class software that enables corporations with very large and complex web sites to manage them for effective e-commerce. The company went public on October 8, 1999. Co-investors include Accel Partners, Charter Ventures, Draper Fisher Jurvetson, Focus Ventures, Integral Capital Partners, J. & W. Seligman & Co., JK&B Capital and Van Wagoner Capital Management.

Onyx Software Corp. (Bellevue, Wash.) provides web-based customer management solutions. The company went public on February 11, 1999. Co-investor include Technology Crossover Ventures.

Perebit Networks Inc. (Santa Clara, Calif.)is developing next-generation network optimization products. Co-investors include Accel Partners.

Responsys (Palo Alto, Calif.) is an application service providers that allows companies to focus on using applications rather than the hassles of implementation and maintenance. The company’s flagship application, Responsys Interact, is an easy-to-use web-hosted service that allows companies to acquire and retain customers on the Internet by integrating e-mail with customer web sites, commerce systems and customer data bases. Co-investors include Accel Partners, Redpoint Ventures and Sigma Partners.

Foundation Capital, is located at 70 Willow Rd., Suite 200, Menlo Park, Calif. 94025, (650)614-0500, www.foundationcapital.com.

Contact Alistair Christopher at: