Seattle scene starts to sizzle

Greg Linden knows firsthand that Silicon Valley is probably the best place in the entire world to launch a technology company, having been born and raised in Palo Alto, Calif. And yet Linden wouldn’t even consider locating his Web 2.0 startup Findory anywhere but Seattle.

“Seattle gets under your skin,” says Linden, who previously led the technology team that built Amazon.com’s recommendation and personalization engines. He loves that he can walk 30 minutes in any direction and end up in the middle of the forest. He is also impressed by the many top computer scientists in the community who flow out of places such as Amazon, Microsoft and the University of Washington. “Plus I can still buy a home for a reasonable price,” he jokes.

All of sudden, Seattle is awash with hot startups. Some—such as Medio Systems, Ontela, Pelago, Wetpaint and Zillow—have raised funding. Others—including Cequint, NimbleBee.com, Overcast Media and Tenacious Games—are getting along just fine with angel financing and are taking their time deciding whether they need VC.

After souring on the region in the wake of the dot-com implosion, venture capitalists have streamed back into Seattle. Last year VCs invested in more companies in the Seattle metropolitan area than they had since 2000, according to the MoneyTree survey by PricewaterhouseCoopers, Thomson Financial (publisher of VCJ) and the National Venture Capital Association. All told, VCs invested $951 million in 112 startups in the Seattle area in 2006, up from $757 million in 99 startups in 2005.

“We are seeing many more exciting deals walk through our door,” says Bill McAleer, managing director at Voyager Capital in Seattle. “Every week, my inbox fills up with five or 10 interesting new opportunities vs. maybe just one [a week] a few years ago.”

We’re not quite where Silicon Valley is, but valuations for recent deals like Zillow and Medio are starting to get pretty frothy. It’s reminding me a little of 1999.”

Bill McAleer, Managing Director, Voyager Capital

Why Seattle, why now?

Seattle sits at the confluence of three of the biggest technology trends today: wireless computing, digital media and software. In fact, many of the companies coming out of Seattle seem to have an element of all three. That’s because founders and senior management have cut their teeth not only at Microsoft, but places such as Amazon, Blue Nile, Expedia, RealNetworks and Visio.

Take a startup like Ontela, for example. The company, which is funded to the tune of $4.5 million by Hunt Ventures, Oak Investment Partners and Voyager Capital, has created a software platform that makes its easier for camera-phone users to upload photos to the Internet. Ontela founder Dan Shapiro was previously an executive at RealNetworks, while CTO Charles Zapata was a developer at Expedia.

“People tend to think of Microsoft as the primary supplier of entrepreneurs in Seattle, but they actually come from a dozen great Internet and software companies,” says Len Jordan, a general partner at Seattle-based Frazier Technology Ventures. “It’s this second and third wave of companies that’s now spawning incredible entrepreneurial talent, which in turn is dictating the future of software, digital content and the Internet.”

What’s more, many of these entrepreneurs have been through the entire cycle of taking a startup from formation to conclusion, and are coming back with fresh ideas. This contrasts with Internet 1.0 when Seattle’s startup community was dominated by first-time entrepreneurs who had fled from Microsoft. When the tide turned many of those wannabes scurried back to the mother ship.

People tend to think of Microsoft as the primary supplier of entrepreneurs in Seattle, but they actually come from a dozen great Internet and software companies.”

Len Jordan, General Partner, Frazier Technology Ventures

Today’s crop of local entrepreneurs seems to hail from hardier stock. “These guys have actually built real businesses before and some have even taken them public,” says Frazier’s Jordan. “This is something we’ve never really seen in Seattle.”

Two such serial entrepreneurs are Rich Barton and Lloyd Frink, who brought travel to the Internet when they launched Expedia.com, which was later acquired by InterActiveCorp. Barton and Frink went on to found online real estate service Zillow in 2005. The company has raised a total of $57 million from Benchmark Capital, Technology Crossover Ventures and others. It is now a candidate for an IPO in 2007.

Meanwhile, Seattle-based Wetpaint is led by Blue Nile co-founder Ben Elowitz. The company offers tools and services that allow websites to develop their own communities. It has raised $5.25 million from Frazier and Trinity Ventures.

Off the hook

The Seattle startup scene is also benefiting from its close ties to the wireless industry. The region spawned McCaw Cellular Communications (which later became Cingular Wireless) as well as VoiceStream Networks (which is now T-Mobile USA). It’s no surprise that many of the most innovative wireless startups are taking root in Seattle. Pelago, a stealth startup developing a new mobile service involving social networking, raised $7.4 million led by Kleiner Perkins Caufield & Byers.

If you’re an up-and-coming startup in Seattle, there is less competition for talent compared to Silicon Valley.”

Sam Jadallah, General Partner, Mohr Davidow Ventures

Other notable VC-backed wireless companies in the Seattle area include mPoria, which offers a shopping service on mobile phones; M:Metrics, which researches wireless consumer habits; Melodeo, which makes mobile podcasting software; and Sotto Wireless, which is developing a technology that allows mobile phones to operate off a WiFi network when indoors.

Then there is Medio, a wireless search engine that recently raised $30 million in series B funding led by Accel Partners. The company was incubated by Mohr, Davidow Ventures (MDV) in Silicon Valley, but when it came time to formally launch, founder Brian Lent suggested Seattle as the headquarters.

Typically, MDV likes having its startups just down the street. But this time the partners thought long and hard about it and finally decided that Seattle would be a great place for Medio. “The startup costs are a bit lower, the infrastructure is good, but most of all, the access to talent is unbeatable,” says Sam Jadallah, an MDV general partner and an alumnus of the Seattle area’s most famous company, Microsoft. “Seattle has this unique experience around software and mobile wireless that we believed could really prove advantageous. Plus, if you’re an up-and-coming startup in Seattle, there is less competition for talent compared to Silicon Valley.”

Why aren’t more VCs rushing in? One reason is that the local Seattle firms such as Frazier, Ignition Partners, Madrona Venture Group, Maveron, OVP Venture Partners and Voyager are doing a good job managing the startup scene and selectively partnering with the Silicon Valley firms of their choice.

Thinner herd

It probably helps that some local firms fell by the wayside after the dot-com crash. Back in 2003, Frazier Technology founder Alan Frazier told VCJ: “At the height of the bubble, there were 35 local venture firms. That’s ridiculous. They’re all going to go away. When the havoc is wreaked, four or five good firms will remain.”

People in Silicon Valley should be thinking about relocating here [to Seattle].”

Dan Shapiro, founder, Ontela

The havoc hasn’t been as severe as Frazier predicted, but there has been plenty of pain to go around. VCJ found more than half a dozen firms in the region that raised funds in 1999 but haven’t raised one since. In addition, several Silicon Valley VCs shuttered their Seattle outposts after the bust, including Atlas Venture, Garage Technology Ventures, IDG Ventures and MDV.

Among the local firms that went kaput was Velocity Capital Management. It was founded in 1999 by then 29-year-old David Alhadeff, son of Victor Alhadeff, founder of Egghead and Briazz. David Alhadeff ended up taking a job with Goldman Sachs, telling the Seattle Post Intelligencer newspaper in 2004 that he had returned about half of the venture capital he raised to his LPs and was no longer making new investments.

Many other Seattle firms that made it through the downturn are now flush with cash. Nearly every major firm in the area successfully raised new funds in 2006 and began putting the money to work. Seven local VCs each invested in seven or more Seattle companies in 2006. Ignition was the most active, investing in 16 startups last year, followed by Madrona (10) and Frazier (eight).

The region even saw the creation of some new venture firms, including Trilogy Equity Partners, which was founded by former T-Mobile USA CEO John Stanton.

Of course, all this activity does have its predicable downside. Some VCs say too many marginal startups are getting funded at ever-expanding valuations. “We’re not quite where Silicon Valley is, but valuations for recent deals like Zillow and Medio are starting to get pretty frothy,” says McAleer of Voyager Capital. “I’m worried that we’ll start to see crazy valuations for mid-stage companies that don’t have much revenue. I admit, it’s reminding me a little of 1999.”

Increased competition and valuations are welcome news to the region’s entrepreneurs, who still remember the drought after the bust. After leaving Amazon and starting Findory in 2003, Linden didn’t even try to sniff out VC funding. “There was no way to raise capital because VCs here weren’t even looking at startups,” he says. “It was impossible even to get an audience.”

Today, however, it’s a different story. Local VCs are gladly taking meetings and are receptive to a wide range of ideas. There’s a palpable feeling of excitement in the air. While Seattle may never be Silicon Valley, it’s proving to be a real launching pad for a new generation of world-class technology companies. “I’m not planning on moving to Silicon Valley anytime soon,” says Shapiro of Ontela. “Instead, people in Silicon Valley should be thinking about relocating here.”